Echo Therapeutics, Inc. - FORM 10-Q

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EX-31.2 - EXHIBIT 31.2 - Echo Therapeutics, Inc.	ex31_2.htm
EX-10.3 - EXHIBIT 10.3 - Echo Therapeutics, Inc.	ex10_3.htm
EX-10.4 - EXHIBIT 10.4 - Echo Therapeutics, Inc.	ex10_4.htm
EX-10.2 - EXHIBIT 10.2 - Echo Therapeutics, Inc.	ex10_2.htm
EX-10.1 - EXHIBIT 10.1 - Echo Therapeutics, Inc.	ex10_1.htm
EX-31.1 - EXHIBIT 31.1 - Echo Therapeutics, Inc.	ex31_1.htm
EX-32.2 - EXHIBIT 32.2 - Echo Therapeutics, Inc.	ex32_2.htm
EX-32.1 - EXHIBIT 32.1 - Echo Therapeutics, Inc.	ex32_1.htm
EXCEL - IDEA: XBRL DOCUMENT - Echo Therapeutics, Inc.	Financial_Report.xls

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

FORM 10-Q

R	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2011.

£	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from _________ to __________.

Commission File Number: 000-23017

ECHO THERAPEUTICS, INC.

(Exact name of registrant as specified in its charter)

Delaware		41-1649949
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification Number)

8 Penn Center 1628 JFK Blvd, Suite 300 Philadelphia, PA		19103
(Address of principal executive offices)		(Zip code)

(215) 717-4100

(Registrant’s telephone number, including area code)

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 R No £

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, 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 þ No £

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

Large accelerated filer £	Accelerated filer £	Non-accelerated filer £	Smaller reporting company R
	(Do not check if a smaller reporting company)

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

As of November 7, 2011, 34,967,452 shares of the registrant’s Common Stock. $0.01 par value, were issued and outstanding.

ECHO THERAPEUTICS, INC.

Quarterly Report on Form 10-Q

for the Quarter Ended September 30, 2011

TABLE OF CONTENTS

PART I

FINANCIAL INFORMATION

Item		Page
1.	Consolidated Financial Statements

	Consolidated Balance Sheets as of September 30, 2011 and December 31, 2010	3

	Consolidated Statements of Operations for three and nine months ended September 30, 2011 and 2010	4

	Consolidated Statements of Cash Flows for three and nine months ended September 30, 2011 and 2010	5

	Notes to Consolidated Financial Statements	7

2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	19

4.	Controls and Procedures	25

	PART II

	OTHER INFORMATION
1.	Legal Proceedings	26
2.	Unregistered Sales of Equity Securities and Use of Proceeds	26
6.	Exhibits	26

SIGNATURES		27

EXHIBIT INDEX		28

Table of Contents

PART I—FINANCIAL INFORMATION

Item 1.

Financial Statements.

Echo Therapeutics, Inc.

Consolidated Balance Sheets

	As of
	September 30, 2011			December 31, 2010
	(Unaudited)
ASSETS
Current Assets:
Cash and cash equivalents	$	2,258,019		$	1,342,044
Accounts receivable		40,684			141,488
Stock subscriptions receivable		-			285,000
Prepaid expenses and other current assets		446,116			195,205
Total current assets		2,744,819			1,963,737

Property and Equipment, at cost:
Computer equipment		275,407			265,862
Office and laboratory equipment (including assets under capitalized leases)		616,250			626,823
Furniture and fixtures		181,080			17,019
Manufacturing equipment		164,637			129,320
Leasehold improvements		187,264			177,768
		1,424,638			1,216,792
Less-Accumulated depreciation and amortization		(1,118,479	)		(1,168,758	)
Net property and equipment (including assets under capitalized leases)		306,159			48,034

Other Assets:
Restricted cash		9,749			275,249
Intangible assets, net of accumulated amortization		9,625,000			9,625,000
Deposits and other assets		10,816			250
Total other assets		9,645,565			9,900,499
Total assets	$	12,696,543		$	11,912,270

LIABILITIES AND STOCKHOLDERS’ EQUITY
Current Liabilities:
Accounts payable	$	362,513		$	605,634
Deferred revenue		196,290			405,454
Current portion of notes payable and capital lease obligation, net of discounts		2,231			102,071
Derivative warrant liability		1,561,244			1,544,996
Accrued expenses and other liabilities		817,639			463,475
Total current liabilities		2,939,917			3,121,630
Notes payable and capital lease obligation, net of current portion		4,482			6,176
Deferred revenue, net of current portion		92,794			82,180
Total liabilities		3,037,193			3,209,986

Commitments

Stockholders’ Equity:
Perpetual Redeemable Preferred Stock:
Series B, $0.01 par value, authorized 40,000 shares, issued and outstanding 168.6701 and 154.3940 shares at September 30, 2011 and December 31, 2010, respectively (preference in liquidation of $1,686,700 at September 30, 2011)		2			2
Convertible Preferred Stock:
Series C, $0.01 par value, authorized 10,000 shares, issued and outstanding 4,918.1 at September 30, 2011 and December 31, 2010		49			49
Series D, $0.01 par value, authorized 3,600,000 shares, issued and outstanding 3,506,000 shares at September 30, 2011 (preference in liquidation of $3,506,000 at September 30, 2011)		35,060			-
Common Stock, $0.01 par value, authorized 100,000,000 shares, issued and outstanding 34,455,452 and 31,126,245 shares at September 30, 2011 and December 31, 2010, respectively		344,557			311,264
Additional paid-in capital		88,730,324			79,646,385
Common stock subscribed for but not paid for or issued, 285,000 shares at December 31, 2010		-			285,000
Accumulated deficit		(79,450,642	)		(71,540,416	)
Total stockholders’ equity		9,659,350			8,702,284
Total liabilities and stockholders’ equity	$	12,696,543		$	11,912,270

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

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Echo Therapeutics, Inc.

Consolidated Statements of Operations

(Unaudited)

	Three Months Ended September 30,						Nine Months Ended September 30,
	2011			2010			2011			2010
Licensing revenue	$	(44,360	)	$	16,023		$	198,550		$	197,594
Other revenue		-			30,575			145,152			127,095
Total revenues		(44,360	)		46,598			343,702			324,689

Operating Expenses:
Research and development		695,019			409,383			2,557,118			2,087,484
Selling, general and administrative		1,527,317			546,446			3,427,582			2,434,944
Total operating expenses		2,222,336			955,829			5,984,700			4,522,428

Loss from operations		(2,266,696	)		(909,231	)		(5,640,998	)		(4,197,739	)

Other Income (Expense):
Interest income		581			207			3,870			1,379
Interest expense		(385	)		(2,867	)		(13,739	)		(4,574	)
Gain (loss) on extinguishment of debt/payables		-			-			(1,514	)		200,000
Gain on disposals of assets		-			-			834			-
Derivative warrant liability gain (loss)		893,229			329,051			(2,258,679	)		1,000,987
Other income (expense), net		893,425			326,391			(2,269,228	)		1,197,792

Net loss		(1,373,271	)		(582,840	)		(7,910,226	)		(2,999,947	)

Deemed dividend on beneficial conversion feature of Series D Convertible Preferred Stock		-			-			(1,975,211	)		-

Deemed dividend on repricing of warrants		(87,500	)		-			(87,500	)		-

Accretion of dividends on Convertible Perpetual Redeemable Preferred Stock		(49,519	)		(37,026	)		(142,761	)		(93,700	)

Net loss applicable to common shareholders	$	(1,510,290	)	$	(619,866	)	$	(10,115,698	)	$	(3,093,647	)

Net loss per common share, basic and diluted	$	(0.04	)	$	(0.02	)	$	(0.30	)	$	(0.11	)

Basic and diluted weighted average common shares outstanding		34,295,425			29,105,517			33,620,751			28,809,682

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

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Echo Therapeutics, Inc.

Consolidated Statements of Cash Flows

(Unaudited)

	Nine Months Ended September 30,
	2011			2010
Cash Flows From Operating Activities:
Net loss	$	(7,910,226	)	$	(2,999,947	)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization		29,877			104,065
Share-based compensation		566,301			143,045
Fair value of common stock issued for charitable contributions		-			113,400
Fair value of common stock and warrants issued for services		384,620			930,144
Fair value of options issued for services		-			59,471
Derivative warrant liability loss (gain)		2,258,679			(1,000,987	)
Non-cash gain on extinguishment of financial advisor fee payable		-			(200,000	)
Non-cash loss on extinguishment of debt		1,514			-
Non-cash interest expense		12,159			2,450
Non-cash loss on disposal of assets		2,731			-
Changes in assets and liabilities:
Accounts receivable		100,804			117,741
Prepaid expenses and other current assets		(250,911	)		(36,541	)
Accounts payable		(243,121	)		(442,637	)
Deferred revenue		(198,550	)		(197,594	)
Accrued expenses and other liabilities		356,991			(85,422	)
Deposits and other assets		(10,566	)		(1,380	)
Net cash used in operating activities		(4,899,698	)		(3,494,192	)

Cash Flows from Investing Activities:
Purchases of property and equipment		(290,733	)		(11,157	)
Decrease in restricted cash		265,500			-
Net cash used in investing activities		(25,233	)		(11,157	)

Cash Flows From Financing Activities:
Proceeds from the exercise of warrants		1,250,824			-
Proceeds from issuance of common stock and warrants, net of expenses		1,121,124			2,311,157
Principal payments for capital lease obligations		(1,534	)		(1,388	)
Proceeds from issuance of Series D Convertible Preferred Stock, net of expenses		2,478,702			-
Proceeds from bridge notes		1,000,000			250,000
Repayment of bridge notes		(75,000	)		-
Proceeds from exercise of stock options, net of forfeitures		66,790			-
Net cash provided by financing activities		5,840,906			2,559,769

Net increase (decrease) in cash and cash equivalents		915,975			(945,580	)
Cash and cash equivalents, beginning of period		1,342,044			1,166,858
Cash and cash equivalents, end of period	$	2,258,019		$	221,278

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

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Echo Therapeutics, Inc.

Consolidated Statements of Cash Flows

(Unaudited)

	Nine Months Ended September 30,
	2011		2010
Supplemental Disclosure of Cash Flow Information and Non-Cash Financing Transactions:

Cash paid for interest	$	1,581	$	2,124
Accretion of dividend on Series B Perpetual Redeemable Preferred Stock	$	142,761	$	93,700
Deemed dividend on beneficial conversion feature of Series D Convertible Preferred Stock	$	1,975,211	$	-
Issuance of common stock in settlement of short term note	$	25,000	$	-
Issuance of common stock in settlement of accounts payable	$	-	$	23,000
Issuance of common stock in connection with issuance of promissory notes	$	-	$	48,500
Conversion of notes payable and accrued interest into Series D Convertible Preferred Stock	$	1,006,000	$	-
Reclassification of derivative warrant liability to additional paid-in capital	$	2,242,431	$	200,357
Fair value of warrants issued for investor relations services	$	173,000	$	-
Fair value of common stock issued for short-term note extension	$	10,500	$	-
Fair value of warrants issued to financial advisors as financing costs	$	41,363	$	217,141
Cancellation of restricted Common Stock	$	5,250	$	-
Deemed dividend on repricing of warrants	$	87,500	$	-

See also Restricted Stock section in Note 10 for fair value of restricted stock grants.

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

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Echo Therapeutics, Inc.

Notes To Consolidated Financial Statements

Quarter Ended September 30, 2011 (Unaudited)

(1)	ORGANIZATION AND BASIS OF PRESENTATION

Echo Therapeutics, Inc. (the “Company”) is a transdermal medical device company with expertise in advanced skin permeation technology that is primarily focused on continuous glucose monitoring and needle-free drug delivery. Echo is developing its Prelude® SkinPrep System (“Prelude”) as a platform technology to allow for significantly enhanced and painless skin permeation that will enable two important applications:

analyte extraction, with the Symphony® tCGM System (“Symphony”) for needle-free, continuous glucose monitoring in hospital patients and diabetics as the first application; and

enhanced needle-free drug delivery.

The accompanying consolidated financial statements include the accounts of the Company and its wholly-owned subsidiary, Sontra Medical, Inc., a Delaware corporation. All significant intercompany balances and transactions have been eliminated in consolidation.

The accompanying unaudited consolidated financial statements have been prepared in conformity with generally accepted accounting principles (“GAAP”) in the United States consistent with those applied in, and should be read in conjunction with, the Company’s audited financial statements and related footnotes for the year ended December 31, 2010 included in the Company’s Annual Report on Form 10-K as filed with the United States Securities and Exchange Commission (“SEC”) on March 18, 2011. The unaudited consolidated financial statements reflect all adjustments, consisting only of normal recurring adjustments, which are, in the opinion of management, necessary for a fair presentation of the Company’s financial position as of September 30, 2011 and its results of operations and cash flows for the interim periods presented and are not necessarily indicative of results for subsequent interim periods or for the full year. The interim financial statements do not include all of the information and footnotes required by GAAP for complete financial statements and allowed by the relevant SEC rules and regulations; however, the Company believes that its disclosures are adequate to ensure that the information presented is not misleading.

Certain amounts in prior periods have been reclassified to conform to current presentation.

The accompanying consolidated financial statements have been prepared on a basis assuming that the Company is a going concern, which contemplates the realization of assets and the satisfaction of liabilities in the normal course of business. As of September 30, 2011, the Company had cash of approximately $2,258,000, working capital of approximately $(195,000) and an accumulated deficit of approximately $79,451,000. We will require additional capital to fund our product development, research, manufacturing and clinical programs in accordance with our current projected level of operations. The Company has funded its operations in the past primarily through debt and equity issuances. Management will continue to pursue additional financing to fund its operations. Although management believes that it will be successful in securing additional financing, no assurances can be given as to the success of these plans or that such capital will be available to the Company in sufficient amounts to meet its operating cash needs or on terms acceptable to the Company. The consolidated financial statements do not include any adjustments that might result from the outcome of these uncertainties.

(2) CASH AND CASH EQUIVALENTS

As of September 30, 2011, the Company held approximately $2.3 million in cash and cash equivalents. From time to time, the Company may have cash balances in excess of insurance limits. The Company has never experienced any previous losses related to these balances. All of the Company’s non-interest bearing cash balances were fully insured at September 30, 2011 due to a temporary federal program in effect from December 31, 2010 through December 31, 2012. The Company’s cash equivalents consist solely of bank money market funds. Under the program, there is no limit on the amount of insurance for eligible accounts. Beginning 2013, insurance coverage will revert to $250,000 per depositor at each financial institution, and non-interest bearing cash balances may again exceed federally insured limits.

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Echo Therapeutics, Inc.

Notes To Consolidated Financial Statements

Quarter Ended September 30, 2011 (Unaudited) - Continued

(3) INTANGIBLE ASSETS

The Company’s intangible assets are related to the acquisition of assets from Durham Pharmaceuticals Ltd. in 2007 and are summarized as follows:

	September 30, 2011							December 31, 2010
	Estimated			Accumulated
	Life	Cost		Amortization		Net		Net
Contract related intangible asset:
Cato Research discounted contract	3 years	$	355,000	$	355,000	$	—	$	—
Technology related intangible assets:
Patent for the AzoneTS-based product candidates and formulation	6 years		1,305,000		—		1,305,000		1,305,000
Drug Master Files containing formulation, clinical and safety documentation used by the FDA	6 years		1,500,000		—		1,500,000		1,500,000
Two in-process Durhalieve-related pharmaceutical products	6 years		6,820,000		—		6,820,000		6,820,000
Total technology related intangible assets			9,625,000		—		9,625,000		9,625,000
Intangible assets, net		$	9,980,000	$	355,000	$	9,625,000	$	9,625,000

Intangible assets related to technology are expected to be amortized on a straight-line basis over the period ending 2018, when the underlying patents expire, and will commence upon revenue generation which the Company estimates to occur in 2013. The contract related intangible asset was amortized over a 3 year period that ended in 2010. Amortization expense relating to the contract was $25,000 and $84,000 for the three and nine months ended September 30, 2010, respectively, and is included in research and development expense in the Consolidated Statement of Operations.

(4) OPERATING LEASE COMMITMENT

The Company leases approximately 13,000 square feet of manufacturing, laboratory and office space in a single facility located in Franklin, Massachusetts under a lease expiring March 31, 2014.

Effective as of May 2, 2011, the Company commenced a lease for approximately 5,400 square feet of corporate office space in a single facility located in Philadelphia, Pennsylvania under a lease expiring April 30, 2014.

Future minimum lease payments for the next 5 years under these operating leases at September 30, 2011 are approximately as follows:

For the period ending December 31,	Franklin		Philadelphia		Total
2011	$	36,000	$	31,000	$	67,000
2012		144,000		128,000		272,000
2013		144,000		132,000		276,000
2014		36,000		44,000		80,000
2015		-		-		-
Total	$	360,000	$	335,000	$	695,000

The Company’s facilities lease expense was approximately $67,000 and $44,000 for the three months ended September 30, 2011 and 2010, respectively, and $153,000 and $138,000 for the nine months ended September 30, 2011 and 2010, respectively.

The Company leases copiers in the Philadelphia office through a non-cancelable operating lease at a cost of approximately $635 per month. The Company is obligated to pay approximately $2,000, $8,000, $8,000 and $3,000 for 2011, 2012, 2013 and 2014, respectively. The total is approximately $21,000 over the course of the lease.

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Echo Therapeutics, Inc.

Notes To Consolidated Financial Statements

Quarter Ended September 30, 2011 (Unaudited) - Continued

(5) NOTES PAYABLE AND CAPITAL LEASE OBLIGATION

Notes payable and capital lease obligation at September 30, 2011 and December 31, 2010 consisted of the following:

	September 30,			December 31,
	2011			2010
Short-term notes	$	—		$	100,000
Capital lease obligation		6,713			8,247
Total notes payable and capital lease obligation		6,713			108,247
Less current portion of notes payable and capital lease obligation, net of discounts		(2,231	)		(102,071	)
Notes payable and capital lease obligation, net of current portion	$	4,482		$	6,176

Short-term Notes — In September 2010, the Company issued $250,000 of short-term notes, maturing in 90 days. In lieu of interest, the note holders were issued 2,000 unregistered shares of the Company’s Common Stock, $0.01 par value (“Common Stock”), for every $10,000 of principal loaned. A total of 50,000 shares with a fair value of $48,500 were issued in September 2010 pursuant to these short-term notes. The fair value of the stock was amortized over the 90-day term. One short-term note in the amount of $100,000 was extended for one month on December 23, 2010 in exchange for 5,000 shares of Common Stock issued in January 2011 with a fair value of $10,500. In January 2011, the Company repaid $75,000 in cash on the extended note and the remaining $25,000 was used to purchase Common Stock and warrants to purchase Common Stock (see Note 9). Interest expense on the extended note during the nine months ended September 30, 2011 was approximately $6,200.

See also Note 8 regarding the 8% Senior Promissory Note issued on January 5, 2011 and extinguished on February 8, 2011 in connection with the Series D Convertible Preferred Stock financing.

Capital Lease Obligation — In 2009, the Company entered into a five year lease of an office copier. The value of the equipment capitalized was approximately $11,000. The lease payments of $234 per month, payable in arrears, reflect a 10% interest rate. Accumulated depreciation on the leased copier as of September 30, 2011 was approximately $4,000. During each of the three months ended September 30, 2011 and 2010, interest expense related to the capital lease obligation was approximately $200. During the nine months ended September 30, 2011 and 2010, interest expense related to the capital lease obligation was approximately $600 and $700, respectively.

(6) DERIVATIVE FINANCIAL INSTRUMENTS

Derivative financial instruments are recognized as a liability on the Consolidated Balance Sheet and measured at their current fair value.

At September 30, 2011 and December 31, 2010, the Company had outstanding warrants to purchase 12,478,197 and 10,336,292 shares of its Common Stock, respectively. Included in these outstanding warrants at September 30, 2011 are warrants to purchase 745,974 shares that are considered to be derivative financial instruments, because the warrant agreements contain “down round” provisions whereby the number of shares covered by the warrants is subject to change in the event of certain future dilutive stock issuances. The fair value of these derivative instruments at September 30, 2011 was approximately $1,561,244 and is included in the Derivative Warrant Liability, a current liability, on the Consolidated Balance Sheet. Changes in the fair value of the derivative financial instruments are recognized in the Consolidated Statement of Operations as a Derivative Warrant Gain or Loss. The Derivative Warrant Gain for the three months ended September 30, 2011 was approximately $893,000. The Derivative Warrant Loss for the nine months ended September 30, 2011 was approximately $2,259,000. The Derivative Warrant Gain for the three and nine months ended September 30, 2010 was approximately $329,000 and $1,001,000, respectively.

The primary underlying risk exposure pertaining to the warrants is the change in fair value of the underlying Common Stock for each reporting period. For the nine months ended September 30, 2011, holders exercised warrants with “down round” provisions to purchase 632,318 shares which resulted in a reclassification of $2,242,000 from the Derivative Warrant Liability to Additional Paid-in Capital.

(7) FAIR VALUES OF ASSETS AND LIABILITIES

The Company groups its financial assets and liabilities generally measured at fair value in three levels, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value, as follows:

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Echo Therapeutics, Inc.

Notes To Consolidated Financial Statements

Quarter Ended September 30, 2011 (Unaudited) - Continued

Level 1:	Valuation is based on quoted prices in active markets for identical assets or liabilities. Level 1 assets and liabilities generally include debt and equity securities that are traded in an active exchange market. Valuations are obtained from readily available pricing sources for market transactions involving identical assets or liabilities.

Level 2:	Valuation is based on observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable m arket data for substantially the full term of the assets or liabilities. For example, Level 2 assets and liabilities may include debt securities with quoted prices that are traded less frequently than exchange-traded instruments.

Level 3:	Valuation is based on unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Level 3 assets and liabilities include financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation. This category generally includes certain private equity investments and long-term derivative contracts.

The Company uses valuation methods such as the Black-Scholes option pricing model, and assumptions in estimating fair value for the warrants considered to be derivative instruments including, among other factors, the fair value of the underlying stock, risk-free interest rate, volatility, expected life and dividend rates.

The table below presents the changes in Level 3 derivative warrant liability measured at fair value on a recurring basis.

Liabilities:
Derivative warrant liability as of December 31, 2010	$	1,544,996

Total unrealized losses included in net loss (1)		2,191,146

Total realized losses included in net loss (1)		978,678

Total unrealized gains included in net loss (1)		(891,727	)

Total realized gains included in net loss (1)		(19,418	)

Reclassification of derivative warrant liability to additional paid-in capital for derivative warrants exercised		(2,242,431	)

Derivative warrant liability as of September 30, 2011	$	1,561,244

(1) Included in derivative warrant liability gain or loss in the Consolidated Statement of Operations.

(8) PREFERRED STOCK

The Company is authorized to issue up to 40,000,000 shares of preferred stock with such rights, preferences and privileges as are determined by the Board of Directors.

Series B Perpetual Redeemable Preferred Stock

The Company has authorized 40,000 shares of non-convertible, redeemable Series B Perpetual Preferred Stock (the “Series B Stock”), of which 168.6701 and 154.3940 shares were issued and outstanding as of September 30, 2011 and December 31, 2010, respectively.

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Echo Therapeutics, Inc.

Notes To Consolidated Financial Statements

Quarter Ended September 30, 2011 (Unaudited) - Continued

The Company accrued and satisfied approximately $50,000 and $37,000 of dividends by issuing 4.9519 and 3.7026 shares of Series B Stock during the three months ended September 30, 2011 and 2010, respectively. The Company accrued and satisfied approximately $143,000 and $94,000 of dividends by issuing 14.2761 and 9.3700 shares of Series B Stock during the nine months ended September 30, 2011 and 2010, respectively. These dividends are included in the Consolidated Statements of Operations in arriving at Net Loss Applicable to Common Shareholders.

As described in Note 14 below, subsequent to September 30, 2011 the Series B Stock was exchanged in full and it is no longer outstanding.

Series C Convertible Preferred Stock

The Company has authorized 10,000 shares of Series C Preferred Stock (the “Series C Stock”), of which 4,918.1 shares were issued and outstanding as of September 30, 2011 and December 31, 2010.

Series D Convertible Preferred Stock

On February 8, 2011 the Company entered into a Series D Convertible Preferred Stock Purchase Agreement (the “Series D Agreement”) with Platinum-Montaur Life Sciences, LLC and certain other strategic accredited investors (each, a “Series D Investor” and collectively, the “Series D Investors”) in connection with the Company’s private placement (the “Series D Financing”) of Series D Convertible Preferred Stock (“Series D Stock”) at a price per share of $1.00. For every $100,000 face value of Series D Stock purchased in the Series D Financing, the Series D Investor was issued (i) Series 1 warrants to purchase 50,000 shares of Common Stock with an exercise price of $1.50 per share (the “Series D-1 Warrants”), and (ii) Series 2 warrants to purchase 50,000 shares of Common Stock with an exercise price of $2.50 per share (the “Series D-2 Warrants” and, together with the Series D-1 Warrants, the “Series D Warrants”).

On February 8, 2011 there was a closing in connection with the Series D Agreement and the Company received cash proceeds of $2,500,000 for the purchase of 2,500,000 shares of Series D Stock. The Company issued 1,006,000 shares of Series D Stock in exchange for the extinguishment of an 8% Senior Promissory Note issued by the Company on January 5, 2011 in the principal amount of $1,000,000, plus interest accrued through February 1, 2011 in the amount of $6,000.

The Company issued an aggregate of 1,753,000 Series D-1 Warrants and 1,753,000 Series D-2 Warrants to the Series D Investors pursuant to the Series D Agreement. The Series D Warrants are immediately exercisable and expire on February 7, 2013; however, if the Series D Warrants are not exercised in full by February 7, 2013 by virtue of the application of a beneficial ownership “blocker”, then the term of the Series D Warrants shall be extended for thirty (30) days past the date on which the beneficial ownership blocker is no longer applicable. An exercise under the Series D Warrants may not result in the holder beneficially owning more than 4.99% or 9.99%, as applicable, of all of the Common Stock outstanding at the time; provided, however, that a holder may waive the foregoing provision upon 61 days’ advance written notice to the Company. The exercise price of these warrants is subject to adjustment for stock splits, business combinations or similar events.

Pursuant to the Certificate of Designation, Preferences and Rights of Series D Convertible Preferred Stock, the shares of Series D Stock are initially convertible into shares of Common Stock at a price per share equal to $1.00, subject to adjustment for stock splits, business combinations or similar events, and shall have a liquidation preference equal to their stated value. Each holder who receives Series D Stock may convert it at any time following its issuance. The Series D Stock does not pay a dividend and is not redeemable.

In connection with issuance of Series D Stock, the conversion feature of Series D Stock was considered beneficial, or “in the money”, at issuance due to a conversion rate that allows the investor to obtain the Common Stock at below market price. The Company recorded a deemed dividend on the beneficial conversion feature equal to the incremental fair value resulting from the reduction in the conversion rate of $1,975,211. This deemed dividend is included in the Consolidated Statement of Operations for the nine months ended September 30, 2011 in arriving at Net Loss Applicable to Common Shareholders.

In accordance with (i) the Certificate of Designation, Rights and Preferences of the Series B Stock (the “Series B Certificate”) and (ii) a letter agreement dated January 19, 2010 between the Company and the sole holder of the Series B Stock (the “Series B Holder”), the Company was obligated to use 25% of the gross proceeds from the Series D Financing to redeem Series B Stock. On February 4, 2011, the Company entered into a letter agreement (the “Letter”) with the Series B Holder pursuant to which the Series B Holder waived the redemption of shares of the Series B Stock triggered by the Series D Financing.

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Echo Therapeutics, Inc.

Notes To Consolidated Financial Statements

Quarter Ended September 30, 2011 (Unaudited) - Continued

(9) COMMON STOCK

The Company has authorized 100,000,000 shares of Common Stock of which 34,455,452 and 31,126,245 shares were issued and outstanding as of September 30, 2011 and December 31, 2010, respectively.

November 2010 Common Stock and Warrant Financing

In November 2010, the Company initiated a private placement (the “November 2010 Financing”) of up to 120 units (each, a “Unit” and together, the “Units”) or partial Units at a price per Unit of $25,000. Each Unit consisted of (i) 25,000 shares of Common Stock, (ii) Series-1 warrants to purchase 12,500 shares of Common Stock with an exercise price of $1.50 per share (the “Series-1 Warrants”), and (iii) Series-2 warrants to purchase 12,500 shares of Common Stock with an exercise price of $2.50 per share (the “Series-2 Warrants”).

Through December 31, 2010, the Company had entered into subscription agreements with certain strategic institutional and accredited investors in connection with the November 2010 Financing for a total of 68.8 Units. The Company received gross proceeds from these subscriptions in the amount of $1,720,000. Included in this amount, the Company received proceeds of $100,000 in the form of extinguishment of a promissory note issued by the Company on September 28, 2010. Additionally, the Company had received a commitment for an additional 11.4 Units for which the expected proceeds of $285,000 had not been received as of December 31, 2010. This was recorded as Stock Subscriptions Receivable in the December 31, 2010 Consolidated Balance Sheet. The corresponding proceeds of $285,000 were received in January and February 2011.

As of December 31, 2010, the Company issued an aggregate of 1,720,000 shares of Common Stock and issued an aggregate of 860,000 Series-1 Warrants and 860,000 Series-2 Warrants. These warrants are immediately exercisable and expire two years after issuance. The exercise price is subject to adjustment for stock splits, combinations or similar events. An exercise under these warrants may not result in the holder beneficially owning more than 4.99% or 9.99%, as applicable, of all of the Common Stock outstanding at the time; provided, however, that a holder may waive the foregoing provision upon 61 days’ advance written notice to the Company.

During the nine months ended September 30, 2011, the Company entered into additional subscription agreements with certain strategic institutional and accredited investors in connection with the November 2010 Financing for a total of 35.66 Units. The Company received gross proceeds from these 2011 subscriptions in the amount of $891,500 which included proceeds of $25,000 in the form of extinguishment of a 2010 short-term note issued by the Company on September 24, 2010 (see Note 5). Financing costs related to these issuances amounted to approximately $72,000.

Pursuant to these November 2010 Financing subscription agreements that occurred in 2011, including the subscription receivable, the Company issued an aggregate of 607,625 Series-1 Warrants and 607,625 Series-2 Warrants to the investors and placement agents.

In connection with the November 2010 Financing, the Company entered into agreements with two placement agents (each, an “Agent” and collectively, the “Agents”) pursuant to which the Company agreed to pay each Agent for its services as follows: (a) a cash fee equal to 7% of the gross cash proceeds received by the Company in connection with the November 2010 Financing from investors introduced by the Agent; and (b) warrants to acquire a number of shares of Common Stock equal to 10% of the securities sold to investors introduced by the Agent. The warrants are identical to those issued to the investors in the November 2010 Financing, except that they include a cashless exercise provision. One Agent received an up-front cash fee of $10,000 for financial advisory services and received a cash fee equal to 7% of the gross cash proceeds in excess of $150,000 received by the Company in connection with the November 2010 Financing from investors introduced by the Agent. During the nine months ended September 30, 2011, the cash fee paid to the Agents amounted to approximately $30,000. In connection with the November 2010 Financing, the Company issued the Agents warrants to purchase 19,375 shares of Common Stock at an exercise price of $1.50 per share and warrants to purchase 19,375 shares of Common Stock at an exercise price of $2.50 per share, with a combined fair value of approximately $41,000 which was recorded as non-cash stock issuance cost.

Stock Issued for Services

During the nine months ended September 30, 2011, the Company issued 60,000 shares of Common Stock with a fair value of $173,000 to a vendor for investor relations services. Expenses associated with this transaction were included in Selling, General and Administrative Expenses in the Consolidated Statements of Operations.

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Echo Therapeutics, Inc.

Notes To Consolidated Financial Statements

Quarter Ended September 30, 2011 (Unaudited) - Continued

During the nine months ended September 30, 2011, the Company issued 40,000 shares of Common Stock with a fair value of $166,000 to a vendor for business development services. The Company recorded $83,000 and $153,000 of Selling, General and Administrative Expense related to this issue in the Consolidated Statements of Operations for the three and nine months ended September 30, 2011. Approximately $14,000 of unrecognized expense remains to be recognized related to this arrangement.

During the nine months ended September 30, 2011, the Company issued 14,000 shares of Common Stock with a fair value of $45,000 to a vendor for investor relations services. Expenses associated with this transaction were included in Selling, General and Administrative expenses in the Consolidated Statements of Operations.

(10) STOCK OPTION AND EQUITY COMPENSATION PLANS

In 1997, the Company adopted a Long-Term Incentive and Stock Option Plan (the “1997 Plan”). Pursuant to the 1997 Plan, the Company’s Board of Directors (or its committees and/or executive officers delegated by the Board of Directors) may grant incentive and nonqualified stock options to the Company’s employees, officers, directors, consultants and advisors. As of September 30, 2011, there were options to purchase an aggregate of 20,000 shares of Common Stock outstanding under the 1997 Plan and none available for future grants.

In connection with the Company’s strategic merger with ChoiceTel in 2002, the Company assumed all outstanding options under the 1999 Sontra Medical, Inc. Stock Option and Incentive Plan (the “1999 Plan”). The Company assumed options to purchase an aggregate of 86,567 shares of Common Stock under the 1999 Plan. As of September 30, 2011, there were options to purchase an aggregate of 3,853 shares of Common Stock outstanding under the 1999 Plan and none available for future grants.

In March 2003, the Company’s shareholders approved its 2003 Stock Option and Incentive Plan (the “2003 Plan”). Pursuant to the 2003 Plan, the Company’s Board of Directors (or its committees and/or executive officers delegated by the Board of Directors) may grant incentive and nonqualified stock options, restricted stock, and other stock-based awards to the Company’s employees, officers, directors, consultants and advisors. As of September 30, 2011, the maximum aggregate number of shares that may be authorized for issuance under the 2003 Plan for all periods is 1,600,000 shares. As of September 30, 2011, there were restricted shares of Common Stock and options to purchase an aggregate of 1,372,500 shares of Common Stock outstanding under the 2003 Plan and 132,500 shares available for future grants.

In May 2008, the Company’s shareholders approved the 2008 Equity Compensation Plan (the “2008 Plan”). The 2008 Plan provides for grants of incentive stock options to employees and nonqualified stock options and restricted stock to employees, consultants and non-employee directors of the Company. In July 2010, the Company’s shareholders approved an amendment to the 2008 Plan to increase the maximum number of shares of Common Stock available under the Plan by 2,000,000 shares to 4,700,000 shares. As of September 30, 2011, there were restricted shares of Common Stock and options to purchase an aggregate of 3,166,416 shares of Common Stock outstanding under the 2008 Plan and 1,500,250 shares available for future grants.

Share-Based Compensation

For stock options and restricted stock issued and outstanding during the nine months ended September 30, 2011 and 2010, the Company recorded additional paid-in capital and non-cash compensation expense of approximately $566,000 and $143,000, respectively.

The fair value of each stock option award is estimated on the date of grant using the Black-Scholes option pricing model with certain assumptions noted below. Expected volatilities are based on historical volatility of the Common Stock using historical periods consistent with the expected term of the options. The Company uses historical data, as well as subsequent events occurring prior to the issuance of the financial statements, to estimate option exercise and employee termination and forfeitures within the valuation model. The expected term of stock options granted under the Company’s stock plans is based on the average of the contractual term (generally 10 years) and the vesting period (generally 24 to 42 months). The risk-free rate is based on the yield of a U.S. Treasury security with a term consistent with the option. Restricted stock grants are valued based on the closing market price for the Common Stock on the grant date.

The assumptions used principally for stock options granted to employees and members of the Company’s Board of Directors in the nine months ended September 30, 2011 and 2010 were as follows:

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Echo Therapeutics, Inc.

Notes To Consolidated Financial Statements

Quarter Ended September 30, 2011 (Unaudited) - Continued

	2011			2010
Risk-free interest rate		1.91% — 3.47	%		2.54% — 3.71	%
Expected dividend yield		—			—
Expected term (employee / director grants)	6.00 — 10.00 years			6.75 years
Forfeiture rate (excluding fully vested stock options)		0% — 15	%		0% — 37	%
Expected volatility		138% — 142	%		143% — 151	%

A summary of stock option activity under the Company’s stock plans and stock options granted to officers of the Company outside any plan as of and for the nine months ended September 30, 2011 is as follows:

Stock Options	Shares			Weighted- Average Exercise Price		Weighted- Average Remaining Contractual Term	Aggregate Intrinsic Value
Outstanding at January 1, 2011		3,029,030		$	0.87
Granted		1,115,000			3.21
Exercised		(615,334	)		0.86
Forfeited or expired		(173,593	)		3.34
Outstanding at September 30, 2011		3,355,103		$	1.52	7.05 years	$	9,570,215
Exercisable at September 30, 2011		2,420,099		$	0.88	6.29 years	$	5,298,175

The weighted-average grant-date fair value of stock options granted during the nine months ended September 30, 2011 was $3.21 per share. Share-based compensation expense recognized in the nine months ended September 30, 2011 was approximately $566,000 for options granted in the nine months ended September 30, 2011. As of September 30, 2011, there was approximately $2,098,000 of total unrecognized compensation expense related to non-vested share-based option compensation arrangements. With the exception of the unrecognized share-based compensation related to certain restricted stock grants to officers and employees that contain performance conditions related to United States Food and Drug Administration (“FDA”) approval for Symphony or the sale of substantially all of the stock or assets of the Company (see Restricted Stock section below), unrecognized compensation is expected to be recognized over the next 12 months.

Restricted Stock

During the nine months ended September 30, 2011, the Company granted an aggregate of 615,000 restricted shares of Common Stock to certain employees, officers and directors of the Company. The grants were issued pursuant to the 2008 Plan. The grant date fair value of these restricted stock grants was approximately $2,116,000.

These restricted share grants are subject to the terms and conditions of the Restricted Stock Agreements and the shares will vest upon the first to occur of (i) FDA approval of Symphony; or (ii) the sale of all or substantially all of the assets of the Company or all or substantially all of the outstanding capital stock of the Company in exchange for Liquid Proceeds. For the purposes of the Restricted Share Grants, “Liquid Proceeds” means (a) cash; (b) securities which can be sold immediately on NYSE or NASDAQ; (c) securities which are or will be registered such that they can be sold immediately on NYSE or NASDAQ upon termination of a lock-up period not to exceed one hundred eighty (180) days; or (d) a combination of cash and the foregoing securities. Compensation expense related to the restricted share grants will be recognized when the Company concludes that achievement of the performance vesting conditions is probable. No compensation expense was recognized during the nine months ended September 30, 2011.

As of September 30, 2011, the Company had outstanding restricted stock grants amounting to 2,615,094 shares at a weighted-average grant-date fair value of $1.74 per share. Of the outstanding vested restricted stock grants, 895,500 shares have not been registered under the Securities Act. A summary of the Company’s restricted stock activity as of and for the nine months ended September 30, 2011, is as follows:

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Echo Therapeutics, Inc.

Notes To Consolidated Financial Statements

Quarter Ended September 30, 2011 (Unaudited) - Continued

Restricted Stock	Shares			Weighted- Average Grant-Date Fair Value
Nonvested at January 1, 2011		1,629,594		$	1.12
Granted		680,000			3.39
Vested		(65,000	)		(1.49	)
Forfeited		(525,000	)		(1.57	)
Nonvested at September 30, 2011		1,719,594		$	1.82

As of September 30, 2011, there was approximately $3,503,000 of total unrecognized compensation expense related to non-vested share-based restricted stock arrangements granted pursuant to the Company’s equity compensation plans. As of September 30, 2011, the Company cannot estimate the timing of completion of performance vesting requirements included in these restricted stock grant arrangements and accordingly no compensation expense has been recorded.

(11) WARRANTS

At September 30, 2011, the Company had the following outstanding warrants:

	Number of
	Shares		Exercise		Date of
	Exercisable		Price		Expiration
Outstanding warrants accounted for as derivative warrant liability:
Granted to investors and placement agent in private placement		341,535	$	1.28	6/15-7/16/2012
Granted to financial investment advisor		3,000	$	1.38	7/25/2012
Granted to financial advisor in connection with an acquisition		61,625	$	1.75	9/14/2012
Granted to financial investment advisor		7,500	$	1.30	2/11/2013
Granted to investors in private placement		154,990	$	0.50	2/11/2013
Granted to investors in private placement		177,324	$	1.50	3/24/2013
Total outstanding warrants accounted for as derivative warrant liability		745,974
Weighted average exercise price			$	1.21
Weighted average time to expiration in years					1.08 years

Outstanding warrants accounted for as equity:
Granted to investors and placement agent in private placement		180,000	$	0.75	6/15/2012
Granted to investors in private placement		578,422	$	0.50	2/11/2013
Granted to investors in private placement of preferred stock		121,663	$	0.75	9/30/2013
Granted to investors in private placement of preferred stock		32,249	$	1.00	9/30/2013
Granted to investors in private placement of preferred stock		198,333	$	1.50	10/28/2013
Granted to investors in private placement of preferred stock		70,000	$	0.75	10/31/2013
Granted to investors in private placement of preferred stock		640,000	$	0.75	2/28/2014
Granted to vendor		50,000	$	0.70	3/2/2012
Granted to vendor		60,000	$	0.60	3/15/2014
Granted to investors in private placement		400,000	$	1.59	6/30/2014
Granted to investors in private placement		1,368,000	$	2.00	11/13/2014
Granted to investors in private placement		800,000	$	1.60	11/13/2014
Granted to placement agent in private placement		256,906	$	1.50	11/13/2014
Granted to vendor		50,000	$	2.00	12/1/2012
Granted to investors in private placement		63,000	$	2.00	12/3/2014
Granted to investors in private placement		374,658	$	2.25	2/9/2015

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Echo Therapeutics, Inc.

Notes To Consolidated Financial Statements

Quarter Ended September 30, 2011 (Unaudited) - Continued

	Number of Shares Exercisable		Exercise Price		Date of Expiration
Granted to placement agents in private placement		28,500	$	2.25	2/9/2015
Granted to investor in private placement		6,375	$	2.25	3/18/2015
Granted to financial investment advisor		100,000	$	1.50	2/10/2013
Granted to financial investment advisor		10,367	$	2.00	3/3/2013
Granted to investors in private placement		187,500	$	1.50	11/5/2012
Granted to investors in private placement		187,500	$	2.50	11/5/2012
Granted to placement agent in private placement		5,000	$	1.50	11/5/2012
Granted to placement agent in private placement		5,000	$	2.50	11/5/2012
Granted to investors in private placement		35,000	$	1.50	11/26/2012
Granted to investors in private placement		35,000	$	2.50	11/26/2012
Granted for waiver of Series B Perpetual Redeemable Preferred Stock redemption		125,000	$	1.50	12/8/2012
Granted for waiver of Series B Perpetual Redeemable Preferred Stock redemption		125,000	$	2.50	12/8/2012
Granted to investors in private placement		495,000	$	1.50	12/29/2012
Granted to investors in private placement		512,500	$	2.50	12/29/2012
Granted to placement agent in private placement		30,000	$	1.50	12/29/2012
Granted to placement agent in private placement		30,000	$	2.50	12/29/2012
Granted to investors in private placement		245,750	$	1.50	1/4/2013
Granted to investors in private placement		245,750	$	2.50	1/4/2013
Granted to placement agent in private placement		18,125	$	1.50	1/4/2013
Granted to placement agent in private placement		18,125	$	2.50	1/4/2013
Granted to investors in private placement		255,000	$	1.50	2/3/2013
Granted to investors in private placement		280,000	$	2.50	2/3/2013
Granted to placement agent in private placement		1,250	$	1.50	2/3/2013
Granted to placement agent in private placement		1,250	$	2.50	2/3/2013
Granted to investors in private placement		1,753,000	$	1.50	2/8/2013
Granted to investors in private placement		1,753,000	$	2.50	2/8/2013
Total outstanding warrants accounted for as equity		11,732,223
Weighted average exercise price			$	1.75
Weighted average time to expiration in years					1.37 years
Totals for all warrants outstanding:
Total		12,478,197
Weighted average exercise price			$	1.72
Weighted average time to expiration in years					1.35 years

Exercise of Common Stock Warrants

During the nine months ended September 30, 2011, the Company issued 744,243 shares of Common Stock upon the exercise of warrants to purchase 1,419,470 shares of Common Stock through cashless exercise provisions, and 705,048 shares of Common Stock upon the exercise of warrants for cash, providing gross proceeds to the Company of $1,251,629. During the nine months ended September 30, 2010, investors effected cashless exercises of warrants to purchase 143,793 shares which resulted in the issuance of 35,714 shares to the investors.

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Echo Therapeutics, Inc.

Notes To Consolidated Financial Statements

Quarter Ended September 30, 2011 (Unaudited) - Continued

During the nine months ended September 30, 2011, the Company contacted certain holders of the Series 1 and Series 2 Warrants to encourage them to exercise their warrants voluntarily by reducing the exercise price on the Series 2 Warrants from $2.50 to $2.00 per share, provided they elected to simultaneously exercise an equal number of Series 1 and Series 2 Warrants. Warrants to purchase an aggregate of 350,000 shares of Common Stock across the Series 1 and Series 2 warrants were exercised under this arrangement during the nine months ended September 30, 2011 and cash proceeds of $612,500 from these transactions were received. As a result of the reductions in exercise price, the Company recorded $87,500 in deemed dividends for the three and nine months ended September 30, 2011 in the Consolidated Statement of Operations.

(12) LICENSING AND OTHER REVENUE

Ferndale License of Prelude® SkinPrep System – On May 27, 2009, the Company entered into a License Agreement with Ferndale Pharma Group, Inc. (“Ferndale”) pursuant to which the Company granted Ferndale a license in North America and the United Kingdom to develop, assemble, use, market, sell and export Prelude for skin preparation prior to the application of a topical analgesic or anesthetic cream for local dermal anesthesia or analgesia prior to a needle insertion or IV procedure (the “Ferndale License”). The Ferndale License has a minimum term of 10 years from the date of the first commercial sale of Prelude product components in North America or the United Kingdom.

The Company received a licensing fee of $750,000 upon execution of the Ferndale License. The Company recognizes the upfront, nonrefundable payments as revenue on a straight-line basis over the contractual or estimated performance period. During the nine months ended September 30, 2011 and 2010, approximately $168,000 and $76,000, respectively, of the nonrefundable license revenue was recognized. As of September 30, 2011, approximately $73,000 of remaining deferred revenue is recognizable over the next 12 months and is shown in Deferred Revenue amongst current liabilities on the Consolidated Balance Sheet.

Other Revenue — The Company has retained contract engineering services in connection with product development pursuant to the Ferndale License and the Company is reimbursed by Ferndale for the cost of product development engineering services. Other Revenue of approximately $145,000 and $127,000 related to product development costs incurred was earned during the nine months ended September 30, 2011 and 2010, respectively. The expenses billed to the Company are included in Research and Development expenses in the Consolidated Statement of Operations. There was no markup on expenses from third party vendors.

Handok License of Symphony® tCGM System – On June 15, 2009, the Company entered into a License Agreement with Handok Pharmaceuticals Co., Ltd. (“Handok”) pursuant to which the Company granted Handok a license to develop, use, market, sell and import Symphony for continuous glucose monitoring for use by medical facilities and/or individual consumers in South Korea (the “Handok License”). The Handok License has a minimum term of 10 years from the date of the first commercial sale of Symphony in South Korea.

The Company received a licensing fee of approximately $500,000 upon execution of the Handok License. The Company recognizes the upfront, nonrefundable payments as revenue on a straight-line basis over the contractual or estimated performance period. During the nine months ended September 30, 2011, as a result of a change in the amortization period, the Company recorded a charge of approximately $30,000 to nonrefundable license revenue. During the nine months ended September 30, 2010, the Company recognized nonrefundable license revenue of $121,000. As of September 30, 2011, approximately $124,000 of remaining deferred revenue is recognizable over the next 12 months and is shown as Deferred Revenue amongst current liabilities on the Consolidated Balance Sheet. Approximately $93,000 of the remaining deferred revenue will be earned after 12 months and is shown as non-current Deferred Revenue.

(13) LITIGATION

Harry G. Mitchell, the former Chief Operating Officer of the Company, resigned from that position in June 2011. On August 25, 2011, Mr. Mitchell filed a complaint in the Norfolk County Superior Court in Massachusetts against the Company and its Chief Executive Officer, Patrick T. Mooney, claiming, among other things, that he resigned for good reason (as defined under his employment agreement) and is therefore entitled to certain benefits and also to certain payments under state wage payment statutes. Mr. Mitchell is seeking compensatory damages, an award of attorneys’ fees and costs and other relief.

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Echo Therapeutics, Inc.

Notes To Consolidated Financial Statements

Quarter Ended September 30, 2011 (Unaudited) - Continued

On September 28, 2011, the Company filed a Notice of Partial Motion to Dismiss with the Norfolk County Superior Court. At the time of this filing, Mr. Mitchell has not responded to the Partial Motion to Dismiss.

While the Company believes that it is likely to succeed on the merits, the Company has accrued approximately $400,000 in liability as of September 30, 2011 with respect to this matter, payable in a combination of cash and stock, reflecting the Company’s best estimate of probable loss exposure.

(14) SUBSEQUENT EVENT

On October 27, 2011, the Company entered into an agreement with Platinum Long Term Growth VII, LLC (“Platinum”) and Platinum Montaur Life Sciences, LLC (“Montaur”) pursuant to which Platinum and Montaur exercised certain warrants to purchase Common Stock and, in lieu of delivering the cash exercise price for such warrant exercises, Montaur, on behalf of itself and Platinum, surrendered an aggregate of 170.1672 shares of the Series B Stock held by it, with a redemption value of $1,701,672, as full payment for the exercise of the warrants (the “Exchange”). After giving effect to the Exchange, the Company has no issued or outstanding Series B Stock.

As part of the Exchange, Platinum exercised its warrants in full and Montaur exercised certain of its warrants in full and certain of its warrants in part. In the aggregate, and without giving effect to any beneficial ownership limitation provisions contained in the warrants, the warrant exercises would have resulted in the issuance to Platinum and Montaur of 1,830,895 shares of Common Stock.

In connection with the Exchange, the Company agreed that the exercise price for Montaur’s Series 2 warrants issued in February 2011 to be exercised as part of the Exchange (and only such February 2011 Series 2 warrants) would be reduced from $2.50 per share to $1.50 per share for purposes of the Exchange.

As part of the Exchange, Platinum and Montaur requested, and the Company agreed, that the Company would, in lieu of issuing 1,830,895 shares of Common Stock, issue an aggregate of 1,830.895 shares of Series C Stock to Montaur.

After the Exchange, Montaur holds no shares of Series B Stock and 6,749.001 shares of Series C Stock.

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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 the financial statements and the related notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2010 and elsewhere in this report. The matters discussed herein contain forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), and Section 27A of the Securities Act of 1933, as amended, which involve risks and uncertainties. All statements other than statements of historical information provided herein may be deemed to be forward-looking statements. Without limiting the foregoing, the words “believes”, “anticipates”, “plans”, “expects” and similar expressions are intended to identify forward-looking statements. The factors that could cause actual future results to differ materially from current expectations include, but are not limited to, risks related to regulatory approvals and the success of our ongoing studies, including the safety and efficacy of Symphony and Prelude, the failure of future development and preliminary marketing efforts related to Symphony and Prelude, risks and uncertainties relating to our ability to develop, market and sell diagnostic products based on our skin permeation platform technologies, the availability of substantial additional equity or debt capital to support our research, development and product commercialization activities, the success of our research, development, and regulatory approval, marketing and distribution plans and strategies, including those plans and strategies related to Symphony and Prelude and those discussed in “Risk Factors” in our Annual Report on Form 10-K for the fiscal year ended December 31, 2010 and elsewhere in this report and the risks discussed in our other filings with the SEC. Readers are cautioned not to place undue reliance on these forward-looking statements, which reflect management’s analysis, judgment, belief or expectation only as of the date hereof. We undertake no obligation to publicly revise these forward-looking statements to reflect events or circumstances that arise after the date hereof.

Organization

We are a medical device company developing the Symphony® tCGM (transdermal continuous glucose monitoring) System as a non-invasive, wireless, transdermal continuous glucose monitoring system for use in hospital critical care units and for patients with diabetes.

In addition to using our needle-free Prelude® SkinPrep System with our Symphony System, we are developing our Prelude System as a platform technology for enhanced skin permeation for the delivery of topical pharmaceuticals (including Lidocaine) as well as for other transdermal reformulations of widely-available specialty pharmaceutical products previously approved by the FDA.

We have substantially completed our product development of our Prelude SkinPrep System for use prior to the topical application of 4% Lidocaine cream covered under a license with Ferndale Pharma Group. We have completed our principal research and advanced the product and clinical development of our Symphony System, including necessary product development for use of our proprietary Prelude System, and have engaged several product development, engineering, and contract manufacturing firms to assist us with all necessary efforts in connection with our plan to finalize product development and advance our regulatory approval process through the FDA. In prior years, we completed several clinical studies using Symphony in an acute care (hospital) environment, as well as in ambulatory settings for type 1 and type 2 diabetics and non-diabetics. In order to complete our product and clinical development programs, to obtain regulatory approval and to commercialize our Symphony System we will need to raise substantial additional financing.

Our specialty pharmaceuticals pipeline is based on our proprietary AzoneTS transdermal drug reformulation technology. We believe that, despite their commercial success in large, chronic markets, many FDA-approved products are candidates for our AzoneTS reformulation technology that is focused on improved and enhanced dermal penetration. Our lead product candidate is Durhalieve, an AzoneTS topical reformulation of triamcinolone acetonide. Durhalieve is covered by our New Drug Application (NDA) on file with the FDA for treatment of corticosteroid-responsive dermatoses. We plan to satisfy the FDA’s remaining manufacturing and clinical study requirements necessary to secure FDA approval of Durhalieve. In order to complete our product development program and to continue efforts to obtain regulatory approval for Durhalieve, we will need to raise substantial additional financing.

Research and Development

Our research and development expenses include salaries and benefits for personnel, outside product development, design and engineering firms and other contract service providers, as well an allocation for our facilities costs.

Our product development efforts are principally concentrated on our Prelude and Symphony tCGM Systems. While our medical device product development and clinical programs have made progress, limitations on financial resources in prior years have prevented us from advancing these programs in accordance with original timelines. With the recent financings completed in the fourth quarter of 2010 and in 2011, we have increased our product and clinical development efforts, manufacturing activities and regulatory planning for Symphony and are in the final stages of manufacturing validation for our Prelude.

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Critical Accounting Policies and Estimates

Our consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period.

On an ongoing basis, we evaluate our estimates and judgments for all assets and liabilities, including those related to stock-based compensation expense and the fair value of stock purchase warrants classified as derivative liabilities. We base our estimates and judgments on historical experience, current economic and industry conditions and on various other factors that are believed to be reasonable under the circumstances. This forms the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. There have been no changes in our critical accounting policies and estimates as filed with the SEC on March 18, 2011.

We believe that full consideration has been given to all relevant circumstances that we may be subject to, and the consolidated financial statements accurately reflect our best estimate of the results of operations, financial position and cash flows for the periods presented.

Revenue Recognition — To date, we have generated revenue primarily from licensing agreements, including upfront, nonrefundable license fees, and from amounts reimbursed by licensees for third-party engineering services for product development. We recognize revenue when the following criteria have been met:

●	persuasive evidence of an arrangement exists;

●	delivery has occurred and risk of loss has passed;

●	the price to the buyer is fixed or determinable; and

●	collectability is reasonably assured.

In addition, when evaluating multiple element arrangements, we consider whether the components of the arrangement represent separate units of accounting. Multiple elements are divided into separate units of accounting if specified criteria are met, including whether the delivered element has stand-alone value to the customer and whether there is objective and reliable evidence of the fair value of the undelivered items. The consideration received is allocated among the separate units based on their respective fair values, and the applicable revenue recognition criteria are applied to each of the separate units. Otherwise, the applicable revenue recognition criteria are applied to combined elements as a single unit of accounting.

We typically receive upfront, nonrefundable payments for the licensing of our intellectual property upon the signing of a license agreement. We believe that these payments generally are not separable from the payments we receive for providing research and development services because the license does not have stand-alone value from the research and development services we provide under these agreements. Accordingly, we account for these elements as one unit of accounting and recognize upfront, nonrefundable payments as revenue on a straight-line basis over its contractual or estimated performance period. Revenue from the reimbursement of research and development efforts is recognized as the services are performed based on proportional performance adjusted from time to time for any delays or acceleration in the development of the product. We estimate the performance period based on the contractual requirements of its collaboration agreements. At each reporting period, we evaluate whether events warrant a change in the estimated performance period.

Other Revenue includes amounts earned and billed under the license and collaboration agreements for reimbursement for research and development costs for contract engineering services. For the services rendered, principally third-party contract engineering services, the revenue recognized approximates the costs associated with the services.

Results of Operations

Comparison of the Three Months ended September 30, 2011 and 2010

Licensing Revenue — We signed two licensing agreements during fiscal year 2009, each with a minimum term of ten years, that required non-refundable license payments by the licensees. The non-refundable license payments received in cash totaled $1,250,000. We are recognizing the non-refundable payments as revenue on a straight-line basis over our contractual or estimated performance period. During 2011 and 2010, we adjusted our amortization period for revenue recognition for each of our license arrangements to reflect a revision in the estimated timing of regulatory approval (or clearance). Accordingly, we determined that an approximately $44,000 charge against license revenue was recognizable in the three months ended September 30, 2011 and $16,000 of license revenue was recognizable in the three months ended September 30, 2010.

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Other Revenue — We retained contract engineering services in connection with our product development for one of our licensees and such costs are reimbursed by the licensee and recorded as other revenue. We recognized approximately $31,000 related to these contract engineering services during the three months ended September 30, 2010. The costs from the contract engineering services are included in research and development expenses on the Statements of Operations. There was no markup on the contract engineering services recorded as other revenue. We did not have any such other revenue during the three months ended September 30, 2011.

Research and Development Expenses — Research and development expenses increased by approximately $286,000 to approximately $695,000 for the three months ended September 30, 2011 from approximately $409,000 for the three months ended September 30, 2010. Research and development expenses increased primarily as a result of increased engineering and design expenses incurred with outside contractors and personnel relating to the Prelude SkinPrep System and the Symphony tCGM System.

Research and development expenses amounted to approximately 31% and 43% of total operating expenses during both of the three months ended September 30, 2011 and 2010, respectively, and included product development and regulatory consulting expenses for Prelude and Symphony. Product development and clinical expenses included in research and development expenses for each of the three months ended September 30, 2011 and 2010 represented approximately 89% and 11%, respectively, of research and development expense.

Selling, General and Administrative Expenses — Selling, general and administrative expenses increased by approximately $981,000 to approximately $1,527,000 for the three months ended September 30, 2011 from approximately $546,000 for the three months ended September 30, 2010. We have experienced increases in personnel costs, legal, and expenses related to the addition of the corporate office in Philadelphia.

Selling, general and administrative expenses represented 69% and 57% of total operating expenses during the three months ended September 30, 2011 and 2010, respectively. We are not engaged in selling activities and, accordingly, general and administrative expenses relate principally to salaries and benefits for our executive, financial and administrative staff, public company reporting costs, investor relations, legal, accounting and media costs, capital-raising costs, and facilities costs.

Interest Income — Interest income was approximately $600 and $200 for the three months ended September 30, 2011 and 2010, respectively.

Interest Expense — Interest expense was approximately $400 and $3,000 for the three months ended September 30, 2011 and 2010, respectively.

Derivative Warrant Liability Gain (Loss) — Changes in the fair value of the derivative financial instruments are recognized in the Consolidated Statement of Operations as a derivative gain (loss). The primary underlying risk exposure pertaining to the warrants is the change in fair value of the underlying Common Stock. The derivative loss on warrants subject to “down round” provisions for the three months ended September 30, 2011 was approximately $893,000. The derivative gain on warrants subject to “down round” provisions for the three months ended September 30, 2010 amounted to approximately $329,000. During the three months ended September 30, 2011, warrants with anti-dilution provisions were exercised to purchase 29,625 shares of Common Stock, which resulted in a $72,000 reclassification from derivative warrant liability to additional paid-in capital. During the three months ended September 30, 2010, no warrants with anti-dilution provisions to purchase shares of Common Stock were exercised.

Net Loss — As a result of the factors described above, we had a net loss of approximately $1,373,000 for the three months ended September 30, 2011 compared to approximately $583,000 for the three months ended September 30, 2010.

Comparison of the Nine Months ended September 30, 2011 and 2010

Licensing Revenue — We signed two licensing agreements during fiscal year 2009, each with a minimum term of ten years, that required non-refundable license payments by the licensees. The non-refundable license payments received in cash totaled $1,250,000. We are recognizing the non-refundable payments as revenue on a straight-line basis over our contractual or estimated performance period. During 2011 and 2010, we adjusted our amortization period for revenue recognition for each of our license arrangements to reflect a revision in the estimated timing of regulatory approval (or clearance). Accordingly, we determined that approximately $199,000 and $198,000 of the non-refundable license revenue was recognizable in the nine months ended September 30, 2011 and 2010, respectively. Approximately $196,000 is recognizable over the next 12 months and is shown as current deferred revenue.

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Other Revenue — We retained contract engineering services in connection with our product development for one of our licensees and such costs are reimbursed and recorded as other revenue. Other revenue of approximately $145,000 and $127,000 related to such services were recognized and received from our licensee during the nine months ended September 30, 2011 and 2010, respectively. The costs from the contract engineering services are included in research and development expenses in the Consolidated Statements of Operations. There was no markup on the contract engineering services recorded as other revenue.

Research and Development Expenses — Research and development expenses increased by approximately $470,000 to approximately $2,557,000 for the nine months ended September 30, 2011 from approximately $2,087,000 for the nine months ended September 30, 2010. Research and development expenses increased primarily as a result of increased personnel costs for engineering and design contractors and intellectual property expenses relating to the Prelude SkinPrep System and the Symphony tCGM system.

Research and development expenses amounted to approximately 43% and 46% of total operating expenses during the nine months ended September 30, 2011 and 2010, respectively, and included product development and regulatory consulting expenses for Prelude and Symphony. Product development and clinical expenses included in research and development expenses for each of the nine months ended September 30, 2011 and 2010 represented approximately 96% and 4%, respectively, of research and development expense.

Selling, General and Administrative Expenses — Selling, general and administrative expenses increased by approximately $993,000 to approximately $3,428,000 for the nine months ended September 30, 2011 from approximately $2,435,000 for the nine months ended September 30, 2010. We have experienced increases in personnel costs, legal, and expenses related to the addition of the corporate office in Philadelphia.

Selling, general and administrative expenses represented 57% and 54% of total operating expenses during the nine months ended September 30, 2011 and 2010, respectively. We are not engaged in selling activities and, accordingly, general and administrative expenses relate principally to salaries and benefits for our executive, financial and administrative staff, public company reporting costs, investor relations, legal, accounting and media costs, capital-raising costs, and facilities costs.

Interest Income — Interest income was approximately $4,000 for the nine months ended September 30, 2011 compared to approximately $1,400 for the nine months ended September 30, 2010, respectively.

Interest Expense — Interest expense was approximately $14,000 for the nine months ended September 30, 2011, compared to interest expense of approximately $5,000 for the nine months ended September 30, 2010, an increase of approximately $9,000. The increase relates to non-cash interest expense incurred on a short-term note and a bridge financing note during 2011.

During the nine months ended September 30, 2011, all short-term debt was either repaid or converted into equity. A short-term note in the amount of $100,000 was partially converted into 25,000 shares of Common Stock in connection with the November 2010 Financing during January 2011. The balance of $75,000 was paid in cash in January 2011. The bridge note of $1,000,000 (plus accrued interest) was converted into Series D Stock during January 2011.

Gain (Loss) on Extinguishment of Debt/Payables — In January 2011 we issued 5,000 shares of Common Stock with a fair value of $10,500 to complete a short-term note extension This was treated as interest and was amortized to interest expense. The note holder converted $25,000 of principle into Common Stock as part of our November 2010 Financing prior to the due date of the note. We recognized a loss on extinguishment of debt in the amount of approximately $1,500. In March 2010, Burnham Hill Partners, LLC (“BHP”) agreed that we do not owe BHP any fees pursuant to any and all previous agreements between BHP and us. Accordingly, a fee of $200,000 was waived, and we recorded a gain on extinguishment of financing fee payable of $200,000 in 2010.

Gain (Loss) on Disposal of Assets — We disposed of certain office furniture and equipment at a loss, which was entirely offset by a gain from insurance proceeds on certain other damaged office furniture and equipment, resulting in a net gain of approximately $1,000 in the nine months ended September 30, 2011.

Derivative Warrant Liability Gain (Loss) — At September 30, 2011 and December 31, 2010, we had outstanding warrants to purchase 12,478,197 and 10,336,292 shares, respectively, of our Common Stock. Included in these warrants are outstanding warrants to purchase 745,974 and 1,356,289 shares, respectively, that are considered to be derivative instruments since the agreements contain “down round” provisions whereby the number of shares covered by the warrants is subject to change in the event of certain dilutive stock issuances. The fair value of these derivative instruments at September 30, 2011 and December 31, 2010 was approximately $1,561,000 and $1,545,000, respectively, and is included in Derivative Warrant Liability, a current liability. Changes in fair value of the derivative financial instruments are recognized in the Consolidated Statements of Operations as a derivative gain (loss). The primary underlying risk exposure pertaining to the warrants is the change in fair value of the underlying Common Stock. The Derivative loss on warrants subject to “down round” provisions for the nine months ended September 30, 2011 was approximately $2,259,000. The Derivative gain on warrants subject to “down round” provisions for the nine months ended September 30, 2010 amounted to approximately $1,001,000. During the nine months ended September 30, 2011, warrants with anti-dilution provisions were exercised to purchase 632,318 shares of Common Stock, which resulted in a $2,242,000 reclassification from Derivative Warrant Liability to Additional Paid-in Capital. During the nine months ended September 30, 2010, warrants with anti-dilution provisions were exercised to purchase 143,793 shares of Common Stock, which resulted in a $200,000 reclassification from Derivative Warrant Liability to Additional Paid-in Capital.

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Net Loss — As a result of the factors described above, we had a net loss of approximately $7,910,000 for the nine months ended September 30, 2011 compared to approximately $3,000,000 for the nine months ended September 30, 2010.

Liquidity and Capital Resources

We have financed our operations since inception primarily through private sales of our Common Stock and preferred stock, the issuance of convertible promissory notes, unsecured and secured promissory notes, non-refundable payments received under license agreements and cash received in connection with exercises of Common Stock purchase options and warrants. As of September 30, 2011, we had approximately $2,258,000 of cash and cash equivalents, with no other short term investments.

Net cash used in operating activities was approximately $4,900,000 for the nine months ended September 30, 2011. The use of cash in operating activities was primarily attributable to the net loss of approximately $7,910,000, offset by non-cash expenses of approximately $30,000 for depreciation and amortization, $566,000 for share-based compensation expense, $385,000 for the fair value of stock, warrants and options issued for services, and $12,000 in non-cash interest expense relating to short-term promissory notes. Included in net loss is a non-cash derivative loss of approximately $2,259,000 as a result of changes in the fair value of the common stock underlying the warrants. Decreases in deferred revenue relating to license agreements, accounts payable and prepaid expenses and other assets reduced cash available for operations by approximately $703,000, while increases in accrued expenses increased cash available for operations by approximately $357,000.

Net cash used in investing activities was approximately $25,000 for the nine months ended September 30, 2011. Cash of approximately $266,000 was provided by a decrease in restricted cash in escrow at December 31, 2010 related to the closing of a financing transaction in January 2011. Cash of approximately $291,000 was used to purchase property and equipment and advances for manufacturing equipment during the nine months ended September 30, 2011.

Net cash provided by financing activities was approximately $5,841,000 for the nine months ended September 30, 2011. We received approximately $4,876,000 in net proceeds from the sale of Common Stock, warrants to purchase Common Stock, convertible preferred stock, and approximately $1,318,000 from the exercise of Common Stock warrants and options. We also received $925,000 in net proceeds from the issuance of short-term promissory notes, net of repayments. Principal payments on capitalized lease obligations used approximately $2,000 during the nine months ended September 30, 2011.

At September 30, 2011, we had outstanding warrants to purchase 12,478,197 shares of Common Stock at exercise prices ranging from $0.50 to $2.50.

November 2010 Common Stock and Warrant Financing — In November 2010, we initiated a private placement of up to 120 Units or partial Units at a price per Unit of $25,000. Each Unit consisted of (i) 25,000 shares of Common Stock, $0.01 par value, (ii) Series-1 Warrants to purchase 12,500 shares of Common Stock with an exercise price of $1.50 per share, and (iii) Series-2 Warrants to purchase 12,500 shares of Common Stock with an exercise price of $2.50 per share.

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Through December 31, 2010, we had entered into subscription agreements with certain strategic institutional and accredited investors in connection with this financing for a total of 68.8 units. We received gross proceeds from these subscriptions in the amount of $1,720,000. Included in this amount, we received proceeds of $100,000 in the form of extinguishment of a promissory note issued by us on September 28, 2010. Additionally, we received a commitment for an additional 11.4 units in which the proceeds of $285,000 were not received as of December 31, 2010. This was recorded as Stock Subscriptions receivable in the December 31, 2010 Consolidated Balance Sheet. The corresponding proceeds of $285,000 were received in January and February 2011.

As of December 31, 2010, we issued an aggregate of 1,720,000 shares of Common Stock and issued 860,000 Series-1 Warrants and 860,000 Series-2 Warrants. These warrants are immediately exercisable and expire two years after issuance.

During the nine months ended September 30, 2011, we entered into additional subscription agreements with investors for a total of 35.66 units (not including the 11.4 units above). We received proceeds from these subscriptions in the amount of $891,500, which included proceeds of $25,000 in the form of extinguishment of a 2010 short-term note. Pursuant to these subscriptions, including the subscription receivable, we issued an aggregate of 607,625 Series-1 Warrants and 607,625 Series-2 Warrants to the investors and placement agents.

8% Senior Promissory Note — On January 5, 2011, we issued an 8% Senior Promissory Note to Platinum Montaur Life Sciences, LLC in the amount of $1,000,000. The outstanding principal balance of this note, together with all accrued and unpaid interest, was due and payable in full on February 1, 2011 and was later extended to February 8, 2011 by agreement of the parties.

Series D Convertible Preferred Stock Purchase — On February 8, 2011 we entered into the Series D financing with investors in connection with the issuance of Series D Preferred Stock at a price per share of $1.00. For every $100,000 face value of Series D Preferred Stock purchased, each investor was issued (i) 50,000 Series D-1 warrants, and (ii) 50,000 Series D-2 Warrants.

On February 8, 2011, there was a closing in connection with the Series D financing and we received proceeds of $3,506,000 for the purchase of 3,506,000 shares of Series D Preferred Stock. We received payment of a portion of the proceeds in the form of the extinguishment of the 8% Senior Promissory Note, including principal and interest accrued through February 8, 2011, in the amount of $1,006,000. We issued an aggregate of 1,753,000 Series D-1 Warrants and 1,753,000 Series D-2 Warrants to the Series D Investors pursuant to the Series D financing.

On February 8, 2011, we recorded a deemed dividend on the beneficial conversion equal to the incremental fair value resulting from the reduction in the conversion price, or approximately $1,975,000. The deemed dividend is included in the Consolidated Statement of Operations in arriving at Net Loss Applicable to Common Stock.

In accordance with (i) the Certificate of Designation, Rights and Preferences of the Series B Stock and (ii) a letter agreement dated January 19, 2010 between us and the Series B Holder, we were obligated to use 25% of the gross proceeds from the Series D financing to redeem Series B Stock. On February 4, 2011, we entered into the Letter with the Series B Holder pursuant to which the Series B Holder waived the redemption of shares of the Series B Stock triggered by the Series D financing.

We continue to aggressively pursue additional financing from existing relationships (prior shareholders, investors and lenders) and from new investors through placement agents and investment bankers to support operations, including our product and clinical development programs. During the nine months ended September 30, 2011, we raised approximately $3,599,000 in cash (net of expenses) from our Common Stock offerings and a new offering of Series D Stock. In addition during that period, we received cash in the amount of approximately $1,251,000 as a result of Common Stock warrant exercises. We also received cash in the amount of approximately $67,000 as a result of stock option exercises.

We have demonstrated the ability to manage our costs aggressively and increase our operating efficiencies while advancing our medical device product development and clinical programs. During the nine months ended September 30, 2011, we managed the extent of our medical device product development, clinical and operating costs while pursuing necessary funding. In order to advance our product and clinical development programs, establish contract manufacturing and support our licensee for the manufacture of Prelude, pursue FDA approval for Symphony and support our operating activities, we expect our monthly operating costs associated with salaries and benefits, regulatory and public company consulting, contract engineering and manufacturing, legal and other working capital costs to increase. In the past, we have relied primarily on raising equity capital in order to meet our operating budget and to achieve our business objectives, and we plan to continue that practice in the future. Although we have been successful in the past with raising sufficient capital, we will continue to vigorously pursue additional financing as necessary to meet our business objectives; however, there can be no guarantee that additional capital will be available in sufficient amounts on terms favorable to us, if at all.

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The economic conditions during 2010 and continuing in 2011, including the tightening of available funding in the financial markets, had a significant impact on the extent of advancement on our product development and clinical programs in accordance with our original projected level of operations. Although we have recently raised sufficient capital, we believe that uncertainties in the financial markets may occur in the future, resulting in fund raising challenges for emerging medical device and pharmaceutical companies. The extent that our future product and clinical development programs and regulatory activities may be dependent on available additional funding from investors. Without sufficient funding for our programs, our plan to obtain regulatory approval for Symphony and Durhalieve may be delayed.

Our ability to fund our future operating requirements will depend on many factors, including the following:

●	our ability to obtain funding from third parties, including any future collaborative partners, on reasonable terms;

●	our progress on research and development programs;

●	the time and costs required to gain regulatory approvals;

●	the costs of manufacturing, marketing and distributing our products, if successfully developed and approved;

●	the costs of filing, prosecuting and enforcing patents, patent applications, patent claims and trademarks;

●	the status of competing products; and

●	the market acceptance and third-party reimbursement of our products, if successfully developed and approved.

During the nine months ended September 30, 2011 and 2010, we have not redeemed any warrants. During the nine months ended September 30, 2011, we issued 744,243 shares of Common Stock upon the exercise of warrants to purchase 1,419,470 shares of Common Stock through cashless exercise provisions, and warrants to purchase 705,048 shares of Common Stock were exercised for cash, providing gross proceeds to us of approximately $1,251,000. During the nine months ended September 30, 2010, Common Stock warrants to purchase 143,793 shares were exercised through a cashless exercise provision and no warrants were exercised for cash.

In August 2011 we filed a universal shelf registration statement on Form S-3 with the SEC to raise up to $75,000,000 in capital. This registration statement was declared effective on October 28, 2011.

Facilities, Property and Equipment — We conduct our operations in leased facilities in Franklin, Massachusetts and have executed a lease through March 2014. Our property and equipment does not include manufacturing machinery and is limited to laboratory testing equipment, office furniture and computer systems. Effective as of May 2, 2011, we commenced a lease for approximately 5,400 square feet of corporate office space in a single facility located in Philadelphia, Pennsylvania. The lease expires on April 30, 2014. Except for the purchase (possibly through capital lease financing) of tooling, molds and dies in connection with product development and manufacturing of Symphony and Prelude, we do not anticipate any significant purchases or sales of property and equipment during the next 12 months.

Off-Balance Sheet Arrangements

We have no off-balance sheet arrangements, including unrecorded derivative instruments that have or are reasonably likely to have a current or future material effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources. We have certain warrants and options outstanding but we do not expect to receive sufficient proceeds from the exercise of these instruments unless and until the trading price of our Common Stock is significantly greater than the applicable exercise prices of the options and warrants and mainly following any necessary registering of underlying securities.

Effect of Inflation and Changes in Prices

We do not believe that inflation and changes in price will have a material effect on our operations.

Item 4.

Controls and Procedures.

Disclosure Controls and Procedures

Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) of the Exchange Act) as of the end of the period covered by this report. Based on that evaluation, our Chief Executive Officer and our Chief Financial Officer concluded that our disclosure controls and procedures as of the end of the period covered by this report were effective in ensuring that information required to be disclosed by us in 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 that the information required to be disclosed by us in such reports is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.

Internal Control over Financial Reporting

There was no change in our internal control over financial reporting (as defined in Rule 13a-15(f) of the Exchange Act) that occurred during the fiscal quarter to which this report relates that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

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PART II—OTHER INFORMATION

Item 1.

Legal Proceedings.

The material set forth in Note 13 of the Notes to Consolidated Financial Statements in Part I, Item 1. of this Quarterly Report on Form 10-Q is incorporated herein by reference.

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds.

During the three months ended September 30, 2011, the Company issued 14,000 shares of Common Stock with a fair value of approximately $45,000 to a vendor for investor relations services. The shares were issued in a transaction not involving any public offering pursuant to an exemption from registration under Section 4(2) of the Securities Act.

Item 6.

Exhibits.

The Exhibits listed in the Exhibit Index immediately preceding such Exhibits are filed with or incorporated by reference in this report, except as noted.

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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.

	ECHO THERAPEUTICS, INC.


Date: November 7, 2011	By:	/s/ Patrick T. Mooney, M.D.
		Patrick T. Mooney, M.D.
		Chief Executive Officer and Chairman of the Board
		(Duly authorized officer of the Registrant)


	By:	/s/ Christopher P. Schnittker, CPA
		Christopher P. Schnittker, CPA
		Chief Financial Officer and Treasurer
		(Principal Financial Officer)

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EXHIBIT INDEX

Exhibit No.		Item

10.1		Second Amendment dated January 13, 2009 to Lease between CRP-2 Forge, LLC and Registrant.

10.2		Third Amendment dated September 30, 2009 to Lease between CRP-2 Forge, LLC and Registrant.

10.3		Fourth Amendment dated November 29, 2010 to Lease between CRP-2 Forge, LLC and Registrant.

10.4		Amendment to Employment Agreement dated May 13, 2011 between Harry G. Mitchell and Registrant.

31.1		Certification of the Principal Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

31.2		Certification of the Principal Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

32.1		Certification of the Principal Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

32.2		Certification of the Principal Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

101		The following materials from Echo Therapeutics, Inc.'s Quarterly Report on Form 10-Q for the quarter ended September 30, 2011, formatted in XBRL (Extensible Business Reporting Language), (i) Consolidated Balance Sheets, (ii) Consolidated Statements of Operations, (iii) Consolidated Statements of Cash Flows, and (iv) Notes to Consolidated Financial Statements.*

Pursuant to Rule 406T of Regulation S-T, the XBRL (Extensible Business Reporting Language) information included in Exhibit 101 hereto is deemed furnished and not filed or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, as amended, is deemed not filed for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, and otherwise is not subject to liability under these sections.

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Echo Therapeutics, Inc. - FORM 10-Q - November 8, 2011

Attached files

Echo Therapeutics, Inc. Reports