VERTEX PHARMACEUTICALS INCORPORATED OVERVIEW
We invest in scientific innovation to create transformative medicines for people with serious diseases with a focus on specialty markets. We continue to focus on developing and commercializing therapies for the treatment of cystic fibrosis, or CF, and in 2019 we obtained approval inthe United States , orU.S. , for TRIKAFTA (elexacaftor/tezacaftor/ivacaftor and ivacaftor). We are broadening our pipeline through internal research efforts and accessing external innovation through business development transactions. We have four approved medicines that treat the underlying cause of CF, which is a life-threatening genetic disease. InOctober 2019 , TRIKAFTA , our triple-combination regimen, was approved by theUnited States Food and Drug Administration , or FDA, for the treatment of patients with CF 12 years of age or older who have at least one F508del mutation in the cystic fibrosis transmembrane conductance regulator, or CFTR, gene. This approval increased the number of patients eligible for our medicines in theU.S. by approximately 6,000 and provided an additional treatment option for many patients who are also eligible for one of our previously approved products. We have submitted a Marketing Authorization Application, or MAA, to theEuropean Medicines Agency , or EMA, for this triple combination regimen. Our four medicines are collectively approved to treat approximately 60% of the 75,000 CF patients inNorth America ,Europe andAustralia . We are focused on obtaining approval for the triple combination in ex-U.S. markets for patients 12 years of age and older and evaluating our triple combination in younger patients, with the goal of having treatments for up to 90% of patients with CF. We are also pursuing other therapeutic approaches to address the remaining 10% of CF patients. Our small molecule programs include programs focused on developing treatments for alpha-1 antitrypsin, or AAT, deficiency, APOL1-mediated kidney diseases and pain. We are evaluating CTX001, a genetic therapy as a potential treatment for sickle cell disease and beta-thalassemia, in a Phase 1/2 clinical trial in collaboration with CRISPR Therapeutics AG, or CRISPR. In 2019, through a series of strategic transactions, we established preclinical genetic therapy programs for Duchenne muscular dystrophy, or DMD, and myotonic dystrophy type 1, or DM1, and a preclinical program to develop cell-based therapies for type 1 diabetes, or T1D. Financial Highlights Over the last three years, our product revenues have increased significantly and we have limited the growth of our expenses, which has allowed us to create significant operating margins and reinvest in our business. Revenues Over the last three years, our net product revenues have increased as we obtained approvals for TRIKAFTA and SYMDEKO/SYMKEVI and expanded access to our medicines. [[Image Removed: chart-642b38eab6d652b2af8a01.jpg]] Expenses Our combined R&D and SG&A expenses increased from$1.97 billion in 2018 to$2.41 billion in 2019 primarily due to research expenses associated with our business development activities. In 2019, cost of sales was approximately 13.2% of our net product revenues. Balance Sheet[[Image Removed: chart-4a9cf4c4b68f5058a30.jpg]] 46 -------------------------------------------------------------------------------- Business Highlights Cystic Fibrosis • Obtained approval inOctober 2019 from the FDA for TRIKAFTA for treatment of
patients with CF 12 years of age and older who have at least one F508del
mutation.
• TRIKAFTA was approved approximately three months after we submitted the NDA
for the triple combination regimen and within four years of discovery of the
final component of the triple combination regimen.
• Submitted a MAA to the
combination of elexacaftor, tezacaftor and ivacaftor in patients 12 years of
age and older.
• Conducting a Phase 3 clinical trial evaluatingelexacaftor/tezacaftor/ivacaftor and ivacaftor in children 6 to 11 years of
age who have two F508del mutations or one F508del mutation and one minimal
function mutation.
• Obtained a positive opinion from the
for Human Use for KALYDECO for infants as young as six months old.
• Obtained reimbursement of ORKAMBI and/or SYMDEKO/SYMKEVI for eligible
patients in several important ex-
Pipeline
• AAT Deficiency: We initiated a Phase 2 proof-of-concept clinical trial for
VX-814, our first investigational oral small molecule corrector for the
treatment of alpha-1 antitrypsin, or AAT, deficiency, in order to evaluate
VX-814 in patients with AAT deficiency who have two copies of the Z
mutation. A Phase 1 clinical trial of VX-864, a second investigational small
molecule corrector for the treatment of AAT deficiency, is ongoing in
healthy volunteers.
• APOL1-mediated Kidney Disease: In the fourth quarter of 2019, we completed a
Phase 1 clinical trial evaluating VX-147, our first investigational oral
small molecule for the treatment of APOL1-mediated focal segmental
glomerulosclerosis, or FSGS, and other serious kidney diseases, in healthy
volunteers. We plan to initiate a Phase 2 proof-of-concept clinical trial in
2020 to evaluate the reduction in protein levels with VX-147 in FSGS
patients.
• Sickle Cell Disease and Beta-Thalassemia: Enrollment is ongoing in Phase 1/2
clinical trials evaluating CTX001 for the treatment of severe
sickle cell disease and beta-thalassemia. Along with our collaborator, CRISPR, we announced positive, interim data from the first two patients with these hemoglobinopathies treated with the investigational CRISPR/Cas9 gene-editing therapy CTX001 in the ongoing Phase 1/2 trials. We expect to provide additional data for this program in 2020. • Pain: We plan to initiate clinical development of a novel NaV1.8 inhibitor
for the treatment of pain in the first half of 2020.
• Type 1 diabetes: Acquired cell-based therapy programs that we are advancing
as potential treatments for T1D by acquiring
advance this program into clinical development in T1D patients in late 2020
or early 2021.
• DMD and DM1: Acquired Exonics and expanded our collaboration with CRISPR in
for DMD and DM1.
Research
We are continuing to invest in our research programs and fostering scientific
innovation in order to identify and develop transformative medicines. Our
strategy is to combine transformative advances in the understanding of human
disease and the science of therapeutics in order to identify and develop new
medicines. We believe that pursuing research in diverse areas allows us to
balance the risks inherent in drug development and may provide drug candidates
that will form our pipeline in future years. To supplement our internal research
programs, we acquire technologies and programs and collaborate with
biopharmaceutical and technology companies, leading academic research
institutions, government laboratories, foundations
47
--------------------------------------------------------------------------------
and other organizations as needed to advance research in our areas of
therapeutic interest and to access technologies needed to execute on our
strategy.
Drug Discovery and Development
Discovery and development of a new pharmaceutical product is a difficult and
lengthy process that requires significant financial resources along with
extensive technical and regulatory expertise. Potential drug candidates are
subjected to rigorous evaluations, driven in part by stringent regulatory
considerations, designed to generate information concerning efficacy,
side-effects, proper dosage levels and a variety of other physical and chemical
characteristics that are important in determining whether a drug candidate
should be approved for marketing as a pharmaceutical product. Most chemical
compounds that are investigated as potential drug candidates never progress into
development, and most drug candidates that do advance into development never
receive marketing approval. Because our investments in drug candidates are
subject to considerable risks, we closely monitor the results of our discovery,
research, clinical trials and nonclinical studies and frequently evaluate our
drug development programs in light of new data and scientific, business and
commercial insights, with the objective of balancing risk and potential. This
process can result in abrupt changes in focus and priorities as new information
becomes available and as we gain additional understanding of our ongoing
programs and potential new programs, as well as those of our competitors.
If we believe that data from a completed registration program support approval
of a drug candidate, we submit an NDA to the FDA requesting approval to market
the drug candidate in the United States and seek analogous approvals from
comparable regulatory authorities in jurisdictions outside the United States . To
obtain approval, we must, among other things, demonstrate with evidence gathered
in nonclinical studies and well-controlled clinical trials that the drug
candidate is safe and effective for the disease it is intended to treat and that
the manufacturing facilities, processes and controls for the manufacture of the
drug candidate are adequate. The FDA and ex-U.S. regulatory authorities have
substantial discretion in deciding whether or not a drug candidate should be
granted approval based on the benefits and risks of the drug candidate in the
treatment of a particular disease, and could delay, limit or deny regulatory
approval. If regulatory delays are significant or regulatory approval is limited
or denied altogether, our financial results and the commercial prospects for the
drug candidate involved will be harmed.
Regulatory Compliance
Our marketing of pharmaceutical products is subject to extensive and complex
laws and regulations. We have a corporate compliance program designed to
actively identify, prevent and mitigate risk through the implementation of
compliance policies and systems and through the promotion of a culture of
compliance. Among other laws, regulations and standards, we are subject to
various U.S. federal and state laws, and comparable laws in other jurisdictions,
pertaining to health care fraud and abuse, including anti-kickback and false
claims laws, and laws prohibiting the promotion of drugs for unapproved or
off-label uses. Anti-kickback laws generally make it illegal for a prescription
drug manufacturer to knowingly and willfully solicit, offer, receive or pay any
remuneration in return for or to induce the referral of business, including the
purchase or prescription of a particular drug that is reimbursed by a state or
federal health care program. False claims laws prohibit anyone from knowingly or
willfully presenting for payment to third-party payors, including Medicare and
Medicaid, claims for reimbursed drugs or services that are false or fraudulent,
claims for items or services not provided as claimed, or claims for medically
unnecessary items or services. We are subject to laws and regulations that
regulate the sales and marketing practices of pharmaceutical manufacturers, as
well as laws such as the U.S. Foreign Corrupt Practices Act, which govern our
international business practices with respect to payments to government
officials. In addition, we are subject to various data protection and privacy
laws and regulations in the U.S. , E.U., Canada , Australia and other
jurisdictions. We expect to continue to devote substantial resources to
maintain, administer and expand these compliance programs globally.
Reimbursement
Sales of our products depend, to a large degree, on the extent to which our
products are reimbursed by third-party payors, such as government health
programs, commercial insurance and managed health care organizations. We
dedicate substantial management and other resources in order to obtain and
maintain appropriate levels of reimbursement for our products from third-party
payors, including governmental organizations in the United States and ex-U.S.
markets.
In the United States , we have worked successfully with third party-payors in
order to promptly obtain appropriate levels of reimbursement for our first three
CF medicines and have begun working with these stakeholders to obtain
reimbursement for TRIKAFTA. We plan to continue to engage in discussions with
numerous commercial insurers and managed health care organizations, along with
government health programs that are typically managed by authorities in the
individual states, to ensure that payors recognize the significant benefits that
our medicines provide by treating the underlying cause of cystic fibrosis and
continue to provide access to our medicines.
48
--------------------------------------------------------------------------------
In Europe and other ex-U.S. markets, we seek government reimbursement for our
medicines on a country-by-country basis. This is necessary for each new
medicine, as well as, in most countries, label expansions for our current
medicines. We successfully obtained reimbursement for KALYDECO in each
significant ex-U.S. market within two years of approval. We experienced
significant challenges in obtaining reimbursement for ORKAMBI in certain ex-U.S.
markets. In the fourth quarter of 2019, we obtained reimbursement for ORKAMBI
and SYMKEVI in the United Kingdom and ORKAMBI in France , four years after
ORKAMBI's initial approval in 2015. With this approval, we now have obtained
reimbursement for ORKAMBI or SYMKEVI in most of our significant ex-U.S. markets.
In some ex-U.S. markets, including Ireland , Denmark and Australia , our
reimbursement agreements include innovative arrangements that provide a pathway
to access and rapid reimbursement for certain future CF medicines. We recently
filed a MAA with the EMA for the triple combination regimen of elexacaftor,
tezacaftor and ivacaftor and, if approved, we would need to seek government
reimbursement on a country-by-country basis, in most European markets. In
December 2019 , we reached an agreement with the government in Ireland to expand
the existing reimbursement agreement to include the triple combination regimen
pending approval by the EMA.
Strategic Transactions
Acquisitions
As part of our business strategy, we seek to acquire drugs, drug candidates and
other technologies and businesses that have the potential to complement our
ongoing research and development efforts. In 2019, we invested significantly in
business development transactions designed to augment our pipeline. We expect to
continue to identify and evaluate potential acquisitions that may be similar to
or different from the transactions that we have engaged in previously.
In July 2019 , we acquired Exonics, a privately-held company focused on creating
transformative gene-editing therapies to repair mutations that cause DMD and
other severe neuromuscular diseases, including DM1. Our acquisition of Exonics
enhanced our gene-editing capabilities and supports the potential development of
novel therapies for DMD and DM1. In connection with the acquisition, we acquired
all of the outstanding equity of Exonics for an upfront payment of approximately
$245.0 million plus customary working capital adjustments in cash, and certain
potential future payments based primarily upon the successful achievement of
specified development and regulatory milestones for the DMD and DM1 programs.
In October 2019 , we acquired Semma, a privately-held company focused on the use
of stem cell-derived human islets as a potentially curative treatment for type 1
diabetes. Our acquisition of Semma advanced our cell therapy capabilities and
supports the potential development of transformative therapies for T1D. In
connection with the acquisition, we acquired all of the outstanding equity of
Semma for approximately $950.0 million in cash.
Both of these acquisitions were accounted for as business combinations. As of
the acquisition date for each transaction, the cash payments, as well as the
fair value of contingent consideration for Exonics, were allocated primarily to
goodwill and the fair value of several in-process research and development
assets that we acquired. The fair value of contingent consideration related to
Exonics was recorded as a liability and will be adjusted on a quarterly basis in
the future. As a result, these acquisitions are primarily reflected in
additional assets and liabilities on our consolidated balance sheet. Operating
expenses incurred by Exonics and Semma after the acquisition dates and specific
expenses associated with the acquisitions are reflected in our consolidated
statement of operations for 2019.
Please refer to Note C, "Acquisitions," and our critical accounting policies,
"Acquisitions," for further information regarding the significant judgments and
estimates related to our acquisitions.
Collaboration and Licensing Arrangements
We enter into arrangements with third parties, including collaboration and
licensing arrangements, for the development, manufacture and commercialization
of drugs, drug candidates and other technologies that have the potential to
complement our ongoing research and development efforts. We expect to continue
to identify and evaluate collaboration and licensing opportunities that may be
similar to or different from the collaborations and licenses that we have
engaged in previously.
In-License Agreements
We have entered into collaborations with biotechnology and pharmaceutical
companies in order to acquire rights or to license drug candidates or
technologies that enhance our pipeline and/or our research capabilities. Over
the last several years, we entered into collaboration agreements with:
• Arbor Biotechnologies, Inc. , or Arbor, pursuant to which we are
collaborating on the discovery of novel proteins, including DNA
endonucleases, to advance the development of new gene-editing therapies.
49
--------------------------------------------------------------------------------
• CRISPR, pursuant to which we have been collaborating since 2015 on the
discovery and development of potential new treatments aimed at theunderlying genetic causes of human diseases using CRISPR-Cas9 gene-editing
technology. In 2019, we obtained the exclusive worldwide rights to
CRISPR's intellectual property for DMD and DM1 gene-editing products
through a new agreement with CRISPR.
• Kymera Therapeutics, or Kymera, pursuant to which we are looking to
advance small molecule protein degraders against multiple targets.
• Molecular Templates, Inc., pursuant to which we are collaborating on the
discovery and development of novel targeted conditioning regimens to
enhance the hematopoietic stem cell transplant process.
Generally, when we in-license a technology or drug candidate, we make upfront payments to the collaborator, assume the costs of the program and/or agree to make contingent payments, which could consist of milestone, royalty and option payments. Most of these collaboration payments are expensed as research and development expenses; however, depending on many factors, including the structure of the collaboration, the significance of the drug candidate that we license to the collaborator's operations and the other activities in which our collaborators are engaged, the accounting for these transactions can vary significantly. Our research and development expenses included$318.3 million in 2019,$111.9 million in 2018 and$168.7 million in 2017 related to upfront and milestone payments pursuant to our collaboration agreements. Upfront payments and expenses incurred in connection with the collaborations listed above are being expensed as research or development expenses because the collaboration represents a small portion of each of these collaborator's overall business. In contrast,Parion Sciences, Inc. , or Parion, andBioAxone Biosciences, Inc. , or BioAxone, with whom we previously collaborated, were historically accounted for as variable interest entities, or VIEs, and included in our consolidated financial statements. In 2017 and 2018, we determined that the requirements for consolidation were no longer met with respect to Parion and BioAxone, respectively. As a result, we deconsolidated Parion and BioAxone from our consolidated financial statements as ofSeptember 30, 2017 andDecember 31, 2018 , respectively, and did not consolidate any VIEs in 2019. A collaborator that we account for as a VIE may engage in activities unrelated to our collaboration. The revenues and expenses unrelated to the programs we in-license from our VIEs have historically been immaterial to our consolidated financial statements. With respect to each of Parion and BioAxone, the activities unrelated to our collaborations with these entities represented approximately 2% or less of our total revenues and total expenses on an annual basis during the periods that we consolidated these collaborators. Out-License Agreements We also have out-licensed internally-developed programs to collaborators who are leading the development of these programs. These out-license arrangements include our agreements with: •Janssen Pharmaceuticals, Inc. , or Janssen, which is evaluating pimodivir in Phase 3 clinical trials for the treatment of influenza; and • Merck KGaA, Darmstadt,Germany , which licensed oncology research and development programs from us in early 2017. Pursuant to these out-licensing arrangements, our collaborators are responsible for the research, development and commercialization costs associated with these programs, and we are entitled to receive contingent milestone and/or royalty payments. As a result, we do not expect to incur significant expenses in connection with these programs and have the potential for future collaborative and royalty revenues resulting from these programs. Please refer to Note B, "Collaborative Arrangements," for further information regarding our VIEs, in-license agreements and out-license agreements. Strategic Investments In connection with our business development activities, we have periodically made equity investments in our collaborators. As ofDecember 31, 2019 , we held strategic equity investments in several public companies, including CRISPR, and certain private companies, and we plan to make additional strategic equity investments in the future. While we invest the majority of our cash, cash equivalents and marketable securities in instruments that meet specific credit quality standards and limit our exposure to any one issue or type of instrument, our strategic investments are maintained and managed separately from our other cash, cash equivalents and marketable securities. 50 -------------------------------------------------------------------------------- UntilDecember 31, 2017 , changes in the fair value of these strategic investments were reflected on our consolidated balance sheet, but did not affect our net income until the related gains or losses were realized. As a result of accounting guidance, effectiveJanuary 1, 2018 , changes in the fair value of equity investments with readily determinable fair values (including publicly traded securities such as CRISPR) were recorded to other income (expense), net in our consolidated statement of operations in 2019 and 2018. For equity investments without readily determinable fair values including equity investments in private companies, each reporting period we are required to re-evaluate the carrying value of the investment, which may result in other income (expense). In 2019 and 2018, we recorded within other income (expense), net gains of$197.6 million and$2.6 million related to changes in the fair value of our strategic investments and from sales of certain investments. To the extent that we continue to hold strategic investments, particularly strategic investments in publicly traded companies, we will record other income (expense) related to these strategic investments on a quarterly basis. Due to the high volatility of stocks in the biotechnology industry, we expect the value of these strategic investments to fluctuate and that the increases or decreases in the fair value of these strategic investments will continue to have material impacts on our net income (expense) and our profitability on a quarterly and/or annual basis. 51 -------------------------------------------------------------------------------- RESULTS OF OPERATIONS 2019/2018 2018/2017 Comparison Comparison Increase/(Decrease) Increase/(Decrease) 2019 2018 2017 $ % $ % (in thousands) (in thousands, except percentages)
Revenues$ 4,162,821 $ 3,047,597 $ 2,488,652 $ 1,115,224 37 %$ 558,945 22 % Operating costs and expenses 2,965,255 2,412,447 2,365,409 552,808 23 % 47,038 2 %
Income from operations 1,197,566 635,150 123,243
562,416 89 % 511,907 415 %
Other non-operating income
(expense), net 197,353 (25,116 ) 32,917 ** ** ** **
Provision for income taxes 218,109 (1,486,862 ) (107,324 ) ** ** ** **
Net income attributable to
Vertex $ 1,176,810 $ 2,096,896 $ 263,484 Net income per diluted share attributable to Vertex common shareholders$ 4.51 $ 8.09 $ 1.04 Diluted shares used in per share calculations 260,673 259,185 253,225 ** Not meaningful Net Income and Income from Operations Our income from operations increased to$1.20 billion in 2019 compared to$635.2 million in 2018 and$123.2 million in 2017, primarily as a result of the approval of SYMDEKO/SYMKEVI in 2018 and TRIKAFTA in 2019, and continued strong net product revenues from KALYDECO and ORKAMBI. The increased net product revenues were partially offset by increased operating costs and expenses primarily attributable to increased cost of sales due to increased net product revenues and increased research expenses associated with our business development activities. Net income attributable toVertex in 2018 included a one-time non-cash benefit from income taxes of$1.56 billion resulting from our release of our valuation allowance. As a result of this one-time cash benefit in 2018, net income attributable toVertex was higher in 2018 than 2019 and 2017. Earnings Per Share In 2019, 2018 and 2017, net income attributable toVertex was$4.51 ,$8.09 ,$1.04 , respectively, per diluted share. The higher diluted earnings per share in 2018 as compared to 2019 and 2017 was due primarily to the benefit from income taxes as a result of the release of our valuation allowance, which increased net income attributable toVertex by$6.03 per diluted share in 2018. Revenues 2019/2018 2018/2017 Comparison Comparison Increase/(Decrease) Increase/(Decrease) 2019 2018 2017 $ % $ % (in thousands) (in thousands, except percentages) Product revenues, net$ 4,160,726 $ 3,038,325 $ 2,165,480 $ 1,122,401 37 %$ 872,845 40 % Collaborative and royalty revenues 2,095 9,272 323,172 (7,177 ) (77 )% (313,900 ) (97 )% Total revenues$ 4,162,821 $ 3,047,597 $ 2,488,652 $ 1,115,224 37 %$ 558,945 22 % 52
--------------------------------------------------------------------------------
Product Revenues, Net
2019 2018 2017
(in thousands)
TRIKAFTA $ 420,105 $ - $ -
SYMDEKO/SYMKEVI 1,417,668 768,657 -
ORKAMBI 1,331,891 1,262,166 1,320,850
KALYDECO 991,062 1,007,502 844,630
Product revenues, net
In 2019, our net product revenues increased by$1.12 billion as compared to 2018. In 2018, our net product revenues increased by$872.8 million as compared to 2017. The increase in total net product revenues in 2019 was primarily due to the increasing number of patients being treated with SYMDEKO/SYMKEVI, theOctober 2019 approval of TRIKAFTA inthe United States , label expansions for KALYDECO and ORKAMBI and expanded access to our medicines in ex-U.S. markets. In 2019, 2018 and 2017, our net product revenues included product revenues of$1.1 billion ,$682.4 million , and 501.8 million, respectively, from ex-U.S. markets. We expect that our net product revenues will increase in 2020 due to increasing numbers of patients being treated with our medicines as a result of the approval of TRIKAFTA, label expansions for our previously approved products and expanded access to our medicines. TRIKAFTA increases the number of patients eligible for our medicines by providing the first treatment option for a significant number of patients with CF, and provides a new treatment option for many patients who are eligible for one of our previously approved medicines. As a result, the approval of TRIKAFTA inthe United States is resulting in increased net product revenues as well as a shift of net product revenues from our previously approved products to TRIKAFTA. TRIKAFTA TRIKAFTA was approved by the FDA inOctober 2019 . TRIKAFTA net product revenues were$420.1 million in 2019, all of which were recognized in the fourth quarter of 2019. We recently submitted a MAA to the EMA for the triple combination regimen of elexacaftor, tezacaftor and ivacaftor. We expect TRIKAFTA net product revenues will increase significantly in 2020 as compared to 2019. SYMDEKO/SYMKEVI SYMDEKO/SYMKEVI net product revenues were$1.42 billion in 2019 as compared to$768.7 million in 2018. SYMDEKO was approved by the FDA inFebruary 2018 and SYMKEVI was approved in theEuropean Union inNovember 2018 . In the fourth quarter of 2019, some patients inthe United States began switching from SYMDEKO to TRIKAFTA. ORKAMBI ORKAMBI net product revenues were$1.33 billion in 2019,$1.26 billion in 2018 and$1.32 billion in 2017. We have continued to increase the number of patients eligible for ORKAMBI through label expansions and additional ex-U.S. reimbursement arrangements. These increases in eligible patients have been offset by a portion of the patients who were being treated with ORKAMBI switching to SYMDEKO/SYMKEVI or TRIKAFTA. From 2015 into the fourth quarter of 2019, we distributed ORKAMBI through early access programs inFrance . Upon adopting ASC 606, Revenue from Contracts with Customers, in the first quarter of 2018, we began recognizing a portion of the amounts collected related to shipments of ORKAMBI through early access programs as net product revenues, based on an estimated transaction price that reflected the consideration we expected to retain that would not be subject to a significant reversal in amounts recognized. Prior to adopting ASC 606, we had not recognized any net product revenues from sales of ORKAMBI inFrance because the price was not fixed or determinable at the time of delivery. Upon reaching an agreement with the French government for ORKAMBI in the fourth quarter of 2019, including the final amount for ORKAMBI distributed through early access programs, we recognized an adjustment to increase net product revenues related to prior period shipments of ORKAMBI distributed through early access programs of$155.8 million . Please refer to "Critical Accounting Policies - Revenue Recognition" below for a discussion of our accounting treatment for our early access program for ORKAMBI inFrance . 53 --------------------------------------------------------------------------------
KALYDECO
KALYDECO net product revenues were$991.1 million in 2019,$1.01 billion in 2018 and$844.6 million in 2017. KALYDECO net product revenues in 2019 were similar to KALYDECO net product revenues in 2018. The increases in 2018 as compared to 2017 were primarily due to additional patients being treated with KALYDECO as we completed reimbursement discussions in various ex-U.S. jurisdictions and as we increased the number of patients eligible to receive KALYDECO through label expansions. Collaborative and Royalty Revenues Our collaborative and royalty revenues were$2.1 million ,$9.3 million and$323.2 million in 2019, 2018 and 2017, respectively. In 2017, our collaborative and royalty revenues included (i)$230.0 million in revenues related to a one-time upfront payment earned in 2017 from Merck KGaA, Darmstadt,Germany , (ii) a$25.0 million milestone related to our license agreement with Janssen for the treatment of influenza and (iii)$40.0 million in revenues related to upfront and milestone payments earned by one of our VIEs pursuant to a license agreement entered into with a third party. We were not a party to the license agreement between the VIE and the third party, and we had no economic interest in either the license or these milestone payments. In 2017 through 2019, our collaborative and royalty revenues also include a small amount of revenues related to a cash payment we received in 2008 when we sold our rights to certain HIV royalties and reimbursements for research and development activities related to our collaborative arrangements. Our collaborative revenues have historically fluctuated significantly from one period to another and may continue to fluctuate in the future. Our future royalty revenues will be dependent on if, and when, our collaborators, including Janssen and Merck KGaA, Darmstadt,Germany are able to successfully develop drug candidates that we have out-licensed to them. Operating Costs and Expenses 2019/2018 2018/2017 Comparison Comparison Increase/(Decrease) Increase/(Decrease) 2019 2018 2017 $ % $ % (in thousands) (in thousands, except percentages) Cost of sales$ 547,758 $ 409,539 $ 275,119
1,754,540 1,416,476 1,324,625 338,064 24 % 91,851 7 %
Sales, general and
administrative expenses 658,498 557,616 496,079 100,882 18 % 61,537 12 %
Change in fair value of
contingent consideration 4,459 - - 4,459 ** - **
Restructuring (income)
expenses - (184 ) 14,246 184 ** (14,430 ) **
Intangible asset
impairment charges - 29,000 255,340 (29,000 ) ** (226,340 ) **
Total costs and expenses $ 2,965,255 $ 2,412,447 $ 2,365,409 $ 552,808 23 % $ 47,038 2 %
** Not meaningful
Cost of Sales
Our cost of sales primarily consists of the cost of producing inventories that
corresponded to product revenues for the reporting period, plus the third-party
royalties payable on our net sales of our products. Pursuant to our agreement
with the CFF, our tiered third-party royalties on sales of TRIKAFTA,
SYMDEKO/SYMKEVI, KALYDECO and ORKAMBI, calculated as a percentage of net sales,
range from the single digits to the sub-teens. As a result of the tiered royalty
rate, which resets annually, our cost of sales as a percentage of net product
revenues are lower at the beginning of each calendar year.
Over the last several years, our cost of sales has been increasing primarily due
to increased net product revenues. Our costs of sales as a percentage of net
product revenues has been approximately 13% for each of 2019, 2018 and 2017. In
2020, we expect our total cost of sales will increase due to expected increases
in our net product revenues and our cost of sales as a percentage of total net
product revenues will be similar to our cost of sales as a percentage of total
net product revenues in 2019.
54--------------------------------------------------------------------------------
Research and Development Expenses
2019/2018 2018/2017
Comparison Comparison
Increase/(Decrease) Increase/(Decrease)
2019 2018 2017 $ % $ %
(in thousands) (in thousands, except percentages)Research expenses$ 732,772 $ 438,360 $ 311,206 $ 294,412 67 %$ 127,154 41 % Development expenses 1,021,768 978,116 1,013,419 43,652 4 % (35,303 ) (3 )% Total research and development expenses$ 1,754,540 $ 1,416,476 $ 1,324,625 $ 338,064 24 %$ 91,851 7 % Our research and development expenses include internal and external costs incurred for research and development of our drugs and drug candidates and expenses related to certain technology that we acquire or license through business development transactions. We do not assign our internal costs, such as salary and benefits, stock-based compensation expense, laboratory supplies and other direct expenses and infrastructure costs, to individual drugs or drug candidates, because the employees within our research and development groups typically are deployed across multiple research and development programs. These internal costs are significantly greater than our external costs, such as the costs of services provided to us by clinical research organizations and other outsourced research, which we allocate by individual program. All research and development costs for our drugs and drug candidates are expensed as incurred. Over the past three years, we have incurred$4.5 billion in research and development expenses associated with drug discovery and development. The successful development of our drug candidates is highly uncertain and subject to a number of risks. In addition, the duration of clinical trials may vary substantially according to the type, complexity and novelty of the drug candidate and the disease indication being targeted. The FDA and comparable agencies in foreign countries impose substantial requirements on the introduction of therapeutic pharmaceutical products, typically requiring lengthy and detailed laboratory and clinical testing procedures, sampling activities and other costly and time-consuming procedures. Data obtained from nonclinical and clinical activities at any step in the testing process may be adverse and lead to discontinuation or redirection of development activities. Data obtained from these activities also are susceptible to varying interpretations, which could delay, limit or prevent regulatory approval. The duration and cost of discovery, nonclinical studies and clinical trials may vary significantly over the life of a project and are difficult to predict. Therefore, accurate and meaningful estimates of the ultimate costs to bring our drug candidates to market are not available. In 2017, 2018 and 2019, costs related to our CF programs represented the largest portion of our development costs. Any estimates regarding development and regulatory timelines for our drug candidates are highly subjective and subject to change. Until we have data from Phase 3 clinical trials, we cannot make a meaningful estimate regarding when, or if, a clinical development program will generate revenue and cash flow. Research Expenses 2019/2018 2018/2017 Comparison Comparison Increase/(Decrease) Increase/(Decrease) 2019 2018 2017 $ % $ % (in thousands) (in thousands, except percentages) Research Expenses: Salary and benefits$ 134,642 $ 87,773 $ 81,229 $ 46,869 53 % $ 6,544 8 % Stock-based compensation expense 69,417 62,925 60,122 6,492 10 % 2,803 5 % Outsourced services and other direct expenses 116,575 89,355 85,319 27,220 30 % 4,036 5 % Collaboration and asset acquisition expenses 307,828 111,600 8,425 196,228 ** 103,175 **
Infrastructure costs 104,310 86,707 76,111
17,603 20 % 10,596 14 %
Total research expenses
294,412 67 %$ 127,154 41 % ** Not meaningful 55
-------------------------------------------------------------------------------- We expect to continue to invest in our research programs with a focus on identifying drug candidates with the goal of creating transformative medicines for serious diseases. Our research expenses increased by 67% in 2019 as compared to 2018 primarily as a result of a$196.2 million increase associated with our business development activities, as well as increased expenses related to additional headcount and increased infrastructure costs. In 2019, our business development activities included collaborative upfront and option payments to CRISPR, Kymera and Molecular Templates, which are reflected in "Collaboration and asset acquisition expenses" in the table above. The increase in salary and benefits in 2019 was primarily related to costs associated with our acquisitions of Exonics and Semma. In 2018, our research expenses increased as compared to 2017 primarily due to$111.6 million in expenses associated with our business development activities, including collaborative upfront payments of$65.0 million to Merck KGaA, Darmstadt,Germany and$30.0 million to Arbor. Development Expenses 2019/2018 2018/2017 Comparison Comparison Increase/(Decrease) Increase/(Decrease) 2019 2018 2017 $ % $ % (in thousands) (in thousands, except percentages) Development Expenses: Salary and benefits$ 249,860 $ 220,128 $ 208,769 $
29,732 14 %
155,141 140,187 121,778 14,954 11 % 18,409 15 % Outsourced services and other direct expenses 425,149 471,338 397,155
(46,189 ) (10 )% 74,183 19 % Collaboration and asset acquisition expenses
10,440 250 160,250 10,190 ** (160,000 ) **
Infrastructure costs 181,178 146,213 125,467
34,965 24 % 20,746 17 % Total development expenses$ 1,021,768 $ 978,116 $ 1,013,419 $ 43,652 4 %$ (35,303 ) (3 )% ** Not meaningful Our development expenses increased by$43.7 million , or 4%, in 2019 as compared to 2018 and decreased by$35.3 million , or 3%, in 2018 as compared to 2017. The increase in 2019 as compared to 2018 was primarily due to increased headcount and infrastructure costs to support our advancing pipeline and increased milestones related to our collaborative agreements, partially offset by decreased expenses related to our CF programs. The decrease in 2018 as compared to 2017 was primarily due to increased costs associated with clinical trial expenses, including Phase 3 clinical trials evaluating elexacaftor as part of our triple combination regimen, which were more than offset by a$160.0 million payment to Concert Pharmaceuticals Inc. in connection with the acquisition of VX-561 in 2017 for which there were no comparable expenses in 2018. Sales, General and Administrative Expenses 2019/2018 2018/2017 Comparison Comparison Increase/(Decrease) Increase/(Decrease) 2019 2018 2017 $ % $ % (in thousands) (in thousands, except percentages) Sales, general and administrative expenses$ 658,498 $ 557,616 $ 496,079 $ 100,882 18 %$ 61,537 12 % Sales, general and administrative expenses increased by 18% in 2019 as compared to 2018, and by 12% in 2018 as compared to 2017. These increases were primarily due to increased global support for our medicines and incremental investment to support the launch of our triple combination regimen. We expect our sales, general and administrative expenses to continue to increase in 2020. Contingent Consideration In 2019, the increase in the fair value of contingent consideration of$4.5 million was due to changes in market interest rates and the time value of money related to the contingent development and regulatory milestone payments resulting from our acquisition of Exonics. There were no similar amounts in 2018 or 2017. In future periods, we expect the fair value of 56 -------------------------------------------------------------------------------- contingent consideration to increase or decrease based on, among other things, our estimates of the probability of achieving and the timing of these contingent development and regulatory milestone payments, as well as the time value of money changes in market interest rates. Restructuring Expenses We did not record any restructuring expenses in 2019. Restructuring income was insignificant in 2018. In 2017, we recorded restructuring expenses of$14.2 million , primarily related to our decision to consolidate our research activities into ourBoston ,Milton Park andSan Diego locations and to close our research site inCanada . Intangible Asset Impairment Charge In 2018, we recorded a$29.0 million impairment charge related to VX-210 that was licensed from BioAxone in 2014. In 2017, we recorded a$255.3 million impairment charge related to Parion's pulmonary ENaC platform that we licensed from Parion in 2015 and a benefit from income taxes of$97.7 million related to this impairment charge. Both of these impairment charges, and the related benefits from income taxes, were attributable to non-controlling interest because we consolidated these entities as VIEs. There were no corresponding intangible asset impairment charges in 2019. Other Non-Operating Income (Expense), Net Interest Income Interest income increased from$11.7 million in 2017 to$38.4 million in 2018 and$63.7 million in 2019, primarily due to an increase in our cash equivalents and marketable securities and prevailing market interest rates. Our future interest income will be dependent on the amount of, and prevailing market interest rates on, our outstanding cash equivalents and marketable securities. Interest Expense Interest expense was$58.5 million in 2019,$72.5 million in 2018 and$69.3 million in 2017. The majority of our interest expense in these periods was related to imputed interest expense associated with our leased corporate headquarters inBoston and our research site inSan Diego . OnJanuary 1, 2019 , we adopted ASC 842, Leases, which resulted in a reduction in our imputed interest expense associated with these leases beginning in 2019. Our future interest expense will be dependent on whether, and to what extent, we borrow amounts under our credit facility. Other Income (Expense), Net In 2019, we recorded net other income of$192.2 million primarily related to changes in the fair value of our strategic investments. In 2018, we recorded net other expense of$0.8 million . In 2017, we recorded net other expense of$81.4 million primarily related to the deconsolidation of Parion. In 2019 and 2018, our other income (expense), net included realized and unrealized gains totaling$197.6 million and$2.6 million , respectively, related to our strategic investments. We expect that, due to the volatility of the stock price of biotechnology companies, our other income (expense), net will fluctuate in future periods based on increases or decreases in the fair value of our strategic investments. 57 -------------------------------------------------------------------------------- Noncontrolling Interest (VIEs) In 2019, we had no noncontrolling interest because we did not consolidate any VIEs into our consolidated statement of operations. In 2018 and 2017, the net loss attributable to noncontrolling interest recorded on our consolidated statements of operations reflects Parion (throughSeptember 30, 2017 ) and BioAxone's (throughDecember 31, 2018 ) net loss for the reporting period, adjusted for any changes in the noncontrolling interest holders' claim to net assets, including contingent milestone, royalty and option payments. A summary of net loss attributable to noncontrolling interest related to our VIEs for 2018 and 2017 is as follows: 2018 2017 (in thousands)
Loss attributable to noncontrolling interest before benefit from income taxes and changes in fair value of contingent payments
$ 31,191 $
223,379
Benefit from income taxes (3,668 ) (114,090 ) (Increase) decrease in fair value of contingent payments (17,730 )
62,560
Net loss attributable to noncontrolling interest
171,849
In 2018, the net loss attributable to noncontrolling interest was primarily related to the$29.0 million impairment charge related to VX-210 offset by an increase in the fair value of the contingent payments payable by us to BioAxone of$17.7 million . In 2017, the net loss attributable to noncontrolling interest was primarily related to the$255.3 million impairment charge related to Parion's pulmonary ENaC platform, a decrease in fair value of the contingent payments payable by us to Parion of$69.6 million upon deconsolidation and a benefit from income taxes of$126.2 million related to these charges. Income Taxes In 2017 and 2018, we were profitable from aU.S. federal income tax perspective and used a portion of our net operating losses to offset this income since becoming profitable. Until the fourth quarter of 2018, we maintained a valuation allowance on the majority of our net operating losses and other deferred tax assets. Due to this valuation allowance, we did not record a significant provision for income taxes in 2017 and the nine months endedSeptember 30, 2018 . In the fourth quarter of 2018, we released the valuation allowance, resulting in a non-cash credit to net income of$1.56 billion . Further information on the release of the valuation allowance and significant judgments related to its release can be found below in "Critical Accounting Policies - Income Taxes." In 2019, we recorded a provision for income taxes of$218.1 million . Starting in 2019, we began recording a provision for income taxes approximating statutory rates on our pre-tax income and continued to utilize our net operating losses to offset income. Our effective tax rate for 2019 is lower than theU.S. statutory rate primarily due to excess tax benefits related to stock-based compensation and research and development tax credits partially offset by a change in our valuation allowance as well as the tax impact of our officers' compensation. Due to our ability to offset our pre-tax income against previously benefited net operating losses, we expect the majority of our tax provision to represent a non-cash expense until our net operating losses have been fully utilized. In 2017, we recorded a benefit from income taxes of$107.3 million , primarily due to a total benefit from income taxes of$114.1 million attributable to noncontrolling interest related to the impairment of Parion's pulmonary ENaC platform and decrease in the fair value of the contingent payments payable by us to Parion. LIQUIDITY AND CAPITAL RESOURCES The following table summarizes the components of our financial condition as ofDecember 31, 2019 and 2018: Increase/(Decrease) 2019 2018 $ % (in thousands, except percentages) Cash, cash equivalents and marketable securities$ 3,808,294 $ 3,168,242 $ 640,052 20 % Working Capital: Total current assets$ 4,822,829 $ 3,843,109 $ 979,720 25 % Total current liabilities (1,334,827 ) (1,120,292 ) (214,535 ) (19 )% Total working capital$ 3,488,002 $ 2,722,817 $ 765,185 28 % 58
-------------------------------------------------------------------------------- As ofDecember 31, 2019 , total working capital was$3.5 billion , which represented an increase of$765.2 million from$2.7 billion as ofDecember 31, 2018 . The most significant items that increased total working capital in 2019 were$1.6 billion of cash provided by operations and$343.2 million of cash received from issuances of common stock under our employee benefit plans and partially offset by$1.2 billion of cash used to acquire Exonics and Semma and$192.0 million of cash used to repurchase shares of our common stock. Sources of Liquidity As ofDecember 31, 2019 , we had cash, cash equivalents and marketable securities of$3.8 billion , which represented an increase of$640.1 million from$3.2 billion as ofDecember 31, 2018 . We intend to rely on our existing cash, cash equivalents and marketable securities together with cash flows from product sales as our primary source of liquidity. We may borrow up to$500.0 million pursuant to a revolving credit facility that we entered into in 2019. We may repay and reborrow amounts under the revolving credit agreement without penalty. Subject to certain conditions, we may request that the borrowing capacity under this credit agreement be increased by an additional$500.0 million , up to a total of$1.0 billion . Other possible sources of future liquidity include commercial debt, public and private offerings of our equity and debt securities, strategic sales of assets or businesses and financial transactions. Negative covenants in our credit agreement may prohibit or limit our ability to access these sources of liquidity. Future Capital Requirements We have significant future capital requirements including: • significant expected operating expenses to conduct research and development activities and to operate our organization; and
• substantial facility and capital lease obligations, including leases for
two buildings in
In addition: • We have entered into certain collaboration agreements with third parties
that include the funding of certain research, development and
commercialization efforts with the potential for future milestone and
royalty payments by us upon the achievement of pre-establisheddevelopmental and regulatory targets and/or commercial targets, and we may
enter into additional business development transactions, including
acquisitions, collaborations and equity investments, that require
additional capital.
• We have reached an agreement with the French government and will repay a
portion of the amounts we have collected under the ORKAMBI early access
programs in
difference between the invoiced amount and the final amount for ORKAMBI
distributed through these programs as reflected in the structure of the
agreement with the French government.
• To the extent we borrow amounts under the credit agreement we entered into
in 2019, we would be required to repay any outstanding principal amounts
in 2024.
As ofDecember 31, 2019 ,$464.0 million remained available to fund repurchases under the 2019 Share Repurchase Program that we announced inJuly 2019 . We expect that cash flows from our products together with our current cash, cash equivalents and marketable securities will be sufficient to fund our operations for at least the next twelve months. The adequacy of our available funds to meet our future operating and capital requirements will depend on many factors, including the amounts of future revenues generated by our products, and the potential introduction of one or more of our other drug candidates to the market, the level of our business development activities and the number, breadth, cost and prospects of our research and development programs. Financing Strategy We may raise additional capital by borrowing under credit agreements, through public offerings or private placements of our securities or securing new collaborative agreements or other methods of financing. We will continue to manage our capital structure and will consider all financing opportunities, whenever they may occur, that could strengthen our long-term liquidity profile. There can be no assurance that any such financing opportunities will be available on acceptable terms, if at all. 59 -------------------------------------------------------------------------------- CONTRACTUAL COMMITMENTS AND OBLIGATIONS The following table sets forth our commitments and obligations as ofDecember 31, 2019 : Payments Due by Period 2020 2021-2022 2023-2024 2025 and later Total (in thousands) Fan Pier Leases$ 66,540 $ 145,177 $ 150,560 $ 311,884 $ 674,161 Finance leases, excluding Fan Pier Leases 17,724 31,355 25,499 113,367 187,945 Operating leases 14,598 49,778 67,451 368,597 500,424 Research and development costs 51,934 565 18 - 52,517
Total contractual
commitments and obligations
Leases
We lease two buildings that are located atFan Pier inBoston, Massachusetts . We commenced lease payments on these two buildings inDecember 2013 and the initial lease periods end inDecember 2028 . We also lease office and laboratory space inSan Diego, California . We commenced lease payments for this building in the second quarter of 2019 pursuant to a 16 year lease. The future minimum rental payments that we are obligated to pay related to theSan Diego building are included in "Finance leases, excluding Fan Pier Leases," which also reflects leases of equipment that are accounted for as finance leases. The remainder of our real estate leases are reflected in "Operating leases" in the table above. Research and Development Costs The amounts reflected in "Research and development costs" do not include certain payments we anticipate making to clinical research organizations, or CROs, because these contracts are cancelable, at our option, with notice. However, we historically have not cancelled such contracts. As ofDecember 31, 2019 , we had accrued$40.2 million related to these contracts for costs incurred for services provided throughDecember 31, 2019 , and we have approximately$200.6 million in cancelable future commitments based on existing contracts as ofDecember 31, 2019 . These amounts reflect planned expenditures based on existing contracts and do not reflect any future modifications to, or terminations of, existing contracts or anticipated or potential new contracts. Collaborative Arrangements and Asset Acquisitions We have entered into certain research and development collaboration agreements with third parties and acquired certain assets that include the funding of certain development, manufacturing and commercialization efforts with the potential for future milestone and royalty payments by us upon the achievement of pre-established developmental, regulatory and/or commercial targets. Our obligation to fund these efforts is contingent upon continued involvement in the programs and/or the lack of any adverse events that could cause the discontinuance of the programs. These payments include: • CFF: We pay royalties, which are included in cost of sales, to CFF on sales of our CF products.
• Research and Development Milestones: The majority of our in-license
agreements and our acquisitions have milestone and royalty payments
payable by us upon the successful achievement of pre-established
developmental, regulatory and/or commercial targets or net sales.
Contingent payments under these agreements become due and payable only
upon achievement of certain milestones and are not included in the
contractual obligations table above.
Tax-related Obligations
We exclude liabilities pertaining to uncertain tax positions from our summary of
contractual obligations as we cannot make a reliable estimate of the period of
cash settlement with the respective taxing authorities. As of December 31, 2019 ,
our liabilities associated with uncertain tax positions were $33.9 million .
60
--------------------------------------------------------------------------------
Other Funding Commitments
Our table detailing contractual commitments and obligations does not include
severance payment obligations to certain of our executive officers in the event
of a not-for-cause employment termination under existing employment contracts.
We will provide information regarding these obligations annually in our proxy
statement for our annual meeting of shareholders.
In addition, we began distributing ORKAMBI through early access programs in
France in 2015. We received payment from the French government based on the
invoiced amount and remained in reimbursement discussions for ORKAMBI in France
until November 2019 , when we reached an agreement for historical and future
shipments of ORKAMBI with the French government. Based on the structure of the
agreement with the French government, we will pay the difference between the
amounts collected based on the invoiced amount and the final amount for ORKAMBI
distributed through early access programs to the French government in 2020.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Our discussion and analysis of our financial condition and results of operations
are based upon our consolidated financial statements prepared in accordance with
generally accepted accounting principles in the United States . The preparation
of these financial statements requires us to make certain estimates and
assumptions that affect the reported amounts of assets and liabilities, the
disclosure of contingent assets and liabilities at the date of the consolidated
financial statements and the reported amounts of revenues and expenses during
the reported periods. These items are monitored and analyzed by management for
changes in facts and circumstances, and material changes in these estimates
could occur in the future. Changes in estimates are reflected in reported
results for the period in which the change occurs. We base our estimates on
historical experience and various other assumptions that we believe to be
reasonable under the circumstances. Actual results may differ from our estimates
if past experience or other assumptions do not turn out to be substantially
accurate.
We believe that our application of the following accounting policies, each of
which requires significant judgments and estimates on the part of management,
are the most critical to aid in fully understanding and evaluating our reported
financial results:
• revenue recognition;
• acquisitions, including intangible assets, goodwill and contingent
consideration; and
• income taxes.
Our accounting policies, including the ones discussed below, are more fully
described in the Notes to our consolidated financial statements, including Note
A, "Nature of Business and Accounting Policies," included in this Annual Report
on Form 10-K.
61-------------------------------------------------------------------------------- Revenue Recognition Product Revenues, Net We generate product revenues from sales inthe United States and in international markets. We sell our products principally to a limited number of specialty pharmacy and specialty distributors inthe United States , which account for the largest portion of our total revenues, and make international sales primarily to specialty distributors and retail chains, as well as hospitals and clinics, many of which are government-owned or supported customers, collectively, our customers. Our customers inthe United States subsequently resell our products to patients and health care providers. We contract with government agencies so that our products will be eligible for purchase by, or partial or full reimbursement from, such third-party payors. We recognize net product revenues from sales of our products when our customers obtain control of our products, which typically occurs upon delivery to our customers. Revenues from our product sales are recorded at the net sales price, or "transaction price," which requires us to make several significant estimates regarding the net sales price. The most significant estimate we are required to make is related to government and private payor rebates, chargebacks, discounts and fees, collectively rebates. The value of the rebates provided to third-party payors per course of treatment vary significantly and are based on government-mandated discounts and our arrangements with other third-party payors. In order to estimate our total rebates, we estimate the percentage of prescriptions that will be covered by each third-party payor, which is referred to as the payor mix. We track available information regarding changes, if any, to the payor mix for our products, to our contractual terms with third-party payors and to applicable governmental programs and regulations and levels of our products in the distribution channel. We adjust our estimated rebates based on new information, including information regarding actual rebates for our products, as it becomes available. Claims by third-party payors for rebates are submitted to us significantly after the related sales, potentially resulting in adjustments in the period in which the new information becomes known. Our credits to revenue related to prior period sales, excluding the adjustment to the transaction price for ORKAMBI distributed through early access programs inFrance , have not been significant (typically less than 1% of gross product revenues) and primarily related toU.S. rebates. The following table summarizes activity related to our accruals for rebates (including our refund liability to the French government related to ORKAMBI distributed through early access programs inFrance as described below) for the three years endedDecember 31, 2019 : (in
thousands)
Balance as ofDecember 31, 2016 $
81,927
Provision related to current year sales
176,996
Adjustments related to prior year(s) sales (8,943 ) Credits/payments made (137,765 ) Balance as ofDecember 31, 2017 $
112,215
Provision related to current year sales and the adoption of ASC 606 684,299 Adjustments related to prior year(s) sales
(22,099 )
Credits/payments made (229,361 )
Balance as of December 31, 2018 $ 545,054
Provision related to current year sales
655,980
Adjustments related to prior year(s) sales (95,480 ) Credits/payments made (469,832 ) Balance as ofDecember 31, 2019 $
635,722
We have also entered into annual contracts with government-owned and supported
customers in international markets that limit the amount of annual reimbursement
we can receive. Upon exceeding the annual reimbursement amount, products are
provided free of charge, which is a material right. We defer a portion of the
consideration received, which includes upfront payments and fees, for shipments
made up to the annual reimbursement limit as "Other current liabilities." The
deferred amount is recognized as revenue when the free products are shipped. In
order to estimate the portion of the consideration received to recognize as
revenue and the portion of the amount to defer, we rely on our forecast of the
number of units we will distribute during the applicable annual period in each
international market in which our contracts with government-owned and supported
customers limit the amount of annual reimbursement we can receive. Our forecasts
are based on, among other things, our historical experience.
62
--------------------------------------------------------------------------------
The preceding estimates and judgments materially affect our recognition of net
product revenues. Changes in our estimates of net product revenues could have a
material effect on net product revenues recorded in the period in which we
determine that change occurs.
French Early Access Programs
In 2015, we began distributing ORKAMBI through early access programs in France
and remained engaged in reimbursement discussions with the French government for
ORKAMBI, including ORKAMBI distributed through early access programs, until
November 2019 , when we reached an agreement with the French government. From the
time we began distributing ORKAMBI through early access programs in France , we
have expected that the difference between the amounts collected based on the
invoiced amount and the final amount for ORKAMBI distributed through these
programs would be returned to the French government. Our refund liability
related to the early access programs in France is classified in "Accrued
expenses" on our consolidated balance sheets.
Pursuant to the revenue recognition accounting guidance that was applicable
until December 31, 2017 , our ORKAMBI net product revenues for 2015, 2016 and
2017 did not include any net product revenues from sales of ORKAMBI in France .
Upon adopting ASC 606, in the first quarter of 2018, we began recognizing
ORKAMBI net product revenues in France based on a transaction price that
reflected our estimate of consideration we expected to retain that would not be
subject to a significant reversal in amounts recognized, which resulted in
revenue representing a portion of the invoiced amount. We recognized ORKAMBI net
product revenues from shipments of ORKAMBI in France based on this estimate from
the first quarter of 2018 through the third quarter of 2019.
Upon reaching an agreement with the French government for ORKAMBI, including the
final amount for ORKAMBI distributed through early access programs in France in
the fourth quarter of 2019, we updated the transaction price related to ORKAMBI
distributed through early access programs and recognized net product revenues of
$155.8 million related to these shipments, which occurred from 2015 through the
date of our agreement with the French government, because the final amount for
these shipments exceeded our previous estimate.
Acquisitions
We are required to make several significant judgments and estimates in order to
calculate the purchase price for our business combinations and then allocate it
to the assets that we have acquired and the liabilities that we have assumed on
our consolidated balance sheet. The most significant judgments and estimates
relate to the fair value of the in-process research and development assets and
contingent consideration liabilities related to these business combinations.
Based on these judgments and estimates, the fair value of the goodwill that we
record as a result of these business combinations may be material. Once
recorded, these assets are subject to quarterly impairment analysis and our
contingent consideration liability is adjusted quarterly, which requires similar
judgments and estimates.
Intangible Assets
In 2019, we recorded in-process research and development assets related to our
acquisitions of Exonics and Semma totaling $400.0 million on our consolidated
balance sheet. Each of these assets is accounted for as an indefinite-lived
intangible asset and is maintained on our consolidated balance sheet until
either the project underlying it is completed or the asset becomes impaired.
When we determine that an asset has become impaired or we abandon a project, we
write down the carrying value of the related intangible asset to its fair value
and record an impairment charge in the period in which the impairment occurs. In
2018 and 2017, we recorded full impairment charges of $29.0 million and $255.3
million for the in-process research and development assets that had previously
been recorded on our consolidated balance sheets related to our collaborations
with BioAxone and Parion, respectively.
To determine the fair value of our in-process research and development assets,
we utilize the multi-period excess earnings method of the income approach, which
requires us to make estimates of the probability of technical and regulatory
success, development cost assumptions, revenue projections and growth rates,
commercial cost estimates and appropriate discount rates. These assumptions
require significant management judgment and reasonable changes in the
assumptions can cause material changes to the fair value of the intangible
assets. Due to the pre-clinical nature of Exonics and Semma's programs, these
significant assumptions could be affected by future economic and market
conditions.
Contingent Consideration
As of December 31, 2019 , we recorded $176.5 million of liabilities on our
consolidated balance sheet attributable to the fair value of the contingent
development and regulatory payments that we may owe to Exonics' former equity
holders upon
63--------------------------------------------------------------------------------
the achievement of certain events. Our acquisition of Semma did not include similar contingent payments; therefore, we are not required to record contingent consideration liabilities related to our acquisition of Semma. We record an increase or a decrease in the fair value of the contingent consideration liability on our consolidated balance sheet and in our consolidated statement of operations on a quarterly basis. We determine the fair value of our contingent consideration liability using a probability weighted discounted cash flow method of the income approach, which requires us to make estimates of the timing of regulatory and commercial milestone achievement and the corresponding estimated probability of technical and regulatory success rates. Significant judgment is used in determining the appropriateness of these assumptions during each reporting period. Reasonable changes in these assumptions can cause material changes to the fair value of our contingent consideration liability. Due to the pre-clinical nature of Exonics' DMD and DM1 programs, these significant assumptions could be affected by future economic and market conditions.Goodwill In 2019, we recorded goodwill of$554.6 million and$397.1 million related to our acquisitions of Semma and Exonics, respectively.Goodwill reflects the difference between the fair value of the consideration transferred and the fair value of the net assets acquired. Thus, the goodwill that we record is dependent on the significant judgments and estimates inherent in the fair value of our in-process research and development assets and contingent consideration liabilities. Income Taxes We utilize the asset and liability method of accounting for income taxes. Under this method, deferred tax assets and liabilities are determined based on the difference between the financial statement carrying amounts and tax basis of assets and liabilities using enacted tax rates in effect for years in which the temporary differences are expected to reverse. If our estimate of the tax effect of reversing temporary differences is (i) not reflective of actual outcomes, (ii) modified to reflect new developments or interpretations of the tax law, or (iii) revised to incorporate new accounting principles, or changes in the expected timing or manner of the reversal, our results of operations could be materially impacted. We are engaged in research and development activities and incurred significant net operating losses for a number of years before recently becoming profitable. Since we started generating profits, we have used a portion of our net operating losses and maintained a valuation allowance on the majority of our net operating losses and other deferred tax assets untilDecember 31, 2018 . Accordingly, we did not report any tax benefits relating to our net operating loss carryforwards and income tax credit carryforwards that are available for utilization in future periods. As ofDecember 31, 2018 , we released the valuation allowance on the majority of our net operating losses and other deferred tax assets resulting in a non-cash benefit from income taxes of$1.56 billion in the fourth quarter of 2018. We provide a valuation allowance when it is more likely than not that deferred tax assets will not be realized. On a periodic basis, we reassess our valuation allowances on our deferred tax assets, weighing positive and negative evidence to assess the recoverability of the deferred tax assets. In the fourth quarter of 2018, we reassessed our valuation allowances and considered positive evidence including significant cumulative consolidated andU.S. income over the three years endedDecember 31, 2018 , revenue growth, clinical program progression, including the advancement and clinical trial data from our triple combination regimens, and expectations regarding future profitability, and negative evidence, including potential impact of competition on our projections and cumulative losses in the jurisdictions. After assessing both the positive evidence and the negative evidence, we released the valuation allowance on the majority of our net operating losses and other deferred tax assets as ofDecember 31, 2018 . Significant judgment is required in making these assessments to maintain or reverse our valuation allowances and, to the extent our future expectations change we would have to assess the recoverability of these deferred tax assets at that time. The determination to release the majority of our valuation allowances increased our net income by$1.56 billion , or$6.03 per share in 2018. In 2019, we recorded a significant provision for income tax, which was the result of utilizing previously benefitted deferred tax assets. RECENT ACCOUNTING PRONOUNCEMENTS Refer to Note A, "Nature of Business and Accounting Policies," in the accompanying notes to the consolidated financial statements for a discussion of recent accounting pronouncements and new accounting pronouncements adopted during 2019.
© Edgar Online, source
