##### Table of Contents



UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
 Washington, D.C. 20549
 FORM 10-Q
 QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
 For the quarter ended: March 31, 2009
    
    Commission File Number:0-19871
 STEMCELLS, INC.
 (Exact name of registrant as specified in its charter)
 DELAWARE
    
    94-3078125(State or other jurisdiction of
    
    (I.R.S. Employerincorporation or organization)
    
    identification No)
 
 (Address of principal executive offices including zip code)
  (Registrants telephone number, including area code)
 þ o
 o o
  Large accelerated filer
o
    
    Accelerated filer
þ
    
    Non-accelerated filer   o
(Do not check if a smaller reporting company)
    
    Smaller reporting company o
 o þ




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##### 



Page NumberPART I. FINANCIAL INFORMATIONItem 1. Financial Statements (Unaudited)
    
    
    3Condensed Consolidated Balance Sheets at March 31, 2009 and December 31, 2008
    
    
    3Condensed Consolidated Statements of Operations for the three months ended March 31, 2009 and 2008
    
    
    4Condensed Consolidated Statements of Cash Flows for the three months ended March 31, 2009 and 2008
    
    
    5Notes to Condensed Consolidated Financial Statements
    
    
    6Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    17Item 3. Quantitative and Qualitative Disclosures About Market Risk
    
    
    27Item 4. Controls and Procedures
    
    
    27PART II. OTHER INFORMATIONItem 1. Legal Proceedings
    
    
    28Item 1A. Risk Factors
    
    
    28Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
    
    
    37Item 3. Defaults Upon Senior Securities
    
    
    37Item 4. Submission of Matters to a Vote of Security-Holders
    
    
    37Item 5. Other Information
    
    
    37Item 6. Exhibits
    
    
    38SIGNATURES
    
    
    39EX-31.1EX-31.2EX-32.1EX-32.2
  NOTE REGARDING REFERENCES TO US AND OUR COMMON STOCK
  2




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##### Table of Contents



PART IFINANCIAL INFORMATION
 
   
   March 31, 2009
    
    

December 31, 2008ASSETSCurrent assets:Cash and cash equivalents
    
    $
    34,057,052
    
    
    $
    30,042,986Marketable securities, current
    
    
    1,017,193
    
    
    
    4,181,592Other receivables
    
    
    113,184
    
    
    
    164,204Notes receivable
    
    
    709,076
    
    
    
    298,032Prepaid assets
    
    
    395,006
    
    
    
    645,242Total current assets
    
    
    36,291,511
    
    
    
    35,332,056Property, plant and equipment, net
    
    
    3,185,590
    
    
    
    3,173,468Other assets, non-current
    
    
    2,073,258
    
    
    
    2,079,278Intangible assets, net
    
    
    612,505
    
    
    
    645,538Total assets
    
    $
    42,162,864
    
    
    $
    41,230,340LIABILITIES AND STOCKHOLDERS EQUITYCurrent liabilities:Accounts payable
    
    $
    951,317
    
    
    $
    1,078,123Accrued expenses and other liabilities
    
    
    2,207,228
    
    
    
    2,261,245Accrued wind-down expenses, current
    
    
    1,495,638
    
    
    
    1,420,378Deferred revenue, current
    
    
    33,753
    
    
    
    43,909Capital lease obligation, current
    
    
    65,728
    
    
    
    18,739Deferred rent, current
    
    
    360,858
    
    
    
    346,930Bond payable, current
    
    
    151,667
    
    
    
    149,167Total current liabilities
    
    
    5,266,189
    
    
    
    5,318,491Capital lease obligation, non-current
    
    
    100,198
    
    
    
    6,529Bond payable, non-current
    
    
    821,250
    
    
    
    860,000Fair value of warrant liability
    
    
    11,195,379
    
    
    
    8,439,931Deposits and other long-term liabilities
    
    
    466,211
    
    
    
    466,211Accrued wind-down expenses, non-current
    
    
    3,840,900
    
    
    
    4,092,939Deferred rent, non-current
    
    
    
    
    
    
    90,215Deferred revenue, non-current
    
    
    142,833
    
    
    
    147,039Total liabilities
    
    
    21,832,960
    
    
    
    19,421,355Commitments and contingencies (Note 6)Stockholders equity:Common stock, $.01 par value; 250,000,000 shares authorized; issued
and outstanding 98,855,041 at March 31, 2009 and 94,945,603 at
December 31, 2008
    
    
    988,550
    
    
    
    949,455Additional paid-in capital
    
    
    287,581,696
    
    
    
    279,868,802Accumulated deficit
    
    
    (268,283,078
    )
    
    
    (259,001,524
    )Accumulated other comprehensive income (loss)
    
    
    42,736
    
    
    
    (7,748
    )Total stockholders equity
    
    
    20,329,904
    
    
    
    21,808,985Total liabilities and stockholders equity
    
    $
    42,162,864
    
    
    $
    41,230,340
  3




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##### Table of Contents



Three months endedMarch 31,2009
    
    
    2008Revenue:Revenue from licensing agreements and grants
    
    $
    56,603
    
    
    $
    17,350Operating expenses:Research and development
    
    
    4,235,788
    
    
    
    4,499,751General and administrative
    
    
    2,538,913
    
    
    
    2,254,203Wind-down expenses
    
    
    205,436
    
    
    
    160,250Total operating expenses
    
    
    6,980,137
    
    
    
    6,914,204Loss from operations
    
    
    (6,923,534
    )
    
    
    (6,896,854
    )Other income (expense):Realized gain on sale of marketable securities
    
    
    397,866
    
    
    
    Change in fair value of warrant liability
    
    
    (2,755,448
    )
    
    
    Interest income
    
    
    41,947
    
    
    
    383,665Interest expense
    
    
    (28,175
    )
    
    
    (28,191
    )Other expense
    
    
    (14,210
    )
    
    
    (3,609
    )Total other income (expense), net
    
    
    (2,358,020
    )
    
    
    351,865Net loss
    
    $
    (9,281,554
    )
    
    $
    (6,544,989
    )Basic and diluted net loss per share
    
    $
    (0.10
    )
    
    $
    (0.08
    )Shares used to compute basic and diluted loss per share
    
    
    96,048,288
    
    
    
    80,703,962
  4




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##### Table of Contents



Three months endedMarch 31,2009
    
    
    2008Cash flows from operating activities:Net loss
    
    $
    (9,281,554
    )
    
      $
    (6,544,989
    )Adjustments to reconcile net loss to net cash used in operating activities:Depreciation and amortization
    
    
    298,347
    
    
    
    302,647Stock-based compensation
    
    
    981,015
    
    
    
    1,011,359Gain on sale of marketable securities
    
    
    (397,868
    )
    
    
    Change in fair value of warrant liability
    
    
    2,755,448
    
    
    
    Changes in operating assets and liabilities:Accrued interest and other receivables
    
    
    54,976
    
    
    
    25,687Prepaid and other assets, current
    
    
    250,236
    
    
    
    223,181Other assets, non-current
    
    
    6,020
    
    
    
    (49,232
    )Accounts payable and accrued expenses
    
    
    (180,823
    )
    
    
    (1,962,174
    )Accrued wind-down expenses
    
    
    (176,779
    )
    
    
    (221,950
    )Deferred revenue
    
    
    (14,362
    )
    
    
    (14,363
    )Deferred rent
    
    
    (76,287
    )
    
    
    (61,532
    )Net cash used in operating activities
    
    
    (5,781,631
    )
    
    
    (7,291,366
    )Cash flows from investing activities:Proceeds from the sale of marketable securities
    
    
    3,612,750
    
    
    
    10,237,748Advances under note receivable
    
    
    (415,000
    )
    
    
    Purchases of property, plant and equipment
    
    
    (277,436
    )
    
    
    (58,427
    )Net cash provided by investing activities
    
    
    2,920,314
    
    
    
    10,179,321Cash flows from financing activities:Proceeds from issuance of common stock, net
    
    
    6,744,958
    
    
    
    Proceeds from the exercise of stock options
    
    
    75,064
    
    
    
    Proceeds from the exercise of warrants
    
    
    331,501
    
    
    
    Payments related to net share issuance of stock based awards
    
    
    (380,548
    )
    
    
    Proceeds from (repayment of) capital lease obligations
    
    
    140,658
    
    
    
    (4,274
    )Repayment of debt obligations
    
    
    (36,250
    )
    
    
    (32,499
    )Net cash (used in) provided by financing activities
    
    
    6,875,383
    
    
    
    (36,773
    )Increase in cash and cash equivalents
    
    
    4,014,066
    
    
    
    2,851,182Cash and cash equivalents, beginning of period
    
    
    30,042,986
    
    
    
    9,759,169Cash and cash equivalents, end of period
    
    $
    34,057,052
    
    
    $
    12,610,351Supplemental disclosure of cash flow information:Interest paid
    
    $
    28,175
    
    
    $
    28,191
  5




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Notes to Condensed Consolidated Financial Statements (Unaudited)
 March 31, 2009 and 2008
 Note 1. Summary of Significant Accounting Policies
 Nature of Business
    Principles of Consolidation
  Use of Estimates
   
    
    The grant date fair value of stock-based awards recognized as compensation expense in
accordance with the provisions of Statement of Financial Accounting Standards (SFAS) No. 123
(Revised 2004) Share Based Payment(SFAS 123R) (see Note 4, Stock Based Compensation).
    
    Accrued wind-down expenses (see Note 5, Wind-Down Expenses).
 6




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##### Table of Contents




    
    The fair value of warrants recorded as a liability in accordance with Emerging Issues Task
Force (EITF) Issue No. 00-19, Accounting for Derivative Financial Instruments Indexed to and
Potentially Settled in a Companys Own Stock(EITF 00-19). The warrants were issued as part
of our November 2008 financing (see Note 7, Warrant Liability).
 Financial Instruments
 Cash and Cash Equivalents
  Marketable Securities
   Other Receivables
  Revenue Recognition
  Stock-Based Compensation
  Accounting For Equity Instruments That Are Issued To Other Than Employees For
Acquiring, Or In Conjunction With Selling, Goods Or Services
 7




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##### Table of Contents



Net Loss per Share
   Three months ended March 31,2009
    
    2008Net loss
    
    $
    (9,281,554
    )
    
    $
    (6,544,989
    )Weighted average shares outstanding used to compute basic and diluted net loss per share
    
    
    96,048,288
    
    
    
    80,703,962Basic and diluted net loss per share
    
    $
    (0.10
    )
    
    $
    (0.08
    )
  2009
    
    2008Options
    
    
    8,355,287
    
    
    
    8,798,903Restricted stock units
    
    
    1,350,000
    
    
    
    1,650,000Warrants
    
    
    11,425,354
    
    
    
    1,255,000Total
    
    
    21,130,641
    
    
    
    11,703,903
 Comprehensive Loss
   Three months ended March 31,2009
    
    
    2008Net loss
    
    $
    (9,281,554
    )
    
    $
    (6,544,989
    )Net change in unrealized gains and
losses on marketable securities
    
    
    50,484
    
    
    
    (862,494
    )Comprehensive loss
    
    $
    (9,231,070
    )
    
    $
    (7,407,483
    )
 Recent Accounting Pronouncements
  
    
    FASB Staff Position No. 107-1 (FSP 107-1) and Accounting Principles Board (APB)
Opinion No. 28-1 (APB 28-1), Interim Disclosures about Fair Value of Financial
Instruments,which amends FASB Statement No. 107, Disclosures about Fair Value of
Financial Instruments(SFAS 107) and APB Opinion No. 28, Interim Financial Reporting(APB
28),to require disclosures about the fair value of financial instruments for interim as
well as in annual financial statements. FSP 107-1 and APB 28-1 will be effective for
interim reporting periods ending after June 15, 2009. We do not expect the adoption of
this accounting standard to have a material impact on our consolidated financial
statements.
    
    FASB Staff Position No. FAS 157-4, Determining Fair Value When the Volume and Level of
Activity for the Asset or Liability Have Significantly Decreased and Identifying
Transactions That Are Not Orderly(FSP 157-4). FSP 157-4
 8




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##### Table of Contents



provides additional guidance for estimating fair value in accordance with SFAS No. 157,
Fair Value Measurements, when the volume and level of activity for the asset or liability
have significantly decreased. FSP 157-4 will be applied prospectively and will be
effective for interim and annual reporting periods ending after June 15, 2009. We do not
expect the adoption of FSP 157-4 to have a material impact on our consolidated financial
statements.
    
    FASB Staff Position No. 115-2, (FSP 115-2) and FASB Staff Position No. 124-2
(FSP124-2), Recognition and Presentation of Other-Than-Temporary Impairments,which
amends the other-than-temporary impairment guidance for debt and equity securities. FSP
115-2 and FSP 124-2 shall be effective for interim and annual reporting periods ending
after June 15, 2009. We do not expect the adoption of FSP 115-2 and FSP 124-2 to have a
material impact on our consolidated financial statements.
    
    FASB Staff Position No. FAS 141(R)-1, Accounting for Assets Acquired and Liabilities
Assumed in a Business Combination That Arise from Contingencies(FSP 141 (R)-1). FSP 141
(R)1 amends and clarifies FASB statement No. 141 (R), Business Combinations(SFAS 141
(R)),to address issues related to the recognition and measurement of assets and
liabilities arising from contingencies in a business combination. Assets and liabilities
assumed in a business combination that arise from contingencies should be recognized at
fair value on the acquisition date if fair value can be reasonably estimated during the
measurement period. If fair value cannot be reasonably estimated, companies should
typically account for the acquired contingencies using existing guidance. We adopted
SFAS 141(R) and FSP 141(R)-1 on January 1, 2009. We expect SFAS 141(R) and FSP 141(R) -1
will have an impact on our consolidated financial statements; however, the nature and
magnitude of the impact will depend upon the nature, terms and size of the acquisition we
consummate after the effective date.
 Determination of the Useful Life
of Intangible Assets ( Goodwill and Other
Intangible Assets
 Note 2. Financial Instruments
  Gross
    
    
    GrossAmortized
    
    
    Unrealized
    
    
    UnrealizedCost
    
    
    Gains
    
    
    (Losses)
    
    
    Fair ValueMarch 31, 2009Cash
    
    $
    707,537
    
    
    $
    
    
    
    $
    
    
    
    $
    707,537Cash equivalents (money market accounts)
    
    
    33,349,515
    
    
    
    
    
    
    
    
    
    
    
    33,349,515Marketable debt securities, current (maturity within 1 year)
    
    
    900,000
    
    
    
    4
    
    
    
    
    
    
    
    900,004Marketable equity securities, current
    
    
    74,457
    
    
    
    42,732
    
    
    
    
    
    
    
    117,189Total cash, cash equivalents, and marketable securities
    
    $
    35,031,509
    
    
    $
    42,736
    
    
    $
    
    
    
    $
    35,074,245December 31, 2008Cash
    
    $
    243,883
    
    
    $
    
    
    
    $
    
    
    
    $
    243,883Cash equivalents (money market accounts)
    
    
    29,799,103
    
    
    
    
    
    
    
    
    
    
    
    29,799,103Marketable debt securities, current (maturity within 1 year)
    
    
    4,002,537
    
    
    
    
    
    
    
    (7,748
    )
    
    
    3,994,789Marketable equity securities, current
    
    
    186,803
    
    
    
    
    
    
    
    
    
    
    
    186,803Total cash, cash equivalents, and marketable securities
    
    $
    34,232,326
    
    
    $
    
    
    
    $
    (7,748
    )
    
    $
    34,224,578
   9




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Notes Receivable
  Note 3. Fair Value Measurement
       10




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Fair Value Measurementat Reporting Date UsingQuoted Prices
    
    
    Significantin Active Markets
    
    
    Otherfor
    
    
    Observable
    
    
    As ofIdentical Assets
    
    
    Inputs
    
    
    March 31,(Level 1)
    
    
    (Level 2)
    
    
    2009AssetsCash Equivalents:Money market funds
    
    $
    2,860,546
    
    
    $
    
    
    
    $
    2,860,546U.S. Treasury securities
    
    
    30,488,969
    
    
    
    
    
    
    
    30,488,969Marketable Securities:Equity securities
    
    
    117,189
    
    
    
    
    
    
    
    117,189Corporate bonds
    
    
    
    
    
    
    900,004
    
    
    
    900,004Total assets
    
    $
    33,466,704
    
    
    $
    900,004
    
    
    $
    34,366,708LiabilitiesBond payable
    
    $
    
    
    
    $
    972,917
    
    
    $
    972,917
 Note 4. Stock-Based Compensation
   Three months ended March 31,2009
    
    
    2008Research and development expense
    
    $
    489,139
    
    
    $
    480,349General and administrative expense
    
    
    461,268
    
    
    
    490,578Total employee stock-based compensation expense and effect on net loss
    
    $
    950,407
    
    
    $
    970,927Effect on basic and diluted net loss per common share
    
    $
    (0.01
    )
    
    $
    (0.01
    )
  Incentive Stock Options
  11




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##### Table of Contents



Weighted-averageNumber of options
    
    

exercise
price ($)Balance at December 31, 2008
    
    
    8,340,530
    
    
    
    2.32Granted
    
    
    102,500
    
    
    
    1.72Exercised
    
    
    (35,500
    )
    
    
    1.21Cancelled
    
    
    (52,243
    )
    
    
    2.03Outstanding options at March 31, 2009
    
    
    8,355,287
    
    
    
    2.32
  March 31,2009
    
    2008Expected life (years)(1)
    
    
    7.62
    
    
    
    6.22Risk-free interest rate(2)
    
    
    2.41
    %
    
    
    2.80
    %Expected volatility(3)
    
    
    96.45
    %
    
    
    74.75
    %Expected dividend yield(4)
    
    
    0
    %
    
    
    0
    %
 
 (1)
    
    The expected term represents the period during which our stock-based awards are expected to
be outstanding. We estimated this amount based on historical experience of similar awards,
giving consideration to the contractual terms of the awards, vesting requirements, and
expectation of future employee behavior, including post-vesting terminations.(2)
    
    The risk-free interest rate is based on U.S. Treasury debt securities with maturities close
to the expected term of the option as of the date of grant.(3)
    
    Expected volatility is based on historical volatility over the most recent historical period
equal to the length of the expected term of the option as of the date of grant.(4)
    
    We have not historically issued any dividends, and we do not expect to in the foreseeable
future.   Weighted-average grantNumber of options
    
    date fair value ($)Unvested options at December 31, 2008
    
    
    2,614,089
    
    
    
    1.85Granted
    
    
    102,500
    
    
    
    1.40Vested
    
    
    (343,985
    )
    
    
    2.08Cancelled
    
    
    (52,243
    )
    
    
    1.63Unvested options at March 31, 2009
    
    
    2,320,361
    
    
    
    1.80
  12




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##### Table of Contents



Restricted Stock Units
   Weighted-average grantNumber of RSUs
    
    date fair value ($)Balance at December 31, 2008 (1)
    
    
    1,650,000
    
    
    
    1.26Granted (2)
    
    
    250,000
    
    
    
    1.50Vested and converted to common shares
    
    
    (550,000
    )
    
    
    1.26Cancelled
    
    
    
    
    
    
    Balance unvested at March 31, 2009
    
    
    1,350,000
    
    
    
    1.30
 
 (1)
    
    These restricted stock units vest and convert into shares of our common stock over a three
year period from the date of grant: one-third of the award will vest on each grant date
anniversary over the following three years.(2)
    
    These restricted stock units will vest and convert into shares of our common stock subject
to attainment of certain performance criteria and will be forfeited if not met by March 31,
2011. Stock Appreciation Rights
   Number of SARsOutstanding at December 31, 2008
    
    
    1,430,849Granted
    
    
    Exercised
    
    
    Forfeited and expired
    
    
    Outstanding SARs at March 31, 2009
    
    
    1,430,849SARs exercisable at March 31, 2009
    
    
    953,893
   Note 5. Wind-Down Expenses
  13




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January to
    
    
    January toMarch 31,
    
    
    December 31,2009
    
    
    2008Accrued wind-down reserve at beginning of period
    
    $
    4,448,000
    
    
    $
    4,875,000Less actual expenses recorded against estimated reserve during the period
    
    
    (331,000
    )
    
    
    (1,293,000
    )Additional expense recorded to revise estimated reserve at period-end
    
    
    206,000
    
    
    
    866,000Revised reserve at period-end
    
    
    4,323,000
    
    
    
    4,448,000Add deferred rent at period-end
    
    
    1,014,000
    
    
    
    1,065,000Total accrued wind-down expenses at period-end (current and non current)
    
    $
    5,337,000
    
    
    $
    5,513,000Accrued wind-down expenses, current
    
    $
    1,496,000
    
    
    $
    1,420,000Accrued wind-down expenses, non-current
    
    
    3,841,000
    
    
    
    4,093,000Total accrued wind-down expenses
    
    $
    5,337,000
    
    
    $
    5,513,000
 14




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Note 6. Commitments and Contingencies
 Leases
 Capital leases
  Operating leases
   Contingencies
  15




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Indemnification Agreement
  Note 7. Warrant Liability
   Expected life (years)
    
    
    5.12Risk-free interest rate
    
    
    1.90
    %Expected volatility
    
    
    88.7
    %Expected dividend yield
    
    
    0
    %
 At December 31,
    
    
    Change inAt March 31, 2009
    
    
    2008
    
    
    Fair ValueFair value of warrant liability
    
    $
    11,195,379
    
    
    $
    8,439,931
    
    
    $
    2,755,448
  16




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##### Table of Contents



Note 8. Common Stock
  
    
    In February 2009, warrants issued as part of a June 2004 financing arrangement were
exercised to purchase an aggregate of 174,474 shares of common stock at $1.90 per share. We
issued 174,474 shares of common stock and received proceeds of approximately $332,000.
    
    In the first quarter of 2009, we sold in aggregate 3,325,000 shares of common stock
at an
average price of $2.10 per share for gross proceeds of approximately $6,999,000.
These shares were sold
pursuant to the sales agreement we entered into with Cantor Fitzgerald & Co. (Cantor),

who is
paid compensation equal to 5.0% of the gross proceeds.
 Note 9. Subsequent Events
   
   17




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Overview
 The Company
 ®
     18




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Significant Events
     Critical Accounting Policies and the Use of Estimates
  Stock-Based Compensation
  19




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Wind-down expenses
    Results of Operations
  20




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Revenue
  2009
    
    
    2008
    
    
    Change in 2009 versus 2008$
    
    
    %Revenue:Licensing agreements and grants
    
    $
    56,603
    
    
    $
    17,350
    
    
    $
    39,253
    
    
    
    226
    %
  21




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##### Table of Contents



Operating Expenses
  2009
    
    
    2008
    
    
    Change in 2009 versus 2008$
    
    
    %Operating expenses:Research and development
    
    $
    4,235,788
    
    
    $
    4,499,751
    
    
    $
    (263,963
    )
    
    
    (6
    )%General and administrative
    
    
    2,538,913
    
    
    
    2,254,203
    
    
    
    284,710
    
    
    
    13
    %Wind-down expenses
    
    
    205,436
    
    
    
    160,250
    
    
    
    45,186
    
    
    
    28
    %Total operating expenses
    
    $
    6,980,137
    
    
    $
    6,914,204
    
    
    $
    65,933
    
    
    
    1
    %
 Research and Development Expenses
     General and Administrative Expenses
  22




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Wind-down Expenses
  Other Income (Expense)
  2009
    
    
    2008
    
    
    Change in 2009 versus 2008$
    
    
    %Other income (expense):Gain on sale of marketable securities
    
    $
    397,866
    
    
    $
    
    
    
    
    397,866
    
    
    
    *Change in fair value of warrant liability
    
    
    (2,755,448
    )
    
    
    
    
    
    
    (2,755,448
    )
    
    
    *Interest income
    
    
    41,947
    
    
    
    383,665
    
    
    
    (341,718
    )
    
    
    (89
    )%Interest expense
    
    
    (28,175
    )
    
    
    (28,191
    )
    
    
    16
    
    
    
    *Other expense, net
    
    
    (14,210
    )
    
    
    (3,609
    )
    
    
    (10,601
    )
    
    
    294
    %Total other income (expense)
    
    $
    (2,358,020
    )
    
    $
    351,865
    
    
    $
    (2,709,885
    )
    
    
    *
 
 *
    
    Calculation is not meaningful. Gain on Sale of Marketable Equity Securities
  Change in fair value of warrant liability
  At March 31,
    
    At December 31,
    
    Change in2009
    
    2008
    
    Fair ValueFair value of warrant liability
    
    $
    11,195,379
    
    
    $
    8,439,931
    
    
    $
    2,755,448
 23




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##### Table of Contents



Interest Income
  Interest Expense
  Liquidity and Capital Resources
  March 31,
    
    December 31,
    
    Change2009
    
    2008
    
    $
    
    %Cash, cash equivalents and marketable debt securities
    
    $
    34,957,056
    
    
    $
    34,037,775
    
    
    $
    919,281
    
    
    
    3
    %
  Change in2009Three months ended March 31,
    
    Versus 20082009
    
    2008
    
    $
    
    %Net cash used in operating activities
    
    $
    (5,781,631
    )
    
    $
    (7,291,366
    )
    
    $
    1,509,735
    
    
    
    (21
    )%Net cash provided by investing activities
    
    $
    2,920,314
    
    
    $
    10,179,321
    
    
    $
    (7,259,007
    )
    
    
    (71
    )%Net cash (used in) provided by financing activities
    
    $
    6,875,383
    
    
    $
    (36,773
    )
    
    $
    6,912,156
    
    
    
    *
    %
 
 *
    
    Calculation is not meaningful. Net Cash Used in Operating Activities
  Net Cash Provided by Investing Activities
  Net Cash (Used in) Provided by Financing Activities
  24




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##### Table of Contents




    
    Through May 5, 2009, we have sold a total of 9,500,000 shares of common stock under our
sales agreement with Cantor. These shares were sold at an average price of $2.07 per share
for gross proceeds of approximately $19,674,000. We entered into this sales agreement in
December 2006 and filed a Prospectus Supplement announcing the agreement. Under the terms
of the agreement, up to 10,000,000 shares may be sold from time to time under a shelf
registration statement and Cantor is paid compensation equal to 5.0% of the gross proceeds.
    
    In November 2008, we sold 13,793,104 units to institutional investors at a price of $1.45
per unit, for gross proceeds of $20,000,000. The units, each of which consisted of one share
of common stock and a warrant to purchase 0.75 shares of common stock at an exercise price
of $2.30 per share, were offered as a registered direct offering under an effective shelf
registration statement previously filed with and declared effective by the Securities and
Exchange Commission. We received total proceeds net of offering expenses and placement
agency fees of approximately $18,637,000.
    
    In April 2007, a warrant issued as part of our June 2004 financing was exercised to
purchase an aggregate of 575,658 shares of our common stock at $1.90 per share. We issued
575,658 shares of our common stock and received proceeds of approximately $1,094,000.
    
    In April 2006, we sold 11,750,820 shares of our common stock to institutional investors
at a price of $3.05 per share, for gross proceeds of approximately $35,840,000. The shares
were offered as a registered direct offering under an effective shelf registration statement
previously filed with and declared effective by the Securities and Exchange Commission. We
received total proceeds, net of offering expenses and placement agency fees, of
approximately $33,422,000. No warrants were issued as part of this financing transaction.
    
    In March 2006, a warrant issued as part of our June 2004 financing was exercised to
purchase an aggregate of 526,400 shares of our common stock at $1.89 per share. We issued
526,400 shares of our common stock and received proceeds of approximately $995,000.
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Commitments
  Off-Balance Sheet Arrangements
  Operating Leases
     Contractual Obligations
  Recent Accounting Pronouncements
  
    
    FASB Staff Position No. 107-1 (FSP 107-1) and Accounting Principles Board (APB)
Opinion No. 28-1 (APB 28-1), Interim Disclosures about Fair Value of Financial
Instruments,which amends FASB Statement No. 107, Disclosures about Fair Value of
Financial Instruments(SFAS 107) and APB Opinion No. 28, Interim Financial Reporting(APB
28),to require disclosures about the fair value of financial instruments for interim as
well as in annual financial statements. FSP 107-1 and APB 28-1 will be effective for
interim reporting periods ending after June 15, 2009. We do not expect the adoption of
this accounting standard will not have a material impact on our consolidated financial
statements.
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
    
    FASB Staff Position No. FAS 157-4, Determining Fair Value When the Volume and Level of
Activity for the Asset or Liability Have Significantly Decreased and Identifying
Transactions That Are Not Orderly(FSP 157-4). FSP 157-4 provides additional guidance
for estimating fair value in accordance with Statement of Financial Accounting Standards
No. 157, Fair Value Measurements, when the volume and level of activity for the asset or
liability have significantly decreased. FSP 157-4 will be applied prospectively and will
be effective for interim and annual reporting periods ending after June 15, 2009. We do
not expect the adoption of FSP 157-4 to have a significant impact on our consolidated
financial statements
    
    FASB Staff Position No. 115-2, (FSP 115-2) and FASB Staff Position No. 124-2
(FSP124-2), Recognition and Presentation of Other-Than-Temporary Impairments,which
amends the other-than-temporary impairment guidance for debt and equity securities. FSP
115-2 and FSP 124-2 shall be effective for interim and annual reporting periods ending
after June 15, 2009. We do not expect the adoption of FSP 115-2 and FSP 124-2 to have a
significant impact on our consolidated financial statements.
    
    FASB Staff Position No. FAS 141(R)-1, Accounting for Assets Acquired and Liabilities
Assumed in a Business Combination That Arise from Contingencies(FSP 141 (R)-1). FSP 141
(R)1 amends and clarifies FASB statement No. 141 (R), Business Combinations(SFAS 141
(R),to address issues related to the recognition and measurement of assets and
liabilities arising from contingencies in a business combination. Assets and liabilities
assumed in a business combination that arise from contingencies should be recognized at
fair value on the acquisition date if fair value can be reasonably estimated during the
measurement period. If fair value cannot be reasonably estimated, companies should
typically account for the acquired contingencies using existing guidance. We adopted
SFAS 141(R) and FSP 141(R)-1 on January 1, 2009. We expect SFAS 141(R) and FSP 141(R) -1
will have an impact on our consolidated financial statements; however, the nature and
magnitude of the impact will depend upon the nature, terms and size of the acquisition we
consummate after the effective date.
 Determination of the Useful Life
of Intangible Assets ( Goodwill and Other
Intangible Assets
 
    
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PART IIOTHER INFORMATION
 
    
  This quarterly report on Form 10-Q contains forward looking statements that involve risks and
uncertainties. Our business, operating results, financial performance, and share price may be
materially adversely affected by a number of factors, including but not limited to the following
risk factors, any one of which could cause actual results to vary materially from anticipated
results or from those expressed in any forward-looking statements made by us in this quarterly
report on Form 10-Q or in other reports, press releases or other statements issued from time to
time. Additional factors that may cause such a difference are set forth elsewhere in this quarterly
report on Form 10-Q
 Risks Related to our Business
 Any adverse development relating to our HuCNS-SC product candidate, such as a significant clinical
trial failure, could substantially depress our stock price and prevent us from raising additional
capital.
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We have limited capital resources and we may not obtain the significant additional capital needed
to sustain our research and development efforts.
   Our product development programs are based on novel technologies and are inherently risky.
  Our technology is at an early stage of discovery and development, and we may fail to develop any
commercially acceptable or profitable products.
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##### Table of Contents




    
    survive and persist in the desired location;
    
    provide the intended therapeutic benefit;
    
    engraft into existing tissue in the desired manner; or
    
    achieve therapeutic benefits equal to, or better than, the standard of treatment at the
time of testing.
     Our success will depend in large part on our ability to develop and commercialize products that
treat diseases other than neuronal ceroid lipofuscinosis (Batten disease) and Pelizeaus-Merzbacher
Disease (PMD).
  30




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##### Table of Contents



Acquisitions of companies, businesses or technologies may substantially dilute our stockholders
and increase our operating losses.
  Costs and disruptions from the integration and management of the acquired SCS business may impair
our business.
  
    
    incurrence or assumption of material liabilities, including unanticipated ones;
    
    assumption of pre-existing contractual obligations and obligations owed by the acquired
SCS business to customers and research collaborators, which may not be profitable to our
business or deemed consistent with our development plans;
    
    diversion of resources and management attention from our existing businesses and
technologies;
    
    inability to retain key employees of any acquired businesses or hire enough qualified
personnel to staff any new or expanded operations;
    
    impairment or loss of relationships with key customers or
collaborators; and
    
    exposure to new and unanticipated federal, state, local, and foreign legal requirements,
which may impact our research and development programs on a consolidated basis.
  We have payment obligations resulting from real property owned or leased by us in Rhode Island,
which diverts funding from our research and development activities.
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##### Table of Contents



We may be unable to obtain partners to support our cell-based product development efforts when
needed to commercialize our technologies.
  If we are unable to protect our patents and proprietary rights, our business, financial condition
and results of operations may be materially harmed.
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If we are unable to obtain necessary licenses to third-party patents and other rights, we may not
be able to commercially develop our expected products.
    We compete with companies that have significant advantages over us.
   33




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##### Table of Contents



Development of our technologies is subject to, and restricted by, extensive government regulation,
which could impede our business.
    We are dependent on the services of key personnel.
  Our activities involve hazardous materials and experimental animal testing; improper handling of
these animals and materials by our employees or agents could expose us to significant legal and
financial penalties.
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The development, manufacturing and commercialization of cell-based therapeutic products expose us
to product liability claims, which could lead to substantial liability.
  The manufacture of cell-based products is novel, highly regulated, critical to our business, and
dependent upon specialized key materials.
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Because health care insurers and other organizations may not pay for our products or may impose
limits on reimbursements, our ability to become profitable could be adversely affected.
  Ethical and other concerns surrounding the use of stem or progenitor-based cell therapy may
negatively affect regulatory approval or public perception of our product candidates, which could
reduce demand for our products or depress our stock price.
  Restrictions on the use of human embryonic stem cells, including public and political
opposition to the use of these cells, could harm our business.
  Our corporate documents and Delaware law contain provisions that could make it difficult for us to
be acquired in a transaction that might be beneficial to our stockholders.
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Risks Related to the Securities Market
 Our stock price has been, and will likely continue to be, highly volatile, which may negatively
affect our ability to obtain additional financing in the future.
  
    
    our ability to develop and test our technologies;
    
    our ability to patent or obtain licenses to necessary technologies;
    
    conditions and publicity regarding the industry in which we operate, as well as the
specific areas our product candidates seek to address;
    
    competition in our industry;
    
    economic and other external factors or other disasters or crises;
    
    price and volume fluctuations in the stock market at large that are unrelated to our
operating performance; and
    
    comments by securities analysts, or our failure to meet market expectations.
  We are contractually obligated to issue shares in the future, diluting the interest of current
stockholders.
  
   
   
   
   37




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Exhibit 31.1 
 Exhibit 31.2 
 Exhibit 32.1 
 Exhibit 32.2 
 38




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STEMCELLS, INC.
(name of Registrant)May 7, 2009
    /s/ Rodney K. B. YoungRodney K. B. YoungChief Financial Officer 39




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Exhibit 31.1 
 Exhibit 31.2 
 Exhibit 32.1 
 Exhibit 32.2 
 40