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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

____________________________

FORM 10-Q

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period endedSeptember 30,, 2017

2023

Commission File Number001-31932

_______________________

CATASYS, INC.

____________________________
Ontrak, Inc.
(Exact name of registrant as specified in its charter)

_______________________

____________________________

Delaware

88-0464853

Delaware

88-0464853
(State or other jurisdiction of incorporation or organization)

(I.R.S. Employer Identification No.)

11601 Wilshire Boulevard,

333 S. E. 2nd Avenue, Suite 1100, Los Angeles, California 90025

2000, Miami, FL 33131

(Address of principal executive offices, including zip code)

(310) 444-4300

(Registrant's telephone number, including area code)

2200 Paseo Verde Parkway, Suite 280, Henderson, NV 89052
(Former name, former address and former fiscal year, if changed since last report)
Securities registered pursuant to Section 12(b) of the Act:
Title of each classTrading Symbol(s)Name of each exchange on which registered
Common Stock, $0.0001 par valueOTRKThe NASDAQ Capital 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     No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted 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 and post such files).

Yes☑          No☐

x     No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer, or a smaller reporting company, or an emerging growth company. See definitions of “large“large accelerated filer,” “accelerated filer,’’ “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer ☐      Accelerated filer  ☐      Non-accelerated filer  ☐      Smaller reporting company  ☑    Emerging growth company ☐

Large accelerated filer¨Accelerated filer¨
Non-accelerated filer☒Smaller reporting company☒
Emerging growth company☐

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☑

No x

As of November 13, 2017,14, 2023, there were 15,889,17127,563,898 shares of the registrant's common stock, $0.0001 par value per share, outstanding.



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Signatures
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In this Quarterly Report on Form 10-Q, except as otherwise stated or the context otherwise requires, the termsall references to “Ontrak,” “Ontrak, Inc.,” “we,” “us,” “our” or the “Company” refer to Catasys,mean Ontrak, Inc., its wholly-owned subsidiaries and our wholly-owned subsidiaries. Ourvariable interest entities, except where it is made clear that the term means only the parent company. The Company’s common stock, par value $0.0001 per share, is referred to as “common stock.stock" and the Company’s 9.50% Series A Cumulative Perpetual Preferred Stock, par value $0.0001 per share, is referred to as “Series A Preferred Stock.”



PART I - FINANCIAL INFORMATION

Table of Contents

PART I - FINANCIAL INFORMATION

Item 1.Financial Statements

CATASYS,


ONTRAK, INC. AND SUBSIDIARIES

CONDENSEDCONSOLIDATED BALANCE SHEETS

  

(unaudited)

     
(In thousands, except for number of shares) 

September 30,

  

December 31,

 
  

2017

  

2016

 
ASSETS        
Current assets        

Cash and cash equivalents

 $6,926  $851 

Receivables, net of allowance for doubtful accounts of $277 and $0, respectively

  709   1,052 

Prepaids and other current assets

  307   420 

Total current assets

  7,942   2,323 
Long-term assets        

Property and equipment, net of accumulated depreciation of $1,751 and $1,620, respectively

  553   410 

Deposits and other assets

  371   371 
Total Assets $8,866  $3,104 
         
LIABILITIES AND STOCKHOLDERS' EQUITY/(DEFICIT)        
Current liabilities        

Accounts payable

 $806  $870 

Accrued compensation and benefits

  901   2,089 

Deferred revenue

  3,180   1,525 

Other accrued liabilities

  579   575 

Short term debt, related party, net of discount $0 and $216, respectively

  -   9,796 

Derivative liability

  -   8,122 

Total current liabilities

  5,466   22,977 
Long-term liabilities        

Deferred rent and other long-term liabilities

  49   117 

Capital leases

  6   31 

Warrant liabilities

  41   5,307 
Total Liabilities  5,562   28,432 
         
Stockholders' equity/(deficit)        
Preferred stock, $0.0001 par value; 50,000,000 shares authorized; no shares issued and outstanding  -   - 

Common stock, $0.0001 par value; 500,000,000 shares authorized; 15,889,171 and 9,214,743 shares issued and outstanding at September 30, 2017 and December 31, 2016, respectively

  2   1 

Additional paid-in-capital

  293,945   254,390 

Accumulated deficit

  (290,643)  (279,719)
Total Stockholders' Equity/(Deficit)  3,304   (25,328)
Total Liabilities and Stockholders' Equity/(Deficit) $8,866  $3,104 

*

(in thousands, exceptshare andper share data)
September 30,
2023		December 31,
2022
Assets(unaudited)
Current assets:
Cash and cash equivalents$3,227 $5,032 
Restricted cash - current6,000 4,477 
Receivables, net212 973 
Unbilled receivables351 453 
Deferred costs - current203 156 
Prepaid expenses and other current assets2,691 3,168 
Total current assets12,684 14,259 
Long-term assets:
Property and equipment, net1,769 2,498 
Restricted cash - long-term— 204 
Goodwill5,713 5,713 
Intangible assets, net210 1,125 
Other assets186 1,326 
Operating lease right-of-use assets206 632 
Total assets$20,768 $25,757 
Liabilities and stockholders' equity
Current liabilities:
Accounts payable$1,139 $1,927 
Accrued compensation and benefits743 1,987 
Deferred revenue300 326 
Current portion of operating lease liabilities53 653 
Other accrued liabilities, includes $6,000 related party deposit (see Note 10)8,921 4,576��
Total current liabilities11,156 9,469 
Long-term liabilities:
Long-term debt, net14,060 10,065 
Long-term operating lease liabilities181 546 
Total liabilities25,397 20,080 
Commitments and contingencies
Stockholders' (deficit) equity:
Preferred stock, $0.0001 par value; 50,000,000 shares authorized; 3,770,265 shares issued and outstanding at each of September 30, 2023 and December 31, 2022— — 
Common stock, $0.0001 par value; 500,000,000 shares authorized; 4,916,963 and 4,527,914 shares issued and outstanding at September 30, 2023 and December 31, 2022, respectively3 3 
Additional paid-in capital459,633 448,415 
Accumulated deficit(464,265)(442,741)
Total stockholders' (deficit) equity(4,629)5,677 
Total liabilities and stockholders' (deficit) equity$20,768 $25,757 
See notes to condensed consolidated financial statements.
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ONTRAK, INC.
CONDENSEDCONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited, in thousands, except per share data)


Three Months Ended
September 30,		Nine Months Ended
September 30,
2023202220232022
Revenue$3,715 $2,843 $9,204 $12,004 
Cost of revenue1,040 1,436 2,691 6,488 
Gross profit2,675 1,407 6,513 5,516 
Operating expenses:
Research and development1,552 2,833 4,733 9,113 
Sales and marketing822 1,151 2,649 3,893 
General and administrative4,365 7,552 14,593 27,694 
Restructuring, severance and related charges— 934 457 934 
Total operating expenses6,739 12,470 22,432 41,634 
Operating loss(4,064)(11,063)(15,919)(36,118)
Other income (expense), net38 (1,241)324 (3,213)
Interest expense, net(2,392)(440)(6,009)(2,996)
Loss before income taxes(6,418)(12,744)(21,604)(42,327)
Income tax (expense) benefit— (20)80 (140)
Net loss(6,418)(12,764)(21,524)(42,467)
Dividends on preferred stock - declared and undeclared(2,239)(2,239)(6,716)(6,716)
Net loss attributable to common stockholders$(8,657)$(15,003)$(28,240)$(49,183)
Net loss per common share, basic and diluted$(1.76)$(3.70)$(5.85)$(13.42)
Weighted-average common shares outstanding, basic and diluted4,905 4,056 4,827 3,666 

See notes to condensed consolidated financial statements.
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ONTRAK, INC.
CONDENSED CONSOLIDATED STATEMENTS OFSTOCKHOLDERS' (DEFICIT) EQUITY
(unaudited, in thousands, exceptshare andper share data)

Preferred StockCommon StockAdditional
Paid-In
Capital		Accumulated
Deficit		Total Stockholders'
 Equity (Deficit)
SharesAmountSharesAmount
Balance at June 30, 20233,770,265 $— 4,887,874 $3 $458,600 $(457,847)$756 
Restricted stock units vested, net— — 1,174 — (1)— (1)
Warrants issued in debt financing, adjusted for repricings— — — — 237 — 237 
Stock-based compensation expense— — — — 797 — 797 
Fractional shares issued in connection with reverse stock split— — 27,915 — — — — 
Net loss— — — — — (6,418)(6,418)
Balance at September 30, 20233,770,265 $— 4,916,963 $3 $459,633 $(464,265)$(4,629)
Balance at June 30, 20223,770,265 $— 3,491,309 $2 $440,601 $(420,871)$19,732 
Common stock issued relating to registered direct offering, net— — 833,334 1 3,293 — 3,294 
Common stock issued for financing— — 123,275 — 1,249 — 1,249 
Warrants issued in debt financing— — — — 334 — 334 
Restricted stock units vested, net— — 4,703 — (3)— (3)
401(k) employer match— — 33,074 — 144 — 144 
Stock-based compensation expense— — — — 1,219 — 1,219 
Net loss— — — — — (12,764)(12,764)
Balance at September 30, 20223,770,265 $— 4,485,695 $3 $446,837 $(433,635)$13,205 
Balance at December 31, 20223,770,265 $— 4,527,914 $3 $448,415 $(442,741)$5,677 
Common stock issued for financing— — 339,689 — — — — 
Warrants issued in debt financing, adjusted for repricings— — — — 11,034 — 11,034 
Loss on extinguishment of debt with related party— — — — (2,153)— (2,153)
Restricted stock units vested, net— — 2,548 — (3)— (3)
401(k) employer match— — 18,897 — — — — 
Stock-based compensation expense— — — — 2,340 — 2,340 
Fractional shares issued in connection with reverse stock split— — 27,915 — — — — 
Net loss— — — — — (21,524)(21,524)
Balance at September 30, 20233,770,265 $— 4,916,963 $3 $459,633 $(464,265)$(4,629)
Balance at December 31, 20213,770,265 $— 3,446,698 $2 $436,721 $(391,168)$45,555 
Preferred dividends declared— — — — (2,239)— (2,239)
Common stock issued relating to registered direct offering, net— — 833,334 1 3,293 — 3,294 
Common stock issued relating to settlement of contingent consideration— — 5,569 — 293 — 293 
Common stock issued for financing and consulting services— — 132,534 — 1,351 — 1,351 
Warrants issued in debt financing— — — — 617 — 617 
Restricted stock units vested, net— — 5,268 — (6)— (6)
401(k) employer match— — 62,292 — 525 — 525 
Stock-based compensation expense— — — — 6,282 — 6,282 
Net loss— — — — — (42,467)(42,467)
Balance at September 30, 20223,770,265 $— 4,485,695 $3 $446,837 $(433,635)$13,205 
See notes to condensed consolidated financial statements.
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ONTRAK, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited, in thousands)
For the Nine Months Ended
September 30,
20232022
Cash flows from operating activities
Net loss$(21,524)$(42,467)
Adjustments to reconcile net loss to net cash used in operating activities:
Stock-based compensation expense2,340 6,282 
Write-off of debt issuance costs— 3,334 
Write-off of other asset100 — 
Paid-in-kind interest expense3,110 — 
Gain on termination of operating lease(471)— 
Depreciation expense8762,222 
Amortization expense3,924 1,946 
Change in fair value of warrant liability(26)(121)
401(k) employer match in common shares— 528 
Common stock issued for consulting services— 102 
Changes in operating assets and liabilities:
Receivables761 1,348 
Unbilled receivables102 2,823 
Prepaid expenses and other current assets917 2,966 
Accounts payable(736)758 
Deferred revenue(27)(153)
Leases liabilities(154)(160)
Other accrued liabilities(1,074)(1,928)
Net cash used in operating activities(11,882)(22,520)
Cash flows from investing activities
Purchase of property and equipment(196)(1,004)
Net cash used in investing activities(196)(1,004)
Cash flows from financing activities
Proceeds from Keep Well Notes8,000 11,000 
Proceeds from Keep Well Agreement held in escrow6,000 — 
Repayments of 2024 Notes— (39,194)
Proceeds from issuance of common stock— 4,000 
Common stock issuance costs— (706)
Dividends paid— (2,239)
Debt issuance costs(449)(792)
Finance lease obligations(126)(226)
Financed insurance premium payments(1,830)(2,325)
Payment of taxes related to net-settled stock awards(3)(6)
Net cash provided by (used in) financing activities11,592 (30,488)
Net change in cash and restricted cash(486)(54,012)
Cash and restricted cash at beginning of period9,713 65,946 
Cash and restricted cash at end of period$9,227 $11,934 
Supplemental disclosure of cash flow information:
Interest paid$55 $2,307 
Income taxes paid3 210 
Non-cash financing and investing activities:
Warrants issued in connection with Keep Well Notes and 2024 Notes$11,034 $780 
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Loss on extinguishment of debt with related party2,153 — 
Common stock issued in connection with Keep Well Agreement— 1,249 
Financed insurance premium284 352 
Finance lease and accrued purchases of property and equipment23 31 
Common stock issued to settle contingent consideration— 293 
Accrued debt issuance costs266 138 

See notes to condensed consolidated financial statements.
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ONTRAK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Note 1.Organization
Company Overview
Ontrak, Inc. (“Ontrak,” “Company,” “we,” “us” or “our”) is an artificial intelligence (“AI”)-powered and telehealth-enabled, virtualized healthcare company, whose mission is to help improve the health and save the lives of as many people as possible. The Company's technology-enabled platform provides claim-based analytics and predictive modeling to provide analytic insights throughout the delivery of our personalized treatment program. The Company's program predicts people whose chronic disease will improve with behavior change, recommends effective care pathways that people are willing to follow, and engages and guides them to and through the care they need. By combining predictive analytics with human engagement, we deliver improved member health and validated outcomes and savings to healthcare payors.

The Company's integrated, technology-enabled OntrakTM programs are designed to provide healthcare solutions to members with behavioral conditions that cause or exacerbate chronic medical conditions such as diabetes, hypertension, coronary artery disease, chronic obstructive pulmonary disease, and congestive heart failure, which result in high medical costs. Ontrak has a unique ability to engage these members, who may not otherwise seek behavioral healthcare, leveraging proprietary enrollment capabilities built on deep insights into the drivers of care avoidance. Ontrak integrates evidence-based psychosocial and medical interventions delivered either in-person or via telehealth, along with care coaching and in-market community care coordinators who address the social and environmental determinants of health, including loneliness. The Ontrak programs seek to improve member health and deliver validated cost savings to healthcare payors.

Basis of Presentation

The accompanying condensed consolidated financial statements have been retroactively restated to reflect the 1-for-6 reverse-stock split that occurred on April 25, 2017

See accompanying notes to the financial statements.


CATASYS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(unaudited)

  

Three Months Ended

  

Nine Months Ended

 

(In thousands, except per share amounts)

 

September 30,

  

September 30,

 
  

2017

  

2016

  

2017

  

2016

 

Revenues

                

Healthcare services revenues

 $1,195  $1,336  $4,682  $3,287 
                 

Operating expenses

                

Cost of healthcare services

  1,664   1,253   4,361   3,381 

General and administrative

  2,575   2,195   8,144   6,518 

Depreciation and amortization

  47   38   131   102 

Total operating expenses

  4,286   3,486   12,636   10,001 
                 

Loss from operations

  (3,091)  (2,150)  (7,954)  (6,714)
                 

Other income

  16   15   44   90 

Interest expense

  (1)  (3,215)  (3,408)  (4,139)

Loss on conversion of note

  -   -   (1,356)  - 

Loss on issuance of common stock

  -   -   (145)  - 

Change in fair value of derivative liability

  -   (3,484)  132   (6,328)

Change in fair value of warrant liability

  (2)  1,423   1,767   673 

Loss from operations before provision for income taxes

  (3,078)  (7,411)  (10,920)  (16,418)

Provision for income taxes

  2   2   4   7 

Net Loss

 $(3,080) $(7,413) $(10,924) $(16,425)
                 
                 

Basic and diluted net loss from operations per share:

 $(0.19) $(0.81) $(0.84) $(1.79)
                 

Basic weighted number of shares outstanding

  15,889   9,174   13,031   9,170 

*The financial statements have been retroactively restated to reflect the 1-for-6 reverse-stock split that occurred on April 25, 2017.

See accompanying notes to the financial statements.


CATASYS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS

(unaudited)

  

Nine Months Ended

 

(In thousands)

 

September 30,

 
  

2017

  

2016

 

Operating activities:

        

Net loss

 $(10,924) $(16,425)

Adjustments to reconcile net loss to net cash used in operating activities:

        

Depreciation and amortization

  131   102 

Amortization of debt discount and issuance costs included in interest expense

  3,335   3,673 

Provision for doubtful accounts

  307   46 

Deferred rent

  (60)  (52)

Share-based compensation expense

  191   523 

Common stock issued for services

  181   - 

Loss on conversion of convertible debenture

  1,356   - 

Loss on issuance of common stock

  145   - 

Fair value adjustment on warrant liability

  (1,767)  (673)

Fair value adjustment on derivative liability

  (132)  6,328 

Changes in current assets and liabilities:

        

Receivables

  36   (345)

Prepaids and other current assets

  113   270 

Deferred revenue

  1,655   1,548 

Accounts payable and other accrued liabilities

  85   554 

Net cash used by operating activities 

 $(5,348) $(4,451)
         

Investing activities:

        

Purchases of property and equipment

 $(274) $(102)

Deposits and other assets

  -   16 

Net cash used by investing activities

 $(274) $(86)
         

Financing activities:

        

Proceeds from the issuance of common stock and warrants

 $16,458  $- 

Proceeds from issuance of bridge loan

  1,300   - 

Payments on convertible debenture

  (4,363)  - 

Proceeds from issuance of senior promissory note, related party

  -   5,505 

Proceeds from advance from related party

  -   225 

Payment on advance from related party

  -   (225)

Transactions costs

  (1,667)  - 

Capital lease obligations

  (31)  (41)

Net cash provided by financing activities

 $11,697  $5,464 
         

Net increase in cash and cash equivalents

 $6,075  $927 

Cash and cash equivalents at beginning of period

  851   916 

Cash and cash equivalents at end of period

 $6,926  $1,843 
         

Supplemental disclosure of cash paid

        

Interest

 $-  $- 

Income taxes

 $40  $46 

Supplemental disclosure of non-cash activity

        

Common stock issued for services

 $181   - 

Common stock issued for conversion of debt and accrued interest

 $7,163   - 

Common stock issued upon settlement of deferred compensation to officer

 $1,122   - 

Common stock issued for exercise of warrants

 $-  $45 
Property and equipment acquired through capital leases and other financing $-  $34 

See accompanying notes to the financial statements.


Catasys,include Ontrak, Inc. and Subsidiaries

Notes to Condensed Consolidated Financial Statements

(unaudited)

Note 1. Basis of Consolidationits wholly-owned subsidiaries and Presentation

variable interest entities. The accompanying unaudited condensed consolidated financial statements for Catasys,Ontrak, Inc. and its subsidiaries have been prepared in accordance with generally accepted accounting principles in the United States of America (“U.S. GAAP”) and instructions to Form 10-Q and therefore, do not include allArticle 8 of Regulation S-X. All intercompany balances and transactions have been eliminated in consolidation. Certain information and note disclosures necessary for a complete presentationnormally included in the annual consolidated financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to such rules and regulations. In the opinion of management, the accompanying condensed financial position, results of operations, and cash flows in conformity with U.S. GAAP. In our opinion,statements includes all adjustments consisting(consisting of normal recurring adjustments, consideredadjustments) necessary for athe fair presentation have been included.of the interim periods presented. Interim results are not necessarily indicative of the results that may be expected for any other interim period or for the entire fiscal year. The accompanying unaudited financial information should be read in conjunction with the audited financial statements and the notes thereto included in our most recentthe Annual Report on Form 10-K for the year-ended December 31, 2016,2022 (the "2022 10-K"), filed with the Securities and Exchange Commission ("SEC"), from which the consolidated balance sheet as of December 31, 2016, have2022 has been derived.

Note 2. Summary The Company operates as one segment.

The Company provides services to commercial (employer funded), managed Medicare Advantage, managed Medicaid and dual eligible (Medicare and Medicaid) populations to generate revenues. The Company also provides mental health and wellbeing support to members of Significant Accounting Policies

Revenue Recognition

Our Catasys contracts are generally designedemployer customers under the Company's LifeDojo wellbeing solution. The Company aims to provide cash fees to us on a monthly basis or an upfront case rate based on enrolled members. Toincrease the extent our contracts may include a minimum performance guarantee; we reserve a portionnumber of the fees that may be at risk until the performance measurement period is completed. To the extent we receive case rates or other fees in advancemembers that are not subjecteligible for its solutions by signing new contracts and identifying more eligible members under existing contracts.

We have incurred significant net losses and negative operating cash flows since our inception, and we expect to continue to incur net losses and negative operating cash flow, in part due to the performance guarantees, we recognize the case rate ratably over the twelve months ofnegative impact on our program. We recognize any fees from sharing in the savings generated from enrolled members when we receive payment.

Cost of Services

Cost of healthcare services consists primarily of salaries related to our care coaches, outreach specialists and other staff directly involved in member care, healthcare provider claims payments, and fees chargedoperations by our third party administrators for processing these claims. Salaries and fees charged by our third party administrators for processing claims are expensed when incurred and healthcare provider claims payments are recognized in the period in which an eligible member receives services. We contract with doctors and licensed behavioral healthcare professionals, on a fee-for-service basis. We determine that a member has received services when we receive a claim or in the absence of a claim, by utilizing member data recorded in the eOnTrakTM database within the contracted timeframe, with all required billing elements correctly completed by the service provider.

Cash Equivalents and Concentration of Credit Risk

We consider all highly liquid investments with an original maturity of three months or less to be cash equivalents. Financial instruments that potentially subject us to a concentration of credit risk consist of cash and cash equivalents. Cash is deposited with what we believe are highly credited, quality financial institutions. The deposited cash may exceed Federal Deposit Insurance Corporation (“FDIC”) insured limits.customer terminations. As of September 30, 2017,2023, our cash and restricted cash was $9.2 million and we had $6.8 million in cash and cash equivalents exceeding federally insured limits.

working capital of approximately $1.5 million. For the nine months ended September 30, 2017, three2023, our average monthly cash burn rate from operations was $1.3 million. Throughout the year ended December 31, 2022 and in March 2023, as part of the Company's continued cost saving measures to reduce its operating costs and to better align with its previously stated strategic initiatives, the Company implemented a number of reduction in workforce and vendor cost optimization plans. The Company has begun realizing the full effect of these plans and expects continued effects to be realized during the remainder of 2023 and beyond, including a decrease in the Company's operating costs and an improvement in the Company's average monthly cash flow from operations. The cost optimization plans were necessary to right size the Company's business commensurate with its current customer base.



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ONTRAK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
In addition to revenue from operations, our primary source of working capital has historically been borrowing under the Keep Well Agreement (as defined in Note 10 below) and raising capital in equity offerings. As of September 30, 2023, $6.0 million was available to be borrowed under the Keep Well Agreement. In November 2023, such $6.0 million was applied toward the purchase of warrants the Company issued in a private placement to Humanitario Capital LLC, an affiliate of Acuitas Capital LLC (see Note 14 for information regarding the private placement).

Management plans to continue to execute on its strategy by continuing to (i) explore other sources of capital with either debt or equity financing for future liquidity needs; (ii) manage operating costs by strategically pursuing cost optimization initiatives; and (iii) pursue executing our growth strategy by (a) expanding sales and marketing resources to acquire new and diverse customers accountedacross major health plans, value based provider groups and self-insurance employers; (b) executing on our better market penetration strategy by providing full scale customized behavioral health solutions, addressing customer needs across all member acuity levels while mitigating vendor fatigue by becoming a principal customer partner; (c) leveraging our AI technology and new predictive algorithms to improve identification and outreach, create more efficiencies, enhance coaching solutions and create more proof points; and (d) opportunistically pursuing partnerships that will accelerate growth.
We will need additional capital to successfully execute our growth strategy. We may seek to raise additional capital through equity or debt financings, however, when we can affect such financings and how much capital we can raise depends on a variety of factors, including, among others, market conditions, the trading price of our common stock and our determination as to the appropriate sources of funding for our operations. In addition, under the securities purchase agreement we entered into in connection with the public offering completed in November 2023, we are generally prohibited from issuing shares of our common stock or common stock equivalents for capital raising purposes through May 12, 2024; however, from and after February 12, 2024, we may issue shares of our common stock or common stock equivalents for capital raising purposes if the per share price is $0.60 or greater. There can be no assurance that other capital will be available when needed or that, if available, it will be obtained on terms favorable to us and our stockholders, that we will be successful in implementing cost optimization initiatives, or that we will be successful in executing our growth strategy. In addition, the Keep Well Agreement contains various financial and other covenants, and any non-compliance with those covenants could result in an acceleration of the repayment of the amounts outstanding thereunder. Furthermore, equity or debt financings may have a dilutive effect on the holdings of our existing stockholders, and debt financings may subject us to restrictive covenants, operational restrictions and security interests in our assets.
Regardless of our success in raising additional capital in the future, we expect our cash on hand as of September 30, 2023, together with the approximately 90%$5.5 million of net proceeds raised from the public offering completed in November 2023 and the reclassification of $6.0 million from restricted cash to unrestricted cash in connection with the completion of the private placement in November 2023 (see Note 14 for information regarding the public offering and private placement completed in November 2023), will be sufficient to meet our obligations for at least the next 12 months from the date the financial statements in this report are released.
Reverse Stock Split

At the special meeting of the Company's stockholders held in February 2023 (the “2023 Special Meeting”), the Company’s stockholders approved a proposal to give the Company’s Board of Directors the authority, at its discretion, to file a certificate of amendment to the Company’s amended and restated certificate of incorporation to effect a reverse split of our outstanding common stock at a ratio that is not less than 1:4 and not greater than 1:6, without reducing the authorized number of shares of the Company’s common stock, with the final ratio to be selected by the Company’s Board of Directors in its discretion, and to be effected, if at all, in the sole discretion of the Company’s Board of Directors at any time within one year of the date of the 2023 Special Meeting without further approval or authorization of the Company’s stockholders.

On July 27, 2023, the Company filed a certificate of amendment to its amended and restated certificate of incorporation with the Secretary of State of the State of Delaware implementing a 1-for-6 reverse stock split. Fractional shares of the Company’s common stock resulting from the reverse split were automatically rounded up to the nearest whole share. The Company’s common stock began trading on the NASDAQ Capital Market on a post-split basis at the open of trading on July 28, 2023. The Company’s common stock continues to trade under the symbol “OTRK,” but was assigned a new CUSIP number (683373302).

All restricted stock units, stock options and warrants to purchase shares of the Company’s common stock and securities convertible or exchangeable for shares of the Company’s common stock (including the Series A Preferred Stock) outstanding immediately prior to the reverse stock split, and the shares of the Company’s common stock reserved for issuance under the
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ONTRAK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
Company’s equity incentive plans immediately prior to the reverse stock split, was adjusted by dividing the applicable number of shares of common stock by six and, as applicable, multiplying the exercise price or conversion price by six or dividing the exchange rate by six. In addition, as discussed in Note 10 below, the exercise price of the Keep Well Warrants and the conversion price of the Keep Well Notes were subject to other adjustment mechanisms. For additional information regarding the effect of the reverse stock split on the Keep Well Warrants and the Keep Well Notes, see the Company’s definitive proxy statement for the 2023 Special Meeting, a copy of which was filed with the SEC on January 20, 2023.

All common share and common stock per share amounts presented herein for all periods have been retroactively adjusted to reflect the impact of the 1-for-6 reverse stock split.
Recently Adopted Accounting Standards

In October 2021, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") No. 2021-08, "Business Combinations (Topic 805) - Accounting for Contract Assets and Contract Liabilities from Contracts with Customers" ("ASU 2021-08"), which improves the accounting for acquired revenue contracts with customers in a business combination by addressing diversity in practice and inconsistency related to recognition of an acquired contract liability, and payment terms and their effect on subsequent revenue recognized by the acquirer. The amendments in ASU 2021-08 require that an entity (acquirer) recognize and measure contract assets and contract liabilities acquired in a business combination in accordance with Topic 606 - Revenue from Contracts with Customers. The amendments in ASU 2021-08, however, do not affect the accounting for other assets or liabilities that may arise from revenue contracts with customers in accordance with Topic 606, such as refund liabilities, or in a business combination, such as customer-related intangible assets and contract-based intangible assets. ASU 2021-08 is effective for fiscal years beginning after December 15, 2022, including interim periods within those fiscal years. The amendments in ASU 2021-08 should be applied prospectively to business combinations occurring on or after the effective date of the amendments. The adoption of ASU 2021-08 on January 1, 2023 did not have a material effect on our condensed consolidated financial statements.

In October 2020, the FASB issued ASU No. 2020-10, "Codification Improvements" ("ASU 2020-10"), which includes amendments to improve consistency of disclosures by ensuring that all guidance that require disclosures or provides an option for an entity to provide information in the notes to the financial statement is codified in the disclosure section of the codification. ASU 2020-10 is effective for public companies, other than smaller reporting companies, for fiscal years beginning after December 15, 2020. For all other entities, ASU 2020-10 is effective for fiscal years beginning after December 15, 2021, and interim periods beginning after December 15, 2022. The adoption of ASU 2020-10 on January 1, 2023 did not have a material effect on our condensed consolidated financial statements.

In June 2016, the FASB issued ASU No. 2016-13, “Financial Instruments - Credit Losses (Topic 326) - Measurement of Credit Losses on Financial Instruments” (“ASU 2016-13”), which requires recognition of an estimate of lifetime expected credit losses as an allowance. For companies eligible to be smaller reporting company as defined by the SEC, ASU 2016-13 is effective for annual reporting periods beginning after December 15, 2022, including interim periods within those annual periods. The adoption of ASU 2016-13 on January 1, 2023 did not have a material effect on our condensed consolidated financial statements.
Recently Issued Accounting Pronouncements
Since the date on which the Company filed the 2022 10-K, there were no new accounting standards issued, but not yet adopted by the Company, which are expected to materially affect the Company's condensed consolidated financial statements.

Note 2. Restricted Cash
The following table provides a reconciliation of cash, cash equivalents and restricted cash total as presented in the condensed consolidated statement of cash flows for the periods presented (in thousands):

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ONTRAK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
September 30, 2023December 31, 2022
Cash and cash equivalents$3,227 $5,032 
Restricted cash - current:
    Dividend payments on preferred stock (1)— 4,477 
    Cash in escrow (2)6,000 — 
       Subtotal - Restricted cash - current6,000 4,477 
Restricted cash - long term:
    Letter of credit (3)— 204 
       Subtotal - Restricted cash - long term— 204 
Cash, cash equivalents and restricted cash$9,227 $9,713 
____________
(1) As of December 31, 2022, the amount represented the cash balance that was remaining in an account funded with a portion of the proceeds from the sale of the Series A Preferred Stock for the payment of dividends thereon until August 2022. The use of such funds for the payment of such dividends was subject to compliance with applicable laws. In April 2023, the Company’s board of directors determined that the use of such funds for other corporate purposes was in the best interests of the Company and its common stockholders after considering its fiduciary duties to the Company’s common stockholders. Therefore, the amount was classified as unrestricted cash in April 2023.
(2) Represents cash received under the Keep Well Agreement in June and September 2023 and held in a separate account pursuant to the terms of the Keep Well Agreement. See Note 10 below for more information. The amount has been included in "Other accrued liabilities" on the condensed consolidated balance sheet as of September 30, 2023.
(3) The letter of credit ("LOC") was required under the terms of the lease for our Santa Monica, California office. In accordance with the lease termination agreement entered into on February 16, 2023 (as discussed in Note 9 below), the LOC was canceled on June 16, 2023.

Note3. Receivables and Revenue Concentration
The following table is a summary of concentration of credit risk by customer revenues as a percentage of our total revenue:

Three Months Ended
September 30,		Nine Months Ended
September 30,
Percentage of Revenue2023202220232022
Customer A57.8 %35.7 %55.4 %28.8 %
Customer B32.6 48.1 33.8 47.8 
Customer C2.9 11.6 2.7 16.2 
Remaining customers6.7 4.6 8.1 7.2 
   Total100.0 %100.0 %100.0 %100.0 %

The following table is a summary of concentration of credit risk by customer accounts receivables as a percentage of our total accounts receivable:

Percentage of Accounts ReceivableSeptember 30, 2023December 31, 2022
Customer D82.9 %3.7 %
Customer C17.1 1.2 
Customer A— 39.1 
Customer B— 35.7 
Customer E— 20.3 
   Total100.0 %100.0 %

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ONTRAK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
The Company applies the specific identification method for assessing provision for doubtful accounts. There was no bad debt expense in any of the three or nine months ended September 30, 2023 and five customers accounted2022.
Other receivable - Insurance Recoveries
The Company is involved in various securities class actions and purported stockholder derivative complaints, and the Company has incurred legal costs related to the SEC/Department of Justice (the "DOJ") investigation of the Company's former Chief Executive Officer and Chairman of the Board of Directors, as described in Note 13 below. The Company maintains a corporate liability insurance policy which provides coverage for legal defense costs (the "Insurance Policy"). The terms of the Insurance Policy provide that the insurer will pay the third party directly on behalf of the Company for such claims. Based on the Company's analysis, the Company's obligation as the primary obligor of the invoices has not been transferred to the insurer and as such, the Company records these legal claims as an other receivable with a corresponding liability on the condensed consolidated balance sheet. As of September 30, 2023, the Company submitted claims for approximately 96%$2.4 million of accounts receivable.

such legal costs, of which $1.2 million has been paid by the insurer to the third parties. The Company has $1.2 million of claims as an other receivable included in "Prepaid expenses and other current assets" and $1.2 million as part of "Other accrued liabilities" on the condensed consolidated balance sheet as of September 30, 2023.



Note 4. Property and Equipment

Property and equipment consisted of the following (in thousands):

September 30,December 31,
20232022
Software$4,527 $6,882 
Computers and equipment416 466 
ROU assets - finance lease375 375 
Leasehold improvements— 17 
Software development in progress37 — 
   Subtotal5,355 7,740 
Less: Accumulated depreciation and amortization(3,586)(5,242)
    Property and equipment, net$1,769 $2,498 

Total depreciation and amortization expense relating to property and equipment presented above was $0.3 million and $0.8 million for the three months ended September 30, 2023 and 2022, respectively, and $0.9 million and $2.3 million for the nine months ended September 30, 2023 and 2022, respectively.

Capitalized Internal Use Software Costs

During the three months ended September 30, 2023 and 2022, the Company capitalized $0.1 million and $0.2 million, respectively, of costs relating to development of internal use software, and recorded $0.3 million and $0.8 million, respectively, of amortization expense relating to capitalized internal use software, which was included in total depreciation and amortization expense as described above.

During the nine months ended September 30, 2023 and 2022, the Company capitalized $0.2 million and $1.0 million, respectively, of costs relating to development of internal use software, and recorded $0.8 million and $2.1 million, respectively, of amortization expense relating to capitalized internal use software, which was included in total depreciation and amortization expense as described above.






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ONTRAK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
Note 5. Goodwill and Intangible Assets

Goodwill

The carrying amount of indefinite-lived goodwill was $5.7 million as of September 30, 2023 and December 31, 2022.
Intangible Assets

The following table sets forth amounts recorded for intangible assets subject to amortization (in thousands):

At September 30, 2023At December 31, 2022
Weighted Average Estimated Useful Life (years)Gross ValueAccumulated AmortizationNet Carrying ValueGross ValueAccumulated AmortizationNet Carrying Value
Acquired software technology3$3,500 $(3,403)$97 $3,500 $(2,528)$972 
Customer relationships5270(157)113270(117)153
     Total$3,770 $(3,560)$210 $3,770 $(2,645)$1,125 


Amortization expense for intangible assets presented above was $0.3 million for each of the three months ended September 30, 2023 and 2022, and $0.9 million for each of the nine months ended September 30, 2023 and 2022.

At September 30, 2023, estimated amortization expense for intangible assets for each year thereafter was as follows (in thousands):

Remainder of 2023$111 
202454
202545
  Total$210 


Note 6. Restructuring, Severance and Related Costs

In March 2023, as part of the Company's continued cost saving measures and to reduce its operating costs and to help align with its previously stated strategic initiatives, the Company implemented additional headcount reductions wherein approximately 19% of the Company's employee positions were eliminated. In March 2023, the Company incurred a total of approximately $0.5 million of termination related costs, including severance payments and benefits payable to the impacted employees, which have been recorded as part of "Restructuring, severance and related costs" on its condensed consolidated statement of operations for the nine months ended September 30, 2023. As of September 30, 2023, the Company paid $0.5 million of such amount and no amount remained outstanding as of September 30, 2023.

In August 2022, the Company's management approved a restructuring plan as part of management's cost saving measures, reducing approximately 34% of positions, in order to reduce its operating costs and help align with its previously stated strategic initiatives. During the three months ended September 30, 2022, the Company incurred a total of approximately $0.9 million of termination benefits to the impacted employees, including severance payments and benefits, recorded as part of "Restructuring, severance and related costs" on its condensed consolidated statement of operations for the three and nine months ended September 30, 2022.




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ONTRAK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
Note 7. Common Stock and Preferred Stock
Net Loss Per Common Share
Basic and Diluted Income (Loss)net loss per Share

Basic income (loss) percommon share is computed by dividing the net income (loss)loss attributable to common stockholders forby the period by the weighted averageweighted-average number of shares of common stock outstanding during the period. Diluted income (loss)net loss per common share is computed by dividing the net income (loss) for the period by the weighted average number ofgiving effect to all shares of common stock potentially issuable upon exchange or exercise of outstanding shares of preferred stock and dilutiveoutstanding stock options and warrants, in each case, to the extent dilutive. Basic and diluted net loss per common share were the same for each period presented below as the inclusion of any such shares of common stock potentially issuable would have been anti-dilutive.

Basic and diluted net loss per common share were as follows (in thousands, except per share amounts):

Three Months Ended
September 30,		Nine Months Ended
September 30,
2023202220232022
Net loss$(6,418)$(12,764)$(21,524)$(42,467)
Dividends on preferred stock - declared and undeclared(2,239)(2,239)(6,716)(6,716)
Net loss attributable to common stockholders$(8,657)$(15,003)$(28,240)$(49,183)
Weighted-average shares of common stock outstanding4,905 4,056 4,827 3,666 
Net loss per common share - basic and diluted$(1.76)$(3.70)$(5.85)$(13.42)

The following common equivalent shares outstanding during the period.


Common equivalent shares, consistingas of 2,255,381 and 1,178,821 shares for the nine months ended September 30, 20172023 and 2016, respectively,2022, issuable upon the exercise of stock options and warrants, have been excluded from the diluted earnings per share calculation as their effect is anti-dilutive.

Share-Basedwas anti-dilutive:


September 30,
20232022
Warrants to purchase common stock7,082,788 262,713 
Options to purchase common stock1,177,839 563,142 
Total8,260,627 825,855 

Equity Offerings

Common Stock

In February 2023, pursuant to the terms of the Keep Well Agreement, as a result of stockholder approvals obtained at the 2023 Special Meeting, the Company issued to Acuitas (as defined in Note 10 below) 2,038,133 additional shares of the Company's common stock (which, after giving effect to the reverse stock split discussed in Note 1 above, was adjusted to 339,689 shares of the Company's common stock).
On September 2, 2022, pursuant to the terms of the Keep Well Agreement, as discussed in Note 10, the Company issued 739,645 shares of common stock (which, after giving effect to the reverse stock split discussed in Note 1 above, was adjusted to 123,275 shares of the Company’s common stock) to Acuitas subsequent to obtaining stockholder approval for such issuance on August 29, 2022 at the Company's annual meeting of stockholders.
On August 2, 2022, the Company entered into a securities purchase agreement with certain institutional investors for the purchase and sale of 5,000,000 shares of the Company’s common stock (which, after giving effect to the reverse stock split discussed in Note 1 above, was adjusted to 833,333 shares of the Company’s common stock) at a purchase price of $0.80 per share in a registered direct offering. The offering closed on August 4, 2022 and the Company received total net proceeds of approximately $3.3 million (excluding approximately $0.7 million of fees and expenses). The Company used the net proceeds from the offering for working capital purposes.
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ONTRAK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
Preferred Stock

In 2020, the Company completed the issuance of a total of 3,770,265 shares of Series A Preferred Stock. The Company, generally, may not redeem the Series A Preferred Stock until August 25, 2025, except upon the occurrence of a Delisting Event or Change of Control (as defined in the Certificate of Designations establishing the Series A Preferred Stock), and on and after August 25, 2025, the Company may, at its option, redeem the Series A Preferred Stock, in whole, at any time, or in part, from time to time, for cash at a redemption price of $25.00 per share, plus any accrued and unpaid dividends. The Series A Preferred Stock has no maturity date and will remain outstanding indefinitely unless redeemed by the Company or exchanged for shares of common stock in connection with a Delisting Event or Change of Control. Holders of Series A Preferred Stock generally have no voting rights, but have limited voting rights if the Company fails to pay dividends in respect of the Series A Preferred Stock for six or more quarters, whether or not declared or consecutive and in certain other events, including the right, voting separately as a single class, to elect two individuals to the Company's Board of Directors. Such director election right commenced on August 31, 2023 since the Company did not pay the dividend payable on that date or in respect of the five prior quarters (see discussion below).

Holders of Series A Preferred Stock of record at the close of business of each respective record date for quarterly dividends (February 15, May 15, August 15 and November 15 of each year) are entitled to receive, when, as and if declared by our Board of Directors, out of funds legally available for the payment of dividends, cumulative cash dividends at the rate of 9.50% per annum of the $25.00 per share liquidation preference (equivalent to $2.375 per annum per share or $0.593750 per quarter per share). Dividends, if and when declared by our Board of Directors, are payable quarterly in arrears, every February 28, May 30, August 31, and November 30, as applicable. In 2022, our Board of Directors declared the first quarterly dividend on the Series A Preferred Stock for holders of record on February 15, 2022 and paid cash dividends on February 28, 2022. Thereafter, no dividends have been declared by our Board of Directors. As such, at September 30, 2023, we had total undeclared dividends of $14.2 million.

On October 20, 2023, the Series A Preferred Stock was delisted from the Nasdaq Capital Market. See Note 14 below for a discussion regarding the delisting of Series A Preferred Stock and the inception of its trading in the over-the-counter OTC Markets system.

Note 8.Stock-Based Compensation

Our

The Company's 2017 Stock Incentive Plan (the “2017 Plan”), provides for the issuance of up to 2,333,334 shares of our common stock and an additional 243,853 shares of our common stock that are represented by awards granted under our 2010 Stock Incentive Plan (the “2010 Plan”). Incentive stock options (ISOs) under Section 422A (the 2017 Plan and the 2010 Plan together, the "Plan") provide for the issuance of 1,695,741 shares of the Internal Revenue Code and non-qualified options (NSOs) are authorized under the Plan. We haveCompany's common stock. The Company has granted stock options to executive officers, employees, members of our boardits Board of directors,Directors, and certain outside consultants.consultants, and has granted restricted stock units ("RSUs") to executive officers, employees and members of its Board of Directors. The terms and conditions upon which stock options become exercisablevest vary among grants, but option rightsgrants; however, stock options expire no later than ten years from the date of grant and employeeawards granted to employees, including to executive officers, and boardto members of director awardsthe Company's Board of Directors generally vest over one to four years on a straight-line basis. The terms and conditions upon which RSUs vest vary among grants; however, RSUs generally vest over three to five years. Atyears on a straight-line basis. As of September 30, 2017, we2023, the Company had 243,853 vested1,298,788 stock options and unvested sharesRSUs outstanding and 2,333,33444,143 shares availablereserved for future awards granted under the 2017 Plan.

Share-based

Stock-based compensation expense attributable to continuing operations were $32,000was $0.8 million and $191,000$1.2 million for the three months ended September 30, 2023 and 2022, respectively, and $2.3 million and $6.3 million for the nine months ended September 30, 2017, compared with $174,0002023 and $523,000 for the same periods2022, respectively.
The assumptions used in 2016, respectively.

Stock Options – Employees and Directors

We measure and recognize compensation expense for all share-based payment awards made to employees and directors based on estimated fair values on the date of grant. We estimate the fair value of share-based payment awards using the Black-Scholes option-pricing model. The valuemodel were as follows:


Nine Months Ended
September 30, 2023
Volatility    101.0% - 109.0%
Risk-free interest rate3.36% - 4.18%
Expected life (in years)3.76 - 4.66
Dividend yield0 %

15
Table of the portion of the award that is ultimately expected to vest is recognized as expense over the requisite service periods in the consolidated statements of operations.

Share-based compensation expense recognized for employees and directors for the three and nine months ended September 30, 2017 was $32,000 and $191,000, compared with $174,000 and $523,000, for the same periods in 2016, respectively.

For share-based awards issued to employees and directors, share-based compensation is attributed to expense using the straight-line single option method. Share-based compensation expense recognized in our consolidated statements of operations for the three and nine months ended September 30, 2017 and 2016 is based on awards ultimately expected to vest, reduced for estimated forfeitures. Accounting rules for stock options require forfeitures to be estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates.

Contents
ONTRAK, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

There were no options granted to employees and directors during the three and nine months ended September 30, 2017 and 2016, respectively, under the 2017 Plan. Employee and director stock option activity for the three and nine months ended September 30, 2017 are as follows:

      

Weighted Avg.

 
  

Shares

  

Exercise Price

 

Balance December 31, 2016

  244,046  $39.06 
         

Granted

  -  $- 

Cancelled

  (193) $(245.47)
         

Balance March 31, 2017

  243,853  $38.90 
         

Granted

  -  $- 

Cancelled

  -  $- 
         

Balance June 30, 2017

  243,853  $38.90 
         

Granted

  -  $- 

Cancelled

  -  $- 
         

Balance September 30, 2017

  243,853  $38.90 

The expected volatility assumptions have been based on the historical and expected volatility of our stock and stock of comparable companies, measured over a period generally commensurate with the expected term.term or acceptable period to determine reasonable volatility. The weighted average expected option term for the three and nine months ended September 30, 2017 and 2016,2023 reflects the application of the simplified method prescribed in Securities and Exchange Commission (“SEC”)SEC Staff Accounting Bulletin (“SAB”) No. 107 (as amended by SAB 110), which defines the life as the average of the contractual term of the options and the weighted average vesting period for all option tranches.

Stock Options - Employees and Directors
A summary of stock option activity is as follows:
Number of Shares
Weighted Average
Exercise Price
Outstanding as of December 31, 2022815,970 $18.54 
Granted600,813 2.70 
Forfeited(238,944)34.94 
Outstanding as of September 30, 20231,177,839 7.13 
Options vested and exercisable as of September 30, 2023347,142 $17.81 
As of September 30, 2017,2023, there was $127,500$3.1 million of total unrecognized compensation cost related to non-vested share-based compensation arrangements granted to employees and directors under the 2017 Plan. That cost isThese costs are expected to be recognized over a weighted-average period of approximately 1.022.86 years.

Stock Options

Performance-Based and Warrants – Non-employees

We account forMarket-Based Awards

The Company’s Compensation Committee designed a compensation structure to align the compensation level of the Company's former Executive Chairman to the performance of the Company through the issuance of market-based stock options. The market-based options vested upon the Company’s stock price reaching a certain price at a specific performance period and warrantsthe total amount of compensation expense recognized was based on a Monte Carlo simulation that factored in the probability of the award vesting. The market-based stock options to purchase a total of 1,040,000 shares (173,334 shares, adjusted for services from non-employees by estimatingthe reverse stock split, which is discussed in Note 1 above) of the Company's common stock expired unexercised on June 2, 2023.
Restricted Stock Units - Employees
The Company estimates the fair value of warrants issued usingRSUs based on the Black-Scholes pricing model. This model’s calculations include the option or warrant exercise price, the marketclosing price of sharesits common stock on grantthe date of grant. The following table summarizes our RSU award activity issued under the weighted average risk-free interest rate, the2017 Plan:

Restricted Stock UnitsWeighted
Average
Grant Date Fair Value
Non-vested at December 31, 2022241,599 $12.92 
Vested and settled(118,842)10.23 
Forfeited(1,805)128.00 
Non-vested at September 30, 2023120,952 13.83 


As of September 30, 2023, there was $1.6 million of unrecognized compensation costs related to unvested outstanding RSUs. These costs are expected lifeto be recognized over a weighted-average period of approximately 1.91 years.
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ONTRAK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
Warrants - Non-employees
The Company has issued warrants to purchase shares of the option or warrant, and the expected volatility of our stock and the expected dividends.

For options and warrants issued as compensation to non-employees for services that are fully vested and non-forfeitable at the time of issuance, the estimated value is recorded in equity and expensed when the services are performed and benefit is received. For unvested shares, the change in fair value during the period is recognized in expense using the graded vesting method.

There were no options issued to non-employees for the three and nine months ended September 30, 2017 or during the same periods in 2016.

There was no share based compensation expense relating to stock options and warrants recognized for the non-employees for the three and nine months ended September 30, 2017 or during the same periods in 2016.

Common Stock

In April 2017, we entered into an underwriting agreement with Joseph Gunnar & Co., LLC (“Joseph Gunnar”), as underwriter in connection with a public offering of the Company’s securities. Pursuant to the underwriting agreement, we agreed to issue and sell an aggregate 3,125,000 shares ofCompany's common stock at a public offering pricethat have been approved by our Board of $4.80 per share,Directors. A summary of warrants activity was as follows:

Number of WarrantsWeighted Average
Exercise Price
Outstanding as of December 31, 2022262,713 $3.06 
Granted6,820,075 0.92 
Outstanding as of September 30, 20237,082,788 1.00 
Warrants exercisable as of September 30, 20237,082,788 1.00 
On each of January 5, 2023 and March 6, 2023, the purchase price toCompany borrowed $4.0 million under the underwriter after discounts and commission was $4.464 per share. The closing of the offering occurred on April 28, 2017. We received $15.0 million in gross proceeds in connection with the offering.


Pursuant to the underwriting agreement with Joseph Gunnar, we granted the underwriters a 45 day over-allotment option to purchase up to 468,750 additional shares of common stock at the public offering price less the applicable underwriter discount. In May, the underwriter acquired an additional 303,750 shares pursuant to such over-allotment option. We received $1.5 million in gross proceeds in connection with the over-allotment option.

Keep Well Agreement. In connection with the public offering, ourJanuary 5, 2023 borrowing, the Company issued to Acuitas a warrant to purchase 473,373 shares of the Company's common stock began trading(78,896 shares of the Company's common stock as adjusted for the reverse stock split discussed in Note 1 above) with an original exercise price equal to $1.69 per share. In February 2023, as discussed in Note 10 below, warrants to purchase an aggregate 1,775,148 shares of the Company’s common stock (295,860 shares of the Company's common stock as adjusted for the reverse stock split discussed in Note 1 above) previously issued by the Company to Acuitas through February 20, 2023 were exchanged for warrants to purchase 33,333,333 shares of the Company’s common stock (5,555,557 shares of the Company's common stock as adjusted for the reverse stock split discussed in Note 1 above, of which 5,338,593 shares relate to warrants issued during the first quarter of 2023) with an exercise price equal to $0.45 per share ($0.92 per share as adjusted for the reverse stock split discussed in Note 1 above and further adjustments discussed in Note 10). In connection with the March 6, 2023 borrowing, the Company issued to Acuitas a warrant to purchase 8,888,889 shares of the Company's common stock (1,481,482 shares of the Company's common stock as adjusted for the reverse stock split discussed in Note 1 above) with an exercise price equal to $0.45 per share ($0.92 per share as adjusted for the reverse stock split discussed in Note 1 above and further adjustments discussed in Note 10). All warrants issued to Acuitas have a five year term.

The assumptions used in the Black-Scholes warrant-pricing model were determined as follows:
Nine Months Ended
September 30, 2023
Volatility100% - 109%
Risk-free interest rate3.90% - 4.61%
Expected life (in years)5.00
Dividend yield0 %

Note9.Leases
The Company determines whether an arrangement is a lease, or contains a lease, at inception and recognizes right-of-use assets and lease liabilities, initially measured at present value of the lease payments, on the NASDAQ Capital Market (“NASDAQ”) underCompany's balance sheet and classifies the symbol “CATS” beginning on April 26, 2017.

In April 2017, several investors, including Acuitas Group Holdings, LLC (“Acuitas”), one hundred percent (100%) ofleases as either operating or financing leases. The Company leases office space in Henderson, Nevada, which is owned by Terren S. Peizer, Chairmanpreviously served as the Company's headquarters and Chief Executive Officercurrently serves as the administrative office for certain of the Company's back-office functions, and in Rosemont, Illinois, which are accounted for as operating leases. The Rosemont lease expired in June 2023. In September 2023, the Company entered into a month-to-month lease for a virtual office space in Miami, Florida, which serves as the Company's headquarters. The Company leases various computer equipment used in the operation of its business, which are accounted for as finance leases. The operating lease agreement for the Henderson, Nevada office is for a total of 2,721 square feet of office space for lease term of 58 months. The Company's finance leases are generally for 36 month terms.


On April 12, 2022, the Company entered into a sublease agreement with a subtenant for 100% of the office space the Company leased in Santa Monica, California. The sublease agreement commenced on June 3, 2022 and Shamus, LLC (“Shamus”),provided for an expiration date of July 17, 2024, unless sooner terminated. On February 16, 2023, the Company, the landlord and the subtenant entered into a lease and sublease termination agreement for the office space, with a termination date of February 28, 2023. The Company owned by David E. Smith,agreed to
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ONTRAK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
pay to the landlord a member$0.1 million early termination fee and monthly fixed rent for March and April 2023, and the subtenant agreed to pay to the Company monthly fixed sublease payments for March and April 2023. As a result of our boardthe lease termination, the Company wrote-off $0.3 million of directors, exercised their option to convert their convertible debenturesoperating lease right-of-use assets, and received 2,982,994 shares$0.6 million and $0.2 million of common stock. There wascurrent and long-term operating lease liabilities, respectively, resulting in a lossnon-cash gain of $0.5 million included in "Other income, net" on the conversioncondensed consolidated statement of the convertible debentures of $1.4 millionoperations for the nine months ended September 30, 2017.

In2023.

The Company’s operating leases do not require any contingent rental payments, impose any financial restrictions, or contain any residual value guarantees. The leases include renewal options and escalation clauses. The renewal options have not been included in the calculation of the operating lease liabilities and right-of-use assets as the Company is not reasonably certain to exercise the options. Variable expenses generally represent the Company’s share of the landlord’s operating expenses.
Quantitative information for our leases is as follows (in thousands):

Condensed Consolidated Balance SheetsBalance Sheet ClassificationSeptember 30, 2023December 31, 2022
Assets
Operating lease assets"Operating lease right-of-use-assets"$206 $632 
Finance lease assets"Property and equipment, net"066
Total lease assets$206 $698 
Liabilities
Current
     Operating lease liabilities"Current portion of operating lease liabilities"$53 $653 
     Finance lease liabilities"Other accrued liabilities"8136
Non-current
     Operating lease liabilities"Long-term operating lease liabilities"181546
Total lease liabilities$242 $1,335 
Three Months Ended
September 30,		Nine Months Ended
September 30,
Condensed Consolidated Statements of Operations2023202220232022
Operating lease expense$20 $114 $139 $330 
Short-term lease rent expense1 1 2 6 
Variable lease expense— 16 23 13 
Operating sublease income— (97)(65)(128)
Total rent expense$21 $34 $99 $221 
Finance lease expense
  Amortization of leased assets$16 $30 $66 $93 
  Interest on lease liabilities1 4 4 16 
Total$17 $34 $70 $109 


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ONTRAK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
Nine Months Ended
September 30,
Condensed Consolidated Statements of Cash Flows20232022
Cash paid for amounts included in the measurement of lease liabilities:
   Operating cash flows from operating leases$200 $552 
   Financing cash flows from finance leases126 226 
Other
Cash received for operating sublease97 99 

Other InformationSeptember 30, 2023December 31, 2022
Weighted-average remaining lease term (years)
   Operating leases3.42.5
   Financing leases0.20.7
Weighted-average discount rate (%)
   Operating leases16.25 %12.56 %
   Finance leases15.15 %12.92 %
The following table sets forth maturities of our lease liabilities (in thousands):

At September 30, 2023
Operating LeasesFinancing LeasesTotal
Remainder of 2023$21 $8 $29 
202488— 88
202590— 90
202693— 93
202716— 16
Total lease payments3088316
    Less: imputed interest(74)— (74)
Present value of lease liabilities2348242
    Less: current portion(53)(8)(61)
Lease liabilities, non-current$181 $— $181 

Note10. Debt

Keep Well Agreement

On April 2017,15, 2022, the Company entered into a Master Note Purchase Agreement (the “Original Keep Well Agreement”) with Acuitas Capital LLC (“Acuitas Capital”), an entity indirectly wholly owned and controlled by Terren S. Peizer, the Company’s former Chief Executive Officer and Chairman. On August 12, 2022, the Company and Acuitas Capital entered into an amendment to the Original Keep Well Agreement in connection with the appointment of a collateral agent under the Original Keep Well Agreement (the “First Amendment”). On November 19, 2022, the Company and Acuitas Capital entered into another amendment to the Original Keep Well Agreement, as amended by the First Amendment (the “Second Amendment”), on December 30, 2022, the Company and Acuitas Capital entered into another amendment to the Original Keep Well Agreement, as amended by the First Amendment and the Second Amendment (the “Third Amendment”) and on June 23, 2023, the Company and Acuitas Capital entered into another amendment to the Original Keep Well Agreement, as amended by the First Amendment, the Second Amendment and the Third Amendment (the “Fourth Amendment”). The Company refers to the Original Keep Well Agreement,
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ONTRAK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
as amended by the First Amendment, the Second Amendment, the Third Amendment and the Fourth Amendment, as the “Keep Well Agreement” and to Acuitas Capital, together with any of its transferees or affiliates under the Keep Well Agreement, as “Acuitas.”

The Original Keep Well Agreement

Under the terms of the Original Keep Well Agreement, subject to the satisfaction of certain conditions precedent (some of which are described below), the Company could borrow from Acuitas up to $25.0 million, and in connection with each such borrowing, the Company agreed to settle his deferred salary balanceissue to Acuitas a senior secured note (each, an “Original Keep Well Note”) with a principal amount equal to the amount borrowed. Subject to obtaining approval of $1.1 million for 233,734the Company’s stockholders as required by applicable Nasdaq listing rules, which approval was obtained at the Company’s annual meeting of stockholders held on August 29, 2022 (the “2022 Annual Meeting of Stockholders”), in connection with each Original Keep Well Note issued by the Company, the Company agreed to issue to Acuitas a warrant to purchase shares of the Company’s common stock (each, an “Original Keep Well Warrant”). The number of shares of the Company’s common stock underlying each Original Keep Well Warrant was to be equal to (y) the product of the principal amount of the applicable Keep Well Note and 20% divided by (z) the exercise price of the applicable Original Keep Well Warrant, which was $1.69 per share, the Nasdaq Official Closing Price (as reflected on Nasdaq.com) of the Company’s common stock immediately preceding the time the parties entered into the Original Keep Well Agreement. The maturity date of the Original Keep Well Notes was September 1, 2023.

The conditions precedent to the Company’s ability to borrow, and Acuitas’ obligation to lend, under the Original Keep Well Agreement included that (x) the Company have used best efforts to obtain sufficient financing from a third party for the Company to pay and discharge, when due and payable, its obligations, (y) the Company be unable despite its best efforts to obtain such financing from a third party on reasonably acceptable terms, and (z) (1) absent obtaining the funds requested by the Company to borrow under the Original Keep Well Agreement, the Company would not have sufficient unrestricted cash to pay and discharge all of its obligations then due or scheduled to become due within the 30 days following the date of the borrowing request, and (2) there be no conditions or events that, when considered in the aggregate, raise substantial doubt about the Company’s ability to continue as a going concern through August 15, 2023 (the “Funding Condition”).

In connection with entering into the Original Keep Well Agreement, subject to obtaining approval of the Company’s stockholders as required by applicable Nasdaq listing rules, which approval was obtained at the 2022 Annual Meeting of Stockholders, the Company agreed to issue 739,645 shares of its common stock to Acuitas (or an entity affiliated with Acuitas, as designated by Acuitas) (the “Original Commitment Shares”). The Original Commitment Shares were issued to Acuitas in September 2022, and after giving effect to the reverse stock split discussed in Note 1 above, was adjusted to 123,275 shares of the Company’s common stock.

The Second Amendment, the Third Amendment and Fourth Amendment

Under the Second Amendment and the Third Amendment, many of the conditions precedent to the Company’s ability to borrow, and Acuitas’ obligation to lend, were eliminated, including the Funding Condition, the Company’s obligation to pay accrued interest on a monthly basis was eliminated, and instead accrued interest will be added to the principal amount of the applicable Keep Well Note (as defined below) (and of any other secured note issued under the Keep Well Agreement), the financial covenant that the Company’s consolidated recurring revenue be at least $15.0 million was reduced to $11.0 million, however, the satisfaction of such covenant as a condition to funding was eliminated, and certain other affirmative and negative covenants of the Company, the satisfaction of which were conditions to funding, were also eliminated as conditions to funding, and (a) the minimum conversion price of the Keep Well Notes and (b) the minimum dollar amount to which the denominator will be reduced for purposes of calculating the warrant coverage on future borrowings under the Keep Well Agreement (as discussed below), was revised to be $0.15 (subject to adjustment for stock splits or other recapitalizations that affect all common stockholders proportionately). The $0.15 referenced in the preceding sentence was adjusted to $0.90 after giving effect to the reverse stock split discussed in Note 1 above.

Below is a summary of certain other amendments effected by the Second Amendment, the Third Amendment and the Fourth Amendment:

•the maturity date of the Original Keep Well Notes (and of any other secured notes issued under the Keep Well Agreement) was extended from September 1, 2023 to June 30, 2024 in the Second Amendment, and further extended from June 30, 2024 to September 30, 2024 in the Fourth Amendment, subject to acceleration for certain customary
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ONTRAK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
events of default, including for failure to make payments when due, breaches by the Company of certain covenants and representations in the Keep Well Agreement, defaults by the Company under other agreements related to indebtedness, the Company’s bankruptcy or dissolution, and a change of control of the Company;
•per the Second Amendment, the remaining amount available to be borrowed under the Keep Well Agreement was increased from $10.7 million to $14.0 million and the provision that previously reduced the amount available to be borrowed by the net proceeds the Company received from equity financings was eliminated;
•per the Second Amendment, the funding structure was changed from borrowings as needed from time to time at the election of the Company, to the Company agreeing to borrow, and Acuitas agreeing to lend, subject to the conditions in the Keep Well Agreement (which conditions were also amended as described above), the entire then-remaining amount of $14.0 million as follows: $4.0 million in each of January (which was borrowed on January 5, 2023), March (which was borrowed on March 6, 2023) and June 2023, and $2.0 million in September 2023; the funding structure was further amended in the Fourth Amendment with respect to the $6.0 million remaining available amount to be funded, as described below;
•per the Fourth Amendment, in lieu of the $6.0 million remaining available amount to be funded as described above (and in full satisfaction of Acuitas’ obligation to purchase Keep Well Notes from the Company), Acuitas agreed to deliver to the Company for deposit and to be held by the Company in a segregated account established by the Company until such time of qualified withdrawal and issuance of a Keep Well Note, as described below (the proceeds so deposited, the “Escrowed Funds” and the account into which the proceeds are so deposited, the “Escrow Account”): (i) $4.0 million on June 23, 2023 (which was received by the Company on June 26, 2023); and (ii) $2.0 million on September 1, 2023 (which was received by the Company on September 7, 2023); the total of such $6.0 million was included in "Other accrued liabilities" on the Company's condensed consolidated balance sheet as of September 30, 2023);
•per the Fourth Amendment, any time, and from time to time, that the Company has less than $1.0 million of Qualified Cash (as defined in Fourth Amendment), the Company may withdraw $1.0 million of Escrowed Funds (or any lesser remaining amount of Escrowed Funds) from the Escrow Account; each such withdrawal will be treated as a sale by the Company to Acuitas of a Keep Well Note with a principal amount equal to the amount withdrawn by the Company and in connection with each such withdrawal, the Company will also issue a Keep Well Warrant to Acuitas; and
•per the Fourth Amendment, if the Company does not complete a Qualified Financing (as defined below) on or prior to October 31, 2023, then, on October 31, 2023, the Company must withdraw all of the Escrowed Funds (other than any accrued interest thereon, all of which will belong to the Company) then on deposit in the Escrow Account, and such withdrawal will be treated as a sale by the Company to Acuitas of a Keep Well Note, and in connection with such withdrawal, the Company will also issue a Keep Well Warrant to Acuitas.

In the event the Company completes a Qualified Financing, all of the Escrowed Funds (other than any accrued interest thereon, all of which will belong to the Company) then on deposit in the Escrow Account will be invested in the Qualified Financing on behalf of Acuitas on the same terms as all other investors in the Qualified Financing, and the Company’s obligation to sell to Acuitas, and Acuitas’ obligation to purchase from the Company, any further Keep Well Notes will thereupon be deemed discharged with respect to the amount so invested.

A “Qualified Financing” generally means any financing in which the Company issues or sells any of its equity securities for cash to one or more third party investors resulting in gross proceeds to the Company of at least $10.0 million exclusive of any amount invested by Acuitas in such financing.

For a discussion regarding an amendment to the definition of Qualified Financing as well as investment of Escrowed Funds and conversion of Keep Well Notes, as described below, see Note 14 under "Fifth Amendment to Keep Well Agreement."

Conversion of Keep Well Notes

Following approval of the Company’s stockholders obtained at the 2023 Special Meeting, Acuitas, at its option, has the right to convert the entire principal amount of the secured notes issued under the Keep Well Agreement, plus all accrued and unpaid interest thereon, in whole or in part, into shares of the Company’s common stock at a conversion price equal to the lesser of (i) $0.40 per share and (ii) the greater of (a) the closing price of the Company’s common stock on the trading day immediately prior to the applicable conversion date and (b) $0.15 (the “Conversion Right”). The $0.40 and $0.15 referenced in the preceding sentence are subject to adjustment for stock splits and similar corporate actions, and were adjusted to $2.39 and $0.90, respectively, after giving effect to the reverse stock split discussed in Note 1 above.

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ONTRAK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
Each Original Keep Well Note outstanding as of the date of stockholder approval was deemed to be amended to contain the Conversion Right. The Company refers to such Original Keep Well Notes, as so amended, and to all other secured notes issued under the Keep Well Agreement, as the “Keep Well Notes.”

In addition, in connection with the conversion of the principal amount of any Keep Well Note and/or accrued interest thereon into shares of the Company’s common stock (as described above), the Company will issue to Acuitas a five-year warrant to purchase shares of the Company’s common stock, and the number of shares of the Company’s common stock subject to each such warrant will be equal to (x) 100% of the amount converted divided by (y) the conversion price of the Keep Well Note then in effect, and the exercise price of each such warrant will be equal to the conversion price of the Keep Well Note then in effect, subject to adjustment as described below. See Note 14 below for information regarding conversion of Keep Well Notes.

Increase in Warrant Coverage and Other Adjustments

Following approval of the Company’s stockholders obtained at the 2023 Special Meeting, (a) the exercise price of the warrants issued under the Keep Well Agreement (both the Original Keep Well Warrants outstanding as of the date of the Second Amendment and those issued thereafter) was reduced to $0.45 per share ($2.70 per share as adjusted for the reverse stock split discussed in Note 1 above), which was the Nasdaq Official Closing Price (as reflected on Nasdaq.com) of the Company’s common stock immediately preceding the time the parties entered into the Second Amendment, and which is subject to future adjustment as described below; (b) the number of shares of the Company’s common stock subject to the warrants outstanding at the time of the 2023 Special Meeting (i.e., 1,775,148 shares, before the reverse stock split discussed in Note 1 above) was increased to the number of shares that would have been subject to such warrants if the warrant coverage was equal to 100% of the amount borrowed under the Keep Well Agreement in respect of which the applicable Keep Well Warrant was issued (instead of 20%) divided by $0.45 (i.e., 33,333,333 shares, or an additional 31,558,185 shares; 5,555,557 shares , or an additional 5,259,696 shares, as adjusted for the reverse stock split discussed in Note 1 above); and (c) the warrant coverage on borrowings under the Keep Well Agreement after the date of the Second Amendment was increased to a number of shares of the Company’s common stock equal to (x) 100% of the amount borrowed (instead of 20% of such amount) divided by (y) the greater of (i) the per share warrant exercise price (as adjusted as of the date of issuance of the applicable warrant) and (ii) $0.15 ($0.90 as adjusted for the reverse stock split discussed in Note 1 above) (the “Warrant Coverage Denominator”), subject to future adjustment as described below, and each warrant issued after the date of the Second Amendment has an exercise price equal to $0.45 per share ($2.70 per share as adjusted for the reverse stock split discussed in Note 1 above), subject to future adjustment as described below.

As a result we recognizedof stockholder approvals obtained at the 2023 Special Meeting, the Company issued to the holder of each warrant issued under the Keep Well Agreement outstanding as of the date of such approval, in exchange for such warrant, a loss on settlementnew warrant to purchase shares of liability totaling $83,807 which is recordedthe Company’s common stock that reflect the amendments to loss on issuance of common stock.

In April 2017, we filed a certificate of amendmentthe warrants described above and below, including the increase in the warrant coverage and the decrease in the exercise price. The Company refers to our Certificate of Incorporation, as amendedthe new warrants issued in exchange for outstanding warrants and to any warrants issued in effect,connection with future borrowings under the Keep Well Agreement or in connection with the Secretary of Stateconversion of the Stateprincipal amount of Delaware, implementing a 1-for-6 reverse stock splitany Keep Well Note and/or accrued interest thereon into shares of ourthe Company’s common stock pursuant to which each six sharesas the “Keep Well Warrants.”


Under the terms of issued and outstanding common stock converted into one share of common stock. Proportionate voting rights and other rights of common stock holders were not affected bythe Second Amendment, if the reverse stock split.  No fractional sharessplit approved at the 2023 Special Meeting is effected, then:

(1) the exercise price of each warrant issued pursuant to the Keep Well Agreement that is outstanding as of the effective time of the reverse stock split would be reduced to the lesser of (i) the volume-weighted average price of the Company’s common stock were issuedover the five trading days beginning on the trading day that commences immediately after the effective time of the reverse stock split (the “Reverse Stock Split Price”) and (ii) the exercise price after giving effect to the adjustment thereto as a result of the reverse stock split; stockholders were paid cashsplit (the lesser of (i) and (ii), the “Post-Stock Split Price”), subject to further reduction as described below; and

(2) the Warrant Coverage Denominator would be reduced to the greater of $0.15 ($0.90 as adjusted for the reverse stock split discussed in lieuNote 1 above) and the Post-Stock Split Price, subject to further reduction as described below.

As discussed in Note 1 above, the reverse stock split approved at the 2023 Special Meeting was effected on July 27, 2023. After giving effect to such reverse stock split, and in accordance with the above, the Post-Stock Split Price was determined to be $2.44 on August 3, 2023. In addition, after giving effect to such reverse stock split, the number of any such fractional shares.

All stock options and warrants to purchaseshares of the Company’s common stock underlying the Keep Well Warrants outstanding and ourat the effective time of the reverse stock split were proportionally adjusted such that the aggregate exercise price payable upon exercise of the Keep Well Warrants remains unchanged.

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ONTRAK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Also under the terms of the Second Amendment: (i) the exercise price of each Keep Well Warrant outstanding as of September 1, 2023 will be reduced to the closing price of the Company’s common stock reserved for issuance under our equity incentive plans immediately prioron August 31, 2023, if such closing price is less than the Post-Stock Split Price; and (ii) the Warrant Coverage Denominator will be reduced to the greater of (a) $0.15 (or $0.90 as adjusted after giving effect to the reverse stock split were appropriately adjusted by dividingdiscussed in Note 1 above) and (b) the numberlesser of affected shares(x) the Post-Stock Split Price and (y) the closing price of the Company’s common stock by six and, as applicable, multiplyingon August 31, 2023. As such, on September 1, 2023, the exercise price of each Keep Well Warrant and the Warrant Coverage Denominator (applicable to warrant issuances, if any, thereafter) was determined to be $0.92. The Company assessed the adjustment to the warrant exercise price on August 3, 2023 and September 1, 2023, as described above, and determined that application of the relative fair value method was appropriate in assessing and allocating the change in the fair value of the warrants related to such change in warrant exercise prices. As such, the Company recorded a total of $0.2 million of debt discount costs to the Keep Well Notes as of September 30, 2023, and such debt discount costs will be accreted using the effective interest method over the remaining term of the Keep Well Notes.

Additional Commitment Shares

As a result of stockholder approvals obtained at the 2023 Special Meeting, the Company issued to Acuitas 2,038,133 additional shares of the Company’s common stock (which, after giving effect to the reverse stock split discussed in Note 1 above, was adjusted to 339,689 shares of the Company's common stock).

Issuance Cap

The Company and Acuitas agreed that (i) under no circumstances will the Company issue any shares upon exercise of any warrant issued under the Keep Well Agreement or upon conversion of any Keep Well Note to the extent that, after giving effect to the issuance of any such shares, Acuitas (together with its affiliates) would beneficially own shares of the Company’s common stock representing more than 90% of the total number of shares of the Company’s common stock outstanding as of the time of such issuance (the “Issuance Cap”); and (ii) in the event of a Fundamental Transaction (as defined in the Second Amendment), regardless of the actual number of securities of the Company beneficially owned by sixAcuitas and its affiliates at the effective time thereof, Acuitas shall not be entitled to receive any consideration pursuant to such Fundamental Transaction in respect of any shares underlying any of the warrants issued under the Keep Well Agreement or any shares issuable upon conversion of any Keep Well Note that would represent shares in excess of the Issuance Cap if beneficially owned by Acuitas and/or its affiliates immediately prior to such effective time, and all warrants and Keep Well Notes owned or beneficially owned by Acuitas and/or its affiliates at the effective time of such Fundamental Transaction, solely to the extent that, if exercised or converted, such warrants and Keep Well Notes would result in the issuance of such excess shares, will be cancelled and forfeited without consideration therefor, effective as of such effective time; provided, however, that the foregoing shall not affect the Company’s obligation to pay all amounts owed under such Keep Well Notes in connection with such Fundamental Transaction.

Covenants

The Keep Well Agreement contains customary covenants that must be complied with by the Company, including, among other covenants, restrictions on the Company’s ability to incur debt, grant liens, make certain investments and acquisitions, pay dividends, repurchase equity interests, repay certain debt, amend certain contracts, enter into certain asset sale transactions, and covenants that require the Company to, among other things, provide annual, quarterly and monthly financial statements, together with related compliance certificates, maintain its property in good repair, maintain insurance and comply with applicable laws. Subject to certain customary exceptions, the Company also agreed not to incur any indebtedness or issue any shares of its capital stock or capital stock equivalents without Acuitas’ consent until 180 days following the Final Funding Date.

As mentioned above, the Keep Well Agreement also includes the following financial covenants: a requirement that annualized consolidated recurring revenue for the preceding twelve months be at least $11.0 million tested monthly, and a requirement that consolidated liquidity must be greater than $5.0 million at all times. The Company was in compliance with such financial covenants as of September 30, 2023.
Borrowings Under the Keep Well Agreement

In February 2023, as a result of approvals obtained at the reverse stock split.

There2023 Special Meeting relating to the terms provided for in the Second Amendment, as described above, the Company determined that terms of the Keep Well Agreement as amended by the Second Amendment is substantially different from the terms in the Original Keep Well Agreement and that extinguishment of the senior

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ONTRAK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
secured notes issued under the Original Keep Well Agreement and recognition of a new debt instrument for the senior secured notes under the Original Keep Well Agreement as amended by the Second Amendment was appropriate. As such, in February 2023, the Company recorded the extinguishment of the senior secured notes under the Original Keep Well Agreement, resulting in a loss on extinguishment of debt of $2.2 million, which was recorded as part of additional paid in capital since the debt transaction is with Acuitas, a significant shareholder. The new debt instrument includes an embedded conversion feature, as described above, which was accounted for in accordance with ASU 2020-06, "Accounting for Convertible Instruments and Contracts in an Entity's Own Equity," which the Company adopted on January 1, 2022, and accordingly the Company did not separately present such embedded conversion feature in equity but rather accounted for the convertible debt wholly as debt. The Company also assessed and determined that the Keep Well Warrants qualified for equity classification and applied the relative fair value method to allocate proceeds from the debt issuance to the Keep Well Warrants. The Company incurred $0.3 million of debt issuance costs related to the Second Amendment. The fair value of the Keep Well Warrants and new debt issuance costs relating to the Second Amendment were 0 recorded as part of debt discount and 28,985 sharesaccreted using the effective interest method over the contractual term of common stock issuedthe debt.

In connection with the Fourth Amendment entered into in exchangeJune 2023 discussed above, the Company incurred approximately $0.04 million of legal costs, which have been expensed as incurred as the Company determined that the Fourth Amendment was a modification of original debt terms.

As of September 30, 2023, the Company borrowed a total of $19.0 million under the Keep Well Agreement. Each borrowing was evidenced with the issuance of a Keep Well Note, which will accrue interest based on the adjusted term SOFR for investor relations services duringeach interest period. At September 30, 2023, the Company had a cumulative total of $3.7 million of accrued paid-in-kind interest on the Keep Well Notes, of which $1.2 million and $3.1 million were related to the three and nine months ended September 30, 20172023, respectively. At September 30, 2023, the effective weighted average interest rate for the Keep Well Notes was 20.73%.
The net carrying amounts of the liability components consists of the following (in thousands):

September 30, 2023December 31, 2022
Principal$22,663 $11,553 
Less: debt discount(8,603)(1,488)
Net carrying amount$14,060 $10,065 

The following table presents the interest expense recognized related to the Company's borrowings under the Keep Well Agreement and nothe 2024 Notes (as defined below) (in thousands):

Three Months Ended
September 30,		Nine Months Ended
September 30,
2023202220232022
Contractual interest expense$1,174 $320 $3,110 $2,264 
Accretion of debt discount1,210 225 2,850 729 
Total interest expense$2,384 $545 $5,960 $2,993 

Securities Issued Under the Keep Well Agreement During 2022

Following approval of the Company’s stockholders obtained at the annual stockholder meeting held on August 29, 2022, (a) on September 2, 2022, the Company issued 739,645 shares of its common stock (the “Commitment Shares”) to Acuitas and (b) in August and September 2022, the Company issued to Acuitas warrants to purchase a total of 1,301,775 shares of the Company’s common stock. The Commitment Shares and such warrants, which qualified for equity classification, were accounted for as debt discount based on their respective fair values determined at each issuance dates. The warrants have a term of five years and had an exercise price equal to $1.69, which was the closing price of the Company’s common stock as reported on Nasdaq immediately preceding the time the parties entered into the Keep Well Agreement. As discussed above, as result of approvals obtained at the 2023 Special Meeting, each warrant issued under the Keep Well Agreement outstanding as of the date of such approval was
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ONTRAK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
exchanged for a new warrant to purchase shares of the Company’s common stock that reflect the amendments to the warrants described above, including the increase in exchangethe warrant coverage and the decrease in the exercise price. Neither the number of Commitment Shares nor the number of shares of the Company’s common stock subject to warrants issued to Acuitas described above give effect to the reverse stock split discussed in Note 1 above.

Stockholders Agreement

Under the terms of the Keep Well Agreement, if Acuitas' beneficial ownership of the Company’s capital stock equals at least a majority of the voting power of the Company’s outstanding capital stock, Acuitas Capital and the Company agreed to enter into a stockholders agreement (the “Stockholders Agreement”) pursuant to which, during any period that Acuitas’ beneficial ownership of the Company’s capital stock equals at least 50% of the Company’s outstanding capital stock, Acuitas agreed to vote the shares of the Company’s common stock it beneficially owns (a) in favor of an amendment to the certificate of incorporation or bylaws of the Company that would require the Company’s board of directors to include not fewer than three independent directors at all times, (b) in favor of the election or re-election of independent directors nominated for investor relations serviceselection by the Company’s board of directors or by the nominating committee thereof unless the failure of a nominee to be elected or re-elected to the Company’s board of directors would not result in the Company having fewer than three independent directors following such election, and (c) against any proposal or action that would result in the Company’s board of directors having fewer than three independent directors at all times. In addition, under the Stockholders Agreement, the parties agreed that, during any period that such beneficial ownership of Acuitas affiliates equals at least 50% of the Company’s outstanding capital stock, the Company will not enter into any transaction between the Company or any of its affiliates, on the one hand, and Acuitas or any of its affiliates (excluding the Company and its affiliates), on the other hand, unless it is approved by a majority of the independent directors then serving on the Company’s board of directors. The Stockholders Agreement was entered into on February 21, 2023.
2024 Notes
The Company was party to a Note Purchase Agreement dated September 24, 2019 (the “Note Agreement”) with Goldman Sachs Specialty Lending Group, L.P. and any other purchasers party thereto from time to time (collectively, the “Holders”), as amended, pursuant to which the Company initially issued $35.0 million aggregate principal amount of senior secured notes (the "Initial 2024 Notes"). In August 2020, the Company issued an additional $10.0 million principal amount of senior secured notes as provided under the additional note purchase commitment of the Note Agreement (together with the Initial 2024 Notes, the "2024 Notes"). On February 14, 2022, the Company repaid $9.0 million of the outstanding balance of the 2024 Notes. On March 8, 2022, the Company entered into an Eight Amendment to Note Purchase Agreement with the Holders (the "Eighth Amendment"), which among other things, amended certain financial covenants intended to increase the Company's financial flexibility, required a prepayment of $11.0 million of the outstanding loan balance without the incurrence of a yield maintenance premium or prepayment fee, which prepayment was made by the Company on March 8, 2022. On July 15, 2022, the Company entered into a payoff letter agreement with the holders of the 2024 Notes, pursuant to which the Company paid in full the outstanding loan balance under the 2024 Notes of approximately $7.6 million, which included $0.1 million of accrued interest as of July 15, 2022. All obligations owing by the Company and the other Note Parties (as defined in the Note Purchase Agreement) under the Note Purchase Agreement were released, discharged and satisfied in full, the Note Purchase Agreement and all other Note Documents (as defined in the Note Agreement) were terminated (other than those provisions therein that expressly survive termination), and all liens securing the Company’s obligations under the Note Agreement were released. In July 2022, the Company wrote off the remaining $1.3 million of debt issuance costs related to the 2024 Notes.

In connection with entering into the Eighth Amendment, the Company issued to Special Situations Investing Group II, LLC (“Special Situations”), a warrant (the “Amendment Warrant”) to purchase up to 111,680 shares of the Company's common stock (18,614 shares as adjusted for the reverse stock split discussed in Note 1 above). Also, the Company agreed to issue to Special Situations, beginning March 31, 2022 and until the earlier of (i) date the 2024 Notes have been paid in full and (ii) October 31, 2022, additional warrants (each a “Ticking Warrant”) to purchase a number of shares of the Company's common stock equal to $47,500, to be calculated based on the volume weighted average trading price of the Company’s common stock during the samefive (5) trading day period immediately preceding the date such Ticking Warrant is issued, not to exceed 7% of the outstanding shares of the Company's common stock on the date of the Eighth Amendment. The Amendment Warrant and each Ticking Warrant have an exercise price equal to $0.01 per share ($0.06 per share as adjusted for the reverse stock split discussed in 2016. Generally, the costs associated with shares issued for services are amortized to the related expenseNote 1 above) and expire on a straight-line basis over the related service periods.

Income Taxes

We have recorded a full valuation allowance against our otherwise recognizable deferred tax assets asSeptember 24, 2026. As of September 30, 2017.  As such, we have not recorded a provision for income tax2023, Ticking Warrants to purchase 118,931 shares of the Company's common stock (19,823 shares as adjusted for the period endedreverse stock split discussed in Note 1 above) were outstanding. The Company assessed and separated the warrants into liability and equity components, wherein the Amendment Warrant qualified for equity classification and the Ticking Warrants qualified for liability classification. See Notes 8 and 11 for more information.

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ONTRAK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Other

During August through November 2022, the Company financed a total of $2.5 million of its insurance premiums at an annual weighted average effective rate of 5.9%, payable in 10 to 11 equal monthly installments and down payments totaling $0.2 million at inception of each financing agreement. During August and September 2023, the Company financed a total of $0.3 million of its insurance premiums at annual weighted average effective rate of 4.7%, payable in 10 to 11 equal monthly installments and down payments totaling $0.03 million. At September 30, 2017.  We utilize the liability method2023 and December 31, 2022, there was $0.4 million and $2.0 million, respectively, relating to such financed insurance premium outstanding, which were included as part of accounting for income taxes"Other accrued liabilities" on our condensed consolidated balance sheet as set forth in ASC 740, Income Taxes. Under the liability method, deferred taxes are determined based on the temporary differences between the financial statement and tax basis of assets and liabilities using tax rates expected to be in effect during the years in which the basis differences reverse. A valuation allowance is recorded when it is more likely than not that some of the deferred tax assets will not be realized. 

We assess our income tax positions and record tax benefits for all years subject to examination based upon our evaluation of the facts, circumstances and information available at the reporting date. For those tax positions where there is greater than 50% likelihood that a tax benefit will be sustained, we have recorded the largest amount of tax benefit that may potentially be realized upon ultimate settlement with a taxing authority that has full knowledge of all relevant information. For those income tax positions where there is less than 50% likelihood that a tax benefit will be sustained, no tax benefit has been recognized in the financial statements.  Based on management's assessment of the facts, circumstances and information available, management has determined that all of the tax benefits for the period ended September 30, 2017 should be realized.   

each respective period.


Note11.Fair Value Measurements

Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Assets and liabilities recorded at fair value in the condensed consolidated balance sheets are categorized based upon the level of judgment associated with the inputs used to measure fair value. The fair value hierarchy distinguishes between (1) market participant assumptions developed based on market data obtained from independent sources (observable inputs) and (2) an entity’sentity’s own assumptions about market participant assumptions developed based on the best information available in the circumstances (unobservable inputs). The fair value hierarchy consists of three broad levels, which gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level I) and the lowest priority to unobservable inputs (Level III). The three levels of the fair value hierarchy are described below:


Level Input:

Input Definition:

Level Input

Input Definition
Level I

Inputs are unadjusted, quoted prices for identical assets or liabilities in active markets at the measurement date.

Level II

Inputs, other than quoted prices included in Level I, that are observable for the asset or liability through corroboration with market data at the measurement date.

Level III

Unobservable inputs that reflect management’smanagement’s best estimate of what market participants would use in pricing the asset or liability at the measurement date.

The following table summarizestables summarize fair value measurements by level at September 30, 2017 for assets and liabilities measured at fair value:

  

Balance at September 30, 2017

 
                 
                 

(Amounts in thousands)

 

Level I

  

Level II

  

Level III

  

Total

 

Certificates of deposit

  106   -   -   106 

Total assets

  106   -   -   106 
                 

Warrant liabilities

  -   -   41   41 

Total liabilities

  -   -   41   41 

value on a recurring basis as of the periods presented (in thousands):

Balance as of September 30, 2023
Level ILevel IILevel IIITotal
Contingent consideration (1)$— $— $64 $64 
Warrant liabilities (2)— — 17 17 
Total liabilities$— $— $81 $81 
Balance as of December 31, 2022
Level ILevel IILevel IIITotal
Letter of credit (3)$204 $— $— $204 
Total assets$204 $— $— $204 
Contingent consideration (1)$— $— $64 $64 
Warrant liabilities (2)— — 43 43 
Total liabilities$— $— $107 $107 
___________________
(1) Included in "Other accrued liabilities" on our condensed consolidated balance sheets as of September 30, 2023 and December 31, 2022.
(2) Relates to Ticking Warrant issued in connection with the Eight Amendment to the 2024 Notes executed on March 8, 2022, as discussed in Note 10 above, and included in "Other accrued liabilities" on our condensed consolidated balance sheet as of September 30, 2023 and December 31, 2022.
(3) Included in "Restricted cash - long term" on our condensed consolidated balance sheets as of December 31, 2022. 
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ONTRAK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)


Financial instruments classified as Level III in the fair value hierarchy as ofSeptember 30, 2017,2023 and December 31, 2022 represent our liabilities measured at market value on a recurring basis whichand include warrant liabilities resulting from recentrelating to Ticking Warrants issued in connection with an amendment to our debt financing.agreement for the 2024 Notes, as discussed in Note 10, and contingent consideration relating to a stock price guarantee provided in an acquisition (see further discussion below regarding this contingent consideration). In accordance with current accounting rules, the warrant liabilities with anti-dilution protectionand contingent consideration liability are being marked-to-market each quarter-end until they are completely settled or expire. The warrants arefair value of the warrant liabilities was valued using the Black-Scholes option-pricingpricing model, using both observable and unobservable inputs and assumptions consistent with those used in ourthe estimate of fair value of employee stock options. See Warrant Liabilities below.


The following table summarizes ourfair value of the contingent consideration liability was valued using the Monte Carlo simulation model, using both observable and unobservable inputs and assumptions.


The carrying value of the Keep Well Notes is estimated to approximate their respective fair values as the variable interest rate of the notes approximates the market rate for debt with similar terms and risk characteristics.
The fair value measurements using significant Level III inputs, and changes therein, for the three and nine months ended September 30, 2017:

  

Level III

   

Level III

 
  

Warrant

   

Derivative

 

(Dollars in thousands)

 

Liabilities

 

(Dollars in thousands)

 

Liabilities

 

Balance as of December 31, 2016

 $5,307 

Balance as of December 31, 2016

 $8,122 

Issuance of warrants

  2,405 

Issuance of convertible debentures

  - 

Change in fair value

  5,181 

Change in fair value

  10,596 

Balance as of March 31, 2017

 $12,893 

Balance as of March 31, 2017

 $18,718 
          

Issuance (exercise) of warrants, net

  269 

Issuance of convertible debentures

  - 

Change in fair value

  (6,950)

Change in fair value

  (10,728)

Write off of warrants

  (6,174)

Write off of derivative liability

  (7,990)

Balance as of June 30, 2017

 $38 

Balance as of June 30, 2017

 $- 
          

Issuance (exercise) of warrants, net

  - 

Issuance of convertible debentures

  - 

Expiration of warrants

  - 

Expiration of warrants

  - 

Change in fair value

  2 

Change in fair value

  - 

Balance as of September 30, 2017

 $40 

Balance as of September 30, 2017

 $- 

Property and Equipment

Property and equipment are stated at cost, less accumulated depreciation. Additions and improvementswas as follows (in thousands):

Level III
Contingent
Consideration
Balance as of September 30, 2023 and December 31, 2022$64 

The $0.1 million of contingent consideration liability, relating to property and equipment are capitalized at cost. Expenditures for maintenance and repairs are charged to expense as incurred. Depreciation is computed using the straight-line method over the estimated useful livesa stock price guarantee in our acquisition of the related assets, which range from two to seven years for furniture and equipment. Leasehold improvements are amortized over the lesser of the estimated useful lives of the assets or the related lease term, which is typically five to seven years.

Warrant Liabilities

In March 2017, we entered into amendments with the holders of certain outstanding warrants issued on April 17, 2015 and July 30, 2015 to eliminate certain anti-dilution provisionsLifeDojo Inc. completed in such warrants, which caused us to reflect an associated liability of $5.3 millionOctober 2020, was included in "Other accrued liabilities" on our condensed consolidated balance sheet as of December 31, 2016. Such amendments were contingent upon and did not take effect until the closing of the public offering. For each warrant share underlying the warrants so amended, the holder received the right to purchase an additional .2 shares of common stock. Two of the holders of such warrants, which owners hold warrants to purchase an aggregate of 11,049 shares of common stock, did not agree to the amendment. The warrant holders agreeing to the amendment include Acuitas and another accredited investor, who received additional warrants to purchase 31,167 and 13,258 shares of our common stock. In addition, several warrant agreements that had anti-dilution protection had a provision in the agreement that upon an up-listing to NASDAQ, the anti-dilution protection would be removed. The up-listing to NASDAQ occurred on April 26, 2017. The elimination of the anti-dilution provision resulted in the write-off of $6.2 million of the warrant liabilitysheets as of September 30, 2017.

2023 and December 31, 2022.


Warrant Liabilities
Level III
Warrant
Liabilities
Balance as of December 31, 2022$43 
Gain on change in fair value of warrant liabilities(26)
Balance as of September 30, 2023$17 
The assumptions used in the Black-Scholes warrant-pricing model were determined as follows:
September 30, 2023
Volatility100.0 %
Risk-free interest rate4.88 %
Weighted average expected life (in years)3.03
Dividend yield0 %

Note12.VariableInterestEntities
Generally, an entity is defined as a Variable Interest Entity (“VIE”) under current accounting rules if it either lacks sufficient equity to finance its activities without additional subordinated financial support, or it is structured such that the holders of the voting rights do not substantively participate in the gains and losses of the entity. When determining whether an entity that meets the definition of a business, qualifies for a scope exception from applying VIE guidance, the Company considers whether: (i) it has participated significantly in the design of the entity, (ii) it has provided more than half of the total financial support to the entity, and (iii) substantially all of the activities of the VIE are conducted on its behalf. A VIE is consolidated by its primary beneficiary, the party that has the power to direct the activities that most significantly affect the economics of the VIE and has the
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ONTRAK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
right to receive benefits or the obligation to absorb losses of the entity that could be potentially significant to the VIE. The primary beneficiary assessment must be re-evaluated on an ongoing basis.
As discussed under the heading Management Services Agreements (“MSA”) below, the Company has an MSA with a Texas nonprofit health organization (“TIH”) and a California Professional Corporation (“CIH”). Under the MSAs, the equity owners of TIH and CIH have only a nominal equity investment at risk, and the Company absorbs or receives a majority of the entity’s expected losses or benefits. The Company participates significantly in the design of these MSAs. The Company also agrees to provide working capital loans to allow for TIH and CIH to fund their day to day obligations. Substantially all of the activities of TIH and CIH, including its decision making and approvals are conducted for its benefit, as evidenced by the fact that (i) the operations of TIH and CIH are conducted primarily using the Company's licensed network of providers and (ii) under the MSA, the Company agrees to provide and perform all non-medical management and administrative services for the entities. Payment of the Company's management fee by TIH and CIH is subordinate to payments of the other obligations of TIH and CIH, and repayment of the working capital loans is not guaranteed by the equity owner of the affiliated medical group or other third party. Creditors of TIH and CIH do not have recourse to the Company's general credit.
Based on the design of the entity and the lack of sufficient equity to finance its activities without additional working capital loans, the Company has determined that TIH and CIH are VIEs. The Company, as the primary beneficiary, is required to consolidate the VIE entities as it has power and potentially significant interests in the entities. Accordingly, the Company is required to consolidate the assets, liabilities, revenues and expenses of the managed treatment centers.
Management Services Agreements
In January 2017,April 2018, the Company executed an MSA with TIH and in July 2018, the Company executed an MSA with CIH. Under the MSAs, the Company licenses to TIH and CIH the right to use its proprietary treatment programs and related trademarks, and provides all required day-to-day business management services, including, but not limited to:
•general administrative support services;
•information systems;
•recordkeeping;
•billing and collection; and
•obtaining and maintaining all federal, state and local licenses, certifications and regulatory permits.
All clinical matters relating to the operation of TIH and CIH and the performance of clinical services through the network of providers shall be the sole and exclusive responsibility of the TIH and CIH Board free of any control or direction from the Company.
TIH pays the Company a monthly fee equal to the aggregate amount of (a) its costs of providing management services (including reasonable overhead allocated to the delivery of its services and including salaries, rent, equipment, and tenant improvements incurred for the benefit of the medical group, provided that any capitalized costs will be amortized over a five-year period), (b) 10%-15% of the foregoing costs, and (c) any performance bonus amount, as determined by TIH at its sole discretion.
CIH pays the Company a monthly fee equal to the aggregate amount of (a) its costs of providing management services (including reasonable overhead allocated to the delivery of its services and including salaries, rent, equipment, and tenant improvements incurred for the benefit of the entity, provided that any capitalized costs will be amortized over a five-year period), and (b) any performance bonus amount, as determined by CIH at its sole discretion.





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ONTRAK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
The Company's condensed consolidated balance sheets include the following assets and liabilities from its TIH and CIH VIEs (in thousands):

September 30,
2023		December 31,
2022
Cash and cash equivalents$1,629 $686 
Accounts receivable— 381 
Unbilled receivables119 90 
Prepaid and other current assets40 116 
Total assets$1,788 $1,273 
Accrued liabilities$41 $119 
Deferred revenue89 52 
Payables to Ontrak2,098 1,602 
Total liabilities$2,228 $1,773 

Note 13. Commitments and Contingencies

From time to time, we enteredare subject to various legal proceedings that arise in the normal course of our business activities. As of the date of this report, we are not party to any litigation the outcome of which, if determined adversely to us, would individually or in the aggregate be reasonably expected to have a material adverse effect on our results of operations or financial position, except the following:

Loss Contingencies

On March 3, 2021, a purported securities class action was filed in the United States District Court for the Central District of California, entitled Farhar v. Ontrak, Inc., Case No. 2:21-cv-01987. On March 19, 2021, another similar lawsuit was filed in the same court, entitled Yildrim v. Ontrak, Inc., Case No. 2:21-cv-02460. On July 14, 2021, the Court consolidated the two actions under the Farhar case (“Consolidated Class Action”), appointed Ibinabo Dick as lead plaintiff, and the Rosen Law Firm as lead counsel. On August 13, 2021, lead plaintiff filed a consolidated amended complaint. In the Consolidated Amended Complaint, lead plaintiff, purportedly on behalf of a putative class of purchasers of Ontrak securities from August 5, 2020 through February 26, 2021, alleges that the Company and Terren S. Peizer, Brandon H. LaVerne and Curtis Medeiros, violated Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, 15 U.S.C. §§ 78j(b), 78t(a), and Rule 10b-5, 17 C.F.R. § 240.10b-5, promulgated thereunder, by intentionally or recklessly making false and misleading statements and omissions in various press releases, SEC filings and conference calls with investors on August 5, 2020 and November 5, 2020. Specifically, the Consolidated Amended Complaint alleges that the Company was inappropriately billing its largest customer, Aetna, causing Aetna to, in May 2020, shut off its data feed to Ontrak, and, in July 2020, require Ontrak to complete a Corrective Action Plan (“CAP”). Lead plaintiff alleges that defendants: (1) misrepresented to investors that the data feed was shut off in July 2020, and that it was part of Aetna’s standard compliance review of all of its vendors; (2) failed to disclose to investors that Aetna had issued the CAP; and (3) failed to disclose to investors that Ontrak was engaging in inappropriate billing practices. Lead plaintiff seeks certification of a class and monetary damages in an indeterminate amount. On September 13, 2021, defendants filed a motion to dismiss the Consolidated Amended Complaint for failure to state a claim under Federal Rules of Civil Procedure 12(b)(6) and 9(b) and the Private Securities Litigation Reform Act of 1995, 15 U.S.C. §§ 78u-4, et seq. The motion was taken under submission, with no oral argument. Prior to any ruling being issued on the motion to dismiss, on March 29, 2023, lead plaintiff filed a Second Amended Complaint. The Second Amended Complaint (1) adds Jonathan Mayhew as a defendant; (2) expands the purported class period to August 5, 2020 through August 19, 2021; and (3) now includes allegations that the defendants additionally intentionally or recklessly made false and misleading statements and omissions regarding the Company’s relationship with its then-second largest customer, Cigna, in various press releases, SEC filings and conference calls with investors on May 6, 2021 and August 5, 2021. On May 15, 2023, the Company filed its motion to dismiss the Second Amended Complaint. That motion is now fully-briefed, and has been taken under submission by the Court. The Company believes that the allegations lack merit and intends to defend against the action vigorously.

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ONTRAK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
On August 6, 2021, a purported stockholder derivative complaint was filed in the United States District Court for the Central District of California, entitled Aptor v. Peizer, Case No. 2:21-cv-06371, alleging breach of fiduciary duty on behalf of the Company against Terren S. Peizer, Brandon H. LaVerne, Richard A. Berman, Michael Sherman, Diane Seloff, Robert Rebak, Gustavo Giraldo and Katherine Quinn, and contribution against Terren S. Peizer and Brandon H. LaVerne. On October 6, 2021, a similar shareholder derivative action was filed in the same Court, entitled Anderson v. Peizer, Case No. 2:21-cv-07998, for breach of fiduciary duty, abuse of control, unjust enrichment, gross mismanagement and waste of corporate assets against Terren S. Peizer, Brandon H. LaVerne, Curtis Medeiros, Richard A. Berman, Michael Sherman, Edward Zecchini, Diane Seloff, Robert Rebak, Gustavo Giraldo, and Katherine Quinn, and contribution against Terren S. Peizer, Brandon H. LaVerne and Curtis Medeiros. On December 1, 2021, a similar shareholder derivative action was filed in the United States District Court for the District of Delaware, entitled Vega v. Peizer, Case No. 1:21-cv-01701, for violation of Section 20(a) of the Exchange Act, breach of fiduciary duty, unjust enrichment and waste of corporate assets against Terren S. Peizer, Brandon H. LaVerne, Curtis Medeiros, Richard A. Berman, Michael Sherman, Edward Zecchini, Diane Seloff, Robert Rebak, Gustavo Giraldo, and Katherine Quinn. In these actions, plaintiffs allege that the defendants breached their fiduciary duties by allowing or causing the Company to violate the federal securities laws as alleged in the Consolidated Class Action discussed above. The plaintiffs seek damages (and contribution from the officers) in an indeterminate amount. On December 7, 2021, the Court in the Central District of California consolidated the two Central District of California actions under the Aptor case caption and number (the "Consolidated Derivative Action"), stayed the action pending a ruling on the Motion to Dismiss in the Consolidated Class Action and ordered plaintiffs to file a consolidated amended complaint within fourteen (14) days of a ruling on the Motion to Dismiss in the Consolidated Class Action. On February 7, 2022, the Court in the District of Delaware extended the deadline for defendants to respond to the complaint in the Vega action to April 8, 2022. On March 21, 2022 the Court in the District of Delaware granted plaintiff’s unopposed motion to transfer the case to the United States District Court for Central District of California in the interest of judicial efficiency due to the Consolidated Class Action and Consolidated Derivative Action already pending in that district, and that same day the case was transferred into the United States District Court for Central District of California and given the new Case No. 2:22-cv-01873-CAS-AS. On April 11, 2022, the Court stayed the action pending a Subscription Agreement (the “Subscription Agreement”)ruling on the Motion to Dismiss in the Consolidated Class Action and ordered plaintiffs to inform defendants regarding their intention to amend their initial complaint within thirty (30) days of said ruling. Although all of the claims asserted in these actions purport to seek recovery on behalf of the Company, the Company will incur certain expenses due to indemnification and advancement obligations with Acuitas,respect to the defendants. The Company understands that defendants believe these actions are without merit and intend to defend themselves vigorously.

On February 28, 2022, a purported securities class action was filed in the Superior Court of California for Los Angeles County, entitled Braun v. Ontrak, Inc., et al., Case No. 22STCV07174. The plaintiff filed this action purportedly on behalf of a putative class of all purchasers of the Series A Preferred Stock pursuant to which we received aggregate gross proceedsRegistration Statements and Prospectuses issued in connection with Ontrak’s August 21, 2020 initial public stock offering, its September 2020 through December 2020 “at market” offering, and its December 16, 2020 follow-on stock offering (collectively, the “Preferred Stock Offerings”). The plaintiff brings this action against the Company; its officers: Terren S. Peizer, Brandon H. LaVerne, and Christopher Shirley; its board members: Richard A. Berman, Sharon Gabrielson, Gustavo Giraldo, Katherine B. Quinn, Robert Rebak, Diane Seloff, Michael Sherman, and Edward Zecchini; and the investment banking firms that acted as underwriters for the Preferred Stock Offerings: B. Riley Securities, Inc., Ladenburg Thalmann & Co., Inc., William Blair & Company, LLC, Aegis Capital Corp., Insperex LLC (f/k/a Incapital LLC), The Benchmark Company, LLC, Boenning & Scatteredgood, Inc., Colliers Securities, LLC, Kingswood Capital Markets, and ThinkEquity (the "Underwriters"). The plaintiff asserts three causes of $1,300,000 (the “Loan Amount”) in considerationaction alleging that Ontrak violated § 11, § 12(a)(2), and § 15 of the issuanceSecurities Act of (i)1933, respectively, (1) by failing to disclose facts required to be disclosed under SEC Regulation S-K items 105 and 303 – that Aetna had turned off the data feed of customer records to Ontrak citing dissatisfaction with the Company’s value proposition and billing practices and thereafter submitted a CAP to which Ontrak’s senior executives were unable to effectively respond; and (2) by issuing allegedly false or misleading statements in its Registration Statements and Prospectuses: (a) regarding Ontrak’s growing customer base; (b) regarding its ability to scale its operations; (c) that revenue from a limited number of its customers would continue; (d) that its services are provided to customers continuously; (e) that revenue increases were attributable to continued expansion of the Ontrak program; and (f) regarding the healthcare experience of its executives. The plaintiff seeks damages in an 8% Series B Convertible Debenture dueindeterminate amount. On July 7, 2022, the defendants filed demurrers to the complaint. On October 4, 2022, the Court issued its ruling, allowing the case to proceed but with a narrowed scope. Specifically, of the six alleged misleading statements, only two remain (that Ontrak had a growing “growing customer base” and that Ontrak’s revenue growth was attributed to “[t]he continued expansion of [its] Ontrak program with [its] existing health plan customers”). The Court sustained the Company’s demurrer to the second cause of action, for violation of Section 12 of the Securities Act of 1933, with leave to amend. The Company believes that the remaining allegations lack merit and intends to defend against the action vigorously.

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ONTRAK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
On November 18, 2022, plaintiff filed his Motion for Class Certification. On February 17, 2023, the Company filed its opposition and joined in the opposition of the Underwriters. On April 17, 2023, Plaintiff’s filed their reply. On May 26, 2023, the defendants filed an omnibus sur-reply. The hearing on plaintiff’s Motion was held on June 16, 2023. In advance of the hearing, the Court issued a tentative ruling certifying the Section 11 and 15 aspects of the class but denying certification of the Section 12 aspect of the class at this time, with leave for plaintiff to find a new class representative for the Section 12 subclass. Following oral argument, the Court took the Motion under submission and thereafter issued its “final ruling” on class certification on June 30, 2023. In its ruling, the Court largely adopted its tentative ruling and found the class is ascertainable as to all causes of action but that plaintiff’s Section 12 claims were not typical of the class. The Court indicated it “would be inclined” to grant plaintiff leave to amend the complaint, divide the class into subclasses for each cause of action, certify the Section 11 and Section 15 classes, while granting plaintiff leave to find a new class representative for the Section 12 claims. The Court set an interim status conference for August 31, 2023 and continued the hearing on plaintiff’s motion for class certification to October 10, 2023. At the interim status conference on August 31, 2023, plaintiff indicated he would not be pursuing a Section 12 sub-class and will not be amending the complaint or identifying a new class representative to pursue that claim. On October 12, 2023, the Court issued its ruling granting plaintiff's Motion and certifying the class as to the Section 11 and Section 15 claims only.

On May 1, 2023, the parties filed a joint stipulation requesting that the Court set the following additional dates: (1) January 31, 2024, for the parties to complete fact discovery; (2) May 30, 2024, for the parties to complete expert discovery; (3) June 14, 2024, for the parties to file dispositive motions; and (4) October 15, 2024, for trial. On September 8, 2023, plaintiff served notice, at the Court’s direction, that trial was set for October 15, 2024 and that a final pre-trial conference would be held on October 1, 2024.

The parties have been engaged in the early stages of discovery. However, on November 3, 2023, the United States Attorneys' Office filed an application for leave to intervene and stay discovery pending resolution of a federal criminal case. On November 8, 2023, the Court set the Government's motion for hearing on December 14, 2023 and issued an order temporarily staying all discovery in the action pending resolution of the motion.

Securities Investigation

On November 15, 2022, the Company received a notification from the SEC, Division of Enforcement, that it is conducting an investigation captioned "In the Matter of Trading in the Securities of Ontrak, Inc. (HO-14340)" and issued a preservation letter as well as a subpoena for documents relating to the investigation. The notification indicates the investigation is a fact-finding inquiry for compliance with federal securities laws and should not be construed as an indication by the SEC that any violation of law has occurred, nor as a reflection upon any person, entity or security. The Company has been cooperating fully with the terms of the subpoena.

On March 31, 2017 (the “January 2017 Convertible Debenture”)1, 2023, the DOJ announced charges and (ii) five-year warrants to purchase sharesthe SEC filed a civil complaint against Terren S. Peizer, our former Chief Executive Officer and Chairman of our common stockBoard of Directors, alleging unlawful insider trading in an amount equal to one hundred percent (100%)our stock. Neither the Company nor any other current or former director or employee of the initial number of shares of common stock issuable uponCompany were charged by the conversionDOJ or sued by the SEC. The Company cannot predict the ultimate outcome of the January 2017 Convertible Debenture, at an exercise priceDOJ or SEC proceedings, nor can it predict whether any other governmental authorities will initiate separate investigations or litigation. Investigations and any related legal and administrative proceedings could include a wide variety of $5.10 per share (the “January 2017 Warrants”). In addition,outcomes, including the institution of administrative, civil injunctive or criminal proceedings involving the Company and/or its current or former executives and/or directors, the imposition of fines and other penalties, remedies and/or sanctions.


Note 14. Subsequent Event

Customer Notification

On October 10, 2023, the Company was notified by a health plan customer of its intent not to continue using the Company’s services after February 2024. The customer advised us to cease enrollment of any warrants issuednew members from that customer immediately. The customer also informed us that its decision was related to the customer’s change in conjunction withstrategy and not reflective of the December 2016 Convertible Debenture currently outstanding with Acuitas have been increased by an additional 25% warrant coverage, exercisable for an aggregate of 137,883 sharesperformance or value of the Company’s common stock. Acuitas agreed to extend the maturity date of the January 2017 Convertible Debenture to April 30, 2017 or until we completes a public offering, whichever came first. In April 2017, we used the net proceeds from the public offering to repay the Loan Amount including interest of $1.3 million.


       The January 2017 Warrants include, among other things, price protection provisions pursuant to which, subject to certain exempt issuances, the then exercise price of the January 2017 Warrants will be adjusted if we issue shares of our common stock at a price that is less than the then exercise price of the January 2017 Warrants. Such price protection provisions will remain in effect until the earliest of (i) the termination date of the January 2017 Warrants, (ii) such time as the January 2017 Warrants are exercised or (iii) contemporaneously with the listing of our shares of common stock on a registered national securities exchange.

       In connection with the Subscription Agreement described above, the number of Shamus warrants issued as part of the December 2016 Convertible Debenture were increased from 75% to 100% warrant coverage, exercisable for an aggregate of 14,706 shares of the Company’s common stock.

The warrant liabilities were calculated using the Black-Scholes model based upon the following assumptions:

September 30,

2017

Expected volatility

93.56

%

Risk-free interest rate

1.62

%

Weighted average expected lives in years

2.54

Expected dividend

0

%

We have issued warrants to purchase common stock in February 2012, April 2015, July 2015, August 2016, December 2016, January 2017, February 2017, March 2017, April 2017, and June 2017. Some of the warrants are being accounted for as liabilities in accordance with FASB accounting rules, due to anti-dilution provisions in some warrants that protect the holders from declines in our stock price, which is considered outside our control.  The warrants are marked-to-market each reporting period, using the Black-Scholes pricing model, until they are completely settled or expire.

Forservices. For the three and nine months ended September 30, 2017,2023, we recognized a loss of $2,000billed this customer approximately $1.2 million and a gain of $1.8$3.1 million, respectively, comparedrepresenting 32.6% and 33.8%, respectively, of our total revenue.



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Table of Contents
ONTRAK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
Preferred Stock

On October 11, 2023, the Company received a letter from Nasdaq informing the Company that it is not eligible for a second 180-day compliance period within which to regain compliance with the Minimum Bid Price Requirement for the Series A Preferred Stock and that Nasdaq determined that the Preferred Stock would be delisted from The Nasdaq Capital Market and would be suspended at the opening of business on October 20, 2023. On November 20, 2023, The Nasdaq Stock Market filed a gain of $1.4Form 25-NSE with the SEC to remove the Series A Preferred Stock from listing and registration on The Nasdaq Stock Market. The Series A Preferred Stock currently trades in the over-the-counter OTC Markets system.

Fifth Amendment to Keep Well Agreement and Letter Agreement

On October 31, 2023, the Company and Acuitas Capital entered into a Fifth Amendment to the Master Note Purchase Agreement, as amended (the "Fifth Amendment"), which, among other things, provides the following:

Changes to Qualified Financing. Under the Fifth Amendment, the minimum amount to be raised in an equity financing for such financing to constitute a “Qualified Financing” was reduced from $10.0 million to $8.0 million, and $673,000the deadline by when a Qualified Financing must be completed before the Company is required to withdraw the Escrowed Funds was extended from October 31, 2023 to January 31, 2024. Under a letter agreement entered into on November 9, 2023, the minimum amount to be raised in an equity financing for such financing to constitute a “Qualified Financing” was further reduced to $6.0 million.

Conversion of Keep Well Notes. Under the same periods in 2016, respectively, relatedFifth Amendment, if the Company completes a Qualified Financing, Acuitas has agreed to convert into shares of the Company’s common stock the aggregate principal amount of the Keep Well Notes plus all accrued and unpaid interest thereon, minus (a) $7.0 million, minus (b) the principal amount of any Keep Well Notes purchased with funds from the Escrow Account prior to the revaluation of our warrant liabilities.

Derivative Liability

In July 2015, we entered into a $3.55 million 12% Original Issue Discount Convertible Debenture due January 18, 2016 with Acuitas (the “July 2015 Convertible Debenture”). The conversion priceclosing of the July 2015 Convertible Debenture is $11.40Qualified Financing, if any, in accordance with the terms (including the conversion price) of the Keep Well Agreement and the Keep Well Notes (the “Notes Conversion”); provided that if the offering price per share subject to adjustments, including for issuancesat which the shares of common stock and common stock equivalents belowaccompanying warrants are sold to the then current conversion or exercise price, aspublic in the case may be.  In October 2016, we entered into an amendment of the July 2015 Convertible Debenture which extended the maturity date of the Convertible Debenture from January 18, 2016 to January 18, 2017. In addition,Qualified Financing (the “Offering Price”) is less than the conversion price at which Keep Well Notes are converted, upon the effectiveness of the July 2015 Convertible Debenture was subsequently adjustedStockholder Approval Matters (as defined below): (1) we will issue to $1.80 per share. The July 2015 Convertible Debentures are unsecured, bear interestAcuitas such additional shares of common stock such that the total number of shares of common stock issued in respect of the Notes Conversion plus such additional shares of common stock would equal the number of shares that we would have issued in respect of the Notes Conversion if the Keep Well Notes converted in the Notes Conversion were converted at a rateconversion price equal to the Offering Price; and (2) the exercise price of 12% per annum payablethe warrants issued to Acuitas in cash orconnection with the Notes Conversion (the “Conversion Warrants”) would be reduced to the Offering Price and the number of shares of common stock subject to certain conditions, at our option, and are subjectthe Conversion Warrants would be increased to mandatory prepayment upon the consummationnumber of certain future financings. Acuitas agreed to extend the maturity date of the July 2015 Convertible Debenture to April 30, 2017 or until we completed a public offering, whichever came first. In April 2017, the July 2015 Convertible Debenture was converted into 2,385,111 shares of common stock and the derivative liability was written off.

For the three and nine months ended September 30, 2017, we recognized a gain of $0 and $132,000, respectively, compared with a loss of $3.5 million and $6.3 million for the same periods in 2016, relatedthat would have been subject to the revaluation of our derivative liability.

Recently Issued or Newly Adopted Accounting Standards

Conversion Warrants if the Keep Well Notes were converted at a conversion price equal to the Offering Price.


Private Placement. In April 2016, the FASB issued Accounting Standards Update (“ASU”) 2016-10, Revenue from Contracts with Customers (Topic 606)(“ASU 2016-10”), which amends certain aspectslieu of the Board’s new revenue standard, ASU 2014-09, Revenue from Contracts with Customers. The standard should be adopted concurrently with adoption of ASU 2014-09 which is effective for annual and interim periods beginning after December 15, 2017. We are currently evaluating the potential impact of this standard on our consolidated financial statements, as well as the available transition methods. We are currently assessing whether the adoption of ASU 2016-10 will have a material effect on our consolidated financial position or results of operations.


In March 2016, the FASB issued ASU 2016-09,Compensation — Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting(“ASU 2016-09”), which outlines new provisions intended to simplify various aspects related to accounting for share-based payments and their presentationset forth in the financial statements. The standard is effective beginning December 15, 2016,Fourth Amendment concerning the investment of Escrowed Funds in the offering that constitutes a Qualified Financing, the Fifth Amendment provides that if an offering constitutes a Qualified Financing, the Company and interim periods within those annual periods. Early adoption is permitted. The adoption of ASU 2016-09 did not have a material effect on our consolidated financial positionAcuitas will immediately prior to, or results of operations.

Note 3. Related Party Disclosure

In January 2017, we entered into the Subscription Agreementsimultaneously with Acuitas pursuant to which we received aggregate gross proceeds of $1.3 million and warrants to purchase 254,904 shares of common stock. In April 2017, we used the net proceeds from the public offering to repay the Loan Amount including interest of $1.3 million. 

In January 2017, in connection with the Subscription Agreement described above, the number of Acuitas warrants issued as part of the December 2016 Convertible Debenture were increased from 75% to 100% warrant coverage, exercisable for an aggregate of 137,883 shares of our common stock.

In March 2017, we entered into an amendment with Acuitas of certain outstanding warrants issued in July 2015 to eliminate certain anti-dilution provisions in such warrants. Such amendment was contingent upon and did not take effect until the closing of the public offering. For each warrant share underlying the warrants so amended, the holder received the right to purchase an additional .2 sharessuch offering, consummate a private placement (the “Private Placement”) of common stock. Acuitas received additional warrants to purchase 31,167 shares of our common stock in April 2017.

In April 2017, Acuitas purchased 181,154 shares of common stock for $869,539 in proceeds in connection with the public offering.

In April 2017, Acuitas converted its July 2015 convertible debenture totaling $4.3$11.0 million of principal and interest into 2,385,111 shares of common stock.

In April 2017, we used net proceeds from the public offering to repay Acuitas the December 2016 8% convertible debenture with accrued interest of $2.9 million.

In April 2017, Terren S. Peizer agreed to settle his deferred salary balance of $1.1 million for 233,734 shares of common stock, resulting in a loss on settlement of liability totaling $83,807 recorded to loss on issuance of common stock.

In addition, we have accounts payable outstanding with Mr. Peizer for travel and expenses of approximately $223,000 as of September 30, 2017.

       In January 2017, in connection with the Subscription Agreement described above, the number of Shamus warrants issued as part of the December 2016 Convertible Debenture were increased from 75% to 100% warrant coverage, exercisable for an aggregate of 14,706 shares of our common stock.

In March 2017, Shamus converted $1.3 million of their December 2016 Convertible Debentures and accrued interest for 276,204 shares of our common stock.


Note 4. Short-term Debt

       In January 2017, we entered into a Subscription Agreement (the “Subscription Agreement”) with Acuitas, pursuant to which we received aggregate gross proceeds of $1,300,000 (the “Loan Amount”) in consideration of the issuance of (i) an 8% Series B Convertible Debenture due March 31, 2017 (the “January 2017 Convertible Debenture”) and (ii) 254,904 five-yearunregistered pre-funded warrants to purchase shares of the Company’s common stock which(the “Private Placement Pre-Funded Warrants”) and unregistered warrants to purchase shares of the Company’s common stock (the “Private Placement Warrants,” and together with the Private Placement Pre-Funded Warrants, the “Private Placement Securities”). The material terms of the Private Placement Securities will be substantially similar to the material terms of the pre-funded warrants and the warrants offered in the offering that constitutes a Qualified Financing, except that the Private Placement Securities will have registration rights. The consideration for the Private Placement Securities purchased by Acuitas will consist of (a) the Escrowed Funds then held in the Escrow Account, and (b) a reduction of the aggregate amounts outstanding under the Keep Well Notes (after giving effect to the Notes Conversion) to $2.0 million (the “Surviving Notes”). Each Private Placement Pre-Funded Warrant will be sold together with two Private Placement Warrants with each Private Placement Warrant exercisable for one share of our common stock.


Surviving Notes. Under the Fifth Amendment, the maturity date of the Surviving Notes was extended from September 30, 2024 to the date that is two years and six months after the closing date of the offering that constitutes a Qualified Financing, unless the Surviving Notes become due and payable in full earlier, whether by acceleration or otherwise. In addition, if the Offering Price is lower than $0.90, then, subject to the effectiveness of the Stockholder Approval Matters, the $0.90 floor on the conversion price of the Surviving Notes will be replaced with the Offering Price.

32
Table of Contents
ONTRAK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
Stockholder Approval. Under the Fifth Amendment, the Company is required to seek stockholder approval in accordance with the rules of the Nasdaq Stock Market (the “Listing Rules”) of (A) the issuance of the shares of the Company’s common stock issuable upon exercise of (x) the warrants and the pre-funded warrants sold in the offering that constitutes a Qualified Financing and (y) the Private Placement Securities that, in the aggregate for clauses (x) and (y) above, are in excess of the maximum number of shares of the Company’s common stock permitted to be issued without such approval under Nasdaq’s listing rules (which amount is equal to one hundred percent (100%)19.99% of the initialtotal number of shares of the Company’s common stock outstanding immediately following the Notes Conversion and immediately prior to the closing of the offering that constitutes a Qualified Financing and/or the Private Placement), (B) the amendment to the conversion price of the Surviving Notes described above, (C) the elimination of the Issuance Cap, and (D) any other terms of the offering that constitutes a Qualified Financing, the Private Placement and/or the Fifth Amendment that require approval of the Company’s stockholders under Nasdaq’s listing rules (collectively, the “Stockholder Approval Matters”).

Support Agreement. In connection with entering into the Fifth Amendment, on October 31, 2023, the Company and Acuitas entered into a support agreement pursuant to which Acuitas has agreed to vote the shares of the Company's common stock it beneficially owns in favor of the Stockholder Approval Matters.

Public Offering, Private Placement and Notes Conversion

On November 14, 2023, the Company completed its previously announced public offering (the “Public Offering”). In the Public Offering, the Company issued (a) 4,592,068 shares of its common stock and 9,184,136 warrants to purchase up to 9,184,136 shares of its common stock at a combined public offering price of $0.60 per share of common stock and accompanying warrants (the “Public Offering Price”), and (b) 5,907,932 pre-funded warrants to purchase up to 5,907,932 shares of its common stock (the “Public Offering Pre-Funded Warrants”) and 11,815,864 warrants to purchase up to 11,815,864 shares of its common stock at a combined public offering price of $0.5999 per Public Offering Pre-Funded Warrant and accompanying warrants, which represents the per share public offering price for the common stock and accompanying warrants less the $0.0001 per share exercise price for each Public Offering Pre-Funded Warrant. The Company refers to the warrants sold in the Public Offering accompanying the shares of common stock and the Public Offering Pre-Funded Warrants as the “Public Offering Warrants.” The Company received gross proceeds of $6.3 million from the Public Offering, and therefore the Public Offering constituted a Qualified Financing. Total net proceeds was approximately $5.5 million (net of approximately $0.8 million of offering related fees and expenses, not including the fee payable relating to the Private Placement discussed below). The Public Offering Warrants have an exercise price of $0.85 per share. The exercisability of the Public Offering Pre-Funded Warrants and the Public Offering Warrants are subject to the effectiveness of the Stockholder Approval Matters, and will expire five years from the effectiveness thereof.

In accordance with the Fifth Amendment, concurrent with the closing of the Public Offering, the Company issued to Humanitario Capital LLC, an affiliate of Acuitas Capital LLC, a Private Placement Pre-Funded Warrant to purchase up to 18,333,333 shares of the Company's common stock and a Private Placement Warrant to purchase up to 36,666,666 shares of the Company's common stock for total consideration of $11.0 million. The consideration for the Private Placement Securities consisted of (a) the $6.0 million in the Escrow Account that Acuitas previously delivered to the Company in June 2023 and September 2023 in accordance with the Keep Well Agreement (which $6.0 million was reclassified from restricted cash to unrestricted cash) and (b) $5.0 million of debt owed under the Keep Well Notes was cancelled. In connection with the Private Placement, the Company paid placement fees of approximately $0.4 million.

In accordance with the Fifth Amendment, on November 14, 2023 and before the closing of the Public Offering and Private Placement, the Notes Conversion was effected. In connection with the Notes Conversion, and in accordance with the Keep Well Agreement, the Company issued to Acuitas 18,054,791 shares of the Company’s common stock and a Conversion Warrant to purchase up to 18,054,791 shares of the Company’s common stock with an exercise price of $0.90 per share, which was the conversion price of the Keep Well Notes converted in the Notes Conversion.

Because the Offering Price was less than the conversion price at which Keep Well Notes were converted in the Notes Conversion, upon the effectiveness of the Stockholder Approval Matters: (1) the Company will issue to Acuitas 9,027,395 additional shares of common stock, which when added with the shares of common stock issued in respect of the Notes Conversion, will equal the total number of shares of common stock issuable uponthat the conversionCompany would have issued in respect of the January 2017 Convertible Debenture,Notes Conversion if the Keep Well Notes converted in the Notes Conversion were converted at ana conversion price equal to the Offering Price; and (2) the exercise price of $5.10 per share (the “January 2017 Warrants”). In addition, any warrants issued in conjunction with the December 2016 Convertible Debenture currently outstanding with AcuitasConversion Warrant will be reduced to the Offering Price and the number of shares of common stock subject to the Conversion Warrant will be increased to the number of shares of common stock that would have been increased by an additional 25% warrant coverage, exercisable for an aggregatesubject to the Conversion
33
Table of 137,883Contents
ONTRAK, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
Warrant if the Keep Well Notes converted in the Notes Conversion were converted at a conversion price equal to the Offering Price.

On November 15, 2023, Acuitas, who owned a majority of the outstanding shares of the Company’s common stock. Acuitas agreedstock as of that date, executed and delivered to extend the maturityCompany a written consent approving the Stockholder Approval Matters. The Company will file an information statement regarding the Stockholder Approval Matters with the SEC and mail an information statement to the holders of its common stock so the Stockholder Approval Matters can become effective as soon as practicable. Under SEC rules, in the case of corporate actions taken by the consent of stockholders, the definitive information statement must be sent or given at least 20 calendar days prior to the earliest date on which the corporation actions approved by the consent of the January 2017 Convertible Debenture to April 30, 2017 or until we completed a public offering, whichever came first. In April 2017, we used the net proceeds from the public offering to repay the Loan Amount including interest of $1.3 million.

Note 5. Restatement of Financial Statements

The prior year financial statements have been retroactively restated to reflect the 1-for-6 reverse-stock split that occurred on April 25, 2017.

stockholders may be taken.


34

Item 2.Management's Discussion and Analysis of Financial Condition and Results of Operations

The following discussion of our financial condition and results of operations should be read in conjunction with our condensed consolidated financial statements, including the related notes, and the other financial information included elsewhere in this report. In addition to historical information, this discussion and analysis contains forward-looking
FORWARD-LOOKINGSTATEMENTS

Investors are cautioned that all statements that involve risks, uncertainties and assumptions. Our actual results may differ materially from those discussed below. Factors that could cause or contribute to such differences include, but are not limited to, those identified below, and those discussed in the section titled “Risk Factors” included elsewhere in this report that relate to the future involve risks and our annual report filed on Form 10-K for the year ended December 31, 2016.

CAUTIONARY STATEMENT CONCERNING FORWARD-LOOKING INFORMATION

This report contains “forward-looking statements” within the meaning ofuncertainties. These statements, which are forward-looking statements under the Private Securities Litigation Reform Act of 1995, provide investors with respectthe Company’s expectations or forecasts of future events. You can identify these statements by the fact that they do not relate only to the financial condition, results of operations, business strategies, operating efficiencieshistorical or synergies, competitive positions, growth opportunities for existing products, plans and objectives of management, markets for our stockcurrent facts. They may use words such as “anticipate,” “may,” “expect,” “should,” “believe,” “project,” “intend,” “will,” and other matters. Statementswords of similar meaning in this reportconnection with future events or future operating or financial performance. The Company’s expectations and forecasts are subject to various risks and uncertainties and are based on assumptions that the Company believes in good faith are not historical facts are hereby identified as “forward-looking statements” for the purpose of the safe harbor provided by Section 21E of the Exchange Act of 1934, as amended (the “Exchange Act”) and Section 27A of the Securities Act of 1933, as amended. Such forward-lookingreasonable but which may be materially different from actual results. Forward-looking statements, including, without limitation, those relating to the Company’s future business prospects ourand results of operation, including future revenue and income, wherever they occur,expectations, are necessarily estimates reflecting the best judgment of ourthe Company’s senior management as of the date on which they were made, or if no date is stated, as of the date of the filing of this report. These forward-lookingForward-looking statements are subject to a variety of risks, uncertainties and assumptions, including those described in the “Risk Factors” inItem 1A of Part II of this report, Item 1A of Part I of our most recentthe Company’s Annual Report on Form 10-K (“Form 10-K”) for the fiscal year ended December 31, 20162022 (the “2022 10-K”) and other reports we filedthe Company files with the Securities and Exchange Commission (“SEC”), that may affect the operations, performance, development and results of our business. Because the factors discussed in this reportsuch risks and uncertainties could cause actual results or outcomes to differ materially from those expressed in any forward-looking statements, made by us or on our behalf, youinvestors should not place undue reliance on any such forward-looking statements. New factorsrisks and uncertainties emerge from time to time, and it is not possible for us to predict which factorsrisks and uncertainties will arise.arise or materialize. In addition, we cannot assess the impact of each factorrisk and uncertainty on our business or the extent to which any factor,risk or uncertainty, or combination of factors,risks and uncertainties, may cause actual results to differ materially from those contained in any forward-looking statements. We assume no obligation and do not intend to update these forward lookingany forward-looking statements, except as required by law.

Any or all forward-looking statements in this report may turn out to be wrong.

All references to “Ontrak,” “Ontrak, Inc.,” “we,” “us,” “our” or the “Company” mean Ontrak, Inc., its wholly-owned subsidiaries and variable interest entities, except where it is made clear that the term means only the parent company.

OVERVIEW

General

We provide big data based

Ontrak, Inc. is an artificial intelligence (“AI”)-powered and telehealth-enabled, virtualized healthcare company, whose mission is to help improve the health and save the lives of as many people as possible. Our technology-enabled platform provides claim-based analytics and predictive modeling drivento provide analytic insights throughout the delivery of our personalized treatment program. Our program predicts people whose chronic disease will improve with behavior change, recommends effective care pathways that people are willing to follow, and engages and guides them to and through the care they need. By combining predictive analytics with human engagement, we deliver improved member health and validated outcomes and savings to healthcare payors.

Our integrated, technology-enabled OntrakTM programs are designed to provide healthcare solutions to members with behavioral conditions that cause or exacerbate chronic medical conditions such as diabetes, hypertension, coronary artery disease, chronic obstructive pulmonary disease, and congestive heart failure, which result in high medical costs. Ontrak has a unique ability to engage these members, who may not otherwise seek behavioral healthcare, services toleveraging proprietary enrollment capabilities built on deep insights into the drivers of care avoidance. Ontrak integrates evidence-based psychosocial and medical interventions delivered either in-person or via telehealth, along with care coaching and in-market community care coordinators who address the social and environmental determinants of health, plans through our OnTrak solution.including loneliness. Our OnTrak solution is designedprograms seek to improve member health and atdeliver validated cost savings to healthcare payors.

Management plans to continue to (i) manage operating costs by strategically pursuing cost optimization initiatives; and (ii) pursue our growth strategy by: (a) expanding sales and marketing resources to acquire new and diverse customers across major health plans, value based provider groups and self-insurance employers; (b) executing on our better market penetration strategy by providing full scale customized behavioral health solutions, addressing customer needs across all member acuity levels while mitigating vendor fatigue by becoming a principal customer partner; (c) leveraging our AI technology and new predictive
35

algorithms to improve identification and outreach, create more efficiencies, enhance coaching solutions and create more proof points; and (d) opportunistically pursuing partnerships that will accelerate growth.
Our business operates as one segment in the same time lower costsUnited States and we have contracted with leading national and regional health plans to make the Ontrak program available to eligible members.
Recent Developments

Fifth Amendment to Keep Well Agreement and Letter Agreement

On October 31, 2023, the Company and Acuitas Capital LLC (“Acuitas Capital” and together with its affiliates, “Acuitas”) entered into a Fifth Amendment (the "Fifth Amendment") to the insurerMaster Note Purchase Agreement dated April 15, 2022 (as amended to date, the “Keep Well Agreement”), which, among other things, (1) reduced the minimum amount to be raised in an equity financing for underserved populations where behavioral health conditions are causing or exacerbating co-existing medical conditions. The program utilizes proprietary analyticssuch financing to constitute a “Qualified Financing” from $10.0 million to $8.0 million; (2) extended the deadline by when a Qualified Financing must be completed before the Company is required to withdraw the funds from the escrow account established under the Keep Well Agreement (the “Escrow Account”) from October 31, 2023 to January 31, 2024; (3) provides that, if the Company completes a Qualified Financing, Acuitas will convert into shares of the Company’s common stock the aggregate principal amount of the senior secured convertible notes issued by the Company to Acuitas under the Keep Well Agreement (the “Keep Well Notes”) plus all accrued and proprietary enrollment, engagement and behavioral modification capabilitiesunpaid interest thereon, minus (a) $7.0 million, minus (b) the principal amount of any Keep Well Notes purchased with funds from the Escrow Account prior to assist members who otherwise do not seek care through a patient centric treatment that integrates evidence-based medical and psychosocial interventions along with care coaching in a 52-week outpatient solution. Our initial focus was members with substance use disorders, but we have expanded our solution to assist members with anxiety and depression. We currently operate our OnTrak solutions in Connecticut, Florida, Georgia, Illinois, Kansas, Kentucky, Louisiana, Massachusetts, Missouri, New Jersey, North Carolina, Oklahoma, Pennsylvania, South Carolina, Tennessee, Texas, Virginia, West Virginia and Wisconsin. We provide services to commercial (employer funded), managed Medicare Advantage, and managed Medicaid and duel eligible (Medicare and Medicaid) populations.


Recent Developments

Amendments to Outstanding Warrants and Extension of Existing Debentures

In March 2017, we entered into amendments with the holders of certain outstanding warrants issued on April 17, 2015 and July 30, 2015 to eliminate certain anti-dilution provisions in such warrants, which caused us to reflect an associated liability of $5.3 million on our balance sheet as of December 31, 2016. Such amendments were contingent upon and did not take effect until the closing of the public offering described below. For each warrant share underlying that constitutes the warrants so amended,Qualified Financing, if any, in accordance with the holder receivedterms (including the right to purchase an additional .2 shares of common stock. Twoconversion price) of the holdersKeep Well Agreement and the Keep Well Notes (the “Notes Conversion”); and (4) in connection with a Qualified Financing, the Company and Acuitas will consummate a private placement (the “Private Placement”) of such warrants, which owners hold$11.0 million of unregistered pre-funded warrants to purchase shares of the Company’s common stock (the “Private Placement Pre-Funded Warrants”) and unregistered warrants to purchase shares of the Company’s common stock (the “Private Placement Warrants”, and together with the Private Placement Pre-Funded Warrants, the “Private Placement Securities”). The consideration for the Private Placement Securities purchased by Acuitas will consist of (a) the funds then held in the Escrow Account, and (b) a reduction of the aggregate amounts outstanding under the Keep Well Notes (after giving effect to the Notes Conversion) to $2.0 million (the “Surviving Notes”). In addition, the maturity date of the remaining $2.0 million Keep Well Notes was extended from September 30, 2024 to the date that is two years and six months after the closing date of the offering that constitutes the Qualified Financing. Under a letter agreement entered into on November 9, 2023, the minimum amount to be raised in an aggregateequity financing for such financing to constitute a “Qualified Financing” was further reduced to $6.0 million. For detailed information regarding the Keep Well Agreement and the transactions related thereto, including the Fifth Amendment, see the discussions under “Keep Well Agreement” in Note 10 and under "Fifth Amendment to Keep Well Agreement" in Note 14 of 11,049the Notes to Condensed Consolidated Financial Statements in Part I, Item 1 of this report.


Public Offering, Private Placement and Notes Conversion

On November 14, 2023, the Company completed its previously announced public offering (the “Public Offering”). In the Public Offering, the Company issued (a) 4,592,068 shares of its common stock and 9,184,136 warrants to purchase up to 9,184,136 shares of its common stock at a combined public offering price of $0.60 per share of common stock and accompanying warrants (the “Public Offering Price”), and (b) 5,907,932 pre-funded warrants to purchase up to 5,907,932 shares of its common stock (the “Public Offering Pre-Funded Warrants”) and 11,815,864 warrants to purchase up to 11,815,864 shares of its common stock at a combined public offering price of $0.5999 per Public Offering Pre-Funded Warrant and accompanying warrants, which represents the per share public offering price for the common stock and accompanying warrants less the $0.0001 per share exercise price for each Public Offering Pre-Funded Warrant. The Company refers to the warrants sold in the Public Offering accompanying the shares of common stock and the Public Offering Pre-Funded Warrants as the “Public Offering Warrants.” The Company received gross proceeds of $6.3 million from the Public Offering, and therefore the Public Offering constituted a Qualified Financing. Total net proceeds was approximately $5.5 million (net of approximately $0.8 million of offering related fees and expenses, not including the fees payable relating to the Private Placement discussed below). The Public Offering Warrants have an exercise price of $0.85 per share. The exercisability of the Public Offering Pre-Funded Warrants and the Public Offering Warrants are subject to the effectiveness of the Stockholder Approval Matters, and will expire five years from the effectiveness thereof.

In accordance with the Fifth Amendment, concurrent with the closing of the Public Offering, the Company issued to Humanitario Capital LLC, an affiliate of Acuitas Capital, a Private Placement Pre-Funded Warrant to purchase up to 18,333,333 shares of the Company’s common stock and a Private Placement Warrant to purchase up to 36,666,666 shares of the Company’s common stock for total consideration of $11.0 million. The consideration for the Private Placement Securities consisted of (a) the $6.0 million in the Escrow Account that Acuitas previously delivered to the Company in June 2023 and September 2023 in accordance
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with the Keep Well Agreement (which $6.0 million was reclassified from restricted cash to unrestricted cash) and (b) 5.0 million of debt owed under the Keep Well Notes was cancelled. In connection with the Private Placement, the Company paid placement fees of approximately $0.4 million.

In accordance with the Fifth Amendment, on November 14, 2023 and before the closing of the Public Offering and Private Placement, the Notes Conversion was effected. In connection with the Notes Conversion, and in accordance with the Keep Well Agreement, the Company issued to Acuitas 18,054,791 shares of the Company’s common stock and a Conversion Warrant to purchase up to 18,054,791 shares of the Company’s common stock with an exercise price of $0.90 per share, which was the conversion price of the Keep Well Notes converted in the Notes Conversion.

Because the Offering Price was less than the conversion price at which Keep Well Notes were converted in the Notes Conversion, upon the effectiveness of the Stockholder Approval Matters: (1) the Company will issue to Acuitas 9,027,395 additional shares of common stock, which when added with the shares of common stock issued in respect of the Notes Conversion, will equal the total number of shares of common stock that the Company would have issued in respect of the Notes Conversion if the Keep Well Notes converted in the Notes Conversion were converted at a conversion price equal to the Offering Price; and (2) the exercise price of the Conversion Warrant will be reduced to the Offering Price and the number of shares of common stock subject to the Conversion Warrant will be increased to the number of shares of common stock that would have been subject to the Conversion Warrant if the Keep Well Notes converted in the Notes Conversion were converted at a conversion price equal to the Offering Price.

On November 15, 2023, Acuitas, who owned a majority of the outstanding shares of the Company’s common stock as of that date, executed and delivered to the Company a written consent approving the Stockholder Approval Matters. The Company will file an information statement regarding the Stockholder Approval Matters with the SEC and mail an information statement to the holders of its common stock so the Stockholder Approval Matters can become effective as soon as practicable. Under SEC rules, in the case of corporate actions taken by the consent of stockholders, the definitive information statement must be sent or given at least 20 calendar days prior to the earliest date on which the corporation actions approved by the consent of stockholders may be taken.

Customer Notification

On October 10, 2023, the Company was notified by a health plan customer of its intent not to continue using the Company’s services after February 2024. The customer advised us to cease enrollment of any new members from that customer immediately. The customer also informed us that the notification was related to the customer’s change in strategy and not reflective of the performance or value of the Company’s services. For the three and nine months ended September 30, 2023, we billed this customer approximately $1.2 million and $3.1 million, respectively, representing 32.6% and 33.8%, respectively, of our total revenue for those periods. We do not expect the loss of this customer to have a material negative impact on our previously stated revenue expectations for fiscal year 2023 because this customer is expected to continue to use our services into February 2024. As of the date we received this customer's notice, our outreach pool, which represents individuals insured by our health plan customers who have been identified through our advanced data analytics and predictive modeling with untreated behavioral health conditions that may be impacted through enrollment in the Ontrak program, decreased by 5,997 due to individuals insured by this customer. We continue to believe our other customers and our active pipeline of national and regional health plans, providers, healthcare systems and employers will generate revenue growth opportunities in the near future.

9.50% Series A Cumulative Perpetual Preferred Stock

On April 13, 2023, the Company received a letter from The Nasdaq Stock Market LLC (“Nasdaq”) indicating that the Company no longer meets the minimum bid price requirement set forth in Nasdaq Listing Rule 5555(a)(1) (the “Minimum Bid Price Requirement”) because the closing bid price for the Company’s 9.50% Series A Cumulative Perpetual Preferred Stock (the “Series A Preferred Stock”) was less than $1.00 for the previous 30 consecutive business days. In accordance with Nasdaq listing rules, the Company was provided a 180-calendar day period, or until October 10, 2023, to regain compliance with the Minimum Bid Price Requirement by maintaining a minimum closing bid price of at least $1.00 per share for a minimum of 10 consecutive business days during the 180-calendar day period. The Company did not agreeregain compliance with the Minimum Bid Price Requirement before the 180-calendar day period expired.

On October 11, 2023, the Company received a letter from Nasdaq informing the Company that it is not eligible for a second 180-day compliance period within which to regain compliance with the Minimum Bid Price Requirement for the Series A Preferred Stock and that Nasdaq determined that the Series A Preferred Stock would be delisted from The Nasdaq Capital Market and would be suspended at the opening of business on October 20, 2023. On November 20, 2023, The Nasdaq Stock Market filed a
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Form 25-NSE with the SEC to remove the Series A Preferred Stock from listing and registration on The Nasdaq Stock Market. Our Series A Preferred Stock currently trades in the over-the-counter OTC Markets system.

Under the certificate of designations establishing the Series A Preferred Stock, if dividends on the Series A Preferred Stock have not been paid in an aggregate amount equal to the amendment. The warrantequivalent of at least six or more quarterly dividends (whether consecutive or not), the number of directors constituting our board of directors will be increased by two, and the holders agreeingof the Series A Preferred Stock, will have the right, voting separately as a single class, to the amendment include Acuitas and another accredited investor, who received additional warrantsfill such newly created directorships (and to purchase 31,167 and 13,258 shares of our common stock. In addition, several warrant agreements that had anti-dilution protection had a provisionfill any vacancies in the agreement that upon an up-listing to NASDAQ,terms of such directorships). Dividends on the anti-dilution protection would be removed. The up-listing to NASDAQ occurredSeries A Preferred Stock are payable every February 28, May 30, August 31, and November 30. We did not pay the dividends on April 26, 2017. The eliminationthe Series A Preferred Stock payable in each of May 2022, August 2022, November 2022, February 2023, May 2023 and August 2023. Accordingly, the holders of the anti-dilution provision resulted inSeries A Preferred Stock currently have the write-offright to elect two directors to our board of $6.9 million of the warrant liability as of September 30, 2017.

directors.


Reverse Stock Split


On April 21, 2017, we July 27, 2023, the Company filed a certificate of amendment to our Certificate of Incorporation, asits amended and in effect,restated certificate of incorporation with the Secretary of State of the State of Delaware implementing a 1-for-6 reverse stock splitsplit. Any fractional share of the Company's common stock pursuant to which each 6 shares of issued and outstanding common stock converted into 1 share of common stock. Proportionate voting rights and other rights of common stock holders were not affected byresulting from the reverse stock split.  No fractional shares of common stock were issued as a result ofsplit was automatically rounded up to the reverse stock split; stockholders were paid cash in lieu of any such fractional shares.nearest whole share. The 1-for-6 reverse stock split became effective at 5:00 p.m., Eastern Time, on April 24, 2017, and ourCompany's common stock began trading on the OTCQB MarketplaceNASDAQ Capital Market on a post-split basis at the open of trading on April 25, 2017. Our post-reverse split common stock has a new CUSIP number: 149049 504. Other terms of the common stock were not affected by the reverse stock split.  The common stock will continueJuly 28, 2023 and continues to trade under the symbol "CATS." 

All stock options“OTRK,” but it has been assigned a new CUSIP number (683373 302). See Note 1 of the Notes to Condensed Consolidated Financial Statements in Part I, Item 1 of this report for more information.


Insurance Recoveries

The Company is involved in various securities class actions and warrants to purchase common stock outstandingpurported stockholder derivative complaints, and our common stock reserved for issuance under our equity incentive plans immediately priorthe Company has incurred legal costs related to the reverse stock split were appropriately adjusted by dividingSEC/Department of Justice (the “DOJ”) investigation of the numberCompany's former Chief Executive Officer and Chairman of affected sharesthe Board of common stock by sixDirectors, as described in Note 13 of the Notes to Condensed Consolidated Financial Statements in Part I, Item 1 of this report. The Company maintains a corporate liability insurance policy which provides coverage for legal defense costs (the "Insurance Policy"). The terms of the Insurance Policy provide that the insurer will pay the third party directly on behalf of the Company for such claims. Based on the Company's analysis, the Company's obligation as the primary obligor of the invoices has not been transferred to the insurer and as applicable, multiplyingsuch, the exercise priceCompany records these legal claims as an other receivable with a corresponding liability on the condensed consolidated balance sheet. As of September 30, 2023, the Company submitted claims for approximately $2.4 million of such legal costs, of which $1.2 million has been paid by sixthe insurer to the third parties. The Company has $1.2 million of claims as an other receivable included in "Prepaid expenses and other current assets" and $1.2 million as part of "Other accrued liabilities" on the condensed consolidated balance sheet as of September 30, 2023.
Management Changes

On March 2, 2023, Terren S. Peizer resigned as a member of the Company's Board of Directors, as Chairman of the Board, as Executive Chairman, and as Chief Executive Officer of the Company, effective immediately. Mr. Peizer explained that his resignation was for the good of the Company and to minimize any distraction from the important work that the Company does.

Effective March 3, 2023, the Company’s Board of Directors appointed Brandon H. LaVerne as Interim Chief Executive Officer of the Company. Mr. LaVerne served as the Company’s Co-President and Chief Operating Officer since June 27, 2022 and continues to serve as Chief Operating Officer, but no longer serves as Co-President. On November 16, 2023, Mr. LaVerne was appointed as Chief Executive Officer of the Company.

As a result of the changes in Mr. LaVerne’s roles with the Company in March 2023, Mary Louise Osborne began to, and continue to, serve as the Company’s President and Chief Commercial Officer. Ms. Osborne served as the Company’s Co-President and Chief Commercial Officer since June 27, 2022 and August 2021, respectively.
Reduction in Workforce
In March 2023, as part of our continued cost saving measures and to reduce our operating costs and to help align with our previously stated strategic initiatives, we implemented additional headcount reductions wherein approximately 19% of our employee positions were eliminated. These headcount reductions are expected to result in a reduction of approximately $2.7 million of annual compensation costs. In March 2023, we incurred a total of approximately $0.5 million of termination related costs, including severance payments and benefits payable to the impacted employees, recorded as part of "Restructuring,
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severance and related costs" on our condensed consolidated statement of operations for the nine months ended September 30, 2023. For more information regarding restructuring, severance and related costs, see Note 6 of the Notes to Condensed Consolidated Financial Statements included in Part I, Item 1 of this report.
Metrics
The following table sets forth our key metrics that we use to evaluate our business, measure our performance, identify trends affecting our business, formulate financial projections and make strategic decisions:
•Revenue. Our revenues are mostly generated from fees charged to health plan customers related to health plan members enrolled in our Ontrak program. Our contracts are generally designed to provide cash fees to us on a monthly basis, an upfront case rate, or fee for service based on enrolled members and achievement of certain member specified metrics that drive clinical engagement. Our performance obligation is generally satisfied over the length of the Ontrak program as our services our delivered and in certain contractual arrangement that provides for a minimum guarantee at the end of a contractual term upon non-achievement of stipulated revenue targets, revenue for the minimum guarantee is recognized when our performance obligation is satisfied at a point in time.
•Cash flow from operations. Our business activities generally have resulted in an outflow of cash flow from operations as we invest strategically into our business to help the growth of our operations.
•Effective outreach pool. Our effective outreach pool represents individuals insured by our health plan customers who have been identified through our advanced data analytics and predictive modeling with untreated behavioral health conditions that may be impacted through enrollment in the Ontrak program.

Three Months Ended
September 30,
(In thousands, except outreach pool and percentages)20232022Change $Change %
Revenue$3,715 $2,843 $872 31 %
Cash flow from operations(1,814)(8,305)6,491 (78)
Nine Months Ended
September 30,
20232022Change $Change %
Revenue$9,204 $12,004 $(2,800)(23)%
Cash flow from operations(11,882)(22,520)10,638 (47)

At September 30,
20232022ChangeChange %
Effective outreach pool9,3774,163 5,214 125 %

Our revenue for the three months ended September 30, 2023 was $3.7 million compared to $2.8 million for the same period in 2022, and $9.2 million for the nine months ended September 30, 2023 compared to $12.0 million for the same period in 2022. The increase in our revenue in the three months ended September 30, 2023 compared to the same period in 2022 was primarily due to an increase in our total average enrolled members during the three months ended September 30, 2023. The decrease in our revenue in the nine months ended September 30, 2023 compared to the same period in 2022 was primarily due to a decrease in total average enrolled members during the nine months ended September 30, 2023.

Our cash flow from operations for the three months ended September 30, 2023 was $(1.8) million compared to $(8.3) million for the same period in 2022, and $(11.9) million for the nine months ended September 30, 2023 compared to $(22.5) million for the same period in 2022. The improvement in our cash flow from operations during the three and nine months ended September 30, 2023 as compared to the same periods in 2022 was primarily due to a decrease in net loss which resulted primarily from an improvement in operating expenses resulting from strategic headcount reductions throughout 2022 and 2023.

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Our effective outreach pool at September 30, 2023 was 9,377 compared to 4,163 at September 30, 2022. The increase in our effective outreach pool was due to several factors including the refinement of our proprietary and predictive algorithms to identify additional eligible members, the addition of high-acuity, commercial members resulting from an amendment executed with an existing customer and the expansion of the Ontrak program for a Medicaid plan customer to a new 18 to 20 year old cohort of members with impactable cost threshold. In October 2023, our outreach pool decreased by 5,997 as a result of a health plan customer informing us of their intent not to continue using our services after February 2024. See discussion above under “Recent Developments - Customer Notification.”

Key Components of Our Results of Operations
Revenue

Revenue from contracts with customers is recognized when, or as, we satisfy our performance obligations by transferring the reverse stock split.

Public Offering

On April 25, 2017, we entered into an underwriting agreement with Joseph Gunnar & Co., LLC (“Joseph Gunnar”), as underwriterpromised goods or services to the customers. Revenue from a performance obligation satisfied over time is recognized by measuring our progress in connection withsatisfying the performance obligation in a public offeringmanner that depicts the transfer of the goods or services to the customer. Revenue related to health plan customers whose health plan members are enrolled in our program is recognized over the enrollment period of the program.


One of our securities. Pursuantcustomer’s contracts includes a minimum guarantee aggregate invoices at agreed upon rates of $5.8 million over a two year contractual period ending on December 31, 2024, of which we have invoiced $0.2 million as of September 30, 2023, leaving $5.6 million of minimum guarantee over the remaining contractual period. In the event the minimum guarantee is not achieved, the shortfall will be invoiced to the underwriting agreement, we agreedcustomer on December 31, 2024, at which time revenue can be recognized.

Cost of Revenue

Cost of revenue consists primarily of salaries related to issueour care coaches, member engagement specialists and sellother staff directly involved in member care, healthcare provider claims payments and related processing fees, and other direct costs incurred to serve our health plan customers. All costs are recognized in the period in which an aggregateeligible member receives services.
Operating Expenses

Our operating expenses consist of 3,125,000 sharesour sales and marketing, research and development, and general and administrative expenses, as well as restructuring, severance and related costs as applicable. Sales and marketing expenses consist primarily of common stock at a public offering pricepersonnel and related expenses for our sales and marketing staff, including salaries, benefits, bonuses, stock-based compensation and commissions, and costs of $4.80 per share,marketing and promotional events, corporate communications, online marketing, product marketing and other brand-building activities. All advertising related costs are expensed as incurred. Research and development expenses consist primarily of personnel and related expenses for our engineers and software development staff, including salaries, benefits, bonuses and stock-based compensation, and the purchase pricecost of certain third-party service providers. Research and development costs are expensed as incurred. General and administrative expenses consist primarily of personnel and related expenses for administrative, legal, finance, compliance and human resource staff, including salaries, benefits, bonuses and stock-based compensation, professional fees, insurance premiums, and other corporate expenses. Restructuring, severance and related costs include workforce reduction costs and asset impairment charges, if any.

Interest Expense, net

Interest expense consists primarily of interest expense from our outstanding debt, accretion of debt discount, amortization of debt issuance costs and finance leases.
Other Income (Expense), net

Other income (expense), net consists of gains and losses associated with changes in fair value of warrant liabilities and contingent consideration, write-off of debt issuance related costs and other assets, net gain related gain related to the underwriter after discountswrite-off of an operating lease asset and commissions was $4.464 per share. The closingliability upon early termination of the offering occurred on April 28, 2017.

Pursuant to the underwriting agreement, we issued to the underwriter a warrant for the purchase of an aggregate of 156,250 shares of common stock for an aggregate purchase price of $100. The exercise price of the warrant is equal to 125% of the public offering price in the offering, or $6.00 per share of common stock.

NASDAQ Uplisting

In connection with the public offering, our common stock began trading on the Nasdaq Capital Market under the symbol “CATS” beginning on April 26, 2017.

Exercise of Over-Allotment Option

Pursuant to the underwriting with Joseph Gunnar dated April 25, 2017, we granted the underwriters a 45-day over-allotment option to purchase up to 468,750 additional shares of common stock at the public offering price less the applicable underwriter discount. On May 2, 2017, the underwriter acquired an additional 303,750 shares pursuant to such over-allotment option.

lease, and other miscellaneous income and expense items.





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Operations

        We currently operate our OnTrak solutions in Connecticut, Florida, Georgia, Illinois, Kansas, Kentucky, Louisiana, Massachusetts, Missouri, New Jersey, North Carolina, Oklahoma, Pennsylvania, South Carolina, Tennessee, Texas, Virginia, West Virginia and Wisconsin. We provide services to commercial (employer funded), managed Medicare Advantage, and managed Medicaid and duel eligible (Medicare and Medicaid) populations. We have generated fees from our launched programs and expect to launch additional customers and increase enrollment and fees throughout 2017. However, there can be no assurance that we will generate such fees or that new programs will launch as we expect.



RESULTS OF OPERATIONS

Table of Summary Consolidated Financial Information

The table below and the discussion that follows summarize our results of consolidated operations for each of the periods presented (in thousands):

Three Months Ended
September 30,		Nine Months Ended
September 30,
2023202220232022
Revenue$3,715 $2,843 $9,204 $12,004 
Cost of revenue1,040 1,436 2,691 6,488 
Gross profit2,675 1,407 6,513 5,516 
Operating expenses:
Research and development1,552 2,833 4,733 9,113 
Sales and marketing822 1,151 2,649 3,893 
General and administrative4,365 7,552 14,593 27,694 
Restructuring, severance and related costs— 934 457 934 
Total operating expenses6,739 12,470 22,432 41,634 
Operating loss(4,064)(11,063)(15,919)(36,118)
Other income (expense), net38 (1,241)324 (3,213)
Interest expense, net(2,392)(440)(6,009)(2,996)
Loss before income taxes(6,418)(12,744)(21,604)(42,327)
Income tax (expense) benefit— (20)80 (140)
Net loss$(6,418)$(12,764)$(21,524)$(42,467)

Revenue
The mix of our revenue between commercial and government insured members can fluctuate quarter over quarter. The following table sets forth our sources of revenue for each of the periods indicated:

Three Months Ended
September 30,		Nine Months Ended
September 30,
(In thousands, except percentages)20232022ChangeChange %20232022ChangeChange %
Commercial revenue$1,216 $1,267 $(51)(4)%$3,133 $5,624 $(2,491)(44)%
Percentage of commercial revenue to total revenue33 %45 %(12)%34 %47 %(13)%
Government revenue$2,499 $1,576 $923 59 %$6,071 $6,380 $(309)(5)%
Percentage of government revenue to total revenue67 %55 %12 %66 %53 %13 %
   Total revenue$3,715 $2,843 $872 31 %$9,204 $12,004 $(2,800)(23)%

Total revenue increased $0.9 million, or 31%, in the three months ended September 30, 2023 compared to the same period of 2022 primarily due to an increase in average total enrolled members during the three months ended September 30, 2023. Total revenue decreased $2.8 million, or 23%, in the nine months ended September 30, 2023 compared to the same period of 2022 primarily due to a decrease in total average enrolled members during the nine months ended September 30, 2023.

The percentage of our revenue from commercial customers decreased to 33% for the three months ended September 30, 2023 compared to 45% for the three months ended September 30, 2022. The percentage of our revenue from government customers
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increased to 67% for the three months ended September 30, 2023 compared to 55% for the three months ended September 30, 2022. The percentage of our revenue from commercial customers decreased to 34% for the nine months ended September 30, 2023 compared to 47% for the nine months ended September 30, 2022. The percentage of our revenue from government customers increased to 66% for the nine months ended September 30, 2023 compared to 53% for the nine months ended September 30, 2022. These shifts in mix of revenues from commercial and government customers were mainly due to a larger decrease in commercial revenue compared to the change in government revenue during the three and nine months ended September 30, 2023 compared to the same periods in 2022.

As previously reported, in October 2023, we were notified by a health plan customer of its intent not to continue using our services after February 2024. This customer informed us that its decision was related to its change in strategy and not reflective of the performance or value of our services. For the three and nine months ended September 30, 2023, we billed this customer approximately $1.2 million and $3.1 million, respectively, representing 32.6% and 33.8%, respectively, of our total revenue for such periods. We do not expect the loss of this customer to have a material negative impact on our previously stated revenue expectations for fiscal year 2023 because this customer is expected to continue to use our services into February 2024. We also believe that reductions in revenue associated with the loss of this customer will be offset by revenue from new customers expected to begin to use our services in early 2024 based on our pipeline of active prospects. However, no assurances can be given that this will occur, and our revenue for future quarters could be lower due to the loss of this customer. See the risk factor titled “A substantial percentage of our revenues are attributable to a few large customers, any or all of which may terminate our services at any time,” in Item 1A of Part II of this report.

Cost of Revenue, Gross Profit and Gross Profit Margin

Three Months Ended
September 30,		Nine Months Ended
September 30,
(In thousands, except percentages)20232022ChangeChange %20232022ChangeChange %
Cost of revenue$1,040 $1,436 $(396)(28)%$2,691 $6,488 $(3,797)(59)%
Gross profit2,675 1,407 1,268 90 %6,513 5,516 997 18 
Gross profit margin72 %49 %23 %71 %46 %25 %

Cost of revenue decreased $0.4 million, or 28%, in the three months ended September 30, 2023 compared to the same period of 2022. Cost of revenue decreased $3.8 million, or 59%, in the nine months ended September 30, 2023 compared to the same period of 2022. Such decreases were primarily due to the effect of lower headcount and cost optimization initiatives we implemented throughout 2022 and in March 2023 as we strategically implemented continued cost saving measures to reduce our operating costs as well as improve the operations of our member facing organization, and a decrease in provider costs.

Gross profit increased by $1.3 million and gross profit margin increased by 23% in the three months ended September 30, 2023 compared to the same period of 2022. Gross profit increased by $1.0 million and gross profit margin increased by 25% in the nine months ended September 30, 2023 compared to the same period of 2022. The increase in gross profit and gross profit margin in the three and nine months ended September 30, 2023 was primarily due to the effect of lower headcount and cost optimization initiatives we implemented throughout 2022 and in March 2023 as we strategically implemented continued cost saving measures to reduce our operating costs as well as improve the operations of our member facing organization, and a decrease in provider costs.







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OperatingExpenses
Three Months Ended
September 30,		Nine Months Ended
September 30,
(In thousands, except percentages)20232022ChangeChange %20232022ChangeChange %
Operating expenses:
   Research and development$1,552 $2,833 $(1,281)(45)%$4,733 $9,113 $(4,380)(48)%
   Sales and marketing822 1,151 (329)(29)2,649 3,893 (1,244)(32)
   General and administrative4,365 7,552 (3,187)(42)14,593 27,694 (13,101)(47)
 Restructuring, severance and related costs— 934 (934)(100)457 934 (477)(51)
Total operating expenses$6,739 $12,470 $(5,731)(46)$22,432 $41,634 $(19,202)(46)
Operating loss$(4,064)$(11,063)$6,999 (63)%$(15,919)$(36,118)$20,199 (56)%

Total operating expenses decreased by $5.7 million, or 46%, in the three months ended September 30, 2023 compared to the same period in 2022. The decrease in operating expenses was primarily due to:

•a $1.3 million decrease in our research and development costs, which was primarily related to a $0.5 million decrease in depreciation expense, a $0.4 million decrease in employee-related costs, a $0.3 million decrease in software related fees and a $0.1 million decrease in professional service costs;
•a $0.3 million decrease in our sales and marketing costs, which was primarily related to a decrease in employee related cost in our sales and marketing department;
•a $3.2 million decrease in our general and administrative costs, which was primarily related to a $2.3 million decrease in employee-related costs, a $0.3 million decrease in insurance related costs, a $0.2 million decrease in legal costs, a $0.2 million decrease in professional service costs and a $0.1 million decrease in software costs; and
•a $0.9 million decrease in restructuring, severance and related costs due to the workforce reduction implemented in August 2022. For more information, see Note 6 of the Notes to the Condensed Consolidated Financial Statements included in Part I, Item 1 of this report.

Total operating expenses decreased by $19.2 million, or 46%, in the nine months ended September 30, 2023 compared to the same period in 2022. The decrease in operating expenses was primarily due to:

•a $4.4 million decrease in our research and development costs, which was primarily related to a $1.7 million decrease in employee-related costs, a $1.3 million decrease in depreciation expense, a $0.8 million decrease in software related fees and a $0.6 million decrease in professional service costs;
•a $1.2 million decrease in our sales and marketing costs, which was primarily related to a $1.0 million decrease in employee related cost in our sales and marketing department and a $0.2 million decrease in promotion related expenses;
•a $13.1 million decrease in our general and administrative costs, which was primarily related to a $9.3 million decrease in employee-related costs, a $1.0 million decrease in software costs, a $1.0 million decrease in insurance related costs, a $0.7 million decrease in professional service costs, a $0.5 million decrease in restructuring and severance related expenses, a $0.2 million decrease in travel and entertainment costs and a $0.2 million decrease in occupancy related costs; and
•a $0.5 million decrease in our restructuring, severance and related costs due to the workforce reduction implemented in August 2022 compared to the workforce reduction implemented in March 2023. For more information, see Note 6 of the Notes to the Condensed Consolidated Financial Statements included in Part I, Item 1 of this report.



43

Other Income (Expense), net

Three Months Ended
September 30,		Nine Months Ended
September 30,
(In thousands, except percentages)20232022Change $Change %20232022Change $Change %
Other income (expense), net$38 $(1,241)$1,279 103 $324 $(3,213)$3,537 110 %
Other income, net for the three months ended September 30, 2023 was $0.04 million compared to other expense, net of $1.2 million for the same period in 2022. Other income, net for the nine months ended September 30, 2023 was $0.3 million compared to other expense, net of $3.2 million for the same period in 2022. The $0.04 million of other income, net, for the three months ended September 30, 2023 was related to a gain resulting from a change in the fair value of warrant liabilities and the $1.2 million of other expense, net for the three months ended September 30, 2022 was primarily related to debt termination costs. The $0.3 million of other income, net for the nine months ended September 30, 2023 was primarily related to a $0.5 million gain resulting from the write-off of an operating lease asset and liability upon early termination of the lease for office space in Santa Monica, California, partially offset by approximately $0.2 million of net lease termination related fees. The $3.2 million of other expense, net for the nine months ended September 30, 2022 was primarily related to $3.3 million of debt termination costs, partially offset by a $0.1 million gain related to a change in the fair value of warrant liabilities.
Interest Expense, net

Three Months Ended
September 30,		Nine Months Ended
September 30,
(In thousands, except percentages)20232022Change $Change %20232022Change $Change %
Interest expense, net$(2,392)$(440)$(1,952)(444)%$(6,009)$(2,996)$(3,013)(101)%
The $2.0 million and $3.0 million increase in interest expense, net for the three and nine months ended September 30, 20172023, respectively, compared to the same periods in 2022 was primarily due to a higher average total outstanding loan balance during the three and nine months ended September 30, 2016:

  

Three Months Ended

  

Nine Months Ended

 

(In thousands, except per share amounts)

 

September 30,

  

September 30,

 
  

2017

  

2016

  

2017

  

2016

 

Revenues

                

Healthcare services revenues

 $1,195  $1,336  $4,682  $3,287 
                 

Operating expenses

                

Cost of healthcare services

  1,664   1,253   4,361   3,381 

General and administrative

  2,575   2,195   8,144   6,518 

Depreciation and amortization

  47   38   131   102 

Total operating expenses

  4,286   3,486   12,636   10,001 
                 

Loss from operations

  (3,091)  (2,150)  (7,954)  (6,714)
                 

Other income

  16   15   44   90 

Interest expense

  (1)  (3,215)  (3,408)  (4,139)

Loss on conversion of note

  -   -   (1,356)  - 

Loss on issuance of common stock

  -   -   (145)  - 

Change in fair value of derivative liability

  -   (3,484)  132   (6,328)

Change in fair value of warrant liability

  (2)  1,423   1,767   673 

Loss from operations before provision for income taxes

  (3,078)  (7,411)  (10,920)  (16,418)

Provision for income taxes

  2   2   4   7 

Net Loss

 $(3,080) $(7,413) $(10,924) $(16,425)

Summary2023, as well as higher amount of Consolidated Operating Results

Loss from operations before provision for income taxesaccretion of debt discount to interest expense and higher weighted average interest rate for the three and nine months ended September 30, 2017 was $3.1 million and $10.9 million, compared with a net loss of $7.4 million and $16.4 million for the same periods in 2016, respectively. The difference primarily relates to the change in fair value of warrant liability and derivative liability for the three and nine months ended September 30, 2017,2023 compared to the same periods in 2016.

Revenues

During2022.

Income Tax (Expense) Benefit
Three Months Ended
September 30,		Nine Months Ended
September 30,
(In thousands, except percentages)20232022Change $Change %20232022Change $Change %
Income tax (expense) benefit$— $(20)$20 100 %$80 $(140)$220 157 %
Income tax benefit of $0.08 million for the nine months ended September 30, 2017, we have expanded OnTrak for one customer into two new lines of business, another customer expanded into their largest state by membership, and launched enrollment with a new health plan in Oklahoma. In addition, at the end of the second quarter 2017 we saw a significant increase in our eligible member population as a result of another customer with programs in eight states resolving a previous data extraction issue. That increase in eligible membership is expected to2023 was primarily impact future quarters. These expansions were offset to some extent by two customers exiting certain health exchange and Medicaid markets, and one customer suspending new enrollments. Overall, there was a net increase in the number of patients enrolled in our solutions compared with the same period in 2016. Enrolled members as of September 30, 2017 was 33% greater than September 30, 2016. Recognized revenue decreased by $141,000 and increased by $1.4 million, or (11)% and 42%, for the three and nine months ended September 30, 2017, compared with the same periods in 2016, respectively. We reserve a portion, and in some cases all, of the fees we receive related to enrolled members, as the fees are subject to performance guarantees or are received as case rates in advance at the timea reversal of enrollment. Fees deferred for performance guarantees are recognized when those guarantees are satisfiedaccrued estimated income taxes. Income tax expense of $0.02 million and fees received in advance are recognized ratably over the period of enrollment. Deferred revenue increased by $1.7 million from December 31, 2016.


Cost of Healthcare Services

Cost of healthcare services consists primarily of salaries related to our care coaches, outreach specialists, healthcare provider claims payments to our network of physicians and psychologists, and fees charged by our third party administrators for processing these claims.  The increase of $411,000 and $979,000 for the three and nine months ended September 30, 2017, compared with the same periods in 2016, respectively, relates primarily to the increase in members being treated, the addition of care coaches, outreach specialists, community care coordinators and other staff to manage the increasing number of enrolled members. In addition, we hire staff in preparation for anticipated future customer contracts and corresponding increases in members eligible for OnTrak. The costs for such staff are included in Cost of Healthcare Services during training and ramp-up periods.

General and Administrative Expenses

Total general and administrative expense increased by $379,000 and $1.6$0.1 million for the three and nine months ended September 30, 2017, compared with the same periods in 2016. The increase2022, respectively, was due primarily to an increase in salaries to service our contracts and increasing number of enrolled members, investments in key personnel to support future growth, and investor relations services during the nine months ended September 30, 2017.

Depreciation and Amortization

Depreciation and amortization was immaterial for the three and nine months ended September 30, 2017 and 2016, respectively.

Interest Expense

Interest expense decreased by $3.2 million and $731,000 for the three and nine months ended September 30, 2017, respectively, compared with the same periods in 2016. The decrease is primarily related to the value of the warrants issued during the third quarter of 2016 for the 2016 Convertible Debentures as well as the amortization of the debt discount on the 2016 Convertible Debentures. No such issuance occurred during the third quarter of 2017.

Loss of conversion of note

      Loss on conversion of note during the three and nine months ended September 30, 2017 relates to the conversion of the July 2015 convertible debenture and a portion of the December 2016 convertible debentures. No such conversion occurred during 2016.

Loss on issuance of common stock

      Loss on the issuance of common stock relates to the issuance of common stock to Acuitas in the public offering and to pay Terren Peizer’s deferred salary.

Change in fair value of warrant liability

We have issued warrants to purchase common stock in February 2012, April 2015, July 2015, August 2016, December 2016, January 2017, February 2017, March 2017, April 2017, and June 2017. Some of the warrants are being accounted for as liabilities in accordance with FASB accounting rules, due to anti-dilution provisions in some warrants that protect the holders from declines in our stock price, which is considered outside our control.  The warrants are marked-to-market each reporting period, using the Black-Scholes pricing model, until they are completely settled or expire.

state income taxes.


The change in fair value for the warrants was $1.4 million and $1.1 million for the three and nine months ended September 30, 2017, respectively, compared with the same periods in 2016, respectively.

In April 2017, we removed the anti-dilution protection in most of our warrants. We will continue to mark-to-market the remaining warrants with anti-dilution protection to market value each quarter-end until they are completely settled or expire.

Change in fair value of derivative liability

The change in fair value of derivative liabilities was $3.5 million and $6.2 million for the three and nine months ended September 30, 2017, respectively, compared with the same periods in 2016. The derivative liability was the result of the issuance of the July 2015 Convertible Debenture, which was converted into 2,385,111 shares of common stock in April 2017.

LIQUIDITY AND CAPITAL RESOURCES

Liquidity

As


We generate revenues from the services we provide to commercial (employer funded), managed Medicare Advantage, managed Medicaid and dual eligible (Medicare and Medicaid) populations. We also generate revenues from the mental health and wellbeing support services we provide to members of November 13, 2017,employer customers under our LifeDojo wellbeing solution. We aim to increase the number of members that are eligible for our solutions by signing new contracts and identifying more eligible members within customers with whom we had a balance of approximately $5.9 million cash on hand. We had working capital of approximately $2.5 million as of September 30, 2017. have existing contracts.


44

We have incurred significant operatingnet losses and negative operating cash flows since our inception. We couldinception, and we expect to continue to incur net losses and negative operating cash flowsflow, in part due to the negative impact on our operations by customer terminations. As of September 30, 2023, our total cash and operating losses forrestricted cash was $9.2 million and we had working capital of approximately $1.5 million. For the next twelve months. Our currentnine months ended September 30, 2023, our average monthly cash burn rate is approximately $588,000 per month, excluding non-current accrued liability payments. In April 2017,from operations was $1.3 million.

On November 14, 2023, the Notes Conversion, the Public Offering and the Private Placement were completed. All amounts we closed on a public offering for aggregate grossowed under outstanding Keep Well Notes, other than $2.0 million, was converted into shares of our common stock, we raised net proceeds of $16.5$5.5 million, priorand $6.0 million of restricted cash was reclassified as unrestricted cash. An aggregate of $2.0 million of secured debt is outstanding under a Keep Well Note, which matures on May 14, 2026, unless it becomes due and payable in full earlier, whether by acceleration or otherwise. See “Overview—Recent Developments—Public Offering, Private Placement and Notes Conversion,” above.

Throughout 2022 and in March 2023, as part of our continued cost saving measures to deducting underwriter discounts, commissionreduce our operating costs and to better align with our previously stated strategic initiatives, we implemented a number of reduction in workforce and vendor cost optimization plans. We began to realize the effect of these cost saving measures and we expect cost savings to be realized in the remainder of 2023 and beyond, including a decrease in our operating costs and an improvement in our average monthly cash flow from operations. The cost optimization plans were necessary to right size our business commensurate with our current customer base.

In addition to revenue from business operations, since April 2022, our primary source of working capital has been borrowings under the Keep Well Agreement. As of the date of this report, no more funds can be borrowed under the Keep Well Agreement, and we have no other estimated offering expenses. Wesources of capital in place.

Regardless of our success in raising additional capital, we expect our current cash resourceson hand as of September 30, 2023, together with the cash raised in the Public Offering and the reclassification of $6.0 million from restricted cash to cover expenses throughunrestricted cash in connection with the completion of the Private Placement, will be sufficient to meet our obligations for at least the next twelve12 months from the date the financial statements in this report are released.

Management plans to continue to execute on its strategy by continuing to (i) explore other sources of capital with either debt or equity financing for future liquidity needs; (ii) manage operating costs by strategically pursuing cost optimization initiatives; and (iii) pursue executing our growth strategy by (a) expanding sales and marketing resources to acquire new and diverse customers across major health plans, value based provider groups and self-insurance employers; (b) executing on our better market penetration strategy by providing full scale customized behavioral health solutions, addressing customer needs across all member acuity levels while mitigating vendor fatigue by becoming a principal customer partner; (c) leveraging our AI technology and new predictive algorithms to improve identification and outreach, create more efficiencies, enhance coaching solutions and create more proof points; and (d) opportunistically pursuing partnerships that will accelerate growth.

We will need additional capital to successfully execute our growth strategy. We may seek to raise additional capital through equity or debt financings, however, delayswhen we can affect such financings and how much capital we can raise depends on a variety of factors, including, among others, market conditions, the trading price of our common stock and our determination as to the appropriate sources of funding for our operations. In addition, under the securities purchase agreement we entered into in cash collections, revenue,connection with the Public Offering, we are generally prohibited from issuing shares of our common stock or unforeseen expenditurescommon stock equivalents for capital raising purposes through May 12, 2024; however, from and after February 12, 2024, we may issue shares of our common stock or common stock equivalents for capital raising purposes if the per share price is $0.60 or greater. There can be no assurance that other capital will be available when needed or that, if available, it will be obtained on terms favorable to us and our stockholders, that we will be successful in implementing cost optimization initiatives, or that we will be successful in executing our growth strategy. In addition, the Keep Well Agreement contains various financial and other covenants, and any non-compliance with those covenants could impactresult in an acceleration of the repayment of the amount outstanding thereunder. Furthermore, equity or debt financings may have a dilutive effect on the holdings of our existing stockholders, and debt financings may subject us to restrictive covenants, operational restrictions and security interests in our assets. See the risk factors entitled “We expect to continue to incur substantial operating losses” and “We will need additional funding, and we cannot guarantee that we will find adequate sources of capital in the future” in Item 1A. Risk Factors, Part II of this estimate.

report.

45

Cash Flows

We

The following table sets forth a summary of our cash flows for the periods indicated (in thousands):
Nine Months Ended
September 30,
20232022
Net cash used in operating activities$(11,882)$(22,520)
Net cash used in investing activities(196)(1,004)
Net cash provided by (used in) financing activities11,592 (30,488)
Net decrease in cash and restricted cash$(486)$(54,012)

Net cash used $5.3 million of cash forin operating activities during the nine months ended September 30, 20172023 was $11.9 million compared with $4.5$22.5 million during the same period in 2022. The year over year improvement in our cash flow from operations during the nine months ended September 30, 2023 as compared to the nine months ended September 30, 2022 was primarily due to a decrease in net loss which resulted primarily from an improvement in operating expenses resulting from strategic headcount reductions throughout 2022 and 2023.
Net cash used in investing activities was $0.2 million for the nine months ended September 30, 2023 compared with $1.0 million in the same period in 2016.of 2022. The increase in$0.2 million and $1.0 million of net cash used in operating activities reflects the increase in the number of members being treated, the addition of care coaches and clinical care coordinators to our staff to manage the increasing number of enrolled members, the expansion of our program for one customer into two new lines of business, another customer expanding into their largest state by membership, and the launch of a new health plan in Oklahoma. In addition, at the end of the second quarter 2017 we saw a significant increase in our eligible member population as a result of another customer with programs in either states resolving a previous data extraction issue. Significant non-cash adjustments to operatinginvesting activities for the nine months ended September 30, 2017 included a loss on conversion of convertible debentures of $1.4 million, a fair value adjustment on warrant liability of $1.8 million,2023 and amortization of debt discount and issuance costs of $3.3 million2022, respectively, was primarily related to the January 2017 convertible debenture.

Capital expenditures for the nine months ended September 30, 2017 were not material. We anticipate that capital expenditures will increase in the future as we replace our computer systems that are reaching their useful lives, upgrade equipment to support our increased number of enrolled members, and enhance the reliability and security of our systems. These future capital expenditure requirements will depend upon many factors, including obsolescence or failure of our systems, progress with expanding the adoption of our solutions, and our marketing efforts, the necessity of, and time and costs involved in obtaining, regulatory approvals, competing technological and market developments, and our ability to establish collaborative arrangements, effective commercialization, marketing activities and other arrangements.

Our netcapitalized software development costs.


Net cash provided by financingfinancing activities was $11.7$11.6 million for the nine months ended September 30, 2017,2023 compared with net cash provided byused in financing activities of $5.5$30.5 million for the nine months ended September 30, 2016, respectively. Cash2022. The $11.6 million of net cash provided by financing activities for the nine months ended September 30, 2017 consisted2023 was primarily related to $8.0 million of proceeds from borrowings under the Keep Well Agreement and $6.0 million of cash proceeds received in escrow under the Keep Well Agreement and held in a separate account (as discussed in Notes 2 and 10 of the gross proceeds from the issuanceNotes to Condensed Consolidated Financial Statements in Part I, Item 1 of common stock from the public offering of $16.5 million, the gross proceeds from the convertible debenture provided by Acuitas Group Holdings, LLC (“Acuitas”)this report), one hundred percent (100%) of which is owned by Terren S. Peizer, Chairman and Chief Executive Officer of the Company, in January 2017 of $1.3 million,partially offset by transaction costs of $1.7 million for the public offering and the payment of convertible debentures of $4.4 million leaving a balance of $6.9 million in cash and cash equivalents at September 30, 2017.


As discussed above, we currently expend cash at a rate of approximately $588,000 per month. We also anticipate cash inflow to increase during 2017 as we continue to service our executed contracts and sign new contracts. We expect our current cash resources to cover our operations through at least the next twelve months, however, delays in cash collections, revenue, or unforeseen expenditures could impact this estimate.

OFF BALANCE SHEET ARRANGEMENTS

As of September 30, 2017, we had no off-balance sheet arrangements.

CRITICAL ACCOUNTING ESTIMATES

The discussion and analysis of our financial condition and results of operations is based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”). U.S. GAAP requires management to make estimates, judgments and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, and the disclosure of contingent assets and liabilities. We base our estimates on experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that may not be readily apparent from other sources. On an on-going basis, we evaluate the appropriateness of our estimates and we maintain a thorough process to review the application of our accounting policies. Our actual results may differ from these estimates.

We consider our critical accounting estimates to be those that (1) involve significant judgments and uncertainties, (2) require estimates that are more difficult for management to determine, and (3) may produce materially different results when using different assumptions. We have discussed these critical accounting estimates, the basis for their underlying assumptions and estimates and the nature of our related disclosures herein with the audit committee of our Board of Directors. We believe our accounting policies related to the fair value of warrants, the estimation of the fair value of our derivative liabilities, and share-based compensation expense, involve our most significant judgments and estimates that are material to our consolidated financial statements. They are discussed further below.

Warrant Liabilities

We have issued warrants to purchase common stock in February 2012, April 2015, July 2015, August 2016, December 2016, January 2017, February 2017, March 2017, April 2017, and June 2017. Some of the warrants are being accounted for as liabilities in accordance with FASB accounting rules, due to anti-dilution provisions in some warrants that protect the holders from declines in our stock price, which is considered outside our control.  The warrants are marked-to-market each reporting period, using the Black-Scholes pricing model, until they are completely settled or expire.

The warrant liabilities were calculated using the Black-Scholes model based upon the following assumptions:

September 30,

2017

Expected volatility

93.56

%

Risk-free interest rate

1.62

%

Weighted average expected lives in years

2.54

Expected dividend

0

%

For the three and nine months ended September 30, 2017, we recognized a loss of $2,000 and a gain of $1.8 million respectively, compared with a gain of $1.4financed insurance premium payments. Net cash used in financing activities of $30.5 million and $673,000 for the same periods in 2016, respectively, related to the revaluation of our warrant liabilities.


In April 2017, we removed the anti-dilution protection in most of our warrants. We will continue to mark-to-market the remaining warrants with anti-dilution protection to market value each quarter-end until they are completely settled or expire.

Derivative Liabilities

In July 2015, we entered into a $3.55 million 12% Original Issue Discount Convertible Debenture due January 18, 2016 with Acuitas (the “July 2015 Convertible Debenture”). The conversion price of the July 2015 Convertible Debenture is $11.40 per share, subject to adjustments, including for issuances of common stock and common stock equivalents below the then current conversion or exercise price, as the case may be.  In October 2016, we entered into an amendment of the July 2015 Convertible Debenture which extended the maturity date of the Convertible Debenture from January 18, 2016 to January 18, 2017. In addition, the conversion price of the July 2015 Convertible Debenture was subsequently adjusted to $1.80 per share. The July 2015 Convertible Debentures are unsecured, bear interest at a rate of 12% per annum payable in cash or shares of common stock, subject to certain conditions, at our option, and are subject to mandatory prepayment upon the consummation of certain future financings. Acuitas agreed to extend the maturity date of the July 2015 Convertible Debenture to April 30, 2017 or until we completed a public offering, whichever comes first. In April 2017, the July 2015 Convertible Debenture was converted into 2,385,111 shares of common stock and the derivative liability was written off.

For the three and nine months ended September 30, 2017, we recognized a gain of $0 and $132,000, respectively, compared with a loss of $3.5 million and $6.3 million for the same periods in 2016, related to the revaluation of our derivative liability.

Share-based compensation expense

We account for the issuance of stock, stock options, and warrants for services from non-employees based on an estimate of the fair value of options and warrants issued using the Black-Scholes pricing model. This model’s calculations include the exercise price, the market price of shares on grant date, weighted average assumptions for risk-free interest rates, expected life of the option or warrant, expected volatility of our stock and expected dividend yield.

The amounts recorded in the financial statements for share-based compensation expense could vary significantly if we were to use different assumptions. For example, the assumptions we have made for the expected volatility of our stock price have been based on the historical volatility of our stock, measured over a period generally commensurate with the expected term. If we were to use a different volatility than the actual volatility of our stock price, there may be a significant variance in the amounts of share-based compensation expense from the amounts reported. The weighted average expected option term for the nine months ended September 30, 20172022 was primarily related to $39.2 million of repayments made on outstanding promissory notes issued in 2019 and 2016, reflects the application2020, $2.3 million of the simplified method set out in SEC Staff Accounting Bulletin No. 107, which defines the life as the averagepayments made on our financed insurance premiums and $2.2 million of the contractual termdividend payments made on our Series A Preferred Stock, partially offset by $11.0 million of the options and the weighted average vesting period for all option tranches.

From time to time, we retain terminated employees as part-time consultants upon their resignationproceeds fromthe Company. Because the employees continue to provide services to us, their options continue to vest in accordance with the original terms. Due to the change in classification of the option awards, the options are considered modified at the date of termination. The modifications are treated as exchanges of the original awards in return for the issuance of new awards. At the dateKeep Well Notes and $3.3 million of termination, the unvested options are no longer accounted for as employee awards and are accounted for as new non-employee awards. The accounting for the portionnet proceeds received from common stock issued in an offering.


As a result of the above, our total grants that have already vestedcash and have been previously expensedcash equivalents, including restricted cash of $6.0 million, was $9.2 million as equity awards is not changed. There were no employees moved to consulting status for the three and nine months endedof September 30, 20172023.

Debt

See Note 10 and 2016.

RECENT ACCOUNTING PRONOUNCEMENTS

In April 2016, the FASB issued Accounting Standards Update (“ASU”) 2016-10, Revenue from Contracts with Customers (Topic 606)(“ASU 2016-10”), which amends certain aspectsNote 14 of the Board’s new revenue standard, ASU 2014-09, Revenue from Contracts with Customers. The standard should be adopted concurrently with adoption of ASU 2014-09 which is effective for annual and interim periods beginning after December 15, 2017. Early adoption is permitted. We are currently evaluating the potential impactNotes to Condensed Consolidated Financial Statements in Part I, Item 1 of this standard onreport for a detailed discussion about our consolidated financial statements, as well asdebt.


OFF BALANCE SHEET ARRANGEMENTS
During the available transition methods. We are currently assessing whether the adoption of ASU 2016-10 will have a material effect on our consolidated financial position or results of operations.


In March 2016, the FASB issued ASU 2016-09,Compensation — Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting(“ASU 2016-09”), which outlines new provisions intended to simplify various aspects related to accounting for share-based payments and their presentation in the financial statements. The standard is effective beginning December 15, 2016, and interim periods within those annual periods. Early adoption is permitted. The adoption of ASU 2016-09presented, we did not have, nor do we currently have, any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes. We are therefore not exposed to the financing, liquidity, market or credit risk that could arise if we had engaged in those types of relationships.



46

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

See Note 2 of the Notes to the Consolidated Financial Statements in Part II, Item 8 of the 2022 Form 10-K, and “Critical Accounting Policy and Estimates” in Part II, Item 7 of the 2022 Form 10-K for a material effect on ourdiscussion of the significant accounting policies and methods used in the preparation of the Company’s condensed consolidated financial position or results of operations.

statements. There have been no material changes to the Company’s critical accounting policies and estimates since the 2022 Form 10-K.


Item 3.     3.    Quantitative and Qualitative Disclosures About Market Risk

Not applicable.

applicable.

Item 4.     4.    Controls and Procedures

Evaluation of Disclosure Controls

and Procedures

We have evaluated, with the participation of our principal executive officer and our principal financial officer, the effectiveness of our disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) as of September 30, 2017.2023. Based on this evaluation, our principal executive officer and our principal financial officer have concluded that, as of September 30, 2017,2023, our disclosure controls and procedures were effective to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms, and is accumulated and communicated to our management, including our principal executive and principal financial officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure.

Changes in Internal Control over Financialover Financial Reporting

There were no changes in our internal controls over financial reporting during the three months ended September 30, 2017,2023 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.


PART II - OTHER INFORMATION
Item 1.    Legal Proceedings
From time to time, we are subject to various legal proceedings that arise in the normal course of our business activities. As of the date of the filing of this report, we were not a party to any litigation the outcome of which, if determined adversely to us, would individually or in the aggregate be reasonably expected to have a material adverse effect on our results of operations or financial position, except for the legal proceedings discussed in Note 13, “Commitments and Contingencies” in the Notes to Condensed Consolidated Financial Statements, in Part I, Item 1 of this report, which is incorporated by reference herein.

Item 1A.     Risk Factors

In evaluating us and our securities, we urge you to carefully consider the risks, uncertainties and other information in this report, as well as the risk factors disclosed in Item 1A to Part I of the 2022 10-K. Any of the risks discussed in this report or any of the risks disclosed in Item 1A to Part I of the 2022 10-K, as well as additional risks and uncertainties not currently known to us or that we currently deem immaterial, could materially and adversely affect our results of operations or financial condition. If any of these risks occur, our business, results of operations and financial condition could be harmed, the price of our common stock could decline, and future events and circumstances could differ significantly from those anticipated in the forward-looking statements contained in this report.




47

Summary of Risk Factors

Below is a summary of the principal factors that make an investment in our securities speculative or risky. This summary does not address all of the risks that we face.

PART II – OTHER INFORMATION

●We will need additional funding, and we cannot guarantee that we will find adequate sources of capital in the future.
●We have incurred significant losses since our inception and may be unable to obtain additional funds before we achieve positive cash flows.
●Our programs and solutions may not be as effective as we believe and may not achieve broad market acceptance and announcements of disappointing results may lead to declines in the market prices of our securities.
●Our business currently depends upon a few large customers; during 2021, we lost two of such customers, and in October 2023, a large customer provided a notice of its intent to cease using our services in February 2024, and any further loss would have a material adverse effect on us.
●We have $2.0 million in principal amount of secured debt outstanding under the Keep Well Agreement, and a default thereunder would have material adverse consequences to our financial condition, operating results, and business.
●We may not be able to generate sufficient cash flow or raise adequate financing to grow or scale our business or to fund our operations.
●We depend upon our senior management and key consultants and their loss or unavailability could put us at a competitive disadvantage.
●We need to attract and retain highly skilled personnel; we may be unable to effectively manage growth with our limited resources.
●Customers may not achieve the savings we expect are created by our programs and solutions, which could adversely impact our business.
●Market acceptance of our programs and solutions depends in large part on the willingness of third party payors to cover them, which is beyond our control.
●We may fail to manage our growing business and may not be successful in identifying or completing any acquisitions necessary to continue such growth. Any such acquisition completed may not be successfully integrated with our operations or yield additional value for stockholders.
●We may be unable to protect our intellectual property rights and we may be liable for infringing the intellectual property rights of others.
●Ongoing healthcare legislative and regulatory reform measures may have a material adverse effect on our business and results of operations.
●We must comply with significant government regulations, including with respect to licensure and privacy matters.
●Our Series A Preferred Stock has no fixed maturity date, ranks junior to our currently outstanding indebtedness, is entitled to the payment of dividends only to the extent we may do so under Delaware corporate law, is currently subject to restrictions on transfer contained in our charter and has limited voting rights.
●Our largest stockholder controls approximately 73% of our outstanding common stock and beneficially owns approximately 94% of our common stock, and may determine all matters presented for stockholder approval, including the election of directors, significant corporate transactions and our dissolution.
●We are subject to ongoing litigation and may be subject to future litigation, any of which could result in substantial liabilities.
●Our common stock may be delisted by Nasdaq.
●The price of our common stock and preferred stock may be volatile.
●The market prices for our common stock and preferred stock may be adversely impacted by future events.
●Our certificate of incorporation, bylaws and Delaware law have anti-takeover provisions that could discourage, delay or prevent a change in control, which may cause our stock price to decline.






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Risk Factors
Risks related to our business

We expect to continue to incur substantial operating losses.

We have been unprofitable since our inception in 2003. Historically, we have seen and continue to see net losses, net loss from operations and negative cash flow from operating activities as we experienced a period of rapid growth, and more recently our results have been negatively impacted by customer terminations. At September 30, 2023, our cash and restricted cash was $9.2 million and we had working capital of approximately $1.5 million. We had an average monthly cash burn rate of approximately $1.3 million for the nine months ended September 30, 2023 and could continue to incur negative cash flows and operating losses for the next twelve months.

We will need additional funding, and we cannot guarantee that we will find adequate sources of capital in the future.

We have incurred negative cash flows from operations since inception and have expended, and expect to continue to expend, substantial funds to support and grow our business. We will require additional funds before we are able to generate enough cash flows to fund our operations and meet our obligations. Additionally, if we add more health plans than budgeted, increase the size of the outreach pool by more than we anticipate, decide to invest in new products or seek out additional growth opportunities, or in order to provide liquidity for an extended period of losses, we would consider raising additional capital.

We do not know whether additional funding will be available to us when needed on acceptable terms or at all. If adequate funds are not available or are not available on acceptable terms, we may need to downsize, curtail program development efforts or halt our operations altogether. There can be no assurance that any such financing will be available to us when needed on acceptable terms or at all.

If we raise additional funds by issuing equity securities, such financing will result in further dilution to our stockholders. Any equity securities issued also may provide for rights, preferences or privileges senior to those of holders of our common stock. If we raise funds by issuing debt securities, these debt securities would have rights, preferences and privileges senior to those of holders of our common stock, and the terms of the debt securities issued could impose significant restrictions on our operations.

We have $2.0 million in principal amount of secured debt outstanding under the Keep Well Agreement, and a default thereunder would have material adverse consequences to our financial condition, operating results, and business.

We entered into a Master Note Purchase Agreement with Acuitas Capital LLC (“Acuitas Capital” and together with its affiliates, including Acuitas Group Holdings, LLC and Terren S. Peizer, “Acuitas”), dated as of April 15, 2022 (as amended to date, the “Keep Well Agreement”). Acuitas Capital is our largest stockholder and an entity indirectly wholly owned and controlled by Mr. Peizer, our former Chief Executive Officer and Chairman. As of the date of this report, we have $2.0 million in principal amount of secured debt outstanding under the Keep Well Agreement. The Keep Well Agreement includes customary events of default for a first priority senior secured debt facility. In the event of default under the Keep Well Agreement, Acuitas and the collateral agent under the Keep Well Agreement would have the rights that a secured creditor with a first priority lien on a company’s assets would have, including, the right to collect, enforce or satisfy any secured obligations then owing, including by foreclosing on the collateral securing our obligations under the Keep Well Agreement (which generally comprise all of our assets), restrictions on the operation of our business would spring into effect, and Acuitas would have no obligation to fund any future borrowings under the Keep Well Agreement. A default under the Keep Well Agreement would have material adverse consequences to our financial condition, operating results, and business, and could cause us to become insolvent or enter bankruptcy proceedings, and our stockholders may lose all or a portion of their investment because of the priority of the claims of Acuitas, in its capacity as a secured creditor, on our assets.

See also “Acuitas Group Holdings, LLC owns approximately 73% of our outstanding common stock and beneficially owns approximately 94% of our outstanding common stock, and as a result of such ownership has the ability to substantially influence the election of directors and other matters submitted to stockholders” and “There can be no assurance that our common stock will continue to be listed on Nasdaq or, if listed, that we will be able to comply with the continued listing standards of Nasdaq, which could limit investors’ ability to transact in our securities and subject us to additional trading restrictions,” below. For additional information regarding the Keep Well Agreement, see the section titled, “Keep Well Agreement” in Note 10 in the Notes to Condensed Consolidated Financial Statements in Part I, Item 1 of this report.

The amounts we borrow under the Keep Well Agreement bear interest at a variable rate which could cause our outstanding indebtedness to increase significantly.
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The amounts we borrow under the Keep Well Agreement bear interest based on the 30 day tenor Term Secured Overnight Financing Rate (SOFR) Reference Rate, which is subject to a monthly adjustment, plus a margin specified in the Keep Well Agreement. As a result, in an increasing interest rate environment, the interest rate on the amounts we borrow under the Keep Well Agreement is subject to increase, thereby resulting in increased interest expense. The 30 day tenor Term SOFR Reference Rate has steadily increased in the past year. At September 30, 2023, we had a cumulative total of $3.7 million of accrued paid-in-kind interest on the Keep Well Notes, of which $1.2 million and $3.1 million were related to the three and nine months ended September 30, 2023, respectively. The effective weighted average interest rate for the Keep Well Notes was 20.73%. Legal Proceedings

None.

As noted above, as of the date of this report, there is $2.0 million in the aggregate outstanding under Keep Well Notes. Accrued interest on the principal amount of Keep Well Notes is added to principal, which either we will be required to repay on the maturity date, May 14, 2026, or, if converted into shares of our common stock, will result in additional dilution to our stockholders. See Note 10 and Note 14 of the Notes to Condensed Consolidated Financial Statements in Part I, Item 1A1 of this report for more information.


We may fail to successfully manage and grow our business, which could adversely affect our results of operations, financial condition and business.

Continued expansion could put significant strain on our management, operational and financial resources. The need to comply with the rules and regulations of the SEC will continue to place significant demands on our financial and accounting staff, financial, accounting and information systems, and our internal controls and procedures, any of which may not be adequate to support our anticipated growth. The need to comply with the state and federal healthcare, security and privacy regulation will continue to place significant demands on our staff and our policies and procedures, any of which may not be adequate to support our anticipated growth. We may not be able to effectively hire, train, retain, motivate and manage required personnel. Our failure to manage growth effectively could limit our ability to satisfy our reporting obligations, or achieve our marketing, commercialization and financial goals.

We may be unable to successfully execute on our growth initiatives, business strategies or operating plans.

We are continually executing a number of growth initiatives, strategies and operating plans designed to enhance our business. The anticipated benefits from these efforts are based on several assumptions that may prove to be inaccurate. Moreover, we may not be able to successfully complete these growth initiatives, strategies and operating plans and realize all of the benefits, including growth targets and cost savings, that we expect to achieve or it may be more costly to do so than we anticipate. A variety of risks could cause us not to realize some or all of the expected benefits. These risks include, among others, delays in the anticipated timing of activities related to such growth initiatives, strategies and operating plans, increased difficulty and cost in implementing these efforts, including difficulties in complying with new regulatory requirements and the incurrence of other unexpected costs associated with operating the business, failure of our products to receive sufficient market acceptance and a highly competitive, rapidly evolving marketplace. Moreover, our continued implementation of our programs may disrupt our operations and performance. As a result, we cannot assure you that we will realize the intended benefits. If, for any reason, the benefits we realize are less than our estimates or the implementation of our growth initiatives, strategies and operating plans adversely affect our operations or cost more or take longer to effectuate than we expect, or if our assumptions prove inaccurate, our business, financial condition and results of operations may be materially adversely affected.

Failure to effectively develop and expand our sales and marketing capabilities could harm our ability to execute our business plan, increase our customer base and achieve broader market acceptance of our program.

Our ability to increase our customer base and achieve broader market acceptance of our Ontrak program will depend to a significant extent on our ability to deploy our sales and marketing resources efficiently and our ability to drive our current sales pipeline to secure new customers and to cultivate customer and partner relationships to drive revenue growth in the next twelve months. We are focused on identifying and developing new customer opportunities and these efforts require us to invest significant financial and other resources. Our business and operating results will be harmed if our sales and marketing efforts do not generate significant increases in revenue in the next twelve months.

Our programs may not be as effective as we believe them to be, which could limit ourpotentialrevenue growth.

Our belief in the efficacy of our Ontrak solution is based on a limited experience with a relatively small number of members in comparison to the total addressable members. Such results may not be indicative of the long-term future performance of treatment with our programs. If the initially indicated results cannot be successfully replicated or maintained over time, utilization of our programs could decline substantially. There are no standardized methods for measuring efficacy of programs such as ours. Even if we believe our solutions are effective, our customers could determine they are not effective by utilizing different outcome
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measures. In addition, even if our customers determine our solutions are effective, they may discontinue them because they determine that the aggregate cost savings are not sufficient, our programs do not have a high enough return on investment, they prefer other competitive or strategic solutions or do not believe our programs deliver other desired benefits such as clinical outcomes. Our success is dependent on our ability to enroll third-party payor members in our Ontrak solutions. Large scale outreach and enrollment efforts have not been conducted and only for limited time periods and we may not be able to achieve the anticipated enrollment rates.

Our Ontraksolutionmay not become widely accepted, which could limit our growth.

Our ability to achieve further marketplace acceptance for our Ontrak solution is dependent on our ability to demonstrate financial and clinical outcomes from our agreements. If we are unable to secure sufficient contracts to achieve recognition or acceptance of our Ontrak solution or if our program does not demonstrate the expected level of clinical improvement and cost savings, it is unlikely that we will be able to achieve widespread market acceptance.

Disappointing results for oursolutionsor failure to attain our publicly disclosedmilestonescould adversely affect market acceptance and have a material adverse effect on our stock price.

Disappointing results, later-than-expected press release announcements or termination of evaluations, pilot programs or commercial Ontrak solutions could have a material adverse effect on the commercial acceptance of our solutions, our stock price and on our results of operations. In addition, announcements regarding results, or anticipation of results, may increase volatility in our stock price. In addition to numerous upcoming milestones, from time to time we provide financial guidance and other forecasts to the market. While we believe that the assumptions underlying projections and forecasts we make publicly available are reasonable, projections and forecasts are inherently subject to numerous risks and uncertainties. Any failure to achieve milestones, or to do so in a timely manner, or to achieve publicly announced guidance and forecasts, could have a material adverse effect on our results of operations and the price of our common stock.

Our industry is highly competitive, and we may not be able to compete successfully.

The healthcare business in general, and the behavioral health treatment business in particular, are highly competitive and rapidly evolving. While we believe our products and services are in many aspects unique, we operate in highly competitive markets. We compete with other healthcare management service organizations, care management and disease management companies, including Managed Behavioral Healthcare Organizations (MBHOs), other specialty healthcare and managed care companies, and healthcare technology companies that are offering treatment and support of behavioral health on-line and on mobile devices. Most of our competitors are significantly larger and have greater financial, marketing and other resources than us. We believe that our ability to offer customers a comprehensive and integrated behavioral health solution, including the utilization of our analytical models and innovative member engagement methodologies, will enable us to compete effectively. However, there can be no assurance that we will not encounter more effective or more strategically desirable competition in the future, that we will have financial resources to continue to improve our offerings or that we will be successful improving them, which would limit our ability to maintain or increase our business.

Our competitors may develop and introduce new processes and products that are equal or superior to our programs in treating behavioral health conditions. Accordingly, we may be adversely affected by any new processes and products developed by our competitors.

A substantial percentage of ourrevenuesare attributable toa fewlarge customers, any or all of which mayterminate our servicesat any time.

Three customers accounted for an aggregate of approximately 93% and 95% of our total revenue for the three months ended September 30, 2023 and 2022, respectively. Three customers accounted for an aggregate of approximately 92% and 93% of our total revenue for the nine months ended September 30, 2023 and 2022, respectively.

Also, two customers represented 100% of our total accounts receivable as of September 30, 2023 and three customers represented 95% of our total accounts receivable as of December 31, 2022.

In February 2021, we received a termination notice from our then largest customer. In August 2021, we received a termination notice from another large customer of their intent not to continue the program past December 31, 2021. As of December 31, 2021, members from these two customers have completed their participation in the program.

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In October 2023, we received a notice from a large customer of its intent not to continue using our services after February 2024. The customer advised us to cease enrollment of any new members from that customer immediately. The customer also informed us that the notification was related to the customer’s change in strategy and not reflective of the performance or value of our services.

We expect that revenues from a limited number of customers will continue for the foreseeable future. Sales to these customers are made pursuant to agreements with flexible termination provisions, generally entitling the customer to terminate with or without cause on limited notice to us, as we experienced during fiscal year 2021, as described above, and which have adversely affected our business and financial condition and results, and the notice we received in October 2023, as described above. We may not be able to keep our key customers, or these customers may decrease their enrollment levels. Any substantial decrease or delay in revenues relating to one or more of our key customers would harm our business and financial condition and results. If revenues relating to current key customers cease or are reduced, we may not obtain sufficient enrollments from other customers necessary to offset any such losses or reductions.

We depend on key personnel, the loss of which could impact the ability to manage our business.

We are highly dependent on our senior management and key operating and technical personnel. The loss of the services of any member of our senior management and key operating and technical personnel could have a material adverse effect on our business, operating results and financial condition. We also rely on consultants and advisors to assist us in formulating our strategy.

As our company grows, we will need to hire additional employees in order to achieve our objectives. There is currently intense competition for skilled executives and employees with relevant expertise, and this competition is likely to continue. The inability to attract and retain sufficient personnel could adversely affect our business, operating results and financial condition.

Our success depends largely upon the continued services of our key executive officers. These executive officers are at-will employees and therefore they may terminate employment with us at any time with no advance notice. We also rely on our leadership team in the areas of research and development, marketing, services and general and administrative functions. From time to time, there may be changes in our executive management team resulting from the hiring or departure of executives, which could disrupt our business. The replacement of one or more of our executive officers or other key employees would likely involve significant time and costs and may significantly delay or prevent the achievement of our business objectives.

To continue to execute our growth strategy, we also must attract and retain highly skilled personnel. Competition is intense for qualified professionals. We may not be successful in continuing to attract and retain qualified personnel. We have from time to time in the past experienced, and we expect to continue to experience in the future, difficulty in hiring and retaining highly skilled personnel with appropriate qualifications. The pool of qualified personnel with experience working in the healthcare market is limited overall. In addition, many of the companies with which we compete for experienced personnel have greater resources than we have.

In addition, in making employment decisions, particularly in high-technology industries, job candidates often consider the value of the stock options or other equity instruments they are to receive in connection with their employment. Volatility in the price of our stock may, therefore, adversely affect our ability to attract or retain highly skilled personnel. Further, the requirement to expense stock options and other equity instruments may discourage us from granting the size or type of stock option or equity awards that job candidates require to join our company. Failure to attract new personnel or failure to retain and motivate our current personnel could have a material adverse effect on our business, financial condition and results of operations.

We are dependent on our ability to recruit, retain and develop a very large and diverse workforce. We must transform our culture in order to successfully grow our business.

Our products and services and our operations require a large number of employees. A significant number of employees have joined us in recent years as we continue to grow and expand our business. Our success is dependent on our ability to transform our culture, align our talent with our business needs, engage our employees and inspire our employees to be open to change, to innovate and to maintain member- and client-focus when delivering our services. Our business would be adversely affected if we fail to adequately plan for succession of our executives and senior management; or if we fail to effectively recruit, integrate, retain and develop key talent and/or align our talent with our business needs, in light of the current rapidly changing environment. While we have succession plans in place and we have employment arrangements with a limited number of key executives, these do not guarantee that the services of these or suitable successor executives will continue to be available to us.

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Our business and growth strategy depend on our ability to maintain and expand a network of qualified healthcare providers. If we are unable to do so, our future growth and our business, financial condition and results of operations would be negatively impacted.

The success of our business is dependent upon our continued ability to maintain a network of qualified healthcare providers. In any particular market that we operate in, providers could demand higher payments or take other actions that could result in higher medical costs, less attractive service for our members or difficulty meeting regulatory or accreditation requirements. The failure to maintain or to secure new cost-effective provider contracts may result in a loss of or inability to grow our member base, higher costs, healthcare provider network disruptions, and less attractive service for our members, any of which could have a material adverse effect on our business, growth strategy, financial condition and results of operations.

We are subject to ongoing litigation and may be subject to future litigation, any of which could result in substantial liabilities.

All significant medical treatments and procedures, including treatment utilizing our programs, involve the risk of serious injury or death. While we have not been the subject of any such claims, our business entails an inherent risk of claims for personal injuries and substantial damage awards. We cannot control whether individual physicians and therapists will apply the appropriate standard of care in determining how to treat their patients. While our agreements typically require physicians to indemnify us for their negligence, there can be no assurance they will be willing and financially able to do so if claims are made. In addition, our license agreements require us to indemnify physicians, hospitals or their affiliates for losses resulting from our negligence.

We are also subject to ongoing securities class action and stockholder derivative litigation. See Note 13, “Commitments and Contingencies” in the Notes to Condensed Consolidated Financial Statements, in Part I, Item 1, included in this report. In addition, on March 1, 2023, the U.S. Department of Justice (the “DOJ”) announced charges and the SEC filed a civil complaint against Mr. Peizer, our former Chief Executive Officer and Chairman of our Board of Directors, alleging unlawful insider trading in our stock. Mr. Peizer owns and controls Acuitas Capital, our largest stockholder. See “Acuitas Group Holdings, LLC owns approximately 73% of our outstanding common stock and beneficially owns approximately 94% of our outstanding common stock, and as a result of such ownership has the ability to substantially influence the election of directors and other matters submitted to stockholders.” Neither we nor any of our other current or former directors or employees were charged by the DOJ or sued by the SEC. On November 15, 2022, we received a notification from the SEC’s Division of Enforcement that it is conducting an investigation captioned "In the Matter of Trading in the Securities of Ontrak, Inc. (HO-14340)" and issued a preservation letter as well as a subpoena for documents relating to the investigation. The notification indicates the investigation is a fact-finding inquiry for compliance with federal securities laws and should not be construed as an indication by the SEC that any violation of law has occurred, nor as a reflection upon any person, entity or security. We have been cooperating fully with the terms of the subpoena. We cannot predict the ultimate outcome of the DOJ or SEC proceedings, nor can we predict whether the DOJ or SEC or any other governmental authorities will initiate separate investigations or litigation, including against us. Investigations and any related legal and administrative proceedings could include a wide variety of outcomes, including the institution of administrative, civil injunctive or criminal proceedings involving the Company and/or its current or former executives and/or directors, the imposition of fines and other penalties, remedies and/or sanctions.

In addition, from time to time, we may also be involved in legal proceedings and investigations arising in the ordinary course of business, including those relating to employment matters, relationships with partners, intellectual property disputes, and other business matters.

We currently have insurance coverage for personal injury claims, directors’ and officers’ liability insurance coverage, and errors and omissions insurance. We may not be able to maintain adequate liability insurance at acceptable costs or on favorable terms. We expect that liability insurance will be more difficult to obtain and that premiums will increase over time and as the volume of patients treated with our programs increases.

We have incurred and may continue to incur significant expenses as a result of litigation and other legal proceedings. In addition, the results of litigation and other legal proceedings are inherently uncertain and adverse judgments or settlements (regardless of a claim’s merit) in any legal disputes may result in materially adverse monetary damages or injunctive relief against us. Any claims, investigations or litigation, even if fully indemnified or insured, could damage our reputation and make it more difficult to compete effectively or obtain adequate insurance in the future. In addition, claims, investigations or litigation may be time-consuming, costly, divert management resources, and otherwise have a material adverse effect on our business and result of operations.


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If third-party payors fail to provide coverage and adequate payment rates for oursolutions, our revenue and prospects for profitability will be harmed.

Our future revenue growth will depend in part upon our ability to contract with health plans and other insurance payors for our Ontrak solutions. In addition, insurance payors are increasingly attempting to contain healthcare costs, and may not cover or provide adequate payment for our programs. Adequate insurance reimbursement might not be available to enable us to realize an appropriate return on investment in research and product development, and the lack of such reimbursement could have a material adverse effect on our operations and could adversely affect our revenues and earnings.

We may not be able to achieve promised savings for our Ontrakcontracts, which could result in pricing levels insufficient to cover our costs or ensure profitability.

Many of our Ontrak contracts are based upon anticipated or guaranteed levels of savings for our customers and achieving other operational metrics resulting in incentive fees based on savings. If we are unable to meet or exceed promised savings, achieve agreed upon operational metrics, or favorably resolve contract billing and interpretation issues with our customers, we may be required to refund from the amount of fees paid to us any difference between savings that were guaranteed and the savings, if any, which were actually achieved; or we may fail to earn incentive fees based on savings. Accordingly, during or at the end of the contract terms, we may be required to refund some or all of the fees paid for our services. This exposes us to significant risk that contracts negotiated and entered into may ultimately be unprofitable. In addition, managed care operations are at risk for costs incurred to provide agreed upon services under our solution. Therefore, failure to anticipate or control costs could have a materially adverse effect on our business.

Our ability to use our net operating losses to offset future taxable income has been limited in certain cases and may be subject to certain limitations in the future.

Our federal net operating loss carry forwards ("NOLs") have an indefinite life. These NOLs may be used to offset future taxable income, to the extent we generate any taxable income, and thereby reduce or eliminate our future federal income taxes otherwise payable. Section 382 of the Internal Revenue Code imposes limitations on a corporation's ability to utilize NOLs if it experiences an ownership change as defined in Section 382. In general terms, an ownership change may result from transactions increasing the ownership of certain stockholders in the stock of a corporation by more than 50% over a three-year period. In the event that an ownership change has occurred, or were to occur, utilization of our NOLs would be subject to an annual limitation under Section 382 determined by multiplying the value of our stock at the time of the ownership change by the applicable long-term tax-exempt rate as defined in the Internal Revenue Code. Any unused annual limitation may be carried over to later years. We have experienced ownership changes in the past and can continue to experience ownership changes under Section 382 as a result of events in the past or the issuance of shares of common or preferred stock, or a combination thereof. As a result of such ownership changes, the use of our NOLs, or a portion thereof, against our future taxable income may be subject to an annual limitation under Section 382, which may result in expiration of a portion of our NOLs before utilization.

We may periodically consummate opportunistic acquisitions of other companies, and we may not realize expected benefits or such acquisitions or we may have difficulties integrating acquired companies into our operations in a cost-effective manner, if at all.

We may periodically consummate opportunistic acquisitions of businesses, assets, personnel or technologies that allow us to complement our existing operations, expand our market coverage, enter new geographic markets, or add new business capabilities. We continually evaluate and explore strategic opportunities as they arise, including business combination transactions, strategic partnerships, and the purchase or sale of assets. No assurance can be given that the benefits or synergies we may expect from an acquisition will be realized to the extent or in the time frame we anticipate. We may lose key employees, customers, vendors and other business partners of a company we acquire after announcement of acquisition plans. In addition, an acquisition may involve a number of risks and difficulties, including expansion into new geographic markets and business areas in which our management has limited prior experience, the diversion of management’s attention to the operations and personnel of the acquired company, the integration of the acquired company’s personnel, operations and technology systems and applications, changing relationships with customers, vendors or strategic partners, differing regulatory requirements including in new geographic markets and new business areas, and potential short-term adverse effects on our operating results. These challenges can be magnified as the size of the acquisition increases. Any delays or unexpected costs incurred in connection with the integration of an acquired company or otherwise related to an acquisition could have a material adverse effect on our business, financial condition and results of operations.

An acquisition may require significant expenses and can result in increased debt or other contingent liabilities, adverse tax consequences, deferred compensation charges, the recording and later amortization of amounts related to deferred compensation
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and certain purchased intangible assets, and the refinement or revision of fair value acquisition estimates following the completion of an acquisition, any of which items could negatively impact our business, financial condition and results of operations. In addition, we may record goodwill in connection with an acquisition and incur goodwill impairment charges in the future. Any of these charges could cause the price of our common stock to decline. An acquisition also could absorb substantial cash resources, require us to incur or assume debt obligations, or involve our issuance of additional equity securities. If we issue equity securities in connection with an acquisition, we may dilute our common stock with securities that have an equal or a senior interest in our company. An acquired entity also may be leveraged or dilutive to our earnings per share, or may have unknown liabilities. In addition, the combined entity may have lower than expected revenues or higher expenses and therefore may not achieve the anticipated results. Any of these factors relating to an acquisition could have a material adverse impact on our business, financial condition and results of operations.

Claims asserted against us for violation of securities laws, whether or not such claims have any merit, are costly to defend and could result in significant liabilities and diversion of our management’s time and attention and could have a material adverse effect on our financial condition, business and results of operations.

We offered and sold shares of our Series A Preferred Stock in offerings registered under the Securities Act. In February 2022, a purported securities class action was filed in the Superior Court of California for Los Angeles County, entitled Braun v. Ontrak, Inc., et al., Case No. 22STCV07174, on behalf of a putative class of all purchasers of our Series A Preferred Stock in such offerings. The action was brought against us, our officers and directors, and the investment banking firms that acted as underwriters for the offerings. The plaintiff asserted causes of actions alleging that we violated the federal securities laws in connection with the offerings based upon allegations that statements made regarding the growth of our customer base and expansion of our program with health plan customers were false or misleading. We believe that the allegations of falsity lack merit and that we have meritorious defenses, and we intend to defend against the action vigorously.

In addition, one beneficial owner of our Series A Preferred Stock has informally indicated that it may consider one or more claims against us based upon statements in the prospectuses related to the offering of our Series A Preferred Stock regarding the segregated account that was funded with a portion of the proceeds received from such offerings to pre-fund dividend payments on our Series A Preferred Stock in light of the action of our board of directors in April 2023 to make such funds available for general corporate purposes after considering its fiduciary duties to our common stockholders and other relevant factors. Such beneficial owner of our Series A Preferred Stock has also informally alleged that statements in the prospectuses related to the offering of our Series A Preferred Stock with respect to the right of holders of our Series A Preferred Stock to elect individuals to our board of directors if dividends on our Series A Preferred Stock have not been paid in an aggregate amount equal to the equivalent of at least six or more quarterly dividends were false or misleading. To date, such beneficial owner has not specified damages or remedies it would seek if it were to assert any such claims. Others with interests in the Series A Preferred Stock may assert similar claims. We believe that any such claims would be without merit and subject to meritorious defenses. However, any claim alleging any violation of securities laws, with or without merit, could result in costly litigation, significant liabilities and diversion of our management’s time and attention and could have a material adverse effect on our financial condition, business and results of operations. The results of litigation and other legal proceedings are inherently uncertain and adverse judgments or settlements (regardless of a claim’s merit) in any legal dispute may result in materially adverse monetary damages or injunctive relief against us.

An extended curtailment or halt of operations at the SEC and other government agencies, including due to a U.S. federal government shutdown, could delay or disrupt clinical and preclinical development and potential marketing approval of our product candidates and our ability to raise additional capital.

Twice in the past decade, the previous appropriations legislation deadline was reached and Congress failed to pass a new appropriations bill or continuing resolution to temporarily extend funding, resulting in U.S. government shutdowns that caused federal agencies to halt non-essential operations. Political polarization among lawmakers may lead to a higher frequency and longer duration of government shutdowns in the future. If lawmakers cannot pass a continuing resolution or a new federal budget by November 17, 2023, another federal government shutdown would begin. A federal government shutdown could prevent staff at federal agencies from performing key functions that may adversely affect our business. For example, a government shutdown could prevent SEC staff from performing key functions, including, for example, granting acceleration requests for registration statements, declaring registration statements or amendments thereto effective and providing interpretive guidance or no-action letters. If a federal government shutdown halts non-essential SEC operations for an extended period, it may negatively impact our ability to raise additional capital through registered offerings of our securities in the future. If a prolonged U.S. government shutdown or other event or condition occurs that prevents government and other regulatory agencies from hiring and retaining personnel and conducting their regular activities, it could significantly impact the ability of these agencies to timely review and
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process our regulatory submissions and may impede our access to additional capital needed to maintain or expand our operations or to complete important acquisitions or other transactions, which could have a material adverse effect on our business.

Risks related to our intellectual property

Confidentiality agreements with employees,treating physiciansand others may not adequately prevent disclosure of trade secrets and other proprietary information.

In order to protect our proprietary technology and processes, we rely in part on confidentiality provisions in our agreements with employees, treating physicians, and others. These agreements may not effectively prevent disclosure of confidential information and may not provide an adequate remedy in the event of unauthorized disclosure of confidential information. In addition, others may independently discover trade secrets and proprietary information. Costly and time-consuming litigation could be necessary to enforce and determine the scope of our proprietary rights, and failure to obtain or maintain trade secret protection could adversely affect our competitive business position.

We may be subject to claims that we infringe the intellectual property rights of others, and unfavorable outcomes could harm our business.

Our future operations may be subject to claims, and potential litigation, arising from our alleged infringement of patents, trade secrets, trademarks or copyrights owned by other third parties. Within the healthcare, drug and bio-technology industry, many companies actively pursue infringement claims and litigation, which makes the entry of competitive products more difficult. We may experience claims or litigation initiated by existing, better-funded competitors and by other third parties. Court-ordered injunctions may prevent us from continuing to market existing products or from bringing new products to market and the outcome of litigation and any resulting loss of revenues and expenses of litigation may substantially affect our ability to meet our expenses and continue operations.

Risks related to ourhealthcareindustry

Recent changes in insurance and health care laws have created uncertainty in the health care industry.

The Patient Protection and Affordable Care Act as amended by the Health Care and Education Reconciliation Act, each enacted in March 2010, generally known as the Health Care Reform Law, significantly expanded health insurance coverage to uninsured Americans and changed the way health care is financed by both governmental and private payors. Following the 2016 federal elections, which resulted in the election of the Republican presidential nominee and Republican majorities in both houses of Congress, there were renewed legislative efforts to significantly modify or repeal the Health Care Reform Law and certain executive policy changes designed to modify its impact, including the enactment of the Tax Cuts and Jobs Act in December 2017 which repealed the penalties under the Health Care Reform Law for uninsured persons. In light of the Supreme Court ruling in California et al. v. Texas et al. in June 2021 generally supporting the Health Care Reform Law, we cannot predict what further reform proposals, if any, will be adopted, when they may be adopted, or what impact they may have on our business. There may also be other risks and uncertainties associated with the Health Care Reform Law. If we fail to comply or are unable to effectively manage such risks and uncertainties, our financial condition and results of operations could be adversely affected.

We expect that additional state and federal healthcare reform measures may be adopted in the future, any of which could limit the amounts that federal and state governments will pay for healthcare therapies, which could result in reduced demand for our services or additional pricing pressures. In August 2022, President Biden signed into law the Inflation Reduction Act of 2022 (“IRA”), which, among other provisions, included several measures intended to lower the cost of prescription drugs and related healthcare reforms. The IRA permits the Secretary of the Department of Health and Human Services to implement many of these provisions through guidance, as opposed to regulation, for the initial years. We cannot be sure whether additional legislation or rulemaking related to the IRA will be issued or enacted, or what impact, if any, such changes will have on our business.

Our policies and procedures may not fully comply with complex and increasing regulation by state and federal authorities, which could negatively impact our business operations.

The healthcare industry is highly regulated and continues to undergo significant changes as third-party payors, such as Medicare and Medicaid, traditional indemnity insurers, managed care organizations and other private payors, increase efforts to control cost, utilization and delivery of healthcare services. Healthcare companies are subject to extensive and complex federal, state and local laws, regulations and judicial decisions. Our failure or the failure of our treating physicians, to comply with applicable healthcare laws and regulations may result in the imposition of civil or criminal sanctions that we cannot afford, or require redesign or withdrawal of our programs from the market.
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We may become subject to medical liability claims, which could cause us to incur significant expenses and may require us to pay significant damages if not covered by insurance.

Our business entails the risk of medical liability claims against both our providers and us. Although we carry insurance covering medical malpractice claims in amounts that we believe are appropriate in light of the risks attendant to our business, successful medical liability claims could result in substantial damage awards that exceed the limits of our insurance coverage. We carry professional liability insurance for ourselves, and we separately carry a general insurance policy, which covers medical malpractice claims. In addition, professional liability insurance is expensive and insurance premiums may increase significantly in the future, particularly as we expand our services. As a result, adequate professional liability insurance may not be available to us in the future at acceptable costs or at all.

Any claims made against us that are not fully covered by insurance could be costly to defend against, result in substantial damage awards against us and divert the attention of our management and our providers from our operations, which could have a material adverse effect on our business, financial condition and results of operations. In addition, any claims may adversely affect our business or reputation.

Our business practices may be found to constitute illegal fee-splitting or corporate practice of medicine, which may lead to penalties and adversely affect our business.

Many states have laws that prohibit business corporations, such as us, from practicing medicine, exercising control over medical judgments or decisions of physicians or other health care professionals (such as nurses or nurse practitioners), or engaging in certain business arrangements with physicians or other health care professionals, such as employment of physicians and other health care professionals or fee-splitting. The state laws and regulations and administrative and judicial decisions that enumerate the specific corporate practice and fee-splitting rules vary considerably from state to state and are enforced by both the courts and government agencies, each with broad discretion. Courts, government agencies or other parties, including physicians, may assert that we are engaged in the unlawful corporate practice of medicine, fee-splitting, or payment for referrals by providing administrative and other services in connection with our treatment programs. As a result of such allegations, we could be subject to civil and criminal penalties, our contracts could be found invalid and unenforceable, in whole or in part, or we could be required to restructure our contractual arrangements. If so, we may be unable to restructure our contractual arrangements on favorable terms, which would adversely affect our business and operations.

Our business practices may be found to violate anti-kickback, physician self-referral or false claims laws, which may lead to penalties and adversely affect our business.

The healthcare industry is subject to extensive federal and state regulation with respect to kickbacks, physician self-referral arrangements, false claims and other fraud and abuse issues.

The federal anti-kickback law (the “Anti-Kickback Law”) prohibits, among other things, knowingly and willfully offering, paying, soliciting, receiving, or providing remuneration, directly or indirectly, in exchange for or to induce either the referral of an individual, or the furnishing, arranging for, or recommending of an item or service that is reimbursable, in whole or in part, by a federal health care program. “Remuneration” is broadly defined to include anything of value, such as, for example, cash payments, gifts or gift certificates, discounts, or the furnishing of services, supplies, or equipment. The Anti-Kickback Law is broad, and it prohibits many arrangements and practices that are lawful in businesses outside of the health care industry.

Recognizing the breadth of the Anti-Kickback Law and the fact that it may technically prohibit many innocuous or beneficial arrangements within the health care industry, the Office of Inspector General (“OIG”) has issued a series of regulations, known as the “safe harbors.” Compliance with all requirements of a safe harbor immunizes the parties to the business arrangement from prosecution under the Anti-Kickback Law. The failure of a business arrangement to fit within a safe harbor does not necessarily mean that the arrangement is illegal or that the OIG will pursue prosecution. Still, in the absence of an applicable safe harbor, a violation of the Anti-Kickback Law may occur even if only one purpose of an arrangement is to induce referrals. The penalties for violating the Anti-Kickback Law can be severe. These sanctions include criminal and civil penalties, imprisonment, and possible exclusion from the federal health care programs. Many states have adopted laws similar to the Anti-Kickback Law, and some apply to items and services reimbursable by any payor, including private insurers.

In addition, the federal ban on physician self-referrals, commonly known as the Stark Law, prohibits, subject to certain exceptions, physician referrals of Medicare patients to an entity providing certain “designated health services” if the physician or an immediate family member of the physician has any financial relationship with the entity. A “financial relationship” is created by an investment interest or a compensation arrangement. Penalties for violating the Stark Law include the return of funds
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received for all prohibited referrals, fines, civil monetary penalties, and possible exclusion from the federal health care programs. In addition to the Stark Law, many states have their own self-referral bans, which may extend to all self-referrals, regardless of the payor.

The federal False Claims Act imposes liability on any person or entity that, among other things, knowingly presents, or causes to be presented, a false or fraudulent claim for payment to the federal government. Under the False Claims Act, a person acts knowingly if he has actual knowledge of the information or acts in deliberate ignorance or in reckless disregard of the truth or falsity of the information. Specific intent to defraud is not required. Violations of other laws, such as the Anti-Kickback Law or the FDA prohibitions against promotion of off-label uses of drugs, can lead to liability under the federal False Claims Act. The qui tam provisions of the False Claims Act allow a private individual to bring an action on behalf of the federal government and to share in any amounts paid by the defendant to the government in connection with the action. The number of filings of qui tam actions has increased significantly in recent years. When an entity is determined to have violated the False Claims Act, it may be required to pay up to three times the actual damages sustained by the government, plus civil penalties of between $5,500 and $11,000 for each false claim. Conduct that violates the False Claims Act may also lead to exclusion from the federal health care programs. Given the number of claims likely to be at issue, potential damages under the False Claims Act for even a single inappropriate billing arrangement could be significant. In addition, various states have enacted similar laws modeled after the False Claims Act that apply to items and services reimbursed under Medicaid and other state health care programs, and, in several states, such laws apply to claims submitted to all payors.

On May 20, 2009, the Federal Enforcement and Recovery Act of 2009, or FERA, became law, and it significantly amended the federal False Claims Act. Among other things, FERA eliminated the requirement that a claim must be presented to the federal government. As a result, False Claims Act liability extends to any false or fraudulent claim for government money, regardless of whether the claim is submitted to the government directly, or whether the government has physical custody of the money. FERA also specifically imposed False Claims Act liability if an entity “knowingly and improperly avoids or decreases an obligation to pay or transmit money or property to the Government.” As a result, the knowing and improper failure to return an overpayment can serve as the basis for a False Claims Act action. In March 2010, Congress passed the Patient Protection and Affordable Care Act, as amended by the Health Care and Education Reconciliation Act of 2010, collectively the ACA, which also made sweeping changes to the federal False Claims Act. The ACA also established that Medicare and Medicaid overpayments must be reported and returned within 60 days of identification or when any corresponding cost report is due.

Finally, the Health Insurance Portability and Accountability Act of 1996 and its implementing regulations created the crimes of health care fraud and false statements relating to health care matters. The health care fraud statute prohibits knowingly and willfully executing a scheme to defraud any health care benefit program, including a private insurer. The false statements statute prohibits knowingly and willfully falsifying, concealing, or covering up a material fact or making any materially false, fictitious, or fraudulent statement in connection with the delivery of or payment for health care benefits, items, or services. A violation of this statute is a felony and may result in fines, imprisonment, or exclusion from the federal health care programs.

Federal or state authorities may claim that our fee arrangements, our agreements and relationships with contractors, hospitals and physicians, or other activities violate fraud and abuse laws and regulations. If our business practices are found to violate any of these laws or regulations, we may be unable to continue with our relationships or implement our business plans, which would have an adverse effect on our business and results of operations. Further, defending our business practices could be time consuming and expensive, and an adverse finding could result in substantial penalties or require us to restructure our operations, which we may not be able to do successfully.

Our business practices may be subject to state regulatory and licensure requirements.

Our business practices may be regulated by state regulatory agencies that generally have discretion to issue regulations and interpret and enforce laws and rules. These regulations can vary significantly from jurisdiction to jurisdiction, and the interpretation of existing laws and rules also may change periodically. Some of our business and related activities may be subject to state health care-related regulations and requirements, including managed health care, utilization review (UR) or third-party administrator-related regulations and licensure requirements. These regulations differ from state to state, and may contain network, contracting, and financial and reporting requirements, as well as specific standards for delivery of services, payment of claims, and adequacy of health care professional networks. If a determination is made that we have failed to comply with any applicable state laws or regulations, our business, financial condition and results of operations could be adversely affected.





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If our providers or experts are characterized as employees, we would be subject to employment and withholding liabilities.

We structure our relationships with our providers and experts in a manner that we believe results in an independent contractor relationship, not an employee relationship. An independent contractor is generally distinguished from an employee by his or her degree of autonomy and independence in providing services. A high degree of autonomy and independence is generally indicative of a contractor relationship, while a high degree of control is generally indicative of an employment relationship. On October 13, 2022, the Department of Labor published its “Employee or Independent Contractor Classification under the Fair Labor Standards Act” (the “FLSA Standards”) that would rescind existing guidance adopted under the Trump Administration and broaden the scope of the so-called “economic realities test” used to classify workers, likely making it more difficult for workers to be classified as independent contractors. Although we believe that our providers and experts are properly characterized as independent contractors, tax or other regulatory authorities may in the future challenge our characterization of these relationships particularly if the new FLSA Standards are adopted. If such regulatory authorities or state, federal or foreign courts were to determine that our providers or experts are employees, and not independent contractors, we would be required to withhold income taxes, to withhold and pay social security, Medicare and similar taxes and to pay unemployment and other related payroll taxes. We would also be liable for unpaid past taxes and subject to penalties. As a result, any determination that our providers or experts are our employees could have a material adverse effect on our business, financial condition and results of operations.


We may be subject to healthcare anti-fraud initiatives, which may lead to penalties and adversely affect our business.

State and federal government agencies are devoting increased attention and resources to anti-fraud initiatives against healthcare providers and the entities and individuals with whom they do business, and such agencies may define fraud expansively to include our business practices, including the receipt of fees in connection with a healthcare business that is found to violate any of the complex regulations described above. While to our knowledge we have not been the subject of any anti-fraud investigations, if such a claim were made, defending our business practices could be time consuming and expensive and an adverse finding could result in substantial penalties or require us to restructure our operations, which we may not be able to do successfully.

Our use and disclosure of patient information is subject to privacy and security regulations, which may result in increased costs.

In providing administrative services to healthcare providers and operating our treatment programs, we may collect, use, disclose, maintain and transmit patient information in ways that will be subject to many of the numerous state, federal and international laws and regulations governing the collection, use, disclosure, storage, privacy and security of patient-identifiable health information, including the administrative simplification requirements of the Health Insurance Portability and Accountability Act of 1996 and its implementing regulations (HIPAA) and the Health Information Technology for Economic and Clinical Health Act of 2009 (HITECH). Risk Factors

None.

The HIPAA Privacy Rule restricts the use and disclosure of certain patient information (“Protected Health Information” or “PHI”), and requires safeguarding that information. The HIPAA Security Rule and HITECH establish elaborate requirements for safeguarding PHI transmitted or stored electronically. HIPAA applies to covered entities, which may include healthcare facilities and also includes health plans that will contract for the use of our programs and our services. HIPAA and HITECH require covered entities to bind contractors that use or disclose protected health information (or “Business Associates”) to compliance with certain aspects of the HIPAA Privacy Rule and all of the HIPAA Security Rule. In addition to contractual liability, Business Associates are also directly subject to regulation by the federal government. Direct liability means that we are subject to audit, investigation and enforcement by federal authorities. HITECH imposes breach notification obligations requiring us to report breaches of “Unsecured Protected Health Information” or PHI that has not been encrypted or destroyed in accordance with federal standards. Business Associates must report such breaches so that their covered entity customers may in turn notify all affected patients, the federal government, and in some cases, local or national media outlets. We may be required to indemnify our covered entity customers for costs associated with breach notification and the mitigation of harm resulting from breaches that we cause. If we are providing management services that include electronic billing on behalf of a physician practice or facility that is a covered entity, we may be required to conduct those electronic transactions in accordance with the HIPAA regulations governing the form and format of those transactions. Services provided under our Ontrak solution not only require us to comply with HIPAA and HITECH but also Title 42 Part 2 of the Code of Federal Regulations (“Part 2”). Part 2 is a federal, criminal law that severely restricts our ability to use and disclose drug and alcohol treatment information obtained from federally-supported treatment facilities. Our operations must be carefully structured to avoid liability under this law. Our Ontrak solution qualifies as a federally funded treatment facility which requires us to disclose information on members only in compliance with Title 42.


In addition to the federal privacy regulations, there are a number of state laws governing the privacy and security of health and personal information. The penalties for violation of these laws vary widely and the area is rapidly evolving.
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In 2018, California passed the California Consumer Privacy Act (the “CCPA”), which gives consumers significant rights over the use of their personal information, including the right to object to the “sale” of their personal information. In 2020, Californians voted to enact the California Privacy Rights Act (CPRA), which amends the CCPA by expanding consumers' rights in their personal information and creating a new governmental agency to interpret and enforce the statute. Most provisions of the CPRA will become effective on January 1, 2023. While information covered by HIPAA is generally exempt from the applicability of the CCPA as amended by the CPRA, the rights of consumers under the CCPA may restrict our ability to use personal information in connection with our business operations. The CCPA also provides a private right of action for certain security breaches.

In 2019, New York passed a law known as the SHIELD Act, which expands data breach reporting obligations and requires companies to have robust data security programs in place. More recently, New York and other states, including Washington, have introduced significant privacy bills, and Congress is debating federal privacy legislation, which if passed, may restrict our business operations and require us to incur additional costs for compliance.

In addition, several foreign countries and governmental bodies, including the E.U., Brazil and Canada, have laws and regulations concerning the collection and use of personally identifiable information obtained from their residents, including identifiable health information, which are often more restrictive than those in the U.S. laws and regulations in these jurisdictions apply broadly to the collection, use, storage, disclosure and security of personally identifiable information, including health information, identifying, or which may be used to identify, an individual, such as names, email addresses and, in some jurisdictions, Internet Protocol (IP) addresses, device identifiers and other data. Although we currently conduct business only in the United States of America, these laws and regulations could become applicable to us in the event we expand our operations into other countries. These and other obligations may be modified and interpreted in different ways by courts, and new laws and regulations may be enacted in the future.

Within the EEA, the General Data Protection Regulation ("GDPR") took full effect on May 25, 2018, superseding the 1995 European Union Data Protection Directive and becoming directly applicable across E.U. member states. The GDPR includes more stringent operational requirements for processors and controllers of personal data (including health information) established in and outside of the EEA, imposes significant penalties for non-compliance and has broader extra-territorial effect. As the GDPR is a regulation rather than a directive, it applies throughout the EEA, but permits member states to enact supplemental requirements if they so choose. Noncompliance with the GDPR can trigger fines of up to the greater of €20 million or 4% of global annual revenues. Further, a Data Protection Act substantially implementing the GDPR was enacted in the U.K., effective in May 2018. It remains unclear, however, how U.K. data protection laws or regulations will develop in the medium to longer term and how data transfers to and from the U.K. will be regulated in light of the U.K.'s withdrawal from the E.U. In addition, some countries are considering or have enacted legislation requiring local storage and processing of data that could increase the cost and complexity of delivering our services.

We believe that we have taken the steps required of us to comply with laws governing the privacy and security of personal information, including health information privacy and security laws and regulations, in all applicable jurisdictions, both state and federal. However, we may not be able to maintain compliance in all jurisdictions where we do business. In addition, to the extent we disclose such information to our third-party service providers in the course of our business, we may be indirectly liable for their misuse or other unauthorized disclosure of such personal information (including health information). Failure to maintain compliance, or changes in state or federal privacy and security laws could result in civil and/or criminal penalties and could have a material adverse effect on our business, including significant reputational damage associated with a breach. Under HITECH, we are subject to prosecution or administrative enforcement and increased civil and criminal penalties for non-compliance, including a four-tiered system of monetary penalties. We are also subject to enforcement by state attorneys general who were given authority to enforce HIPAA under HITECH, and who have authority to enforce state-specific data privacy and security laws. If regulations change, if we expand the territorial scope of our operations, or if it is determined that we are not in compliance with privacy regulations, we may be required to modify aspects of our program, which may adversely affect program results and our business or profitability.

Security breaches, loss of data and other disruptions could compromise sensitive information related to our business, prevent us from accessing critical information or expose us to liability, which could adversely affect our business and our reputation.

In the ordinary course of our business, we collect and store sensitive data, including legally protected patient health information, personally identifiable information about our employees, intellectual property, and proprietary business information. We manage and maintain our applications and data utilizing an off-site co-location facility. These applications and data encompass a wide variety of business critical information including research and development information, commercial information and business and financial information.
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The secure processing, storage, maintenance and transmission of this critical information is vital to our operations and business strategy, and we devote significant resources to protecting such information. Although we take measures to protect sensitive information from unauthorized access or disclosure, our information technology and infrastructure may be vulnerable to attacks by hackers, viruses, breaches or interruptions due to employee error or malfeasance, breaches or interruptions due to the malfeasance or negligence of any of our third-party service providers, terrorist attacks, earthquakes, fire, flood, other natural disasters, power loss, computer systems failure, data network failure, Internet failure or lapses in compliance with privacy and security mandates. We may be subject to distributed denial of service (DDOS) attacks by hackers aimed at disrupting service to patients and customers. Our response to such DDOS attacks may be insufficient to protect our network and systems. In addition, there has been a continuing increase in the number of malicious software attacks in a wide variety of different industries, including malware, ransomware, and email phishing scams, particularly since the start of the COVID-19 pandemic. Any such virus, breach or interruption could compromise our networks and the information stored there could be accessed by unauthorized parties, publicly disclosed, lost or stolen. We have measures in place that are designed to detect and respond to such security incidents and breaches of privacy and security mandates. Nonetheless, we cannot guarantee our backup systems, regular data backups, security protocols, network protection mechanisms and other procedures currently in place, or that may be in place in the future, will be adequate to prevent or remedy network and service interruption, system failure, damage to one or more of our systems, data loss, security breaches or other data security incidents. We might be required to expend significant capital and resources to protect against or address such incidents. Any access, disclosure or other loss of information could result in legal claims or proceedings, liability under laws that protect the privacy of personal information (such as HIPAA and state data security laws), government enforcement actions and regulatory penalties. We may also be required to indemnify our customers for costs associated with having their data on our system breached. Unauthorized access, loss or dissemination could also interrupt our operations, including our ability to provide treatment, bill our customers, provide customer support services, conduct research and development activities, process and prepare company financial information, manage various general and administrative aspects of our business and damage our reputation, or we may lose one or more of our customers, especially if they felt their data may be breached, any of which could adversely affect our business.

Certain of our professional healthcare employees, such as nurses, must comply with individual licensing requirements.

All of our healthcare professionals who are subject to licensing requirements, such as our care coaches, are licensed in the state in which they provide professional services in person. While we believe our nurses provide coaching and not professional services, one or more states may require our healthcare professionals to obtain licensure if providing services telephonically across state lines to the state’s residents. Healthcare professionals who fail to comply with these licensure requirements could face fines or other penalties for practicing without a license, and we could be required to pay those fines on behalf of our healthcare professionals. If we are required to obtain licenses for our nurses in states where they provide telephonic coaching, it would significantly increase the cost of providing our product. In addition, new and evolving agency interpretations, federal or state legislation or regulations, or judicial decisions could lead to the implementation of out-of-state licensure requirements in additional states, and such changes would increase the cost of services and could have a material effect on our business.

Risks related to our preferred stock

Our Series A Preferred Stock ranks junior to all of our indebtedness and other liabilities.

In the event of our bankruptcy, liquidation, dissolution or winding-up of our affairs, our assets will be available to pay obligations on the Series A Preferred Stock only after all of our indebtedness and other liabilities have been paid. The rights of holders of the Series A Preferred Stock to participate in the distribution of our assets will rank junior to the prior claims of our current and future creditors and any future series or class of preferred stock we may issue that ranks senior to the Series A Preferred Stock. Also, the Series A Preferred Stock effectively ranks junior to all existing and future indebtedness and to the indebtedness and other liabilities of our existing subsidiaries and any future subsidiaries. Our existing subsidiaries are, and future subsidiaries would be, separate legal entities and have no legal obligation to pay any amounts to us in respect of dividends due on the Series A Preferred Stock.

At September 30, 2023, our total liabilities was $25.4 million. If we are forced to liquidate our assets to pay our creditors, we may not have sufficient assets to pay amounts due on any or all of the Series A Preferred Stock then outstanding.
Our future debt instruments may restrict the authorization, payment or setting apart of dividends on the Series A Preferred Stock. Also, future offerings of debt or senior equity securities may adversely affect the market price of the Series A Preferred Stock. If we decide to issue debt or senior equity securities in the future, it is possible that these securities will be governed by an indenture or other instruments containing covenants restricting our operating flexibility. Additionally, any convertible or exchangeable securities that we issue in the future may have rights, preferences and privileges more favorable than those of the
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Series A Preferred Stock and may result in dilution to owners of the Series A Preferred Stock. We and, indirectly, our stockholders, will bear the cost of issuing and servicing such securities. Because our decision to issue debt or equity securities in any future offering will depend on market conditions and other factors beyond our control, we cannot predict or estimate the amount, timing or nature of our future offerings. The holders of the Series A Preferred Stock will bear the risk of our future offerings, which may reduce the market price of the Series A Preferred Stock and will dilute the value of their holdings in us.

Our Series A Preferred Stock is quoted on the OTC Markets, which could limit investors’ liquidity and ability to trade in our Series A Preferred Stock.

Our Series A Preferred Stock is quoted on the OTC Markets. The OTC Markets provides significantly less liquidity than a listing on the Nasdaq Stock Markets or other national securities exchange. Securities quoted on the OTC Markets are traded by a community of market makers that enter quotes and trade reports. This market is limited in comparison to the national stock exchanges and any prices quoted may not be a reliable indication of the value of our Series A Preferred Stock. Quotes for stocks included on the OTC Markets are not listed in the financial sections of newspapers as are those for the Nasdaq Stock Market or the NYSE. Therefore, prices for securities traded solely on the OTC Markets may be difficult to obtain.

Trading on the OTC Markets as opposed to a national securities exchange has resulted and may continue to result in a reduction in some or all of the following: (a) the liquidity of our Series A Preferred Stock; (b) the market price of our Series A Preferred Stock; (c) the number of market markers in our Series A Preferred Stock; (d) the availability of information concerning the trading prices and volume of shares of our Series A Preferred Stock; and (e) the number of broker-dealers willing to execute trades in shares of our Series A Preferred Stock. Each of the foregoing could have a material adverse effect on the price of our Series A Preferred Stock.

The liquidity of the market for our Series A Preferred Stock also depends on a number of other factors, including prevailing interest rates, our financial condition and operating results, the number of holders of our Series A Preferred Stock, the market for similar securities and the interest of securities dealers in making a market in our Series A Preferred Stock. We cannot predict the extent to which investor interest in our Company will maintain the trading market in our Series A Preferred Stock, or how liquid that market will be. If an active market is not maintained, investors may have difficulty selling shares of our Series A Preferred Stock.

We may not be able to pay dividends on the Series A Preferred Stock if we have insufficient cash or available ‘surplus’ as defined under Delaware law to make such dividend payments.

Our ability to pay cash dividends on the Series A Preferred Stock requires us to have either net profits or positive net assets (total assets less total liabilities) over our capital, and that we have sufficient working capital in order to be able to pay our debts as they become due in the usual course of business. Our ability to pay dividends may also be impaired if any of the risks described in this report or in the 2022 10-K were to occur. Also, payment of our dividends depends upon our financial condition and other factors as our Board of Directors may deem relevant from time to time. We cannot assure you that we will have sufficient cash or “surplus” to pay the cash dividends on the Series A Preferred Stock. In addition, our Board of Directors is not required to declare a dividend on the Series A Preferred Stock and did not declare a dividend on the Series A Preferred Stock for the quarters ended May 31, 2022, August 31, 2022, November 30, 2022, February 28, 2023, May 31, 2023 and August 31, 2023. On April 19, 2023, approximately $4.5 million that the Company maintained in a segregated account to pre-fund quarterly dividend payments on the Series A Preferred Stock until August 2022 was made available for general corporate purposes and was classified as unrestricted cash on the Company’s consolidated balance sheet. Our Board of Directors deemed the foregoing to be in the best interests of the Company and its common stockholders in light of the Company’s current and anticipated financial condition and outlook, and after considering its fiduciary duties to the Company’s common stockholders and other relevant factors.

Future issuances of preferred stock may reduce the value of the Series A Preferred Stock.

We may sell additional shares of preferred stock on terms that may differ from the Series A Preferred Stock. Such shares could rank on parity with or, subject to the voting rights referred to above (with respect to issuances of new series of preferred stock), senior to the Series A Preferred Stock as to distribution rights or rights upon liquidation, winding up or dissolution. The subsequent issuance of additional shares of Series A Preferred Stock, or the creation and subsequent issuance of additional classes of preferred stock on parity with the Series A Preferred Stock, could dilute the interests of the holders of Series A Preferred Stock offered hereby. Any issuance of preferred stock that is senior to the Series A Preferred Stock would not only dilute the interests of the holders of Series A Preferred Stock, but also could affect our ability to pay distributions on, redeem or pay the liquidation preference on the Series A Preferred Stock.
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Market interest rates may materially and adversely affect the value of the Series A Preferred Stock.

One of the factors that influences the price of the Series A Preferred Stock is the dividend yield on the Series A Preferred Stock (as a percentage of the market price of the Series A Preferred Stock) relative to market interest rates. Continued increase in market interest rates may lead prospective purchasers of the Series A Preferred Stock to expect a higher dividend yield (and higher interest rates would likely increase our borrowing costs and potentially decrease funds available for dividend payments). Thus, higher market interest rates could cause the market price of the Series A Preferred Stock to materially decrease.

The special exchange right that the Series A Preferred Stock is entitled to may make it more difficult for a party to acquire us or discourage a party from acquiring us.

The Series A Preferred Stock special exchange right may have the effect of discouraging a third party from making an acquisition proposal for us or of delaying, deferring or preventing certain of our change of control transactions under circumstances that otherwise could provide the holders of our Series A Preferred Stock with the opportunity to realize a premium over the then-current market price of such equity securities or that stockholders may otherwise believe is in their best interests.

Holders of the Series A Preferred Stock may be unable to use the dividends-received deduction and may not be eligible for the preferential tax rates applicable to “qualified dividend income.”

Distributions paid to corporate U.S. holders of the Series A Preferred Stock may be eligible for the dividends-received deduction, and distributions paid to non-corporate U.S. holders of the Series A Preferred Stock may be subject to tax at the preferential tax rates applicable to “qualified dividend income,” if we have current or accumulated earnings and profits, as determined for U.S. federal income tax purposes. We do not currently have any accumulated earnings and profits. Additionally, we may not have sufficient current earnings and profits during future fiscal years for the distributions on the Series A Preferred Stock to qualify as dividends for U.S. federal income tax purposes. If the distributions fail to qualify as dividends, U.S. holders would be unable to use the dividends-received deduction and may not be eligible for the preferential tax rates applicable to “qualified dividend income.”

Holders of the Series A Preferred Stock may be subject to tax if we make or fail to make certain adjustments to the exchange rate of the Series A Preferred Stock even though you do not receive a corresponding cash dividend.

The exchange rate for the Series A Preferred Stock special exchange right is subject to adjustment in certain circumstances. A failure to adjust (or to adjust adequately) such exchange rate after an event that increases your proportionate interest in us could be treated as a deemed taxable dividend to you. If you are a non-U.S. holder, any deemed dividend may be subject to U.S. federal withholding tax at a 30% rate, or such lower rate as may be specified by an applicable treaty, which may be set off against subsequent payments on the Series A Preferred Stock. In April 2016, the Internal Revenue Service issued new proposed income tax regulations in regard to the taxability of changes in exchange rights that will apply to the Series A Preferred Stock when published in final form and may be applied to us before final publication in certain instances.

Our revenues, operating results and cash flows may fluctuate in future periods, and we may fail to meet investor expectations, which may cause the price of our Series A Preferred Stock to decline.

Variations in our quarterly and year-end operating results are difficult to predict, and our income and cash flows may fluctuate significantly from period to period. If our operating results fall below the expectations of investors or securities analysts, the price of our Series A Preferred Stock could decline substantially.

The Series A Preferred Stock represents perpetual equity interests in us, and it has no maturity or mandatory redemption date and are not redeemable at the option of investors under any circumstances. As a result, the Series A Preferred Stock will not give rise to a claim for payment of a principal amount at a particular date. As a result, holders of the Series A Preferred Stock may be required to bear the financial risks of an investment in the Series A Preferred Stock for an indefinite period of time. In addition, the Series A Preferred Stock will rank junior to all our current and future indebtedness and other liabilities. The Series A Preferred Stock will also rank junior to any other senior securities we may issue in the future with respect to assets available to satisfy claims against us.


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The Series A Preferred Stock has not been rated.

We have not sought to obtain a rating for the Series A Preferred Stock. No assurance can be given, however, that one or more rating agencies might not independently determine to issue such a rating or that such a rating, if issued, would not adversely affect the market price of the Series A Preferred Stock. Also, we may elect in the future to obtain a rating for the Series A Preferred Stock, which could adversely affect the market price of the Series A Preferred Stock. Ratings only reflect the views of the rating agency or agencies issuing the ratings and such ratings could be revised downward, placed on a watch list or withdrawn entirely at the discretion of the issuing rating agency if in its judgment circumstances so warrant. Any such downward revision, placing on a watch list or withdrawal of a rating could have an adverse effect on the market price of the Series A Preferred Stock.

The market price of the Series A Preferred Stock could be substantially affected by various factors.

The market price of the Series A Preferred Stock depends on many factors, which may change from time to time, including:

•prevailing interest rates, increases in which may have an adverse effect on the market price of the Series A Preferred Stock;
•trading prices of similar securities;
•our history of timely dividend payments;
•the annual yield from dividends on the Series A Preferred Stock as compared to yields on other financial instruments;
•general economic and financial market conditions;
•government action or regulation;
•the financial condition, performance and prospects of us and our competitors;
•changes in financial estimates or recommendations by securities analysts with respect to us or our competitors in our industry;
•our issuance of additional preferred equity or debt securities;
•actual or anticipated variations in quarterly operating results of us and our competitors; and
•the ongoing impact of the global COVID-19 pandemic.

As a result of these and other factors, holders of the Series A Preferred Stock may experience a decrease, which could be substantial and rapid, in the market price of the Series A Preferred Stock, including decreases unrelated to our operating performance or prospects.

A holder of Series A Preferred Stock has extremely limited voting rights.

The voting rights of a holder of Series A Preferred Stock are limited. Our shares of common stock are the only class of our securities that carry full voting rights. Other than the limited circumstances described in the Certificate of Designations establishing the Series A Preferred Stock and except to the extent required by law, holders of Series A Preferred Stock do not have any voting rights. Voting rights for holders of the Series A Preferred Stock exist primarily with respect to voting on amendments to our certificate of incorporation, including the certificate of designations relating to the Series A Preferred Stock, that materially and adversely affect the rights of the holders of Series A Preferred Stock or authorize, increase or create additional classes or series of our capital stock that are senior to the Series A Preferred Stock. In addition, if dividends on the Series A Preferred Stock have not been paid in an aggregate amount equal to the equivalent of at least six or more quarterly dividends (whether consecutive or not), the holders of the Series A Preferred Stock, will have the right, voting separately as a single class, to elect two individuals to our Board of Directors. Such director election right commenced on August 31, 2023 since we did not pay the dividend payable on that date or any currently unpaid dividend. See “Risks related to our common stock—The holders of our Series A Preferred Stock have the right to elect two directors to our board of directors,” below.

Risks related to our common stock

Failure to maintain effective internal controls could adversely affect our operating results and the market for our common stock.

Section 404 of the Sarbanes-Oxley Act of 2002 requires that we maintain internal control over financial reporting that meets applicable standards. As with many smaller companies with small staff, material weaknesses in our financial controls and procedures may be discovered. If we are unable, or are perceived as unable, to produce reliable financial reports due to internal
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control deficiencies, investors could lose confidence in our reported financial information and operating results, which could result in a negative market reaction and adversely affect our ability to raise capital.

Acuitas Group Holdings, LLC owns approximately 73% of our outstanding common stock and beneficially owns approximately 94% of our outstanding common stock, and as a result of such ownership has the ability to substantially influence the election of directors and other matters submitted to stockholders.

As of the date of this report, 20,036,780 shares of our outstanding common stock were owned by, and 124,850,067 shares of our common stock were beneficially owned by, Acuitas Group Holdings, LLC, an entity indirectly wholly owned and controlled by Mr. Peizer, which represents the ownership of approximately 73% of our outstanding common stock and the beneficial ownership of approximately 94% of our common stock. The foregoing number of shares beneficially owned by Acuitas Group Holdings, LLC and the corresponding percentage assumes the conversion of $2.0 million of the outstanding Keep Well Note at a conversion price of $0.60 per share (with any additional accrued interest paid in cash) and includes the following securities: (a) 9,027,395 shares of our common stock that will be issued to Acuitas in respect of the conversion of the Keep Well Notes effected on November 14, 2024 upon the effectiveness of stockholder approval, which is expected to occur within 60 days of this report, (b) an additional 9,027,395 shares of our common stock that will be subject to the warrant issued to Acuitas in connection with such conversion upon the effectiveness of stockholder approval, which is expected to occur within 60 days of this report, (c) 3,333,334 shares of common stock issuable upon exercise of a warrant that would be issued upon conversion of the $2.0 million of the outstanding Keep Well Note, and (d) 54,999,999 shares of common stock issuable upon exercise of the pre-funded warrant and warrant issued to an affiliate of Acuitas Group Holdings, LLC, on November 14, 2024. The $0.60 conversion price described in the preceding sentence and the exercisability of the warrants described in clause (d) in the preceding sentence are subject to the effectiveness of stockholder approval, which is expected to occur within 60 days of this report. As a result, Acuitas has and is expected to continue to have the ability to significantly influence the election of our Board of Directors and the outcome of all other matters submitted to our stockholders. Acuitas’ interest may not always coincide with our interests or the interests of other stockholders, and Acuitas may act in a manner that advances its best interests and not necessarily those of other stockholders. One consequence to this substantial influence or control is that it may be difficult for investors to remove our management. It could also deter unsolicited takeovers, including transactions in which stockholders might otherwise receive a premium for their shares over then current market prices.

There can be no assurance that our common stock will continue to be listed on Nasdaq or, if listed, that we will be able to comply with the continued listing standards of Nasdaq, which could limit investors’ ability to transact in our securities and subject us to additional trading restrictions.

Our common stock is traded on The Nasdaq Capital Market under the symbol “OTRK.” The Nasdaq Capital Market requires that listed companies have: (x) stockholders' equity of at least $2.5 million; (y) a market value of listed securities of at least $35 million; or (z) net income from continuing operations of $500,000 in the company’s most recently completed fiscal year or in two of the three most recently completed fiscal years. Our stockholders’ equity at June 30, 2023 was approximately $0.75 million and we did not meet either of the two alternative compliance standards described in clause (y) and (z). On August 15, 2023, we received a letter from Nasdaq informing us that we did not meet the $2.5 million in stockholders’ equity requirement for continued listing as of June 30, 2023. That letter had no immediate impact on the listing of our common stock on The Nasdaq Capital Market.

In accordance with Nasdaq listing rules, we had 45 calendar days, or until September 29, 2023, to submit a plan to regain compliance with the stockholders’ equity requirement, which we submitted for the Nasdaq staff’s consideration on October 2, 2023. The Nasdaq staff has been processing our plan of compliance consistent with its discretion to extend the deadline for up to an additional five calendar days. Our plan of compliance indicates that upon closing of the public offering that closed on November 14, 2023, our stockholders’ equity will increase to substantially above $2.5 million, taking into account the conversion of the Keep Well Notes in the Notes Conversion. Nasdaq may grant us an extension period of up to 180 calendar days from the date of the notice we received on August 15, 2023 (or through February 11, 2024) to regain compliance with the stockholders’ equity requirement, and we believe that we will be able to demonstrate compliance upon closing of the public offering that closed on November 14, 2023. If for any reason Nasdaq does not accept our plan of compliance and determine that we demonstrated compliance upon closing of the public offering, or if we are unable to regain compliance within any extension period granted by Nasdaq, Nasdaq would be required to issue a delisting determination. We would at that time be entitled to request a hearing before a Nasdaq Hearings Panel to demonstrate our compliance (or present our plan to regain compliance) to request a further extension period to regain compliance if necessary. The request for a hearing would stay any delisting action with respect to our common stock by Nasdaq.

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In addition, on October 13, 2023, we received a letter from Nasdaq indicating that we no longer meet the minimum bid price requirement set forth in Nasdaq listing rules because the closing bid price for our common stock was less than $1.00 for the previous 30 consecutive business days. That letter has no immediate effect on the listing of our common stock on The Nasdaq Capital Market. Under Nasdaq listing rules, we have a 180-calendar day period, or until April 10, 2024, to regain compliance with the minimum bid price requirement. The minimum bid price requirement will be met if our common stock has a minimum closing bid price of at least $1.00 per share for a minimum of 10 consecutive business days during the 180-calendar day period, unless Nasdaq exercises its discretion to extend such 10-day period. If we do not regain compliance by April 10, 2024, we may be eligible for an additional 180-calendar day period, subject to satisfying the conditions in the applicable Nasdaq listing rules based on our most recent public filings and market information at that time and we notify Nasdaq of our intent to cure the deficiency related to the minimum bid price requirement by effecting a reverse stock split if necessary. We are monitoring the closing bid price of our common stock and will consider options to regain compliance with the minimum bid price requirement. However, there can be no assurance that we will be able to regain compliance with the minimum bid price requirement.

In addition to the specified criteria for continued listing, Nasdaq also has broad discretionary public interest authority that it can exercise to apply additional or more stringent criteria for continued listing on the Nasdaq. Nasdaq has exercised this discretionary authority in the past. As of the date of this report, Acuitas is our largest stockholder and the aggregate principal amount we borrowed under the Keep Well Agreement, plus all accrued and unpaid interest thereon, was approximately $2.0 million. Mr. Peizer owns and controls Acuitas and, on March 1, 2023, the DOJ announced charges and the SEC filed a civil complaint against Mr. Peizer alleging unlawful insider trading in our stock. On March 1, 2023, Nasdaq requested certain information from us related to the charges against Mr. Peizer. We responded to those requests. On each of May 12, 2023 and June 30, 2023, the Nasdaq staff requested certain supplemental information from us. We responded to each of those requests. No assurances can be given that Nasdaq will not exercise its discretionary public interest authority to delist our common stock due to public interest concerns related to Acuitas’ ownership of our common stock or its relationship to us under the Keep Well Agreement.

In connection with the public offering and the concurrent private placement that closed on November 14, 2023 and the securities issuable in connection with the conversion of the Keep Well Notes effected in the Notes Conversion, we submitted listing of additional shares applications to Nasdaq in accordance with Nasdaq listing rules. Current Nasdaq staff practice is not to accept or reject listing of additional shares applications before the closing of a public or private offering. We believe that the issuances of securities in the public offering, in the concurrent private placement and in connection with the Notes Conversion are all compliant with Nasdaq listing rules. However, Nasdaq could assert that as a result of one or more of these securities issuances, we are not in compliance with Nasdaq’s listing rules. For example, Nasdaq could assert that the exercise price reset and share adjustment provisions in the warrants sold in the public offering and/or in the concurrent private placement mandate a delisting determination unless such provisions are modified. Should that occur, we would need to obtain (a) with respect to the warrants sold in the public offering, the consent of the holders of warrants representing at least a majority of the shares of common stock underlying the warrants then outstanding and each investor in the public offering who purchased at least $1.75 million of securities at the closing of the offering, and (b) with respect to the warrant issued to Acuitas in the concurrent private placement, the consent of Acuitas, for any modifications. The failure to obtain such consent(s) could result in the delisting of our common stock.

If our common stock is delisted by Nasdaq, and we are not able to list our securities on another national securities exchange, we expect our securities could be quoted on an over-the-counter market. If this were to occur, then we could face significant material adverse consequences, including: (a) less liquid trading market for our securities; (b) more limited market quotations for our securities; (c) determination that our common stock is a “penny stock” that requires brokers to adhere to more stringent rules and possibly resulting in a reduced level of trading activity in the secondary trading market for our securities; (d) more limited research coverage by stock analysts; (e) loss of reputation; and (f) more difficult and more expensive equity financings in the future.

The National Securities Markets Improvement Act of 1996, which is a federal statute, prevents or preempts the states from regulating the sale of certain securities, which are referred to as “covered securities.” If our common stock remains listed on Nasdaq, our common stock will be covered securities. Although the states are preempted from regulating the sale of our securities, the federal statute does allow the states to investigate companies if there is a suspicion of fraud, and, if there is a finding of fraudulent activity, then the states can regulate or bar the sale of covered securities in a particular case. If our securities were no longer listed on Nasdaq and therefore not “covered securities,” we would be subject to regulation in each state in which we offer our securities.

We incur increased costs as a result of operating as a public company, and our management devotes substantial time to compliance initiatives.
66


We incur significant legal, accounting and other expenses as a public company, including costs resulting from public company reporting obligations under the Exchange Act and regulations regarding corporate governance practices. Nasdaq's listing requirements and SEC rules require that we satisfy certain corporate governance requirements relating to director independence, filing annual and interim reports, stockholder meetings, approvals and voting, soliciting proxies, conflicts of interest and a code of conduct. Our management and other personnel devote a substantial amount of time to ensure that we comply with all of these requirements. Moreover, the reporting requirements, rules and regulations associated with being a public company result in significant legal and financial compliance costs and make some activities more time-consuming and costly. These reporting requirements, rules and regulations, coupled with the increase in potential litigation exposure associated with being a public company, could also make it more difficult for us to attract and retain qualified persons to serve on our board of directors or board committees or to serve as executive officers, or to obtain certain types of insurance, including directors’ and officers’ insurance, on acceptable terms and we may be forced to accept reduced policy limits and coverage or incur substantially higher costs to obtain the same or similar coverage.

Our stock price may be subject to substantial volatility, and the value of our stockholders' investment may decline.

The price at which our common stock trades fluctuates as a result of a number of factors, including the number of shares available for sale in the market, quarterly variations in our operating results and actual or anticipated announcements of our Ontrak solution, announcements regarding new or discontinued Ontrak solution contracts, new products or services by us or competitors, regulatory investigations or determinations, acquisitions or strategic alliances by us or our competitors, recruitment or departures of key personnel, the gain or loss of significant customers, changes in the estimates of our operating performance, actual or threatened litigation, market conditions in our industry and the economy as a whole.

Numerous factors, including many over which we have no control, may have a significant impact on the market price of our common stock, including:

● announcements of new products or services by us or our competitors;
● current events affecting the political, economic and social situation in the United States;
● trends in our industry and the markets in which we operate;
● changes in financial estimates and recommendations by securities analysts;
● acquisitions and financings by us or our competitors;
● the gain or loss of a significant customer;
● quarterly variations in operating results;
● the operating and stock price performance of other companies that investors may consider to be comparable;
● purchases or sales of blocks of our securities; and
● issuances of stock.

We have used the market price of our common stock to establish future payment obligations to stockholders of acquisition targets in the past and may continue to do so in the future; any decline in the market price regardless of whether due to our performance or external market dynamics would give rise to a payment obligation to such holders. Furthermore, stockholders may initiate additional securities class action lawsuits if the market price of our stock drops significantly, which may cause us to incur further substantial costs and continue to divert the time and attention of our management.

Future sales of common stock by existing stockholders, or the perception that such sales may occur, could depress our stock price.

The market price of our common stock could decline as a result of sales by, or the perceived possibility of sales by, our existing stockholders. Most of our outstanding shares are eligible for public resale pursuant to Rule 144 under the Securities Act of 1933, as amended. As of September 30, 2023, approximately 2.0 million outstanding shares of our common stock were held by our affiliates and may be sold pursuant to an effective registration statement or in accordance with the volume and other limitations of Rule 144 or pursuant to other exempt transactions. Future sales of common stock by significant stockholders, including those who acquired their shares in private placements or who are affiliates, or the perception that such sales may occur, could depress the price of our common stock.

Future issuances of common stock and hedging activities may depress the trading price of our common stock.

Any future issuance of equity securities, including the issuance of shares upon direct registration, upon satisfaction of our obligations, compensation of vendors, exercise of outstanding warrants, or effectuation of a reverse stock split, could dilute the interests of our existing stockholders, and could substantially decrease the trading price of our common stock. As of
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September 30, 2023, we had outstanding options to purchase 1,177,839 shares of our common stock at exercise prices ranging from $2.16 to $519.42 per share and warrants to purchase 7,082,788 shares of our common stock at exercise prices ranging from $0.06 to $82.08 per share. Also, as of September 30, 2023, we had a total of 120,949 unvested RSUs outstanding. We may issue equity securities in the future for a number of reasons, including to finance our operations and business strategy, in connection with acquisitions, to adjust our ratio of debt to equity, to satisfy our obligations upon the exercise of outstanding warrants or options or for other reasons.

There may be future sales or other dilution of our equity, which may adversely affect the market price of our common stock.

In the future, we may need to raise additional funds through public or private financing, which might include sales of equity securities. The issuance of any additional shares of common stock or securities convertible into, exchangeable for, or that represent the right to receive common stock or the exercise of such securities could be substantially dilutive to holders of shares of our common stock. Holders of shares of our common stock have no preemptive rights that entitle holders to purchase their pro rata share of any offering of shares of any class or series. The market price of our common stock could decline as a result of sales of shares of our common stock made after this offering or the perception that such sales could occur. Because our decision to issue securities in any future offering will depend on market conditions and other factors beyond our control, we cannot predict or estimate the amount, timing or nature of our future offerings. Thus, our stockholders bear the risk of our future offerings reducing the market price of our common stock and diluting their interests in our Company.

We have historically relied in part on sales of our common stock to fund our operations, and our future ability to obtain additional capital through stock sales or other securities offerings may be more costly than in the past, or may not be available to us at all.

We have historically relied in part on sales of our common stock to fund our operations. For example, we raised an aggregate of approximately $15.1 million in gross proceeds in fiscal years 2021 and 2022 through the sale of shares of our common stock in offerings made under a Form S-3 “shelf” registration statement. Using a shelf registration statement to conduct an equity offering to raise capital generally takes less time and is less expensive than other means, such as conducting an offering under a Form S-1 registration statement. We are no longer eligible to use a shelf registration statement due to non-payment of dividends on our Series A preferred stock since December 31, 2022. We may choose to conduct an offering of our securities under an exemption from registration under the Securities Act or under a Form S-1 registration statement, but we would expect either of these alternatives to be a more expensive method of raising additional capital and more dilutive to our stockholders relative to using a shelf registration statement.

The holders of our Series A Preferred Stock have the right to elect two directors to our board of directors.

Under the terms of the certificate of designation establishing our Series A Preferred Stock, if dividends on our Series A Preferred have not been paid in an aggregate amount equal to the equivalent of at least six or more quarterly dividends (whether consecutive or not), the number of directors constituting our board of directors will be increased by two, and the holders of our Series A Preferred Stock, will have the right, voting separately as a single class, to fill such newly created directorships (and to fill any vacancies in the terms of such directorships). Dividends on our Series A Preferred Stock are payable every February 28, May 30, August 31, and November 30. We did not pay the dividends on our Series A Preferred Stock payable in each of May 2022, August 2022, November 2022, February 2023, May 2023 and August 2023. Accordingly, such director election right described above commenced on August 31, 2023.

Provisions in our certificate of incorporation and Delaware law could discourage a change in control, or an acquisition of us by a third party, even if the acquisition would be favorable to you.

Our amended and restated certificate of incorporation and the Delaware General Corporation Law contain provisions (including the Section 382 Ownership Limit) that may have the effect of making more difficult or delaying attempts by others to obtain control of our Company, even when these attempts may be in the best interests of stockholders. In addition, our amended and restated certificate of incorporation authorizes our Board of Directors, without stockholder approval, to issue one or more series of preferred stock, which could have voting and conversion rights that adversely affect or dilute the voting power of the holders of common stock. Delaware law also imposes conditions on certain business combination transactions with “interested stockholders.” These provisions and others that could be adopted in the future could deter unsolicited takeovers or delay or prevent changes in our control or management, including transactions in which stockholders might otherwise receive a premium for their shares over then current market prices. These provisions may also limit the ability of stockholders to approve transactions that they may deem to be in their best interests.
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We do not expect to pay dividends on our common stock in the foreseeable future.

We have paid no cash dividends on our common stock to date, and we intend to retain our future earnings, if any, to fund the continued development and growth of our business. As a result, we do not expect to pay any cash dividends in the foreseeable future on our common stock. Further, any payment of cash dividends will also depend on our financial condition, results of operations, capital requirements and other factors, including contractual restrictions to which we may be subject, and will be at the discretion of our Board of Directors.

Item 2. Unregistered Sales of Equity Securities, and Use of Proceeds,

and Issuer Purchases of Equity Securities


None.


Item 3.    Defaults Upon Senior Securities

None.

Preferred Dividend Arrearage
Holders of the Series A Preferred Stock are entitled to receive, when, as and if declared by our Board of Directors out of funds legally available therefor, cumulative cash dividends at the rate of 9.50% per annum of the $25.00 per share liquidation preference (equivalent to $2.375 per annum per share or $0.593750 per quarter per share). Our Board of Directors has not declared dividends on the Series A Preferred Stock since May 2022. As such, as of the date of the filing of this report, we had approximately $15.3 million of undeclared dividends in arrears. For more information about the Series A Preferred Stock, see Note 7 of the Notes to Condensed Consolidated Financial Statements in Part I, Item 4.       1 of this report.

Item 4.    Mine Safety Disclosures.

NotDisclosures

Not applicable.


Item 5.    Other Information

None.

Item 6.       Exhibits

Exhibit 31.1*

Certification

(a) As previously reported, in March 2023, the Company’s Board of Directors appointed Brandon H. LaVerne, age 51, as Interim Chief Executive Officer of the Company effective immediately. Mr. LaVerne had served as the Company’s Co-President and Chief Operating Officer since June 27, 2022 and continued to serve as Chief Operating Officer after being appointed as Interim Chief Executive Officer but ceased serving as Co-President. From March 2020 until June 27, 2022, Mr. LaVerne served as the Company’s Chief Financial Officer. On November 16, 2023, the Company’s Board of Directors appointed Mr. LaVerne as Chief Executive Officer of the Company. Mr. LaVerne also continues to serve as Chief Operating Officer. Mr. LaVerne’s biographical information is in the Company’s definitive proxy statement on Schedule 14A filed with the SEC on July 25, 2022. Mr. LaVerne was not appointed as the Company’s Chief Executive Officer pursuant to any arrangement or understanding with any other person, and Mr. LaVerne has no family relationships with any current director, director nominee, or executive officer of the Company.

(b) None.

(c) Under SEC rules and regulations, as a smaller reporting company, we are not required to provide the information required by this item in this report.


Item 6.    Exhibits

Exhibit
No.		Description
69

4.1
4.2
4.3
4.4
10.1
10.2
10.3
10.4
31.1*

Exhibit 31.2*

31.2*

Exhibit 32.132.1***

Exhibit 32.232.2***

101.INS*

101.INS*

XBRL Instance

Document

101.SCH*

101.SCH*

Inline XBRL Taxonomy Extension Schema

Document

101.CAL*

101.CAL*

Inline XBRL Taxonomy Extension Calculation

Linkbase Document

101.DEF*

101.DEF*

Inline XBRL Taxonomy Extension Definition

Linkbase Document

101.LAB*

101.LAB*

Inline XBRL Taxonomy Extension Labels

Label Linkbase Document

101.PRE*

101.PRE*

Inline XBRL Taxonomy Extension Presentation

* filed herewith.

** furnished herewith.


Linkbase Document

SIGNATURES

104*		Cover Page Interactive Data File (formatted as Inline XBRL with applicable taxonomy extension information contained in Exhibits 101)

_____________________
*     Filed herewith.
** Furnished herewith.
70

SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

CATASYS, INC.

ONTRAK, INC.

Date: November 14, 2017

20, 2023

By:

/s/ TERREN S. PEIZER  

BRANDON H. LAVERNE

Terren S. Peizer 

Brandon H. LaVerne
Chief Executive Officer


(Principal Executive Officer)

Date: November 20, 2023By:/s/ JAMES J. PARK

Date:  November 14, 2017

By:  

/s/ CHRISTOPHER SHIRLEY

Christopher Shirley

James J. Park
Chief Financial Officer


(Principal Financial and Accounting Officer)

24


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