ANI PHARMACEUTICALS, INC.
Please read the following discussion in conjunction with Item 1A. ("Risk
Factors") and our audited consolidated financial statements included elsewhere
in this annual report. Some of the statements in the following discussion are
forward-looking statements. See the discussion about forward-looking statements
on page 1 of this Annual Report on Form 10-K.
This section of this Form 10-K generally discusses 2020 and 2019 items
and year-to-year comparisons between 2020 and 2019. Discussions of 2018 items
and year-to-year comparisons between 2019 and 2018 that are not included in this
Form 10-K can be found in "Management's Discussion and Analysis of Financial
Condition and Results of Operations" in Part II, Item 7 of the Company's
Annual Report on Form 10-K for the fiscal year ended December 31, 2019 , filed
with the SEC on February 27, 2020 .
Executive Overview
ANI Pharmaceuticals, Inc. and its consolidated subsidiaries,ANIP Acquisition Company andANI Pharmaceuticals Canada Inc. (together, "ANI," the "Company," "we," "us," or "our") is an integrated specialty pharmaceutical company focused on delivering value to our customers by developing, manufacturing, and marketing high quality branded and generic prescription pharmaceuticals. We focus on niche and high barrier to entry opportunities, including controlled substances, oncology products (anti-cancer), hormones and steroids, and complex formulations. Our three pharmaceutical manufacturing facilities, of which two are located inBaudette, Minnesota and one is located inOakville, Ontario , are together capable of producing oral solid dose products, as well as semi-solids, liquids and topicals, controlled substances, and potent products that must be manufactured in a fully-contained environment. Our strategy is to use our assets to develop, acquire, manufacture, and market branded and generic specialty prescription pharmaceuticals. While generic products tend to have higher margins than branded products, margins decrease as the number of companies offering a generic form of a branded drug increases. To address this downward pressure on prices of generic products, we actively seek to acquire new drug products. By executing on this and other strategies, we believe we will be able to continue to grow our business, expand and diversify our product portfolio, and create long-term value for our investors. In 2018, our subsidiary,ANI Pharmaceuticals Canada Inc. ("ANI Canada"), acquired all the issued and outstanding equity interests ofWellSpring Pharma Services Inc. ("WellSpring"), a Canadian company that performs contract development and manufacturing of pharmaceutical products. In conjunction with the transaction, we acquired WellSpring's pharmaceutical manufacturing facility, laboratory, and offices, its current book of commercial business, as well as an organized workforce. In addition, we acquired the ANDAs for three previously-commercialized generic products, the approved ANDAs for two generic products that had yet to be commercialized at the time of the acquisition, the development package for one generic product, a license, supply, and distribution agreement for a generic product with an ANDA that is pending approval, and certain manufacturing equipment required to manufacture one of the products. We also acquired the ANDAs for 23 previously-marketed generic products and API for four of the acquired products. During the 2018 year, we launched 11 products. In addition, inDecember 2018 , we refinanced our$125.0 million Credit Agreement by entering into an amended and restated Senior Secured Credit Facility (the "Credit Facility") for up to$265.2 million . The principal new feature of the Credit Facility was a$118.0 million Delayed Draw Term Loan (the "DDTL"), which could only be drawn on in order to pay down the Company's remaining 3.0% Convertible Senior Notes, which matured inDecember 2019 . The Credit Facility also extended the maturity of the$72.2 million secured term loan (the "Term Loan") toDecember 2023 . In addition, the Credit Facility increased the previous$50.0 million line of credit (the "Revolver") to$75.0 million . In 2019, we entered into an agreement with Teva Pharmaceutical Industries Ltd. to purchase a basket of ANDAs for 35 previously-marketed generic drug products. We also acquired fromCoeptis Pharmaceuticals, Inc. seven development stage generic products. During the 2019 year, we launched six products. 40
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Additionally, onNovember 29, 2019 , we exercised our option to borrow$118.0 million pursuant to the DDTL feature under the existing Credit Facility and the proceeds were used to repay the outstanding 3% Convertible Senior Notes, which matured onDecember 1, 2019 .
In 2020, we acquired the
Recent Developments
OnMarch 8, 2021 ,ANI Pharmaceuticals, Inc. ("Parent") entered into an Agreement and Plan of Merger (the "Merger Agreement") by and among Parent,Nile Merger Sub LLC , aDelaware limited liability company and a wholly-owned subsidiary of Parent ("Merger Sub"),Novitium Pharma LLC , aDelaware limited liability company ("Novitium"),Esjay LLC , aDelaware limited liability company ("Esjay"),Chali Properties, LLC , aNew Jersey limited liability company ("Chali"),Chad Gassert ,Muthusamy Shanmugam , and Thorappadi Vijayaraj (collectively, the "Key Persons", andMuthusamy Shanmugam and Thorappadi Vijayaraj, together with Esjay and Chali, the "Principal Members") andShareholder Representative Services LLC , aColorado limited liability company, as the representative of the equity holders of Novitium. Upon the terms and subject to the conditions set forth in the Merger Agreement, Merger Sub will merge with and into Novitium, with Novitium surviving the merger as a wholly-owned subsidiary of Parent (the "Merger"). The closing of the Merger (the "Closing") will occur (a) within five business days after all of the conditions to the Closing set forth in the Merger Agreement are satisfied or waived or (b) at such other time, date and place as may be agreed by Parent and Novitium, subject to the completion of a minimum period. The Merger consideration will consist of a combination of (i) an estimated cash amount of$89.5 million , subject to various adjustments and expected to be financed in part by a$25.0 million Private Investment in Public Equity ("PIPE Investment ") (as defined below) and in part by new debt financing, (ii) an aggregate of 2,466,667 shares of Parent common stock, and (iii) up to$46.5 million in contingent future earn-out payments. We will finance the transaction with a new$340.0 million Senior Secured Credit Facility (the "Facility"), consisting of a$300.0 million term loan and a$40.0 million revolving credit facility, the issuance of approximately$74.0 million in equity to the sellers, and a$25.0 million PIPE Investment byAmpersand Capital Partners . The new debt financing will be secured by substantially all the assets of ANI and its subsidiaries and used for the cash portion of the acquisition and to refinance ANI's existing senior credit facilities. Concurrently with the execution of the Merger Agreement, onMarch 8, 2021 , Parent entered into an Equity Commitment and Investment Agreement (the "Investment Agreement") with Ampersand 2020 Limited Partnership (the "PIPE Investor"), an affiliate ofAmpersand Capital Partners , pursuant to which we agreed to issue and sell to the PIPE Investor, and the PIPE Investor agreed to purchase, 25,000 shares of our Series A Convertible Preferred Stock (the "PIPE Shares"), for a purchase price of$1,000 per share and an aggregate purchase price of$25.0 million , in a private placement (the "PIPE Investment ").
The completion of the Merger transaction is subject to various closing
conditions, including approval by ANI stockholders of the issuance of ANI common
stock in connection with the Merger. For more information about the pending
Merger transaction, please see the Form 8-K filed on
Fiscal 2020 Developments Asset Acquisitions
In
41
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In May 2020 , we entered into an agreement with a private company to purchase an
ANDA and API for one currently marketed generic drug product and certain API for
$0.2 million . The transaction was funded using cash on hand.
In January 2020 , we completed the acquisition of the U.S. portfolio
of 23 generic products and API and finished goods related to certain of those
products from Amerigen Pharmaceuticals, Ltd. ("Amerigen") for a purchase
consideration of $56.8 million and up to $25.0 million in contingent payments
over the next three years. The product portfolio at the time of the acquisition
included ten commercial products, three approved products with launches pending,
four filed products and four in-development products as well as a license to
commercialize two approved products. The transaction was funded using cash on
hand and $15.0 million in borrowings under our $75.0 million Revolver.
Product Launches
During 2020, we launched the following products. Refer to our website at www.anipharmaceuticals.com for further information on the products, including indications/treatments.
Product Launch Date
Aminocaproic Acid Tablets USP 500mg December 2020
Mexiletine Hydrochloride Capsules USP, 150mg, 200mg, and 250mg June 2020
Omega-3-Acid Ethyl Esters Capsules, 1 gram April 2020
Polyethylene Glycol 3350, 17g/Packet (PEG-3350) April 2020
Dextroamphetamine Saccharate, Amphetamine Aspartate Monohydrate,
Dextroamphetamine Sulfate and Amphetamine Sulfate Extended-Release Capsules 5
mg, 10 mg, 15 mg, 20 mg, 25 mg, and 30 mg April 2020
Memantine Hydrochloride Extended-Release Capsules 7 mg, 14 mg, 21 mg, and 28 mg March 2020
Sulfamethoxazole and Trimethoprim Oral Suspension USP 200 mg/40 mg per 5 mL February 2020
Tolterodine Extended-Release Capsules, 2mg and 4 mg February 2020
Potassium Citrate Extended-Release Tablets USP 10m Eq and 15 mEq January 2020
Paliperidone Extended-Release Tablets, 1.5 mg, 3 mg, 6 mg, and 9 mg January 2020
Cortrophin Gel Re-commercialization Update
InApril 2020 , theFood and Drug Administration ("FDA") issued a Refusal to File ("RTF") letter for our Supplemental New Drug Application ("sNDA") for Cortrophin Gel. Since this time, our efforts have been focused on the preparation of a complete resubmission of the sNDA. We immediately retained a prominent regulatory consulting firm to support our efforts and augment the capabilities of our internal Cortrophin development team. In addition, we restructured the composition of the internal team. We have performed a comprehensive review of the original sNDA filing and prepared an internal gap assessment. The resultant remediation activities are currently in-progress and we currently anticipate re-submitting the sNDA in the second quarter of 2021. In addition, in the third quarter of 2019, we began purchasing materials that are intended to be used commercially in anticipation of FDA approval of Cortrophin Gel and the resultant product launch. UnderU.S. GAAP, we cannot capitalize these pre-launch purchases of materials as inventory prior to FDA approval, and accordingly, they are charged to expense in the period in which they are incurred. We expect these pre-launch purchases of material to increase significantly in the future as we build raw materials, API and finished goods for the expected launch of this product.
Management Transition
OnMay 10, 2020 , our former President and Chief Executive Officer,Arthur S. Przybyl , departed the Company. Our Board of Directors retained an executive search firm to lead the search for a new President and Chief Executive Officer. InAugust 2020 , we announced thatNikhil Lalwani was named our President and Chief Executive Officer and his employment was effectiveSeptember 8, 2020 , at which time he also joined our Board of Directors. 42 Table of Contents COVID-19 Impact We continue to closely monitor the impact of the novel coronavirus ("COVID-19") pandemic on our business and the geographic regions where we operate. During the three months endedJune 30, 2020 , per IQVIA/IMS data, total market generic and brand prescriptions inthe United States declined when compared to each of the previous calendar quarters during the trailing 12 months. The decline was in part attributable to the COVID-19 pandemic, including but not limited to negative impacts from "shelter-in-place" and quarantine orders in certain states, restrictions on travel, the prohibition of elective medical procedures, and the related downstream impact of the global economic activity during this period. The decline in prescriptions due to the COVID-19 pandemic negatively impacted our generic and brand net revenues during the three months endedJune 30, 2020 . During the three month periods endingSeptember 30, 2020 andDecember 31, 2020 , IQVIA/IMS data indicates both brand and generic total market prescription volume increased when compared to the three month period endedJune 30, 2020 , in part due to the easing of COVID-19 related restrictions. However, total market prescription volume did not increase to pre-pandemic levels during this period. We have not experienced a significant impact to our manufacturing operations; however, we have seen minor disruptions to our supply chain from the COVID-19 pandemic during 2020. Our manufacturing facilities inBaudette, Minnesota andOakville, Ontario have remained open throughout the pandemic and have operated in accordance with local, state and national safety guidelines. The pandemic has not impacted our access to capital and has not significantly impacted our use of funds, including but not limited to capital expenditures, spend on research and development activities and business development opportunities. We are unable to predict the impact that the COVID-19 pandemic will have on our future financial condition, results of operations and cash flows due to numerous uncertainties. These uncertainties include the scope, severity and duration of the pandemic, the level of success of continued actions taken to contain the pandemic or mitigate its impact, including the availability of vaccines, and the direct and indirect economic effects of the pandemic and containment measures, among others. The outbreak of COVID-19 in many countries, includingthe United States andCanada , has had a significant adverse impact on global economic activity and has contributed to significant volatility and negative pressure in financial markets. As a result, the COVID-19 pandemic has negatively impacted almost every industry, either directly or indirectly. Further, the impacts of a potential worsening of global economic conditions and the continued disruptions to, and volatility in, the credit and financial markets, pharmaceutical supply chains, patient access to healthcare as well as other unanticipated consequences remain unknown. General Year Ended December 31, (in thousands) 2020 2019 Net revenues$ 208,475 $ 206,547 Operating expenses
Cost of sales (exclusive of depreciation and amortization) 87,157
63,154
Research and development 16,001
19,806
Selling, general, and administrative 64,986
55,843
Depreciation and amortization 44,638 44,612
Cortrophin pre-launch charges 11,263 6,706Intangible asset impairment charge 446
75
Operating (loss)/income (16,016) 16,351
Interest expense, net (9,452) (12,966)
Other expense, net (494) (228)(Loss)/income before benefit for income taxes (25,962)
3,157
Benefit for income taxes 3,414 2,937
Net (loss)/income $ (22,548) $ 6,094
43
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The following table sets forth, for the periods indicated, items in our consolidated statements of operations as a percentage of net revenues.
Year Ended
December 31,
2020 2019
Net revenues 100.0 % 100.0 %
Operating expenses
Cost of sales (exclusive of depreciation and amortization) 41.8 % 30.6 %
Research and development 7.7 % 9.6 %
Selling, general, and administrative 31.2 % 27.0 %
Depreciation and amortization 21.4 % 21.6 %
Cortrophin pre-launch charges 5.4 % 3.2 %Intangible asset impairment charge 0.2 %
- % Operating (loss)/income (7.7) % 8.0 % Interest expense, net (4.5) % (6.3) % Other expense, net (0.2) % (0.1) % (Loss)/income before benefit for income taxes (12.4) % 1.6 % Benefit for income taxes 1.6 % 1.4 % Net (loss)/income (10.8) % 3.0 %
Results of Operations for the Years Ended
Year Ended December 31,
(in thousands) 2020 2019 Change % Change
Generic pharmaceutical products $ 147,257 $ 128,729 $ 18,528 14.4 %
Branded pharmaceutical products 47,960 63,767 (15,807) (24.8) %
Contract manufacturing 9,221 11,139 (1,918) (17.2) %
Royalty and other income 4,037 2,912 1,125 38.6 %
Total net revenues $ 208,475 $ 206,547 $ 1,928 0.9 %
We derive substantially all of our revenues from sales of generic and branded
pharmaceutical products, contract manufacturing, and contract services, which
include product development services, laboratory services, and royalties on net
sales of certain products.
Net revenues for the year ended December 31, 2020 were $208.5 million compared
to $206.5 million for the same period in 2019, an increase of $1.9 million , or
0.9%, primarily as a result of the following factors:
Net revenues for generic pharmaceutical products were
year ended
for the same period in 2019. The primary reasons for the increase are the
Amphetamine Salts, Tolterodine, Bexarotene and other products acquired from
Amerigen, the
2020 launch of Potassium Citrate ER, and increased revenues of Candesartan.
These increases were tempered by decreases in revenues of Ezetimibe
? Simvastatin, Erythromycin Ethylsuccinate ("EES"), Esterified Estrogen with
Methyltestosterone ("EEMT"), Vancomycin Capsules, and Methazolamide. During the
year ended
generic revenue results were negatively impacted by the COVID-19 pandemic,
including but not limited to effects from "shelter-in-place" orders and the
prohibition of elective medical procedures. These actions resulted in a decline
in generic prescriptions during the year ended
during the second quarter ended
December 31, 2019 .
Net revenues for branded pharmaceutical products were
year ended
? the same period in 2019. The primary reasons for the decrease were lower unit
sales of Inderal LA, Inderal XL and InnoPran XL, as well as a decrease in sales
of
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Arimidex and Atacand. During the year ended
during the second quarter ended
product market and our brand revenue results were negatively impacted by the
COVID-19 pandemic, including but not limited to effects from "shelter-in-place"
orders and the prohibition of elective medical procedures. These actions
resulted in a decline in brand prescriptions during the year ended
2020, primarily during the second quarter ended
the year ended
Contract manufacturing revenues were
?
period in 2019, due to a decreased volume of orders from contract manufacturing
customers in the period.
Royalty and other were
? increase of
primarily due to an increase in product development revenues earned by ANI
Canada and an increase in royalty revenues.
Cost of Sales (Excluding Depreciation and Amortization)
Year Ended December 31,
(in thousands) 2020 2019 Change % Change
Cost of sales (excl. depreciation and
amortization) $ 87,157 $ 63,154 $ 24,003 38.0 %
Cost of sales consists of direct labor, including manufacturing and packaging,
active and inactive pharmaceutical ingredients, freight costs, packaging
components, and royalties related to profit-sharing arrangements. Cost of sales
does not include depreciation and amortization expense, which is reported as a
separate component of operating expenses on our consolidated statements of
operations.
For the year ended December 31, 2020 , cost of sales increased to $87.2 million
from $63.2 million for the same period in 2019, an increase of $24.0 million or
38.0%, primarily as a result of increased volumes during 2020, including a shift
in product mix toward generic products, a $4.3 million increase in cost of sales
representing the excess of fair value over cost for inventory acquired in the
Amerigen acquisition and subsequently sold during the period, a $4.6 million
increase related to increased sales of products subject to profit-sharing
arrangements, and 2020 inventory reserve charges of $5.6 million related to
excess inventory on hand, expired product and discontinued projects. The
increases were partially offset by the non-recurrence of the January 2019
royalty buy out from the Asset Purchase Agreement Amendment with Teva
Pharmaceuticals USA, Inc. and the non-recurrence of the fourth quarter 2019 $4.6
million inventory reserve charge primarily related to the exit from the market
of Methylphenidate Extended Release. Cost of sales, exclusive of the $4.3
million net impact related to excess of fair value over the cost of inventory
sold during the period, as a percentage of net revenues increased to 39.7%
during the year ended December 31, 2020 , from 30.6% during same period in 2019,
primarily as a result of the same factors previously discussed.
During the year ended December 31, 2020 , we purchased 10% of our inventory from
one supplier. In the year ended December 31, 2019 , we purchased 13% of our
inventory from one supplier.
Other Operating Expenses
Year Ended December 31,
(in thousands) 2020 2019 Change % Change
Research and development $ 16,001 $ 19,806 $ (3,805) (19.2) %Selling, general, and administrative 64,986 55,843
9,143 16.4 %
Depreciation and amortization 44,638 44,612 26 0.1 %
Cortrophin pre-launch charges 11,263 6,706 4,557 68.0 %Intangible asset impairment charge 446 75 371 494.7 % Total other operating expenses$ 137,334 $ 127,042
$ 10,292 8.1 % Other operating expenses consist of research and development costs, selling, general, and administrative expenses, depreciation and amortization, impairment charges, and Cortrophin pre-launch charges. 45
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For the year ended
Research and development expenses decreased from
million, a decrease of 19.2%, primarily due to a decrease in expense related to
the Cortrophin re-commercialization project, the non-recurrence of the
? million of expense related to in-process research and development acquired from
Coeptis during the year ended
expenses related to Bretylium Tosylate and Methylphenidate Extended Release
projects. These decreases were tempered by the
and development expense from the Amerigen acquisition inJanuary 2020 .
Selling, general, and administrative expenses increased from
termination benefit expenses related to the departure of our former President
and CEO, comprised of
? million of expense for salary continuation, bonus, and fringe benefits,
increased quality assurance and outside testing expenses, and increased
headcount. We also incurred
charges associated with our CEO search. The increases were tempered by a decrease in legal fees.
Depreciation and amortization expense was
? related to the
this decrease was offset by the amortization of the ANDAs and marketing and
distribution rights acquired inJanuary 2020 from Amerigen and the ANDA acquired inJuly 2020 .
As described in Note 13, Cortrophin Pre-Launch Charges, in the notes to the
consolidated financial statements in Part II, Item 8. of this Annual Report on
Form 10-K, we recognized Cortrophin pre-launch charges of
? year ended
total expense related to this activity of approximately
2021.
We recognized an impairment charge of
and distribution right intangible asset during the year ended
? 2020. We recognized an impairment charge of
Ranitidine product right intangible asset during the year endedDecember 31, 2019 . Other Expense, net Year Ended December 31, (in thousands) 2020 2019 Change % Change Interest expense, net$ (9,452) $ (12,966) $ 3,514 (27.1) % Other expense, net (494) (228) (266) 116.7 % Total other expense, net$ (9,946) $ (13,194) $ 3,248 (24.6) % For the year endedDecember 31, 2020 , we recognized other expense, net of$9.9 million versus other expense, net of$13.2 million for the same period in 2019, a decrease of$3.2 million . Interest expense, net for 2020 consists primarily of interest expense on our Term Loan, DDTL, and Revolver. Interest expense, net for 2019 consists primarily of interest expense on our convertible debt, including amortization of related debt discount, and interest expense on borrowings under our Term Loan and DDTL. For the year endedDecember 31, 2020 and 2019, there was$0.1 million of interest capitalized into construction in progress. The decrease in expense in 2020 is due primarily to the non-recurrence of amortization of the debt discount related to the convertible debt, which matured and was repaid inNovember 2019 . The decrease was tempered by increased borrowing rates on the Term Loan and DDTL and new borrowings under the Revolver. 46
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Benefit for Income Taxes
Year Ended December 31,
(in thousands) 2020 2019 Change % Change
Benefit for income taxes
16.2 %
Our provision for income taxes consists of current and deferred components, which include changes in our deferred tax assets, our deferred tax liabilities, and our valuation allowance. We measure our deferred tax assets and liabilities using the tax rates that we believe will apply in the years in which the temporary differences are expected to be recovered or paid. See Note 11. Income Taxes, in the notes to the consolidated financial statements in Part II, Item 8. of this Annual Report on Form 10-K for further information. For the year endedDecember 31, 2020 , we recognized an income tax benefit of$3.4 million , an effective benefit rate of 13.1% of consolidated pre-tax losses reported in the period. Our effective tax rate for 2020 was impacted by changes in state tax rates due to our changing presence in certain states, certain non-deductible expenses, and the impact of current period stock-based compensation, among other items. For the year endedDecember 31, 2019 , we recognized an income tax benefit of$2.9 million , an effective benefit rate of 93.0% of consolidated pre-tax income reported in the period. Our effective tax rate for 2019 was impacted by the use of the research and experimental tax credit in theU.S. , changes in state tax rates due to our changing presence in certain states, the release of ANICanada's net valuation allowance, application of our newly adopted transfer pricing policy to 2019 and to 2018, and the impact of current period awards of stock-based compensation, stock option exercises, disqualifying dispositions of incentive stock options, among other items.
Liquidity and Capital Resources
The following table highlights selected liquidity and working capital information from our consolidated balance sheets.
December 31, December 31,
(in thousands) 2020 2019
Cash and cash equivalents $ 7,864 $ 62,332
Accounts receivable, net 95,793 72,129
Inventories, net 60,803 48,163
Prepaid income taxes - 1,076Prepaid expenses and other current assets 5,861
3,995
Total current assets$ 170,321 $
187,695
Current debt, net of deferred financing costs
9,941 Accounts payable 11,261 14,606 Accrued expenses and other 2,456 2,362 Accrued royalties 6,407 5,084
Accrued compensation and related expenses 6,231
3,736
Current income taxes payable, net 3,906
-
Accrued government rebates 7,826 8,901
Returned goods reserve 27,155 16,595
Deferred revenue 80 451
Total current liabilities $ 78,565 $ 61,676
On December 31, 2020 , we had $7.9 million in unrestricted cash and cash
equivalents. On December 31, 2019 , we had $62.3 million in unrestricted cash and
cash equivalents. We generated $15.3 million of cash from operations in the year
ended December 31, 2020 . In January 2020 , we acquired the U.S. portfolio of 23
generic products and certain commercial and development inventory and materials
from Amerigen Pharmaceuticals, Ltd. , for which we have used $57.4 million in
cash and could make future payments of up to $25.0 million in contingent profit
share payments over
47
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the next three years. The contingent payments are earned if annual gross profit
exceeds a minimum threshold and are earned on a subset of the acquired products.
No payment was due to Amerigen for the fiscal year ended December 31, 2020 . At
the time of the acquisition, the acquired portfolio included 10 commercial
products, three approved products with launches pending, four filed products,
and four in-development products as well as a license to commercialize two
approved products. The transaction was funded from cash on hand and $15.0
million of borrowings from our Revolver, of which $7.5 million was repaid in the
second quarter 2020. In July 2020 , we acquired an ANDA and certain inventories
from a private company for total consideration of $4.3 million . The transaction
was funded using cash on hand. During 2020, we incurred expenses of $11.3
million related to purchases of Cortrophin pre-launch inventory and expect to
continue to incur related costs in 2021.
We generated $45.6 million of cash from operations in the year ended December
31, 2019 . In June 2019 , we acquired from Coeptis Pharmaceuticals, Inc. seven
development stage generic products, as well as active pharmaceutical ingredient
API and reference-listed drug inventory related to certain of the products for a
payment of $2.3 million using cash on hand. In addition, we could make up to
$12.0 million in payments for certain development and commercial milestones. In
March 2019 , we purchased from Teva Pharmaceutical Industries Ltd. a basket of
ANDAs for 35 previously-marketed generic drug products for $2.5 million using
cash on hand. In January 2019 , we entered into the Asset Purchase Agreement
Amendment, under which all royalty obligations the Company owed to Teva with
respect to products associated with ten ANDAs under the original asset purchase
agreements ceased being effective as of December 31, 2018 . As consideration for
the termination of such future royalty obligations, we paid Teva $16.0 million
using cash on hand.
We are focused on expanding our business and product pipeline through
collaborations, and also through acquisitions of products and companies. We are
continually evaluating potential asset acquisitions and business combinations.
To finance such acquisitions, we might raise additional equity capital, incur
additional debt, or both.
Our working capital ratio, defined as total current assets divided by total
current liabilities, is 2.2 as of December 31, 2020 . We believe that our
financial resources, consisting of current working capital, anticipated future
operating cash flows, and $67.5 million of available borrowings under our
Revolver as of December 31, 2020 , will be sufficient to enable us to meet our
working capital requirements and debt obligations for at least the next
12 months. If our assumptions underlying estimated revenue and expenses are
wrong, or if our cash requirements change materially as a result of shifts in
our business or strategy, we could require additional financing. If we are not
profitable or do not generate cash from operations as anticipated and additional
capital is needed to support operations, we may be unable to obtain such
financing, or obtain it on favorable terms, in which case we may be required to
curtail development of new products, limit expansion of operations, or accept
financing terms that are not as attractive as desired.
Consolidation among wholesale distributors, chain drug stores, and group
purchasing organizations has resulted in a smaller number of companies each
controlling a larger share of pharmaceutical distribution channels. Our net
revenues were concentrated among three customers representing 31%, 24%, and 19%
of net revenues during the year ended December 31, 2020 . As of December 31, 2020
accounts receivable from these three customers totaled approximately 81% of
accounts receivable, net. As a result, negotiated payment terms with these
customers have a material impact on our liquidity and working capital.
None of our products accounted for 10% or more of our net revenues in 2020 or 2019.
Sources and Uses of Cash Debt Financing Our amended and restated Senior Secured Credit Facility for up to$265.2 million consists of a$72.2 million Term Loan, a$118.0 million DDTL, and a$75.0 million Revolver. The Company had previously fully drawn on the Term Loan and DDTL, and inMarch 2020 , drew$15.0 million under the Revolver, of which$7.5 million was repaid during the year endedDecember 31, 2020 . As ofDecember 31, 2020 , we had a$186.9 million outstanding balance on the Credit Facility. As ofDecember 31, 2020 , we had$67.5 million available for borrowing under the Revolver. 48 Table of Contents We may at any time repay borrowings under the term loans, including the initial Term Loan and DDTL, and the Revolver without any premium or penalty, and we must repay all borrowings thereunder byDecember 27, 2023 . We may use the proceeds of the Revolver for working capital and other general corporate purposes. Amounts drawn under the Revolver, Term Loan, and DDTL bear an interest rate equal to, at our option, either a LIBOR rate plus 1.50% to 2.75% per annum, depending on our total leverage ratio or an alternative base rate plus an applicable base rate margin, which varies within a range of 0.50% to 1.75%, depending on our total leverage ratio. On the Revolver, we incur a commitment fee at a rate per annum that varies within a range of 0.25% to 0.50%, depending on our leverage ratio. We must comply with various customary financial and non-financial covenants under the Credit Facility. The primary financial covenants under the Credit Facility consist of a maximum total leverage ratio, which, as ofDecember 31, 2020 , is 3.25 to 1.00, and a minimum fixed charge coverage ratio which shall be greater than or equal to 1.25 to 1.00. The primary non-financial covenants under the Credit Agreement limit, subject to various exceptions, the Company's ability to incur future indebtedness, to place liens on assets, to pay dividends or make other distributions on the Company's capital stock, to repurchase the Company's capital stock, to conduct acquisitions, to alter its capital structure and to dispose of assets.
Customer Payments
In addition to the financings in prior years, payments from customers are a significant source of cash in 2020, 2019, and 2018 and were our primary source of cash in 2020 and 2019.
Uses of Cash Our primary cash requirements are to fund operations, including research and development programs and collaborations, to support general and administrative activities, to purchase equipment and machinery to expand our manufacturing capabilities as our product lines grow, and to expand our business and product pipeline through acquisitions of products and companies. We are continually evaluating potential asset acquisitions and business combinations. Our future capital requirements will depend on many factors, including, but not limited to:
? product mix and pricing for product sales and contract manufacturing;
? pricing and payment terms with customers;
? costs of raw materials and payment terms with suppliers;
? capital expenditures and equipment purchases to support product launches; and
? business and product acquisitions.
In the first quarter of 2020, we acquired theU.S. portfolio of 23 generic products and certain commercial and development inventory and materials fromAmerigen Pharmaceuticals, Ltd. , for which we have used$57.4 million in cash and could make future payments of up to$25.0 million in contingent profit share payments over the next three years. The contingent payments are earned if annual gross profit exceeds a minimum threshold and are earned on a subset of the acquired products. No payment was due to Amerigen for the fiscal year endedDecember 31, 2020 . At the time of the acquisition, the acquired portfolio included ten commercial products, three approved products with launches pending, four filed products, and four in-development products as well as a license to commercialize two approved products. The transaction was funded using cash on hand and$15.0 million of borrowings from our Revolver, of which$7.5 million was repaid in the second quarter of 2020. In the third quarter of 2020, we acquired an ANDA and certain inventories from a private company for total consideration of$4.4 million . The transaction was funded using cash on hand. In 2020, we had$6.1 million of capital expenditures. In the first quarter of 2019, we entered into the Asset Purchase Agreement Amendment, under which all royalty obligations the Company owed to Teva with respect to products associated with ten ANDAs under the original asset purchase agreements ceased being effective as ofDecember 31, 2018 . As consideration
for
the termination of such
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future royalty obligations, we paid Teva$16.0 million using cash on hand. Also in the first quarter of 2019, we purchased from Teva Pharmaceutical Industries Ltd. a basket of ANDAs for 35 previously-marketed generic drug products for$2.5 million in cash using cash on hand. In the second quarter or 2019, we acquired fromCoeptis Pharmaceuticals, Inc. seven development stage generic products, as well as active pharmaceutical ingredient API and reference-listed drug inventory related to certain of the products for a payment of$2.3 million using cash on hand. In addition, we could pay up to$12.0 million in payments for certain development and commercial milestones. In 2019, we had$6.6 million of capital expenditures.
Discussion of Cash Flows
The following table summarizes the net cash and cash equivalents provided by/(used in) operating activities, investing activities and financing activities for the periods indicated:
Year Ended December 31,
(in thousands) 2020 2019
Operating Activities $ 15,267 $ 45,631
Investing Activities $ (68,322) $ (27,549)
Financing Activities $ (1,439) $ 1,250 Net Cash Provided by Operating Activities
Net cash provided by operating activities was$15.3 million for the year endedDecember 31, 2020 , compared to$45.6 million provided by operating activities during the same period in 2019, a decrease of$30.3 million . The decrease was due to changes in working capital and the net loss during the year endedDecember 31, 2020 , including payments made for Cortrophin pre-launch materials and increases to trade accounts receivable.
Net cash used in investing activities for the year endedDecember 31, 2020 was$68.3 million , principally due to theJanuary 2020 acquisition of 23 generic products and inventory and materials fromAmerigen Pharmaceuticals, Ltd. for$57.4 million , cash payments for theJuly 2020 acquisition of an ANDA and certain inventories of$4.0 million , and$6.1 million of capital expenditures during the period.
Net cash used in financing activities was$1.4 million for the year endedDecember 31, 2020 , principally due to net borrowings of$7.5 million on the Revolver and$0.6 million of proceeds from stock option exercises, offset by$8.0 million of maturity payments on the Term Loan and DDTL and$1.5 million of treasury stock purchased related to restricted stock vests.
Contractual Obligations
The following table summarizes our long-term contractual obligations and
commitments as of
Payments Due by Period
Less than More than
(in thousands) Total 1 year 1-3 years 3-5 years 5 years
Long-term debt obligations (1) $ 186,946 $ 13,691 $ 173,255 $ - $ -
Interest on long-term debt
obligations (2) 21,595 7,767 13,828 - -
Operating lease obligations 319 138 150 31 -
Purchase obligations (3) 7,089 5,471 1,616 2 -
Total $ 215,949 $ 27,067 $ 188,849 $ 33 $ -
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(1) Represents our $65.9 million Term Loan due December 27, 2023 , our $113.6
million Delayed Draw Term Loan due December 2023 , and our $7.5 million Revolver
due December 2023 . (Note 3, Indebtedness, in the notes to the consolidated
financial statements in Part II, Item 8. of this Annual Report on Form 10-K.)
(2) Represents interest due on our Term Loan, Delayed Draw Term Loan and
Revolver and commitment fee due on our Revolver. Interest for the Term Loan and
Delayed Draw Term Loan is calculated based on our payment schedule as prescribed
in the Senior Secured Credit Facility (the "Credit Facility") and using an
estimated interest rate of 4.235%, which is the estimated interest rate on the
Term Loan and Delayed Draw Term Loan as fixed by our interest rate swap.
Interest on the Revolver is based on the recent 1-month LIBOR rate plus
applicable spread per the Credit Facility, which is based on our leverage ratio.
The commitment fee is estimated using the applicable rate per the Credit
Facility, which is based on our leverage ratio.
(3) Purchase obligations primarily includes contractual obligations for inventory/material purchase minimums and service agreements.
Critical Accounting Estimates
This Management's Discussion and Analysis of Financial Condition and Results of Operations is based on our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted inthe United States of America ("U.S. GAAP"). The preparation of financial statements in conformity withU.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amount of revenues and expenses during the reporting period. In our consolidated financial statements, estimates are used for, but not limited to, stock-based compensation, allowance for credit losses, accruals for chargebacks, government rebates, returns, and other allowances, allowance for inventory obsolescence, valuation of financial instruments and intangible assets, accruals for contingent liabilities, fair value of long-lived assets, deferred taxes and valuation allowance, and the depreciable lives of long-lived assets. Our significant accounting policies are discussed in Note 1. Description of Business and Summary of Significant Accounting Policies, in the notes to the consolidated financial statements in Part II, Item 8. of this Annual Report on Form 10-K. On an ongoing basis, we evaluate these estimates and assumptions, including those described below. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances. These estimates and assumptions form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results could differ from those estimates. Due to the estimation processes involved, the following summarized accounting policies and their application are considered to be critical to understanding our business operations, financial condition, and operating results.
Revenue Recognition
We recognize revenue using the following steps:
? Identification of the contract, or contracts, with a customer;
? Identification of the performance obligations in the contract;
? Determination of the transaction price, including the identification and
estimation of variable consideration;
? Allocation of the transaction price to the performance obligations in the
contract; and
? Recognition of revenue when we satisfy a performance obligation.
We derive our revenues primarily from sales of generic and branded
pharmaceutical products. Revenue is recognized when our obligations under the
terms of our contracts with customers are satisfied, which generally occurs when
control of the products we sell is transferred to the customer. We estimate
variable consideration after considering applicable information that is
reasonably available. We generally do not have incremental costs to obtain or
fulfill contracts that would otherwise not have been incurred. We do not adjust
revenue for the promised amount of
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consideration for the effects of a significant financing component because our customers' payment terms are generally fewer than 100 days.
Our revenue recognition accounting methodologies contain uncertainties because they require management to make assumptions and to apply judgment to estimate the amount of discounts, rebates, promotional adjustments, price adjustments, returns, chargebacks, and other potential adjustments, which are accounted for as reductions to revenue. We make these estimates based on historical experience. In addition, for our product development services revenue, we recognize revenue on a percentage of completion basis, which requires judgments related to how much work has been completed on various components our projects.
Revenue from Sales of Generic and
Product sales consist of sales of our generic and brand pharmaceutical products. Our sole performance obligation in our contracts is to provide pharmaceutical products to customers. Our products are sold at pre-determined standalone selling prices and our performance obligation is considered to be satisfied when control of the product is transferred to the customer. Control is generally transferred to the customer upon delivery of the product to the customer, as our pharmaceutical products are generally sold on an FOB destination basis and because inventory risk and risk of ownership passes to the customer upon delivery. Payment terms for these sales are generally fewer than 100 days. We recognized$195.2 million and$192.5 million of revenue related to sales of generic and branded pharmaceutical products in 2020 and 2019, respectively.
Revenue from Distribution Agreements
From time to time, we enter into marketing and distribution agreements with third parties in which we sell products under ANDAs or NDAs owned or licensed by these third parties. These products are sold under our own label. We have assessed and determined that we control the products sold under these marketing and distribution agreements and therefore are the principal for sales under each of these marketing and distribution agreements. As a result, we recognize revenue on a gross basis when control has passed to the customer and we have satisfied our performance obligation. Under these agreements, we pay these third parties a specified percentage of the gross profit earned on sales of the products. These profit-sharing percentages are recognized in cost of sales in our consolidated statements of operations and are accrued in accrued royalties in our consolidated balance sheets until payment has occurred.
Chargebacks
As discussed in Note 1. Description of Business and Summary of Significant
Accounting Policies, in the notes to the consolidated financial statements in
Part II, Item 8. of this Annual Report on Form 10-K, we estimate the amount of
chargebacks based our actual historical experience. A number of factors
influence current period chargebacks by impacting the average selling price
("ASP") of products, including customer mix, negotiated terms, volume of
off-contract purchases, and wholesale acquisition cost ("WAC").
If actual results were not consistent with our estimates, we could be exposed to
losses or gains that could be material, as changes to chargeback estimates could
cause an increase or decrease in revenue recognized during the year and increase
or decrease accounts receivable. If there were a 10% change in the chargeback
estimates throughout the year, our net revenues would be affected by $40.8
million for the year ended December 31, 2020 .
Government Rebates
As discussed in Note 1. Description of Business and Summary of Significant
Accounting Policies, in the notes to the consolidated financial statements in
Part II, Item 8. of this Annual Report on Form 10-K, our estimates for
government rebates are based upon several factors. Our estimates for Medicaid
rebates are based upon our average manufacturer price, best price, product mix,
levels of inventory in the distribution channel that we expect to be subject to
Medicaid rebates, and historical experience, which are invoiced in arrears by
state Medicaid programs. Our estimates for Medicare rebates are based on
historical experience. While such experience has allowed for reasonable
estimation in the past,
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history may not always be an accurate indicator of future rebate experience, and
trends in Medicaid and Medicare enrollment and which products are covered by
Medicaid and Medicare could change.
If actual results were not consistent with our estimates, we could be exposed to
losses or gains that could be material, as changes to government rebate
estimates could cause an increase or decrease in revenue recognized during
the year and decrease or increase the government rebate reserve. If there were a
10% change in the government rebate estimates throughout the year, our net
revenues would be affected by $1.4 million for the year ended December 31, 2020 .
Returns
As discussed in Note 1. Description of Business and Summary of Significant Accounting Policies, in the notes to the consolidated financial statements in Part II, Item 8. of this Annual Report on Form 10-K, our estimate for returns is based upon our historical experience with actual returns. While such experience has allowed for reasonable estimation in the past, history may not always be an accurate indicator of future returns. If actual results were not consistent with our estimates, we could be exposed to losses or gains that could be material, as changes to returns estimates could cause an increase or decrease in revenue recognized during the year and decrease or increase the returned goods reserve. If there were a 10% change in the returns estimates throughout the year, our net revenues would be affected by$3.0 million for the year endedDecember 31, 2020 .
Administrative Fees and Other Rebates
As discussed in Note 1. Description of Business and Summary of Significant Accounting Policies, in the notes to the consolidated financial statements in Part II, Item 8. of this Annual Report on Form 10-K, we accrue for fees and rebates by product by wholesaler, at the time of sale based on contracted rates, ASPs, and on-hand inventory counts obtained from wholesalers. If actual results were not consistent with our estimates, we could be exposed to losses or gains that could be material, as changes to these estimates could cause an increase or decrease in revenue recognized during the year and increase or decrease accounts receivable. If there were a 10% change in the administrative fees estimates throughout the year, our net revenues would be affected by$3.8 million for the year endedDecember 31, 2020 .
Prompt Payment Discounts
As discussed in Note 1. Description of Business and Summary of Significant Accounting Policies, in the notes to the consolidated financial statements in Part II, Item 8. of this Annual Report on Form 10-K, we reserve for sales discounts based on invoices outstanding, assuming, based on past experience, that 100% of available discounts will be taken. If customers do not take 100% of available discounts as we estimate, we could need to re-adjust our methodology for calculating the prompt payment discount reserve. If there were a 10% decrease in the prompt payment discounts estimates throughout the year, our net revenues would increase by$1.4 million for the year endedDecember 31, 2020 .
Contract Manufacturing Product Sales Revenue
Contract manufacturing arrangements consist of agreements in which we
manufacture a pharmaceutical product on behalf of third party. Our performance
obligation is to manufacture and provide pharmaceutical products to customers,
typically pharmaceutical companies. The contract manufactured products are sold
at pre-determined standalone selling prices and our performance obligations are
considered to be satisfied when control of the product is transferred to the
customer. Control is transferred to the customer when the product leaves our
dock to be shipped to the customer, as our pharmaceutical products are sold on
an FOB shipping point basis and the inventory risk and risk of ownership passes
to the customer at that time. Payment terms for these sales are generally fewer
than two months. We estimate returns based on historical experience.
Historically, we have not had material returns for contract manufactured
products. We
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recognized
Royalties from Licensing Agreements
From time to time, we enter into transition agreements with the sellers of products we acquire, under which we license to the seller the right to sell the acquired products. Therefore, we recognize the revenue associated with sales of the underlying products as royalties. Because these royalties are sales-based, we recognize the revenue when the underlying sales occur, based on sales and gross profit information received from the sellers. Upon full transition of the products and upon launching the products under our own labels, we recognize revenue for the products as sales of generic or branded pharmaceutical products, as described above. Pursuant to a 2012 Tripartite Agreement (the "Tripartite Agreement") between the Company, The Regents of theUniversity of California ("The Regents"), andCabaret Biotech Ltd. , an Israeli corporation ("Cabaret") (as assignee of Dr. Zelig Eshhar's rights under the Tripartite Agreement), and subsequent amendments thereto and assignments thereof, we are entitled to receive a percentage of the milestone and sales royalty payments paid to Cabaret byKite Pharma, Inc. ("Kite"), a subsidiary of Gilead Sciences, Inc., under a license agreement. Under such license agreement, Kite licensed from Dr. Eshhar and Cabaret the patent rights covered by the Tripartite Agreement and agreed to make certain payments to Cabaret based on, among other things, Kite's sales of Yescarta®. Under the Tripartite Agreement, portions of these payments are to be distributed to The Regents and to us. We record royalty income related to Yescarta® on an accrual basis utilizing our best estimate of royalties earned based upon information available in the public domain, our understanding of the various agreements governing the royalty, and other information received from time to time from the relevant parties. Generally, cash is received directly from Cabaret once a year. The agreements governing this royalty are subject to multiple litigations in multiple jurisdictions, including litigation between Cabaret and Kite, and separately, the Company and Cabaret. We recently became aware that the litigation between Cabaret and Kite was dismissed and are working with our counsel to determine the potential impact the resolution of that matter may have on our rights under the agreements. In addition, theIsraeli Tax Authority has taken the position that any payments from Cabaret to us are subject to mandatory withholding tax. The Company and its tax counsel have disputed this position and are actively seeking to resolve the issue. The ultimate outcome of these matters, either individually or in the aggregate, may impact the amount of cash due to us, and may result in the termination of future payments or further claims that royalties received by us in the past be repaid.
Product Development Services Revenue
We provide product development services to customers, which are performed over time. These services primarily relate to the technical transfer of products to our facility inOakville, Ontario . Technology transfer refers to the process required to move the manufacture of a product to a new manufacturing site and may include performance obligations such as formulation development, production of small-scale batches, process development, and analytical method development and validation. The duration of these technical transfer projects is generally 18 months to three years. Deposits received from these customers are recorded as deferred revenue until revenue is earned and recognized. For contracts with no deposits and for the remainder of contracts with deposits, we invoice customers as our performance obligations are satisfied. We recognize revenue on a proportional basis, which results in contract assets on our balance sheet. We recognized$1.9 million and$1.1 million of revenue related to product development services in 2020 and 2019, respectively.
Intangible Assets
As discussed in Note 1. Description of Business and Summary of Significant Accounting Policies, in the notes to the consolidated financial statements in Part II, Item 8. of this Annual Report on Form 10-K, our definite-lived intangible assets have a carrying value of$188.5 million as ofDecember 31, 2020 . These assets include ANDAs, NDAs and product rights, marketing and distribution rights, and a non-compete agreement. These intangible assets were originally recorded at fair value for business combinations and at relative fair value based on the purchase price for asset acquisitions and are stated net
of
accumulated amortization.
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The ANDAs, NDAs and product rights, marketing and distribution rights, and non-compete agreement are amortized over their remaining estimated useful lives, ranging from seven to 10 years, generally based on the straight-line method. The estimated useful lives directly impact the amount of amortization expense recorded for these assets on a quarterly and annual basis. In addition, we test for impairment of definite-lived intangible assets when events or circumstances indicate that the carrying value of the assets may not be recoverable. Judgment is used in determining when these events and circumstances arise. If we determine that the carrying value of the assets may not be recoverable, judgment and estimates are used to assess the fair value of the assets and to determine the amount of any impairment loss. If the fair value of an intangible asset is determined to be lower than its carrying value, we could be exposed to an impairment charge that could be material. InMarch 2018 , we entered into an agreement withAppco Pharma, LLC ("Appco"), in which a potential generic product, Ranitidine, was to be developed and marketed. Per the agreement, we paidAppco a series of licensing fees in conjunction with certain development milestones. Ranitidine was launched in the third quarter of 2019, resulting in the final milestone payment of$80 thousand . The$80 thousand milestone payment was capitalized as an intangible asset and determined to have an estimated useful life of eight years. InSeptember 2019 , the FDA issued a public statement that some ranitidine medicines contain a nitrosamine impurity called N-nitrosdimethylamine ("NDMA") at low levels. NDMA is classified as a probable human carcinogen (a substance that could cause cancer) based on results from laboratory tests and the cause of the presence of this impurity in the ranitidine products is not yet fully understood at this time. During the fourth quarter 2019, testing of the API used in our ranitidine drug product, as well as testing of the drug product itself, indicated a level of NDMA above acceptable thresholds andAppco initiated a voluntary recall. We elected to exit the market for Ranitidine and determined that the carrying value of the asset has been impaired. During the fourth quarter 2019, we recognized a full impairment of the remaining$75 thousand carrying value of the asset. InApril 2019 , we entered into an agreement withPharmaceutics International, Inc. ("PII") andBAS ANDA LLC ("BAS"), under which a previously-commercialized product would be developed and marketed. Per the agreement, we may pay PII a series of licensing fees in conjunction with the achievement of certain development and commercial milestones. In the fourth quarter of 2019, the product was launched, triggering a$0.5 million payment due to PII. The payment was capitalized as an intangible asset. During the fourth quarter 2020, we recognized a full impairment of the remaining$0.4 million carrying value of the asset. No events or circumstances arose in 2020 that indicated that the carrying value of any of our other definite-lived intangible assets may not be recoverable. If the fair value of an intangible asset is determined to be lower than its carrying value, we could be exposed to an impairment charge that could be material.
As discussed in Note 1. Description of Business and Summary of Significant Accounting Policies, in the notes to the consolidated financial statements in Part II, Item 8. of this Annual Report on Form 10-K, our goodwill balance relates to our 2013 merger withBioSante Pharmaceuticals, Inc. and the acquisition of WellSpring and represents the excess of the total purchase consideration over the fair value of acquired assets and assumed liabilities, using the purchase method of accounting.Goodwill is not amortized, but is subject to periodic review for impairment. As a result, the amount of goodwill is directly impacted by the estimates of the fair values of the assets acquired and liabilities assumed. In addition, goodwill is reviewed annually, as ofOctober 31 , and whenever events or changes in circumstances indicate that the carrying amount of the goodwill might not be recoverable. Judgment is used in determining when these events and circumstances arise. We perform our review of goodwill on our one reporting unit. If we determine that the carrying value of the assets may not be recoverable, judgment and estimates are used to assess the fair value of the assets and to determine the amount of any impairment loss. The carrying value of goodwill atDecember 31, 2020 was$3.6 million . We believe it is unlikely that there will be a material change in the future estimates or assumptions used to test for impairment losses on goodwill. However, if actual 55 Table of Contents
results are not consistent with our estimates or assumptions, we could be exposed to an impairment charge that could be material.
Stock-Based Compensation
Our Amended and Restated 2008 Stock Incentive Plan (the "2008 Plan") includes stock options and restricted stock, which are awarded in exchange for employee and non-employee director services. InJuly 2016 , we commenced administration of our Employee Stock Purchase Plan ("ESPP"). We recognize the estimated fair value of stock-based awards and classify the expense where the underlying salaries are classified. OnSeptember 8, 2020 , we granted stock options to our Chief Executive Officer, through an inducement grant outside of our 2008 Plan to induce him to accept employment with us (the "Inducement Grant"). The grant was made pursuant to inducement grants outside of our shareholder approved equity plan as permitted under theNasdaq Stock Market listing rules.
The following table summarizes stock-based compensation expense incurred under the 2008 Plan, Inducement Grant, and 2016 Employee Stock Purchase Plan and included in our consolidated statements of operations:
Years Ended December 31,
(in thousands) 2020 2019 2018
Cost of sales $ 137 $ 119 $ 98
Research and development 597 785 787Selling, general, and administrative 12,202 8,313 5,897
$ 12,936 $ 9,217 $ 6,782
Stock-based compensation cost for stock options is determined at the grant date using an option pricing model and stock-based compensation cost for restricted stock is based on the closing market price of the stock at the grant date. The value of the award is recognized as expense on a straight-line basis over the employee's requisite service period. Valuation of stock awards requires us to make assumptions and to apply judgment to determine the fair value of the awards. These assumptions and judgments include estimating the future volatility of our stock price and dividend yields. Changes in these assumptions can affect the fair value estimate.
Changes in estimates could affect compensation expense within individual
periods. If there were to be a 10% change in our stock-based compensation
expense for the year, our Income before Benefit for Income Taxes would be
affected by
Income Taxes
We use the asset and liability method of accounting for income taxes. Deferred tax assets and liabilities are determined based on differences between the financial reporting and tax bases of assets and liabilities and are measured using the enacted tax rates and laws that are expected to be in effect when the differences are expected to reverse. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in the period that such tax rate changes are enacted. We use a recognition threshold and a measurement attribute for the financial statement recognition and measurement of tax positions taken or expected to be taken in a tax return. For those benefits to be recognized, a tax position must be more-likely-than-not to be sustained upon examination by taxing authorities. We have not identified any uncertain income tax positions that could have a material impact to the consolidated financial statements. We are subject to taxation in variousU.S. jurisdictions andCanada and remain subject to examination by taxing jurisdictions for the years 1998 and all subsequent periods due to the availability of net operating loss carryforwards. To the extent we prevail in matters for which a liability has been established, or are required to pay amounts in excess of our established liability, our effective income tax rate in a given financial statement period could be materially affected. An unfavorable tax settlement generally would require use of our cash and may result in an increase in our effective income tax rate in 56
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the period of resolution. A favorable tax settlement may reduce our effective income tax rate and would be recognized in the period of resolution.
We consider potential tax effects resulting from discontinued operations and gains and losses included in other comprehensive income and record intra-period tax allocations, when those effects are deemed material. Our effective income tax rate is also affected by changes in tax law, our level of earnings, and the results of tax audits.
Although we believe that the judgments and estimates discussed herein are reasonable, actual results could differ, and we may be exposed to losses or gains that could be material.
Recent Accounting Pronouncements
Recent Accounting Pronouncements Not Yet Adopted
InNovember 2019 , theFinancial Accounting Standards Board ("FASB") issued guidance simplifying the accounting for income taxes by removing the following exceptions: 1) exception to the incremental approach for intraperiod tax allocation when there is a loss from continuing operations and income or a gain from other items, 2) exception requirement to recognize a deferred tax liability for equity method investments when a foreign subsidiary becomes an equity method investment, 3) exception to the ability not to recognize a deferred tax liability for a foreign subsidiary when a foreign equity method investment becomes a subsidiary, and 4) exception to the general methodology for calculating income taxes in an interim period when a year-to-date loss exceeds the anticipated loss for the year. The amendments also simplify accounting for income taxes by doing the following: 1) requiring that an entity recognize a franchise tax or similar tax that is partially based on income as an income-based tax and account for any incremental amount incurred as a non-income-based tax, 2) requiring that an entity evaluate when a step up in the tax basis of goodwill should be considered part of the business combination in which the book goodwill was originally recognized and when it should be considered a separate transaction, 3) specifying that an entity is not required to allocate the consolidated amount of current and deferred tax expense to a legal entity that is not subject to tax in its separate financial statements, 4) requiring that an entity reflect the effect of an enacted change in tax laws or rates in the annual effective tax rate computation in the interim period that includes the enactment date, and 5) making minor Codification improvements for income taxes related to employee stock ownership plans and investments in qualified affordable housing projects accounted for using the equity method. The guidance is effective for reporting periods beginning afterDecember 15, 2020 , including interim periods within that fiscal year. Early adoption was permitted, including adoption in an interim period. We will adopt this guidance as ofJanuary 1, 2021 . We expect that the adoption of this guidance will not have a material impact on our consolidated financial statements. We have evaluated all other issued and unadopted Accounting Standards Updates and believe the adoption of these standards will not have a material impact on our consolidated statements of operations, comprehensive income, balance sheets, or cash flows.
Recently Adopted Accounting Pronouncements
InNovember 2018 , the FASB issued guidance clarifying that certain transactions between collaborative arrangement participants should be accounted for as revenue under Accounting Standards Codification Topic 606 when the collaborative arrangement participant is a customer in the context of a unit of account. The guidance was effective for reporting periods beginning afterDecember 15, 2019 , including interim periods within that fiscal year. We adopted this guidance as ofJanuary 1, 2020 . The adoption of this guidance did not have a material impact on our consolidated financial statements. InAugust 2018 , the FASB issued guidance amending the disclosure requirements on fair value measurements. The amendments add, modify, and eliminate certain disclosure requirements on fair value measurements. The guidance was effective for reporting periods beginning afterDecember 15, 2019 , including interim periods within that fiscal year. We adopted this guidance as ofJanuary 1, 2020 . The adoption of this guidance did not have a material impact on our consolidated financial statements. 57 Table of Contents InJune 2016 , the FASB issued guidance with respect to measuring credit losses on financial instruments, including trade receivables. The guidance eliminates the probable initial recognition threshold that was previously required prior to recognizing a credit loss on financial instruments. The credit loss estimate now reflects an entity's current estimate of all future expected credit losses. Under the previous guidance, an entity only considered past events and current conditions. InApril 2019 , the FASB further clarified the scope of the credit losses standard and addressed issues related to accrued interest receivable balances, recoveries, variable interest rates, and prepayment. InMay 2019 , the FASB issued further guidance to provide entities with an option to irrevocably elect the fair value option applied on an instrument-by-instrument basis for eligible financial instruments. We adopted this guidance as ofJanuary 1, 2020 using the modified retrospective method for all financial assets measured at amortized cost. Results for reporting periods beginning afterJanuary 1, 2020 are presented under the new guidance while prior period amounts continue to be reported in accordance with previously applicable GAAP. We recognized an$8 thousand decrease to retained earnings as ofJanuary 1, 2020 for the cumulative effect of adopting the new guidance.
Off-Balance Sheet Arrangements
As of
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