ITEM 1. BUSINESS
Celgene Corporation, together with its subsidiaries (collectively “we,” “our,” “us,” “Celgene” or the “Company”), is an integrated global biopharmaceutical company engaged primarily in the discovery, development and commercialization of innovative therapies for the treatment of cancer and inflammatory diseases through next-generation solutions in protein homeostasis, immuno-oncology, epigenetics, immunology and neuro-inflammation. Celgene Corporation was incorporated in the State of Delaware in 1986.
Our primary commercial stage products include REVLIMID®, POMALYST®/IMNOVID®, OTEZLA®, ABRAXANE®, VIDAZA®, azacitidine for injection (generic version of VIDAZA®) and THALOMID® (sold as THALOMID® or Thalidomide Celgene® outside of the U.S.). In addition, we earn revenue from other product sales and licensing arrangements.
We continue to invest substantially in research and development in support of multiple ongoing proprietary clinical development programs which support our existing products and pipeline of new drug candidates. Our clinical trial activity includes trials across the disease areas of hematology, solid tumors, and inflammation and immunology. REVLIMID® is in several phase III trials covering a range of hematological malignancies that include multiple myeloma, lymphomas and myelodysplastic syndromes (MDS). In solid tumors, ABRAXANE® is currently in various stages of investigation for breast, pancreatic and non-small cell lung cancers. In inflammation and immunology, OTEZLA® is being evaluated in phase III trials for Behçet's disease, ankylosing spondylitis, psoriatic arthritis and plaque psoriasis. We also have a growing number of potential products in phase III trials across multiple diseases. In the inflammation and immunology therapeutic area, we have phase III trials underway for ozanimod in relapsing multiple sclerosis (RMS) and ulcerative colitis (UC) and for GED-0301 (mongersen) in Crohn’s disease. In hematology, phase III trials are underway for CC-486 and luspatercept in MDS, for CC-486 and AG-221 (enasidenib) in acute myeloid leukemia (AML) and for luspatercept in beta-thalassemia. In the fourth quarter of 2016, we submitted a new drug application (NDA) for enasidenib for the treatment of patients with relapsed or refractory AML with isocitrate dehydrogenase-2 (IDH2) mutation.
Beyond our phase III programs, we have access to a growing early-to-mid-stage pipeline of novel potential therapies to address significant unmet medical needs that consists of new drug candidates and cell therapies developed in-house, licensed from other companies or able to be optioned from collaboration partners. We believe that continued use of our primary commercial stage products, participation in research and development collaboration arrangements, depth of our product pipeline, potential regulatory approvals of new products and new indications for existing products will provide the catalysts for future growth.
The diseases that our primary commercial stage products are approved to treat are described below for the major markets of the United States, the European Union and Japan. Approvals in other international markets are indicated in the aggregate for the disease indication that most closely represents the majority of the other international approvals.
REVLIMID® (lenalidomide): REVLIMID® is an oral immunomodulatory drug approved in the United States and many international markets for the following uses:
Disease
Geographic Approvals
Multiple myeloma (MM)
Multiple myeloma in combination with dexamethasone, in patients who have received at least one prior therapy
- United States
- European Union
- Japan
- Other international markets
Multiple myeloma in combination with dexamethasone for newly diagnosed patients
- United States
- Japan
- Other international markets
Adult patients with previously untreated multiple myeloma who are not eligible for transplant
- European Union
Myelodysplastic syndromes (MDS)
Transfusion-dependent anemia due to low- or intermediate-1-risk MDS associated with a deletion 5q abnormality with or without additional cytogenetic abnormalities
- United States
- Other international markets
Transfusion-dependent anemia due to low- or intermediate-1-risk MDS in patients with isolated deletion 5q cytogenetic abnormality when other options are insufficient or inadequate
- European Union
MDS with a deletion 5q cytogenetic abnormality. The efficacy or safety of REVLIMID® for International Prognostic Scoring System (IPSS) intermediate-2 or high risk MDS has not been established.
- Japan
Mantle cell lymphoma (MCL) in patients whose disease has relapsed or progressed after two prior therapies, one of which included bortezomib
- United States
- European Union (July 2016)
- Other international markets
In January 2017, the European Medicines Agency’s (EMA) Committee for Medicinal Products for Human Use (CHMP) adopted a positive opinion for treatment with REVLIMID® in patients with newly diagnosed multiple myeloma (NDMM) after autologous stem cell transplantation (ASCT).
POMALYST®/IMNOVID® (pomalidomide)1: POMALYST®/IMNOVID® is a proprietary, distinct, small molecule that is administered orally and modulates the immune system and other biologically important targets. POMALYST®/IMNOVID® is approved for the following uses:
Disease
Geographic Approvals
Multiple myeloma, in combination with dexamethasone, for patients who have received at least two prior therapies, including lenalidomide and a proteasome inhibitor and have demonstrated disease progression on or within 60 days of completion of the last therapy
- United States
Relapsed and refractory multiple myeloma, in combination with dexamethasone, for adult patients who have received at least two prior therapies including both lenalidomide and bortezomib and have demonstrated disease progression on the last therapy
- European Union
Relapsed and refractory multiple myeloma for patients who have received REVLIMID or bortezomib
- Japan
1 We received regulatory approval for pomalidomide under the trade name POMALYST® in the United States and Japan and under the trade name IMNOVID® in the European Union.
OTEZLA® (apremilast): OTEZLA® is an oral small-molecule inhibitor of phosphodiesterase 4 (PDE4) specific for cyclic adenosine monophosphate (cAMP). PDE4 inhibition results in increased intracellular cAMP levels. OTEZLA® is approved for the following uses:
Disease
Geographic Approvals
Psoriatic arthritis
Adult patients with active psoriatic arthritis
- United States
- Japan (December 2016)
Adult patients with active psoriatic arthritis who have had an inadequate response or who have been intolerant to a prior DMARD therapy
- European Union
Psoriasis
Patients with moderate to severe plaque psoriasis who are candidates for phototherapy or systemic therapy
- United States
- Other international markets
Adult patients with moderate to severe chronic plaque psoriasis who failed to respond to or who have a contraindication to, or are intolerant to other systemic therapy including cyclosporine, methotrexate or psoralen and ultraviolet-A light
- European Union
Adult patients with plaque psoriasis with inadequate response to topical therapies
- Japan (December 2016)
ABRAXANE® (paclitaxel albumin-bound particles for injectable suspension): ABRAXANE® is a solvent-free chemotherapy product which was developed using our proprietary nab® technology platform. This protein-bound chemotherapy agent combines paclitaxel with albumin. ABRAXANE® is approved for the following uses:
Disease
Geographic Approvals
Breast Cancer
Metastatic breast cancer, after failure of combination chemotherapy for metastatic disease or relapse within six months of adjuvant chemotherapy. Prior therapy should have included an anthracycline unless clinically contraindicated.
- United States
- Other international markets
Metastatic breast cancer in adult patients who have failed first-line treatment for metastatic disease for whom standard, anthracycline containing therapy is not indicated
- European Union
Breast cancer
- Japan
Non-Small Cell Lung Cancer (NSCLC)
Locally advanced or metastatic NSCLC, as first-line treatment in combination with carboplatin, in patients who are not candidates for curative surgery or radiation therapy
- United States
- European Union
- Other international markets
NSCLC
- Japan
Pancreatic Cancer
Metastatic adenocarcinoma of the pancreas, a form of pancreatic cancer, as first line treatment in combination with gemcitabine
- United States
- European Union
- Other international markets
Unresectable pancreatic cancer
- Japan
Gastric Cancer
- Japan
VIDAZA® (azacitidine for injection): VIDAZA® is a pyrimidine nucleoside analog that has been shown to reverse the effects of DNA hypermethylation and promote subsequent gene re-expression. VIDAZA® is a Category 1 recommended treatment for patients with intermediate-2 and high-risk MDS, according to the National Comprehensive Cancer Network. The U.S. regulatory exclusivity for VIDAZA® expired in May 2011. After the launch of a generic version of VIDAZA® in the United States by a competitor in September 2013, we experienced a significant reduction in our U.S. sales of VIDAZA®. In 2013, we contracted with Sandoz AG (Sandoz) to sell a generic version of VIDAZA® in the United States, which we supply, and we recognize net product sales from our sales to Sandoz. Regulatory exclusivity for VIDAZA® is expected to continue in Europe through 2019. VIDAZA® is approved in the United States and many international markets for the following uses:
Disease
Geographic Approvals
Myelodysplastic syndromes (MDS)
All French-American-British (FAB) subtypes
- United States
Intermediate-2 and high-risk MDS
- European Union
- Other international markets
MDS
- Japan
Chronic myelomonocytic leukemia with 10% to 29% marrow blasts without myeloproliferative disorder
- European Union
- Other international markets
Acute myeloid leukemia (AML) with 20% to 30% blasts and multi-lineage dysplasia
- European Union
- Other international markets
Acute myeloid leukemia with >30% bone marrow blasts according to the WHO classification in patients aged 65 years or older who are not eligible for haematopoietic stem cell transplantation
- European Union
THALOMID® (thalidomide): THALOMID®, sold as THALOMID® or Thalidomide Celgene® outside of the United States, is administered orally for the following uses:
Disease
Geographic Approvals
Multiple myeloma
Newly diagnosed multiple myeloma, in combination with dexamethasone
- United States
Thalomid in combination with dexamethasone is indicated for induction therapy prior to high dose chemotherapy with autologous stem cell rescue, for the treatment of patients with untreated multiple myeloma
- Other international markets
Multiple myeloma after failure of standard therapies (relapsed or refractory)
- Other international markets
Thalidomide Celgene® in combination with melphalan and prednisone as a first line treatment for patients with untreated multiple myeloma who are aged sixty-five years of age or older or ineligible for high dose chemotherapy
- European Union
- Other international markets
Erythema nodosum leprosum
Cutaneous manifestations of moderate to severe erythema nodosum leprosum (ENL), an inflammatory complication of leprosy
- United States
- Other international markets
Maintenance therapy for prevention and suppression of the cutaneous manifestation of ENL recurrence
- United States
- Other international markets
REVLIMID®, POMALYST® and THALOMID® are distributed in the United States primarily through contracted pharmacies under the REVLIMID® Risk Evaluation and Mitigation Strategy (REMS), POMALYST REMS® and THALOMID REMS® programs, respectively. These are proprietary risk-management distribution programs tailored specifically to provide for the safe and appropriate distribution and use of REVLIMID®, POMALYST® and THALOMID®. Internationally, REVLIMID®, THALOMID®/Thalidomide Celgene® and IMNOVID® are distributed under mandatory risk-management distribution programs tailored to meet local authorities’ specifications to provide for the product’s safe and appropriate distribution and use. These programs may vary by country and, depending upon the country and the design of the risk-management program, the product may be sold through hospitals or retail pharmacies. VIDAZA®, ABRAXANE®, and OTEZLA® are distributed through the more
traditional pharmaceutical industry supply chain and are not subject to the same risk-management distribution programs as REVLIMID®, POMALYST®/IMNOVID® and THALOMID®/Thalidomide Celgene®.
PRECLINICAL AND CLINICAL-STAGE PIPELINE
Our preclinical and clinical-stage pipeline of new drug candidates and cell therapies is highlighted by multiple classes of both small molecule and biologic therapeutic agents designed to selectively regulate disease-associated genes and proteins. These product candidates are at various stages of preclinical and clinical development.
Immune-Inflammatory Diseases: OTEZLA® (apremilast) a novel PDE4 inhibitor, is being studied in clinical trials in ankylosing spondylitis, Behçet's disease, atopic dermatitis, and ulcerative colitis, and is approved in psoriasis and psoriatic arthritis. Differentiated oral therapies are advancing through mid- to late-stage trials in inflammatory diseases, including GED-0301, a potential first-in-class smad7 anti-sense treatment, with a phase III program in Crohn’s Disease (CD) recruiting subjects, and a phase II trial in UC fully enrolled. In addition, ozanimod is a potential best-in-class S1P receptor modulator, with a phase III trial fully enrolled in RMS, a phase III trial in UC underway, and a phase II trial in CD fully enrolled. Other potential oral therapies include, CC-220 for systemic lupus erythematosus (SLE), CC-90001 for Fibrosis and ABX-1431 for multiple sclerosis spasticity. In addition, a phase I trial in healthy volunteers is in progress for CC-90006, an injectable PD-1 agonist antibody for autoimmune disorders.
Other Myeloid Diseases: We have collaborated with Acceleron Pharma, Inc. (Acceleron) to develop luspatercept (ACE-536).
We are evaluating luspatercept for the treatment of patients with beta-thalassemia and MDS in phase III trials.
Epigenetics: The current insights into molecular regulation of genetic information (Epigenetics) have the potential to transform human diseases. We currently market two epigenetic modifiers, VIDAZA® and ISTODAX®. We have two phase III trials of CC-486 (oral 5-azacitidine) currently enrolling to evaluate its efficacy in the treatment of MDS and AML and two on-going phase II trials of CC-486 in solid tumors. We acquired the IDH2 inhibitor enasidenib from Agios Pharmaceuticals, Inc. (Agios) and have submitted a NDA to the U.S. Food and Drug Administration (FDA) for relapsed/refractory AML with IDH2 mutations. We are currently evaluating enasidenib in combination with VIDAZA® in newly diagnosed AML with IDH2 mutations. We are also evaluating AG-881 (IDH1 and IDH2 inhibitor) in glioma with IDH mutations, in collaboration with Agios. Additionally, a phase I trial of LSD1 inhibitor (CC-90011) is underway in Non-Hodgkin lymphoma (NHL) and solid tumors.
Protein Homeostasis: CC-122 (Cereblon Modulator, or CELMoD®) and CC-220 represent novel compounds that are in phase I and phase II clinical trials, both as single agents and in combination, for hematological and solid tumor cancers and inflammation and immunology diseases. They have been differentiated from previous compounds (such as thalidomide, lenalidomide and pomalidomide) and have been developed based on our scientific understanding of Cereblon-mediated protein homeostasis. CC-90009 is a unique cereblon targeted molecule, currently in phase I, whose activity is related to the depletion of a novel substrate and which has been identified active in AML models.
Immuno-Oncology: The strategic collaboration with Astra Zeneca/Medimmune evaluating durvalumab, an anti-PDL-1 antibody, in multiple hematological cancers in combination with REVLIMID®, POMALYST®, VIDAZA® and CC-486 is underway with phase III enabling data expected in 2017. JCAR17, the CD19 CAR-T program under collaboration with Juno Therapeutics, Inc. (Juno), has been granted Breakthrough Therapy designation by the FDA and has been given access to the Priority Medicines scheme by the EMA CHMP. Interim data for JCAR17 shows high complete response rates in NHL, with manageable safety profiles. A pivotal program in NHL will be initiated in 2017. BCMA is emerging as a compelling target in multiple myeloma (MM) and in this regard, we have invested in some critical assets. The bluebird bb2121 BCMA CAR-T early phase I data has shown impressive efficacy with a good safety profile. With the acquisition of EngMab AG (EngMab) in 2016, we also will develop a BCMA targeted T cell engager program in MM with an Investigational New Drug (IND) expected by end of 2017. Our anti-CD47 antibody targeting macrophage activity, CC-90002, is currently in phase I trials, being evaluated for the treatment of multiple cancers, including NHL and AML. Three additional programs from our collaboration partners Lycera Corp. (Lycera) (RORg agonist), Jounce Therapeutics, Inc. (Jounce) (anti-ICOS-agonist) and OncoMed Pharmaceuticals, Inc. (OncoMed) (anti-TIGIT antibody) are progressing into clinical testing in multiple solid tumor indications.
PRODUCT DEVELOPMENT
We devote significant resources to research and development programs in an effort to discover and develop potential future product candidates. Research and development expenses amounted to $4.470 billion in 2016, $3.697 billion in 2015, and $2.431 billion in 2014. The product candidates in our pipeline are at various stages of preclinical and clinical development. The path to regulatory approval ordinarily includes three phases of clinical trials in which we collect data to support an application to regulatory authorities to allow us to market a product for treatment of a specified disease. There are many difficulties and uncertainties
inherent in research and development of new products, resulting in a high rate of failure. To bring a drug from the discovery phase to regulatory approval, and ultimately to market, takes many years and significant cost. Failure can occur at any point in the process, including after the product is approved, based on post-marketing events or developments. New product candidates that appear promising in development may fail to reach the market or may have only limited commercial success because of efficacy or safety concerns, inability to obtain necessary regulatory approvals, limited scope of approved uses, reimbursement challenges, difficulty or excessive costs of manufacture, alternative therapies or infringement of the patents or intellectual property rights of others. Uncertainties in the U.S. FDA approval process and the approval processes in other countries can result in delays in product launches and lost market opportunities. Consequently, it is very difficult to predict which products will ultimately be submitted for approval, which will obtain approval and which will be commercially viable and generate profits. Successful results in preclinical or clinical studies may not be an accurate predictor of the ultimate safety or effectiveness of a drug or product candidate.
Phase I Clinical Trials
Phase I clinical trials begin when regulatory agencies allow initiation of clinical investigation of a new drug or product candidate and usually involve up to 80 healthy volunteers or subjects. These trials study a drug's safety profile, and may include a preliminary determination of a drug or product candidate's safe dosage range. The phase I clinical trial also determines how a drug is absorbed, distributed, metabolized and excreted by the body, and therefore the potential duration of its action. Phase I clinical trials generally take from one to three years to complete.
Phase II Clinical Trials
Phase II clinical trials are conducted on a limited number of subjects with the targeted disease. An initial evaluation of the drug's effectiveness on subjects is performed and additional information on the drug's safety and dosage range is obtained. Phase II clinical trials normally include up to several hundred subjects and may take as many as two to three years to complete.
Phase III Clinical Trials
Phase III clinical trials are typically controlled multi-center trials that involve a larger target patient population that normally consists of several hundred to several thousand subjects to ensure that study results are statistically significant. During phase III clinical trials, physicians monitor subjects to determine efficacy and to gather further information on safety. These trials are generally global in nature and are designed to generate the clinical data necessary to submit an application for marketing approval to regulatory agencies. Phase III clinical trial testing varies by disease state, but can often last from two to seven years.
Regulatory Review
If a product candidate successfully completes clinical trials and trial data is submitted to governmental regulators, such as the FDA in the United States or the European Commission (EC) in the European Union, the time to final marketing approval can vary from six months (for a U.S. filing that is designated for priority review by the FDA) to several years, depending on a number of variables, such as the disease state, the strength and complexity of the data presented, the novelty of the target or compound, risk-management approval and whether multiple rounds of review are required for the regulatory agency to evaluate the submission. There is no guarantee that a potential treatment will receive marketing approval, or that decisions on marketing approvals or treatment indications will be consistent across geographic areas.
The current stage of development of our commercial stage products and new drug candidates in various areas of research are outlined in the following table:
1 "Regulatory submission" indicates US and/or EU submission unless another country or region is indicated under Area of Research.
2 In collaboration with MedImmune Limited, a wholly owned subsidiary of AstraZeneca PLC.
3 In collaboration with bluebird bio, Inc.
4 In collaboration with Acceleron Pharma, Inc.
5 In collaboration with Agios Pharmaceuticals, Inc.
6 Regulatory approval based on pivotal phase II data.
7 In collaboration with Juno.
8 Trial conducted by licensee partner, Taiho Pharmaceuticals Co. Ltd.
9 In collaboration with Abide Therapeutics, Inc.
PATENTS AND PROPRIETARY TECHNOLOGY
We consider intellectual property protection to be critical to our operations. For many of our products, in addition to compound (e.g., drug substance) and composition (e.g., drug product) patents, we hold polymorph, formulation, methods of treatment or use, delivery mechanism and methods of manufacture patents, as well as manufacturing trade secrets, that may extend exclusivity beyond the expiration of the compound patent or composition patent.
Key patent expirations and exclusivities:
The following table shows the expected expiration dates in the United States and Europe of the last-to-expire period of exclusivity (primary patent or regulatory approval) related to our primary marketed drug products. In some instances, there are later-expiring patents relating to particular forms or compositions, methods of manufacturing, or use of the drug in the treatment of particular diseases or conditions. However, such additional patents may not protect our drug products from generic competition after the expiration of the primary patent.
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The patents covering these drugs include patents listed in the U.S. Orange Book. The date provided reflects the last-to-expire key patent as listed in the U.S. Orange Book, which may not be the last date on which all relevant patents (e.g., polymorph and manufacturing patents) expire.
In December 2015, we announced the settlement of litigations with Natco Pharma Ltd. and its partners and affiliates, relating to certain patents for REVLIMID®. As part of the settlement, we agreed to provide Natco with a volume-limited license to sell generic lenalidomide in the U.S. commencing in March 2022, which is expected to be a mid-single-digit percentage of the total lenalidomide capsules dispensed in the U.S. during the first year and is expected to increase gradually each twelve months until March 2025, and is not expected to exceed one-third of the total lenalidomide capsules dispensed in the U.S. in the final year of the volume-limited license. Natco’s ability to market generic lenalidomide in the U.S. will be contingent on its obtaining approval of an Abbreviated New Drug Application.
Subject of ongoing EPO opposition proceedings. See Note 18 of Notes to Consolidated Financial Statements contained in this Annual Report on Form 10-K for more information.
We contracted with Sandoz to sell azacitidine for injection, which they launched after the introduction of a generic version of VIDAZA® in the United States by a competitor in September 2013.
Subject of ongoing supplementary protection certificate (SPC) appeal proceedings in the UK and the Court of Justice for the European Union that may result in patent extension until 2022. See Note 18 of Notes to Consolidated Financial Statements contained in this Annual Report on Form 10-K for more information.
Application for Patent Term Extension pending, receipt of which would extend exclusivity through 2025.
Based on ten years regulatory exclusivity. Subject of ongoing EPO opposition proceedings. See Note 18 of Notes to Consolidated Financial Statements contained in this Annual Report on Form 10-K for more information.
Application for Patent Term Extension pending, receipt of which would extend exclusivity through 2028.
The term of individual patents and patent applications will depend upon the legal term of the patents in the countries in which they are obtained. In the United States, the patent term is 20 years from the date of filing of the patent application although term extensions are available. We may obtain patents for certain products many years before marketing approval is obtained for those products. Because of the limited life of patents, which ordinarily commences prior to the commercial sale of the related product, the commercial value of the patent may be limited. However, we may be able to obtain patent term extensions upon marketing approval. For example, SPCs on some of our products have been granted in a number of European countries, compensating in part for delays in obtaining marketing approval. Also, under the Hatch-Waxman Act, the term of a patent that covers an FDA-approved drug may also be eligible for patent term extension (for up to five years, but not beyond a total of 14 years from the date of product approval) as compensation for patent term lost during the FDA regulatory review process. When possible, depending upon the length of clinical trials and other factors involved in the filing of a NDA with the FDA, we expect to apply for patent term extensions for patents covering our drug products and their use in treating various diseases.
In most cases, our drugs are also covered in foreign countries by patents and patent applications that correspond to certain of those listed in the U.S. Orange Book. For example, patents related to the active pharmaceutical ingredient, uses and pharmaceutical compositions for most of our drugs have been granted in Europe. Although certain of the patents granted by the regulatory authorities of the European Union may expire at specific dates, patents granted in certain European countries, such as Spain, France, Italy, Germany and the United Kingdom, will extend beyond such European Union patent expiration date due to the SPCs granted in these countries for many of our drugs. The table above may also reflect patents in Europe that relate to certain polymorphic forms of the active pharmaceutical ingredient of our drugs.
Patent term extensions have been granted in other markets for certain of our patents related to REVLIMID®. Patent term extensions for certain of our patents related to lenalidomide have been granted in Europe, Australia, Korea, Japan and Russia. Further, patent term extensions for certain of our patents related to ABRAXANE® have been secured and/or are actively being sought in Europe, Australia, Japan, Russia and Korea. We are also considering alternative exclusivity strategies, mostly through international treaties, in a variety of countries throughout Latin America.
The existence of issued patents does not guarantee our right to practice the patented technology or commercialize the patented product. Third parties may have or obtain rights to patents which could be used to prevent or attempt to prevent us from commercializing the patented product candidates. Patents relating to pharmaceutical, biopharmaceutical and biotechnology products, compounds and processes, such as those that cover our existing compounds, products and processes and those that we will likely file in the future, do not always provide complete or adequate protection. Future litigation or re-examination proceedings (including oppositions and invalidity proceedings such as interparty reviews) regarding the enforcement or validity of our existing patents or any future patents could invalidate such patents or substantially reduce their protection.
Our patents are subject to challenge by generic drug companies and others for a variety of reasons. For more information regarding challenges to certain of our patents, see Item 1A.
ITEM 1A. RISK FACTORS
The following describes major risks to our business and should be considered carefully. Any of these factors could significantly and negatively affect our business, prospects, financial condition, operating results or credit ratings, which could cause the trading prices of our equity securities to decline. The risks described below are not the only risks we may face. Additional risks and uncertainties not presently known to us, or risks that we currently consider immaterial, could also negatively affect us.
Our operating results may be subject to significant fluctuations.
Our operating results may fluctuate from quarter to quarter and year to year for a number of reasons, including the risks discussed elsewhere in this “Risk Factors” section. Events such as a delay in product development or a revenue shortfall may cause financial results for a particular period to be below our expectations. In addition, we have experienced and may continue to experience fluctuations in our quarterly operating results due to the timing of charges that we may take. We have recorded, or may be required to record, charges that include development milestone and license payments under collaboration and license agreements, amortization of acquired intangibles and other acquisition related charges, and impairment charges. Several other factors, including
government rebates, distributor buying patterns and government tender timing, impact the dollar value of product sales recorded in any particular quarter.
Our revenues are also subject to foreign exchange rate fluctuations due to the global nature of our operations. We recognize foreign currency gains or losses arising from our operation in the period in which we incur those gains or losses. Although we utilize foreign currency forward contracts, a combination of foreign currency put and call options, and occasionally purchased put options to manage foreign currency risk, our efforts to reduce currency exchange losses may not be successful. As a result, currency fluctuation among our reporting currency, the U.S. Dollar, and the currencies in which we do business will affect our operating results. Our net income may also fluctuate due to the impact of charges we may be required to take with respect to foreign currency and other hedge transactions. In particular, we may incur higher than expected charges from hedge ineffectiveness or from the termination of a hedge arrangement. For more information, see Item 7A. "Quantitative and Qualitative Disclosures About Market Risk."
We are dependent on the continued commercial success of our primary products, REVLIMID®, POMALYST®/IMNOVID®, ABRAXANE®, OTEZLA®, VIDAZA® and THALOMID®.
Our business is largely dependent on the commercial success of REVLIMID®, POMALYST®/IMNOVID®, ABRAXANE®, OTEZLA®, VIDAZA® and THALOMID®. REVLIMID® currently accounts for over half of our total revenue. As new products, such as POMALYST®/IMNOVID® and OTEZLA®, have obtained regulatory approval and gained market acceptance, our dependence on REVLIMID® has decreased, a trend that we expect to continue. A significant decline in REVLIMID® net revenue, in the absence of offsetting increases in revenue from our other marketed products, would have a material adverse effect on our results of operations, cash flows and financial condition. The success of these products depends on acceptance by regulators, key opinion leaders, physicians, and patients as effective drugs with certain advantages over other therapies. A number of factors, as discussed in greater detail below, may adversely impact the degree of acceptance of these products, including their efficacy, safety, price and benefits over competing products, as well as the reimbursement policies of third-party payers, such as government and private insurance plans.
If unexpected adverse events are reported in connection with the use of any of these products, physician and patient acceptance of the product could deteriorate and the commercial success of such product could be adversely affected. We are required to report to the FDA or similar bodies in other countries events associated with our products relating to death or serious injury. Adverse events could result in additional regulatory controls, such as the imposition of costly post-approval clinical studies or revisions to our approved labeling which could limit the indications or patient population for a product or could even lead to the withdrawal of a product from the market. THALOMID® is known to be toxic to the human fetus and exposure to the drug during pregnancy could result in significant deformities. REVLIMID® and POMALYST®/IMNOVID® are also considered toxic to the human fetus and their respective labels contain warnings against use which could result in embryo-fetal exposure. While we have restricted distribution systems for THALOMID®, REVLIMID®, and POMALYST®/IMNOVID®, and endeavor to educate patients regarding the potential known adverse events, including pregnancy risks, we cannot ensure that all such warnings and recommendations will be complied with or that adverse events resulting from non-compliance will not occur.
Our future commercial success depends on gaining regulatory approval for products in development, and obtaining approvals for our current products for additional indications.
The testing, manufacturing and marketing of our products require regulatory approvals, including approval from the FDA and similar bodies in other countries. Our future growth would be negatively impacted if we fail to obtain timely, or at all, requisite regulatory approvals in the United States and internationally for products in development and approvals for our existing products for additional indications.
The principal risks to obtaining and maintaining regulatory approvals are as follows:
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In general, preclinical tests and clinical trials can take many years and require the expenditure of substantial resources, and the data obtained from these tests and trials may not lead to regulatory approval;
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Delays or rejections may be encountered during any stage of the regulatory process if the clinical or other data fails to demonstrate compliance with a regulatory agency’s requirements for safety, efficacy and quality;
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Requirements for approval may become more stringent due to changes in regulatory agency policy or the adoption of new regulations or legislation;
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Even if a product is approved, the scope of the approval may significantly limit the indicated uses or the patient population for which the product may be marketed and may impose significant limitations in the nature of warnings, precautions and contra-indications that could materially affect the sales and profitability of the product;
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After a product is approved, the FDA or similar bodies in other countries may withdraw or modify an approval in a significant manner or request that we perform additional clinical trials or change the labeling of the product due to a number of reasons, including safety concerns, adverse events and side effects;
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Products, such as REVLIMID® and POMALYST®/IMNOVID®, that receive accelerated approval can be subject to an expedited withdrawal if post-marketing restrictions are not adhered to or are shown to be inadequate to assure safe use, or if the drug is shown to be unsafe or ineffective under its conditions of use;
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Guidelines and recommendations published by various governmental and non-governmental organizations can reduce the use of our approved products;
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Approved products, as well as their manufacturers, are subject to continuing and ongoing review by regulatory agencies, and the discovery of previously unknown problems with these products or the failure to comply with manufacturing or quality control requirements may result in restrictions on the manufacture, sale or use of a product or its withdrawal from the market; and
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Changes in regulatory agency policy or the adoption of new regulations or legislation could impose restrictions on the sale or marketing of our approved products.
If we fail to comply with laws or government regulations or policies our business could be adversely affected.
The discovery, preclinical development, clinical trials, manufacturing, risk evaluation and mitigation strategies (such as our REMS program), marketing and labeling of pharmaceuticals and biologics are all subject to extensive laws and government regulations and policies. In addition, individual states, acting through their attorneys general, are increasingly seeking to regulate the marketing of prescription drugs under state consumer protection and false advertising laws. If we fail to comply with the laws and regulations regarding the promotion and sale of our products, appropriate distribution of our products under our restricted distribution systems, off-label promotion and the promotion of unapproved products, government agencies may bring enforcement actions against us or private litigants may assert claims on behalf of the government against us that could inhibit our commercial capabilities and/or result in significant damage awards and penalties.
Other matters that may be the subject of governmental or regulatory action which could adversely affect our business include laws, regulations and policies governing:
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protection of the environment, privacy, healthcare reimbursement programs, and competition;
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parallel importation of prescription drugs from outside the United States at prices that are regulated by the governments of various foreign countries; and
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mandated disclosures of clinical trial or other data, such as the EMA’s policy on publication of clinical data.
Sales of our products will be significantly reduced if access to and reimbursement for our products by governmental and other third-party payers are reduced or terminated.
Sales of our current and future products depend, in large part, on the conditions under which our products are paid for by health maintenance, managed care, pharmacy benefit and similar health care management organizations (HCMOs), or reimbursed by government health administration authorities, private health coverage insurers and other third-party payers.
The influence of HCMOs has increased in recent years due to the growing number of patients receiving coverage through a few large HCMOs as a result of industry consolidation. One objective of HCMOs is to contain and, where possible, reduce healthcare expenditures. HCMOs typically use formularies (lists of approved medicines available to members of a particular HCMO), clinical protocols, volume purchasing, long-term contracts and other methods to negotiate prices with pharmaceutical providers. Due to their lower cost generally, generic medicines are typically placed in preferred tiers of HCMO formularies. Additionally, many formularies include alternative and competitive products for treatment of particular medical problems. Exclusion of our products from a formulary or HCMO-implemented restrictions on the use of our products can significantly impact drug usage in the HCMO patient population, and consequently our revenues.
Generally, in Europe and other countries outside the United States, the government-sponsored healthcare system is the primary payer of patients’ healthcare costs. These health care management organizations and third-party payers are increasingly challenging the prices charged for medical products and services, seeking to implement cost-containment programs, including price controls, restrictions on reimbursement and requirements for substitution of generic products. Our products continue to be subject to increasing price and reimbursement pressure due to price controls imposed by governments in many countries; increased difficulty in obtaining and maintaining satisfactory drug reimbursement rates; and the tendency of governments and private health care providers to favor generic pharmaceuticals. In addition, governmental and private third-party payers and purchasers of our products may restrict access to formularies or otherwise discourage use of our products. Limitations on patient access to our drugs, adoption of price controls and cost-containment measures could adversely affect our business. In addition, our operating results may also be affected by distributors seeking to take advantage of price differences among various markets by buying our products in low cost markets for resale in higher cost markets.
The Affordable Care Act and other legislation may affect our pricing policies and government reimbursement of our products which may adversely impact our revenues and profitability.
In the U.S. there have been and are likely to continue to be a number of legislative and regulatory proposals and enactments related to drug pricing and reimbursement that could impact our profitability. The Patient Protection and Affordable Care Act and the Health Care and Education Reconciliation Act of 2010 were signed into law in March 2010, and are referred to collectively as the Healthcare Reform Acts. These reforms have significantly impacted the pharmaceutical industry and, in the coming years, it is likely that additional changes, including the repeal of all or certain aspects of these reforms, will be made. Moreover, changes could be made to governmental healthcare and insurance reimbursement programs that could significantly impact the profitability of our products. Additionally, the pricing and reimbursement of pharmaceutical products, in general and specialty drugs in particular, have recently received the attention of U.S. policymakers and others. At this time, we cannot predict the impact of this increased scrutiny on the pricing or reimbursement of our products or pharmaceutical products generally.
The Healthcare Reform Acts, among other things, made significant changes to the Medicaid rebate program by increasing the minimum rebates that manufacturers like us are required to pay. These changes also expanded the government’s 340B drug discount program by expanding the category of entities qualified to participate in the program and benefit from its deeply discounted drug pricing. The Healthcare Reform Acts also obligate the Health Resources and Services Administration (HRSA), which administers the 340B program, to update the agreement that each manufacturer must sign to participate in the 340B program to require each manufacturer to offer the 340B price to covered entities if the manufacturer makes the drug product available to any other purchaser at any price, and to report the ceiling prices for its drugs to the government. HRSA issued this update in late 2016 and we signed an amendment to our agreement on December 29, 2016. In addition, HRSA recently finalized regulations that, among other things, implement rules regarding civil monetary penalties for knowing and intentional overcharges of 340B covered entities by pharmaceutical manufacturers.
HRSA also issued proposed regulations to implement an administrative dispute resolution (ADR) process for certain disputes arising under the 340B program, including (1) claims by covered entities that they have been overcharged for covered outpatient drugs by manufacturers; and (2) claims by manufacturers, after a manufacturer has conducted an audit, that a covered entity has violated the prohibition on diversion to ineligible patients or duplicate discounts. The exact timing and content of final action on these matters is uncertain at this time. Depending on their final form, these actions could affect our obligations under the 340B program in ways that may have an adverse impact on our business.
We have received inquiries from HRSA regarding our compliance with the 340B program. We have cooperated fully in responding to these inquiries and believe that we have complied with applicable legal requirements. If, however, we are ultimately required to change our sales or pricing practices, there would be an adverse effect on our revenues and profitability.
Our ability to sell our products to hospitals in the United States depends in part on our relationships with group purchasing organizations.
Many existing and potential customers for our products become members of group purchasing organizations (GPOs). GPOs negotiate pricing arrangements and contracts, sometimes on an exclusive basis, with medical supply manufacturers and distributors, and these negotiated prices are made available to a GPO’s affiliated hospitals and other members. If we are not one of the providers selected by a GPO, affiliated hospitals and other members may be less likely to purchase our products, and if the GPO has negotiated a strict sole source, market share compliance or bundling contract for another manufacturer’s products, we may be precluded from making sales to members of the GPO for the duration of that contractual arrangement. Our failure to enter into or renew contracts with GPOs may cause us to lose market share and could adversely affect our sales.
Our long-term success depends, in part, on intellectual property protection.
Our success depends, in part, on our ability to obtain and enforce patents, protect trade secrets, obtain licenses to technology owned by third parties and to conduct our business without infringing upon the proprietary rights of others. The patent positions of pharmaceutical and biopharmaceutical companies, including ours, can be uncertain and involve complex legal and factual questions. There can be no assurance that if claims of any of our owned or licensed patents are challenged by one or more third parties (through, for example, litigation or post grant review in the United States Patent and Trademark Office (USPTO) or European Patent Office (EPO)), a court or patent authority ruling on such challenge will ultimately determine, after all opportunities for appeal have been exhausted, that our patent claims are valid and enforceable. If a third party is found to have rights covering products or processes used by us, we could be forced to cease using such products or processes, be subject to significant liabilities to such third party and/or be required to obtain license rights from such third party. Lawsuits involving patent claims are costly and could affect our results of operations, result in significant expense and divert the attention of managerial and scientific personnel. For more information on challenges to certain of our patents and settlement of certain of these challenges, see Note 18 of Notes to Consolidated Financial Statements contained in this Annual Report on Form 10-K.
In addition, we do not know whether any of our owned or licensed pending patent applications will result in the issuance of patents or, if patents are issued, whether they will be dominated by third-party patent rights, provide significant proprietary protection or commercial advantage or be circumvented, opposed, invalidated, rendered unenforceable or infringed by others.
Our intellectual property rights may be affected in ways that are difficult to anticipate at this time under the provisions of the America Invents Act enacted in 2011. This law represents a significant change to the US patent system. Uncertainty exists in the application and interpretation of various aspects of the America Invents Act. For example, post grant review procedures have been implemented that potentially represent a significant threat to a company’s patent portfolio. Members of the public may seek to challenge an issued patent by petitioning the USPTO to institute a post grant review. Once instituted, the USPTO may find grounds to revoke the challenged patent or specific claims therein. For example, on April 23, 2015, a party filed a petition to institute an Inter Partes Review (IPR) challenging the validity of our patent US 6,045,501 and three petitions challenging patent US 6,315,720. On October 27, 2015, the USPTO granted all four petitions. In addition, on May 7, 2015 another IPR was filed against our compound patent US 5,635,517 for lenalidomide, set to expire in 2019. On November 15, 2015, the USPTO rejected this challenge by denying the institution of the IPR procedure. For more information with respect to IPRs, see Note 18 of Notes to Consolidated Financial Statements contained in this Annual Report on Form 10-K. A procedure similar to the IPR has existed in Europe for many years and we have defended our European patents in certain of those proceedings. For example, the validity of our patent EP 1 667 682 is currently the subject of an opposition proceeding before the EPO. We cannot predict whether any other Celgene patents will ever become the subject of a post grant review. If a significant product patent is successfully challenged in a post grant review proceeding it may be revoked, which would have a serious negative impact on our ability to maintain exclusivity in the market-place for our commercial products affected by such revocation and could adversely affect our future revenues and profitability.
On October 2, 2014, the EMA adopted its clinical transparency policy, "Policy on Publication of Clinical Data for Medicinal Products for Human Use" (Clinical Data Policy), which became effective on January 1, 2015. In general, under the Clinical Data Policy, clinical data is not deemed to be commercially confidential data. Therefore, there is a risk that unpublished proprietary information, including trade secrets that are incorporated into a marketing application before the EMA may be made publicly available. It is difficult to predict how any public disclosure of our trade secrets or other confidential and proprietary information made available under the Clinical Data Policy may adversely impact our patent rights and our competitive advantage in the marketplace.
Also, procedures for obtaining patents and the degree of protection against the use of a patented invention by others vary from country to country. There can be no assurance that the issuance to us in one country of a patent covering an invention will be followed by the issuance in other countries of patents covering the same invention or that any judicial interpretation of the validity, enforceability or scope of the claims in a patent issued in one country will be similar to or recognized by the judicial interpretation given to a corresponding patent issued in another country.
The USPTO and various foreign governmental patent agencies require compliance with a number of procedural, documentary, fee payment and other similar provisions during the patent application process. While an inadvertent lapse can in many cases be cured by payment of a late fee or by other means in accordance with the applicable rules, there are situations in which noncompliance can result in abandonment or lapse of the patent or patent application, resulting in partial or complete loss of patent rights in the relevant jurisdiction.
We also rely upon unpatented, proprietary and trade secret technology that we seek to protect, in part, by confidentiality agreements with our collaborative partners, employees, consultants, outside scientific collaborators, sponsored researchers and other advisors. Despite precautions taken by us, there can be no assurance that these agreements provide meaningful protection, that they will
not be breached, that we would have adequate remedies for any such breach or that our proprietary and trade secret technologies will not otherwise become known to others or found to be non-proprietary.
We receive confidential and proprietary information from collaborators, prospective licensees and other third parties. In addition, we employ individuals who were previously employed at other biotechnology or pharmaceutical companies. We may be subject to claims that we or our employees, consultants or independent contractors have inadvertently or otherwise used or disclosed confidential information of these third parties or our employees’ former employers. Litigation may be necessary to defend against these claims, which can result in significant costs if we are found to have improperly used the confidential or proprietary information of others. Even if we are successful in defending against these claims, litigation could result in substantial costs and diversion of personnel and resources.
Our products may face competition from lower cost generic or follow-on products.
Manufacturers of generic drugs are seeking to compete with our drugs and present a significant challenge to us. Those manufacturers may challenge the scope, validity or enforceability of our patents in court, requiring us to engage in complex, lengthy and costly litigation. If any of our owned or licensed patents are infringed or challenged, we may not be successful in enforcing or defending those intellectual property rights and, as a result, may not be able to develop or market the relevant product exclusively, which would have a material adverse effect on our sales of that product. In addition, manufacturers of innovative drugs as well as generic drug manufacturers may be able to design their products around our owned or licensed patents and compete with us using the resulting alternative technology. For more information concerning certain pending proceedings relating to our intellectual property rights and settlements of certain challenges, see Note 18 of Notes to Consolidated Financial Statements contained in this Annual Report on Form 10-K.
Upon the expiration or loss of patent protection for a product, or upon the “at-risk” launch (despite pending patent infringement litigation against the generic product) by a manufacturer of a generic version of one of our products, we can quickly lose a significant portion of our sales of that product. In addition, if generic versions of our competitors’ branded products lose their market exclusivity, our patented products may face increased competition or pricing pressure.
Our business operates in an extremely competitive environment.
The pharmaceutical and biotechnology industries in which we operate are highly competitive and subject to rapid and significant technological change. Our present and potential competitors include major pharmaceutical and biotechnology companies, as well as specialty pharmaceutical firms, including, but not limited to:
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Hematology and Oncology: AbbVie, Amgen, AstraZeneca, Bristol-Myers-Squibb, Eisai, Gilead, Johnson & Johnson, Merck, Novartis, Roche/Genentech, Sanofi and Takeda; and
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Inflammation and Immunology: AbbVie, Amgen, Biogen, Eisai, Eli Lilly, Johnson & Johnson, Merck, Novartis, Pfizer and UCB S.A.
Some of these companies have considerably greater financial, technical and marketing resources than we have, enabling them, among other things, to make greater research and development investments. We also experience competition in drug development from universities and other research institutions, and we compete with others in acquiring technology from these sources. The pharmaceutical industry has undergone, and is expected to continue to undergo, rapid and significant technological change, and we expect competition to intensify as technical advances are made and become more widely known. The development of products or processes by our competitors with significant advantages over those that we are developing could adversely affect our future revenues and profitability.
A decline in general economic conditions would adversely affect our results of operations.
Sales of our products are dependent, in large part, on third-party payers. As a result of global credit and financial market conditions, these organizations may be unable to satisfy their reimbursement obligations or may delay payment. For information about amounts receivable from the government-owned or -controlled hospitals in European countries, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”
In addition, due to tightened global credit, there may be a disruption or delay in the performance of our third-party contractors, suppliers or collaborators. We rely on third parties for several important aspects of our business, including portions of our product manufacturing, clinical development of future collaboration products, conduct of clinical trials and supply of raw materials. If such third parties are unable to satisfy their commitments to us, our business could be adversely affected.
We may be required to modify our business practices, pay fines and significant expenses or experience other losses due to governmental investigations or other enforcement activities.
We may become subject to litigation or governmental investigations in the United States and foreign jurisdictions that may arise from the conduct of our business. Like many companies in our industry, we have from time to time received inquiries and subpoenas and other types of information requests from government authorities and we have been subject to claims and other actions related to our business activities.
While the ultimate outcomes of investigations and legal proceedings are difficult to predict, adverse resolutions or settlements of those matters could result in, among other things:
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significant damage awards, fines, penalties or other payments, and administrative remedies, such as exclusion and/or debarment from government programs, or other rulings that preclude us from operating our business in a certain manner;
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changes and additional costs to our business operations to avoid risks associated with such litigation or investigations;
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product recalls;
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reputational damage and decreased demand for our products; and
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expenditure of significant time and resources that would otherwise be available for operating our business.
For more information relating to governmental investigations and other legal proceedings and recent settlements of legal proceedings, see Note 18 of Notes to Consolidated Financial Statements contained in this Annual Report on Form 10-K.
The development of new biopharmaceutical products involves a lengthy and complex process and we may be unable to commercialize any of the products we are currently developing.
Many of our drug candidates are in the early or mid-stages of research and development and will require the commitment of substantial financial resources, extensive research, development, preclinical testing, clinical trials, manufacturing scale-up and regulatory approval prior to being ready for sale. This process takes many years of effort without any assurance of ultimate success. Our product development efforts with respect to a product candidate may fail for many reasons, including:
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the failure of the product candidate in preclinical or clinical studies;
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adverse patient reactions to the product candidate or indications of other safety concerns;
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insufficient clinical trial data to support the effectiveness or superiority of the product candidate;
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our inability to manufacture sufficient quantities of the product candidate for development or commercialization activities in a timely and cost-efficient manner;
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our failure to obtain, or delays in obtaining, the required regulatory approvals for the product candidate, the facilities or the process used to manufacture the product candidate;
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changes in the regulatory environment, including pricing and reimbursement, that make development of a new product or of an existing product for a new indication no longer attractive;
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the failure to obtain or maintain satisfactory drug reimbursement rates by governmental or third-party payers; and
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the development of a competitive product or therapy.
If a product were to fail to be approved or if sales fail to materialize for a newly approved product, we may incur losses related to the write-down of inventory, impairment of property, plant and equipment dedicated to the product or expenses related to restructuring.
Disruptions of our manufacturing and distribution operations could significantly interrupt our production and distribution capabilities.
We have our own manufacturing facilities for many of our products and we have contracted with third parties to provide other manufacturing, finishing, and packaging services. Any of those manufacturing processes could be partially or completely disrupted by fire, contamination, natural disaster, terrorist attack or governmental action. A disruption could lead to substantial production delays and the need to establish alternative manufacturing sources for the affected products requiring additional regulatory approvals. In the interim, our finished goods inventories may be insufficient to satisfy customer orders on a timely basis. Further, our business interruption insurance may not adequately compensate us for any losses that may occur.
In all the countries where we sell our products, governmental regulations define standards for manufacturing, packaging, labeling, distributing and storing pharmaceutical products. Our failure to comply, or the failure of our contract manufacturers and distributors to comply with applicable regulations could result in sanctions being imposed on them or us, including fines, injunctions, civil penalties, disgorgement, suspension or withdrawal of approvals, license revocation, seizures or recalls of products, operating restrictions and criminal prosecutions.
We have contracted with various distributors to distribute most of our branded products. If our distributors fail to perform and we cannot secure a replacement distributor within a reasonable period of time, our revenue could be adversely affected.
The consolidation of drug wholesalers and other wholesaler actions could increase competitive and pricing pressures.
We sell our pharmaceutical products in the United States primarily through wholesale distributors and contracted pharmacies. These wholesale customers comprise a significant part of our distribution network for pharmaceutical products in the United States. This distribution network is continuing to undergo significant consolidation. As a result, a smaller number of large wholesale distributors and pharmacy chains control a significant share of the market. We expect that consolidation of drug wholesalers and pharmacy chains will increase competitive and pricing pressures on pharmaceutical manufacturers, including us. In addition, wholesalers may apply pricing pressure through fee-for-service arrangements and their purchases may exceed customer demand, resulting in increased returns or reduced wholesaler purchases in later periods.
Risks from the improper conduct of employees, agents, contractors or collaborators could adversely affect our business or reputation.
We cannot ensure that our compliance controls, policies and procedures will in every instance protect us from acts committed by our employees, agents, contractors or collaborators that violate the laws or regulations of the jurisdictions in which we operate, including employment, anti-corruption, environmental, competition and privacy laws. Such improper actions, particularly with respect to foreign healthcare professionals and government officials, could subject us to civil or criminal investigations, monetary and injunctive penalties, adversely impact our ability to conduct business in certain markets, negatively affect our results of operations and damage our reputation.
We are subject to a variety of risks related to the conduct and expansion of our business internationally, particularly in emerging markets.
As our operations expand globally, we are subject to risks associated with conducting business in foreign markets, particularly in emerging markets. Those risks include:
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increased management, travel, infrastructure and legal compliance costs;
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longer payment and reimbursement cycles;
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difficulties in enforcing contracts and collecting accounts receivable;
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local marketing and promotional challenges;
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lack of consistency, and unexpected changes, in foreign regulatory requirements and practices;
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increased risk of governmental and regulatory scrutiny and investigations;
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increased exposure to fluctuations in currency exchange rates;
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the burdens of complying with a wide variety of foreign laws and legal standards;
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operating in locations with a higher incidence of corruption and fraudulent business practices;
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difficulties in staffing and managing foreign sales and development operations;
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import and export requirements, tariffs, taxes and other trade barriers;
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weak or no protection of intellectual property rights;
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possible enactment of laws regarding the management of and access to data and public networks and websites;
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possible future limitations on foreign-owned businesses;
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increased financial accounting and reporting burdens and complexities; and
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other factors beyond our control, including political, social and economic instability, popular uprisings, war, terrorist attacks and security concerns in general.
As we continue to expand our business into multiple international markets, our success will depend, in large part, on our ability to anticipate and effectively manage these and other risks associated with our international operations. Any of these risks could harm our international operations and reduce our sales, adversely affecting our business, results of operations, financial condition and growth prospects.
We may not realize the anticipated benefits of acquisitions and strategic initiatives.
We may face significant challenges in effectively integrating entities and businesses that we acquire and we may not realize the benefits anticipated from such acquisitions. Achieving the anticipated benefits of our acquired businesses will depend in part upon whether we can integrate our businesses in an efficient and effective manner. Our integration of acquired businesses involves a number of risks, including:
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demands on management related to the increase in our size after an acquisition;
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the diversion of management’s attention from daily operations to the integration of acquired businesses and personnel;
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higher than anticipated integration costs;
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failure to achieve expected synergies and costs savings;
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difficulties in the assimilation and retention of employees;
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difficulties in the assimilation of different cultures and practices, as well as in the assimilation of broad and geographically dispersed personnel and operations; and
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difficulties in the integration of departments, systems, including accounting systems, technologies, books and records and procedures, as well as in maintaining uniform standards and controls, including internal control over financial reporting, and related procedures and policies.
In addition, we may not be able to realize the projected benefits of corporate strategic initiatives we may pursue in the future.
We may not be able to continue to attract and retain highly qualified managerial, scientific, manufacturing and commercial talent.
The success of our business depends, in large part, on our continued ability to attract and retain highly qualified managerial, scientific, medical, manufacturing, commercial and other professional personnel, and competition for these types of personnel is intense. We cannot be sure that we will be able to attract or retain skilled personnel or that the costs of doing so will not materially increase.
Risks associated with using hazardous materials in our business could subject us to significant liability.
We use certain hazardous materials in our research, development, manufacturing and other business activities. If an accident or environmental discharge occurs, or if we discover contamination caused by prior owners and operators of properties we acquire, we could be liable for remediation obligations, damages and fines that could exceed our insurance coverage and financial resources.
Additionally, the cost of compliance with environmental and safety laws and regulations may increase in the future, requiring us to expend more financial resources either in compliance or in purchasing supplemental insurance coverage.
We are subject to various legal proceedings, claims and investigative demands in the ordinary course of our business, the ultimate outcome of which may result in significant expense, payments and penalties.
We and certain of our subsidiaries are involved in various legal proceedings that include patent, product liability, consumer, commercial, antitrust and other claims that arise from time to time in the ordinary course of our business. Litigation is inherently unpredictable. Although we believe we have substantial defenses in these matters, we could in the future be subject to adverse judgments, enter into settlements of claims or revise our expectations regarding the outcomes of certain matters, and such developments could have a material adverse effect on our results of operations in the period in which such judgments are received or settlements occur. For more information regarding settlement of certain legal proceedings, see Note 18 of Notes to Consolidated Financial Statements contained in this Annual Report on Form 10-K.
Our activities relating to the sale and marketing and the pricing of our products are subject to extensive regulation under the U.S. Federal Food, Drug, and Cosmetic Act, the Medicaid Drug Rebate Program, the False Claims Act, the Foreign Corrupt Practices Act and other federal and state statutes, including those discussed elsewhere in this report, as well as anti-kickback and false claims laws, and similar laws in international jurisdictions. Like many companies in our industry, we have from time to time received inquiries and subpoenas and other types of information demands from government authorities, and been subject to claims and other actions related to our business activities brought by governmental authorities, as well as by consumers, third-party payers, stockholders and others. There can be no assurance that existing or future proceedings will not result in significant expense, civil payments, fines or other adverse consequences. For more information relating to governmental investigations and other legal proceedings and recent settlements of legal proceedings, see Note 18 of Notes to Consolidated Financial Statements contained in this Annual Report on Form 10-K.
Product liability claims could adversely affect our business, results of operations and financial condition.
Product liability claims could result in significant damage awards or settlements. Such claims can also be accompanied by consumer fraud claims or claims by third-party payers seeking reimbursement of the cost of our products. In addition, adverse determinations or settlements of product liability claims may result in suspension or withdrawal of a product marketing authorization or changes to our product labeling, including restrictions on therapeutic indications, inclusion of new contraindications, warnings or precautions, which would have a material adverse effect on sales of such product. We have historically purchased product liability coverage from third-party carriers for a portion of our potential liability. Such insurance has become increasingly difficult and costly to obtain. In this context and in light of the strength of our balance sheet we now self-insure these risks beginning in 2016. Product liability claims, regardless of their merits or ultimate outcome, are costly, divert management's attention, may harm our reputation and can impact the demand for our products. There can be no assurance that we will be able to recover under any existing third-party insurance policy or that such coverage will be adequate to fully cover all risks or damage awards or settlements. Additionally, if we are unable to meet our self-insurance obligations for claims that are more than we estimated or reserved for that require substantial expenditures, there could be a material adverse effect on our financial statements and results of operations.
Changes in our effective income tax rate could adversely affect our results of operations.
We are subject to income taxes in both the United States and various foreign jurisdictions and our domestic and international tax liabilities are largely dependent upon the distribution of income among these different jurisdictions. Various factors may have favorable or unfavorable effects on our effective income tax rate. These factors include interpretations of existing tax laws, the accounting for stock options and other share-based compensation, changes in tax laws and rates, future levels of research and development spending, changes in accounting standards, changes in the mix of earnings in the various tax jurisdictions in which we operate, the outcome of examinations by the U.S. Internal Revenue Service and other tax authorities, the accuracy of our estimates for unrecognized tax benefits and realization of deferred tax assets and changes in overall levels of pre-tax earnings.
Currency fluctuations and changes in exchange rates could adversely affect our revenue growth, increase our costs and cause our profitability to decline.
We collect and pay a substantial portion of our sales and expenditures in currencies other than the U.S. dollar. Therefore, fluctuations in foreign currency exchange rates affect our operating results. We utilize foreign currency forward contracts, a combination of foreign currency put and call options, and occasionally purchased put options, all of which are derivative instruments, to manage foreign currency risk. We use these derivative instruments to hedge certain forecasted transactions, manage exchange rate volatility in the translation of foreign earnings and reduce exposures to foreign currency fluctuations of certain balance sheet items denominated in foreign currencies. The use of these derivative instruments is intended to mitigate a portion of the exposure of
these risks with the intent to reduce our risk or cost, but generally would not fully offset any change in operating results as a consequence of fluctuations in foreign currencies. Any significant foreign exchange rate fluctuations could adversely affect our financial condition and results of operations. See Note 5 of Notes to Consolidated Financial Statements and Item 7A. “Quantitative and Qualitative Disclosures About Market Risk” contained in this Annual Report on Form 10-K.
We may experience an adverse market reaction if we are unable to meet our financial reporting obligations.
As we continue to expand at a rapid pace, the development of new and/or improved automated systems will remain an ongoing priority. During this expansion period, our internal control over financial reporting may not prevent or detect misstatements in our financial reporting. Such misstatements may result in litigation and/or negative publicity and possibly cause an adverse market reaction that may negatively impact our growth plans and the value of our common stock.
Impairment charges or write downs in our books and changes in accounting standards could have a significant adverse effect on our results of operations and financial condition.
The value allocated to certain of our assets could be substantially impaired due to a number of factors beyond our control. Also, if any of our strategic equity investments decline in value, we may be required to write down such investments. In addition, new or revised accounting standards, rules and interpretations could result in changes to the recognition of income and expense that may materially and adversely affect our financial results.
The price of our common stock may fluctuate significantly.
The market for our shares of common stock may fluctuate significantly. The following key factors may have an adverse impact on the market price of our common stock:
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results of our clinical trials or adverse events associated with our marketed products;
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fluctuations in our commercial and operating results;
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announcements of technical or product developments by us or our competitors;
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market conditions for pharmaceutical and biotechnology stocks in particular;
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changes or anticipated changes in laws and governmental regulations, including changes in tax, healthcare, environmental, competition and patent laws;
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new accounting pronouncements or regulatory rulings;
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public announcements regarding medical advances in the treatment of the disease states that we are targeting;
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patent or proprietary rights developments;
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changes in pricing and third-party reimbursement policies for our products;
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the outcome of litigation involving our products, processes or intellectual property;
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the existence and outcome of governmental investigations and proceedings;
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regulatory actions that may impact our products or potential products;
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disruptions in our manufacturing processes or supply chain;
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failure of our collaboration partners to successfully develop potential drug candidates;
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competition; and
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investor reaction to announcements regarding business or product acquisitions.
In addition, a market downturn in general and/or in the biopharmaceutical sector in particular, may adversely affect the market price of our securities, which may not necessarily reflect the actual or perceived value of our Company.
Our business would be adversely affected if we are unable to service our debt obligations.
We have incurred various forms of indebtedness, including senior notes, commercial paper and a senior unsecured credit facility. Our ability to pay interest and principal amounts when due, comply with debt covenants or repurchase the senior notes if a change of control occurs, will depend upon, among other things, continued commercial success of our products and other factors that affect our future financial and operating performance, including prevailing economic conditions and financial, business and regulatory factors, many of which are beyond our control.
If we are unable to generate sufficient cash flow to service the debt service requirements under our debt instruments, we may be forced to take remedial actions such as:
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restructuring or refinancing our debt;
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seeking additional debt or equity capital;
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reducing or delaying our business activities, acquisitions, investments or capital expenditures, including research and development expenditures; or
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selling assets, businesses, products or other potential revenue streams.
Such measures might not be successful and might not enable us to service our debt obligations. In addition, any such financing, refinancing or sale of assets might not be available on economically favorable terms, if at all.
A breakdown or breach of our information technology systems and cyber security efforts could subject us to liability, reputational damage or interrupt the operation of our business.
We rely upon our information technology systems and infrastructure for our business. The size and complexity of our computer systems make them potentially vulnerable to breakdown and unauthorized intrusion. We could also experience a business interruption, theft of confidential information, or reputational damage from industrial espionage attacks, malware or other cyber attacks, which may compromise our system infrastructure or lead to data leakage, either internally or at our third-party providers. Similarly, data privacy breaches by those who access our systems may pose a risk that sensitive data, including intellectual property, trade secrets or personal information belonging to us, our patients, employees, customers or other business partners, may be exposed to unauthorized persons or to the public. Although the aggregate impact on our operations and financial condition has not been material to date, we have been the target of events of this nature and expect them to continue. We continuously monitor our data, information technology systems (and those of our third-party providers where appropriate) and our personnel's usage of these systems to reduce these risks and potential threats. However, cyber-attacks are increasing in their frequency, sophistication and intensity, and have become increasingly difficult to detect. There can be no assurance that our efforts to protect our data and information technology systems will prevent breakdowns or breaches in our systems (or that of our third-party providers) that could adversely affect our business and result in financial and reputational harm to us, theft of trade secrets and other proprietary information, legal claims or proceedings, liability under laws that protect the privacy of personal information, and regulatory penalties.
The illegal distribution and sale by third parties of counterfeit versions of our products or stolen products could have a negative impact on our reputation and business.
Third parties might illegally distribute and sell counterfeit or unfit versions of our products, which do not meet our rigorous manufacturing and testing standards. A patient who receives a counterfeit or unfit drug may be at risk for a number of dangerous health consequences. Our reputation and business could suffer harm as a result of counterfeit or unfit drugs sold under our brand name. In addition, thefts of inventory at warehouses, plants or while in-transit, which are not properly stored and which are sold through unauthorized channels, could adversely impact patient safety, our reputation and our business.
We have certain charter and by-law provisions that may deter a third-party from acquiring us and may impede the stockholders’ ability to remove and replace our management or board of directors.
Our board of directors has the authority to issue, at any time, without further stockholder approval, up to 5.0 million shares of preferred stock and to determine the price, rights, privileges and preferences of those shares. An issuance of preferred stock could discourage a third-party from acquiring a majority of our outstanding voting stock. Additionally, our by-laws contain provisions intended to strengthen the board’s position in the event of a hostile takeover attempt. These provisions could impede the stockholders’ ability to remove and replace our management and/or board of directors. Furthermore, we are subject to the provisions of Section
203 of the Delaware General Corporation Law, an anti-takeover law, which may also dissuade a potential acquirer of our common stock.
In addition to the risks relating to our common stock, holders of our CVRs are subject to additional risks.
On October 15, 2010, we acquired all of the outstanding common stock of Abraxis BioScience, Inc. (Abraxis) and in connection with our acquisition, contingent value rights (CVRs) were issued entitling each holder of a CVR to a pro rata portion of certain milestone and net sales payments if certain specified conditions are satisfied. In addition to the risks relating to our common stock, CVR holders are subject to additional risks, including:
•
an active public market for the CVRs may not continue to exist or the CVRs may trade at low volumes, both of which could have an adverse effect on the market price of the CVRs;
•
if the net sales targets specified in the CVR Agreement are not achieved within the time periods specified, no payment will be made and the CVRs will expire valueless;
•
since the U.S. federal income tax treatment of the CVRs is unclear, any part of a CVR payment could be treated as ordinary income and the tax thereon may be required to be paid prior to the receipt of the CVR payment;
•
any payments in respect of the CVRs are subordinated to the right of payment of certain of our other indebtedness;
•
we may under certain circumstances redeem the CVRs; and
•
upon expiration of our obligations under the CVR Agreement to continue to commercialize ABRAXANE® or any of the other Abraxis pipeline products, we may discontinue such efforts, which would have an adverse effect on the value of the CVRs.
ITEM 1B.
ITEM 1B. UNRESOLVED STAFF COMMENTS
None.
ITEM 2.
ITEM 2. PROPERTIES
Our corporate headquarters are located in Summit, New Jersey and our international headquarters are located in Boudry, Switzerland. Summarized below are the locations, primary usage and approximate square footage of the facilities we own worldwide:
We occupy the following facilities, located in the United States, under operating lease arrangements, none of which are individually material to us. Under these lease arrangements, we may be required to reimburse the lessors for real estate taxes, insurance, utilities, maintenance and other operating costs. All leases are with unaffiliated parties.
We also lease a number of offices under various lease agreements outside of the United States for which the minimum annual rents may be subject to specified annual rent increases. At December 31, 2016, the non-cancelable lease terms for our operating leases expire at various dates between 2017 and 2025 and in some cases include renewal options. The total amount of rent expense recorded for all leased facilities in 2016 was $55.3 million.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
See Note 18 of Notes to Consolidated Financial Statements contained in this Annual Report on Form 10-K.
ITEM 4.
ITEM 4. MINE SAFETY DISCLOSURES
Not applicable.
PART II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
(a) MARKET INFORMATION
Our common stock is traded on the NASDAQ Global Select Market under the symbol "CELG." The following table sets forth, for the periods indicated, the intra-day high and low prices per share of common stock on the NASDAQ Global Select Market:
* $100 Invested on 12/31/11 in Stock or Index - Including Reinvestment of Dividends, Fiscal Year Ended December 31.
(b) HOLDERS
The closing sales price per share of common stock on the NASDAQ Global Select Market on February 3, 2017 was $115.64. As of February 3, 2017, there were approximately 404 holders of record of our common stock.
(c) DIVIDEND POLICY
We have never declared or paid any cash dividends on our common stock and have no present intention to pay a cash dividend on our common stock.
(d) EQUITY COMPENSATION PLAN INFORMATION
We incorporate information regarding the securities authorized for issuance under our equity compensation plan into this section by reference from the section entitled "Equity Compensation Plan Information" to be included in the proxy statement for our 2017 Annual Meeting of Stockholders.
(e) REPURCHASE OF EQUITY SECURITIES
From April 2009 through December 2016, our Board of Directors approved purchases of up to $20.500 billion of our common stock, including an approved increase of $3.000 billion in June 2016. Approved amounts exclude share purchase transaction fees.
The following table presents the number of shares purchased during the three-month period ended December 31, 2016, the average price paid per share, the number of shares that were purchased and the dollar value of shares that still could have been purchased, pursuant to our repurchase authorization:
During the three-month period ended December 31, 2016, we purchased 1.4 million shares of common stock under the share repurchase program at a cost of $133.5 million, excluding commissions. As of December 31, 2016, we had a remaining purchase authorization of $4.731 billion.
During the period covered by this report, we did not sell any of our equity shares that were not registered under the Securities Act of 1933, as amended.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
The following Selected Consolidated Financial Data should be read in conjunction with our Consolidated Financial Statements and the related Notes thereto, Management's Discussion and Analysis of Financial Condition and Results of Operations and other financial information included in this Annual Report on Form 10-K. The data set forth below with respect to our Consolidated Statements of Income for the years ended December 31, 2016, 2015 and 2014 and the Consolidated Balance Sheet data as of December 31, 2016 and 2015 are derived from our Consolidated Financial Statements which are included in this Annual Report on Form 10-K and are qualified by reference to such Consolidated Financial Statements and related Notes thereto. The data set forth below with respect to our Consolidated Statements of Income for the years ended December 31, 2013 and 2012 and the Consolidated Balance Sheet information as of December 31, 2014, 2013 and 2012 are derived from our Consolidated Financial Statements, which are not included in this Annual Report on Form 10-K (amounts in millions, except per share data).
1 Adjusted to reflect the two-for-one common stock split effected in June 2014.
2 Total assets and Long-term debt, net of discount have been restated as of December 31, 2015, 2014, 2013 and 2012 to reflect the retroactive reclassification of debt issuance costs in accordance with ASU 2015-03, "Simplifying the Presentation of Debt Issuance Costs."
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Executive Summary
Celgene Corporation, together with its subsidiaries (collectively “we,” “our,” “us,” “Celgene” or the “Company”), is an integrated global biopharmaceutical company engaged primarily in the discovery, development and commercialization of innovative therapies for the treatment of cancer and inflammatory diseases through next-generation solutions in protein homeostasis, immuno-oncology, epigenetics, immunology and neuro-inflammation. Celgene Corporation was incorporated in the State of Delaware in 1986.
Our primary commercial stage products include REVLIMID®, POMALYST®/IMNOVID®, OTEZLA®, ABRAXANE®, VIDAZA®, azacitidine for injection (generic version of VIDAZA®) and THALOMID® (sold as THALOMID® or Thalidomide Celgene® outside of the U.S.). In addition, we earn revenue from other product sales and licensing arrangements.
We continue to invest substantially in research and development in support of multiple ongoing proprietary clinical development programs which support our existing products and pipeline of new drug candidates. Our clinical trial activity includes trials across the disease areas of hematology, solid tumors, and inflammation and immunology. REVLIMID® is in several phase III trials covering a range of hematological malignancies that include multiple myeloma, lymphomas and myelodysplastic syndromes (MDS). In solid tumors, ABRAXANE® is currently in various stages of investigation for breast, pancreatic and non-small cell lung cancers. In inflammation and immunology, OTEZLA® is being evaluated in phase III trials for Behçet's disease, ankylosing spondylitis, psoriatic arthritis and plaque psoriasis. We also have a growing number of potential products in phase III trials across multiple diseases. In the inflammation and immunology therapeutic area, we have phase III trials underway for ozanimod in relapsing multiple sclerosis (RMS) and ulcerative colitis (UC) and for GED-0301 (mongersen) in Crohn’s disease. In hematology, phase III trials are underway for CC-486 and luspatercept in MDS, for CC-486 and enasidenib in acute myeloid leukemia (AML) and for luspatercept in beta-thalassemia. In the fourth quarter of 2016, we submitted a new drug application (NDA) for enasidenib for the treatment of patients with relapsed or refractory AML with isocitrate dehydrogenase-2 (IDH2) mutation.
Beyond our phase III programs, we have access to a growing early-to-mid-stage pipeline of novel potential therapies to address significant unmet medical needs that consists of new drug candidates and cell therapies developed in-house, licensed from other companies or able to be optioned from collaboration partners. We believe that continued use of our primary commercial stage products, participation in research and development collaboration arrangements, depth of our product pipeline, potential regulatory approvals of new products and new indications for existing products will provide the catalysts for future growth.
The following table summarizes total revenue and earnings for the years ended December 31, 2016, 2015 and 2014 (dollar amounts in millions, except per share data):
Revenue increased by $1.973 billion in 2016 compared to 2015 primarily due to the continued growth in sales of REVLIMID®, OTEZLA®, and POMALYST®/IMNOVID®. The $397.2 million increase in net income and $0.55 increase in diluted earnings per share in 2016 as compared to 2015 were primarily due to a higher level of net product sales and a $601.9 million reduction in collaboration-related expenses, partly offset by increases in other expenses, including $892.9 million of research and development asset acquisition expense associated with the purchases of EngMab AG (EngMab), Acetylon Pharmaceuticals, Inc. (Acetylon), and Triphase Research and Development I Corporation (Triphase), $345.3 million of increased impairment charges related to strategic equity investments, which included $272.2 million related to our equity investment in Juno Therapeutics, Inc. (Juno), an increase in selling, general and administrative expenses primarily due to a $198.5 million litigation-related loss contingency accrual expense, and an $83.1 million impairment charge related to the technology platform obtained in our 2012 acquisition of Avila Therapeutics, Inc. (Avila).
Results of Operations
Fiscal Years Ended December 31, 2016, 2015 and 2014
Total Revenue: Total revenue and related percentages by product for the years ended December 31, 2016, 2015 and 2014 were as follows (dollar amounts in millions):
N/M - Not meaningful
The increase in total revenue of $1.973 billion in 2016 compared to 2015 reflected increases of $1.406 billion, or 25.1%, in the United States, and $567.7 million, or 15.5%, in international markets. The increase in total revenue of $1.586 billion in 2015 compared to 2014 reflected increases of $1.121 billion, or 25.0%, in the United States, and $464.4 million, or 14.6%, in international markets.
Net Product Sales: Total net product sales for 2016 increased by $2.024 billion, or 22.1%, to $11.185 billion compared to 2015. The increase was comprised of net volume increases of $1.680 billion and net price increases of $415.2 million, offset in part by a $71.2 million unfavorable foreign exchange impact, including the impact of foreign exchange hedging activity. The increase in volume was driven by increased unit sales of REVLIMID®, OTEZLA®, and POMALYST®/IMNOVID®, partly offset by a decrease in unit sales of THALOMID® and ABRAXANE®. The price impact was primarily attributable to price increases in the U.S. market.
Total net product sales for 2015 increased by $1.597 billion, or 21.1%, to $9.161 billion compared to 2014. The increase was comprised of net volume increases of $1.467 billion and net price increases of $239.8 million, offset in part by a $109.4 million unfavorable foreign exchange impact, including the impact of foreign exchange hedging activity. The increase in volume was driven by increased unit sales of REVLIMID®, OTEZLA®, POMALYST®/IMNOVID®, and ABRAXANE®, partly offset by a decrease in unit sales of THALOMID®. The price impact was primarily attributable to price increases in the U.S. market.
REVLIMID® net sales increased by $1.173 billion, or 20.2%, to $6.974 billion in 2016 compared to 2015, primarily due to increased unit sales in both U.S. and international markets and price increases in the U.S. market. Increases in market penetration and treatment duration of patients using REVLIMID® in multiple myeloma contributed to the increase in U.S. unit sales. The growth in international markets resulted from volume increases, primarily driven by increased duration of use and market share gains. REVLIMID® launched in the U.S. and EU for the Newly Diagnosed Multiple Myeloma following approval in February 2015.
Net sales of REVLIMID® increased by $821.1 million, or 16.5%, to $5.801 billion in 2015 compared to 2014, primarily due to increased unit sales in both U.S. and international markets in addition to price increases in the U.S. market. Increases in market penetration and treatment duration of patients using REVLIMID® in multiple myeloma contributed to the increase in U.S. unit sales. The growth in international markets resulted from volume increases, primarily driven by increased duration of use and market share gains.
POMALYST®/IMNOVID® net sales increased by $327.4 million, or 33.3%, to $1.311 billion in 2016 compared to 2015, reflecting net sales of $777.5 million in the United States and $533.2 million in international markets. Increases in treatment duration
contributed to the increase in U.S. and international net sales of POMALYST®/IMNOVID®. Achieving reimbursement in additional countries, notably in Japan, also continues to contribute to the growth of POMALYST®/IMNOVID® net sales in international markets.
Net sales of POMALYST®/IMNOVID® increased by $303.6 million, or 44.7%, to $983.3 million in 2015 compared to 2014, reflecting net sales of $591.8 million in the United States and $391.5 million in international markets. Increases in market share and treatment duration contributed to the increase in U.S. and international net sales of POMALYST®/IMNOVID®.
OTEZLA® net sales increased by $545.5 million to $1.017 billion in 2016 compared to 2015, reflecting net sales of $904.4 million in the United States and $112.8 million in international markets. 2016 was the second full year on the market in the U.S. Growth in the U.S. reflects increased market share and expanding accessibility to patients. Sales in international markets continued to expand during 2016, with growing sales in early launch countries in Europe and additional international approvals.
Net sales of OTEZLA® increased by $401.9 million to $471.7 million in 2015 compared to 2014, reflecting net sales of $440.0 million in the United States and $31.7 million in international markets. OTEZLA® net sales were $69.8 million for 2014, primarily from sales in the United States. OTEZLA® was approved by the U.S. Food and Drug Administration (FDA) in March 2014 for the treatment of adult patients with active psoriatic arthritis and in September 2014 for the treatment of patients with moderate to severe plaque psoriasis who are candidates for phototherapy or systemic therapy. OTEZLA® was approved for plaque psoriasis and psoriatic arthritis in the EU in January 2015. Launch activities for OTEZLA® commenced in March 2014 and we began recognizing revenue related to OTEZLA® during the second quarter of 2014.
ABRAXANE® net sales increased by $5.9 million, or 0.6% to $973.4 million in 2016 compared to 2015. U.S. sales of $633.8 million and international sales of $339.6 million decreased 3.0 percent and increased 8.2 percent, respectively. The increase in international sales was primarily due to increased unit sales, which were partially offset by price decreases. The decrease in U.S. sales was due to volume decreases partly offset by price increases. The decrease in U.S. sales reflects the increased competition in breast cancer and lung cancer indications from new market entrants.
Net sales of ABRAXANE® increased by $119.3 million, or 14.1%, to $967.5 million in 2015 compared to 2014, primarily due to increased unit volumes in both the U.S. and international markets reflecting increased acceptance of the product for the treatment of both metastatic adenocarcinoma of the pancreas and non-small cell lung cancer (NSCLC). ABRAXANE® was approved for the treatment of locally advanced or metastatic NSCLC, as first-line treatment in combination with carboplatin, in patients who are not candidates for curative surgery or radiation therapy in the European Union in March 2015.
VIDAZA® net sales increased by $17.3 million, or 2.9%, to $608.0 million in 2016 compared to 2015, primarily due to a $26.6 million increase in international markets resulting from increased unit sales which were partly offset by price decreases in international markets and both volume and price decreases in the U.S. market.
Net sales of VIDAZA® decreased by $21.2 million, or 3.5%, to $590.7 million in 2015 compared to 2014, primarily due to a $21.6 million decrease in U.S. sales resulting from the September 2013 introduction of a generic version of VIDAZA® by a competitor, which was partly offset by volume increases in international markets.
Azacitidine for injection net sales decreased by $17.9 million, or 21.3%, to $66.0 million in 2016 compared to 2015, primarily due to price decreases partially offset by an increase in unit volumes. Azacitidine for injection is a generic version of VIDAZA® supplied by us to Sandoz AG (Sandoz).
Azacitidine for injection net sales increased by $5.7 million, or 7.3%, to $83.9 million in 2015 compared to 2014, primarily due to increased unit sales to Sandoz, which were partly offset by price decreases.
THALOMID® net sales decreased by $33.3 million, or 18.0%, to $152.1 million in 2016 compared to 2015, primarily resulting from lower unit volumes in the U.S.
Net sales of THALOMID® decreased by $35.8 million, or 16.2%, to $185.4 million for 2015 compared to 2014, primarily resulting from lower unit volumes and price decreases in both U.S. and international markets.
ISTODAX® net sales increased by $10.2 million, or 14.8%, to $79.3 million for 2016 compared to 2015, primarily due to an increase in unit volume as well as price increases.
Net sales of ISTODAX® increased by $3.5 million, or 5.3%, to $69.1 million in 2015 compared to 2014, primarily due to an increase in unit sales.
The "other" net product sales category, which includes sales of FOCALIN®, decreased by $4.1 million, to $4.3 million in 2016 compared to 2015. The "other" net product sales category decreased by $0.8 million to $8.4 million in 2015 compared to 2014.
Other Revenue: Other revenue decreased by $50.3 million to $44.6 million for 2016 compared to 2015 primarily due to a $36.0 million decrease in royalty revenue from Novartis AG (Novartis) based upon its sales of both RITALIN® and FOCALIN XR®, both of which have been negatively impacted by generic competition in certain markets and we expect that trend to continue in 2017. Generic competition entered the market in the United States for certain strengths of FOCALIN XR in the fourth quarter of 2013.
Other revenue decreased by $11.7 million to $94.9 million for 2015 compared to 2014 primarily due to a $14.1 million decrease in royalty revenue. The decrease in royalty revenue was driven by lower royalties earned from Novartis based on its sales of FOCALIN XR® and RITALIN®, which have both been negatively impacted by generic competition in certain markets.
Gross to Net Sales Accruals: We record gross to net sales accruals for sales returns and allowances, sales discounts, government rebates, chargebacks and distributor service fees.
REVLIMID®, POMALYST® and THALOMID® are distributed in the United States primarily through contracted pharmacies under the REVLIMID Risk Evaluation and Mitigation Strategy (REMS), POMALYST REMS® and THALOMID REMS® programs, respectively. These are proprietary risk-management distribution programs tailored specifically to provide for the safe and appropriate distribution and use of REVLIMID®, POMALYST® and THALOMID®. Internationally, REVLIMID®, THALOMID®/Thalidomide Celgene® and IMNOVID® are distributed under mandatory risk-management distribution programs tailored to meet local authorities’ specifications to provide for the product’s safe and appropriate distribution and use. These programs may vary by country and, depending upon the country and the design of the risk-management program, the product may be sold through hospitals or retail pharmacies. OTEZLA®, ABRAXANE®, ISTODAX® and VIDAZA® are distributed through the more traditional pharmaceutical industry supply chain and are not subject to the same risk-management distribution programs as REVLIMID®, POMALYST®/IMNOVID® and THALOMID®/Thalidomide Celgene®.
We base our sales returns allowance on estimated on-hand retail/hospital inventories, measured end-customer demand as reported by third-party sources, actual returns history and other factors, such as the trend experience for lots where product is still being returned or inventory centralization and rationalization initiatives conducted by major pharmacy chains, as applicable. If the historical data we use to calculate these estimates do not properly reflect future returns, then a change in the allowance would be made in the period in which such a determination is made and revenues in that period could be materially affected. Under this methodology, we track actual returns by individual production lots. Returns on closed lots, that is, lots no longer eligible for return credits, are analyzed to determine historical returns experience. Returns on open lots, that is, lots still eligible for return credits, are monitored and compared with historical return trend rates. Any changes from the historical trend rates are considered in determining the current sales return allowance. As noted above, REVLIMID®, POMALYST®/IMNOVID® and THALOMID®/Thalidomide Celgene® are distributed primarily through hospitals and contracted pharmacies, which are typically subject to tighter controls of inventory quantities within the supply channel and, thus, resulting in lower returns activity.
Sales discount accruals are based on payment terms extended to customers.
Government rebate accruals are based on estimated payments due to governmental agencies for purchases made by third parties under various governmental programs. U.S. Medicaid rebate accruals are generally based on historical payment data and estimates of future Medicaid beneficiary utilization applied to the Medicaid unit rebate formula established by the Center for Medicaid and Medicare Services. The Medicaid rebate percentage was increased and extended to Medicaid Managed Care Organizations in March 2010. The accrual of the rebates associated with Medicaid Managed Care Organizations is calculated based on estimated historical patient data related to Medicaid Managed Care Organizations. We also analyze actual billings received from the states to further support the accrual rates. Manufacturers of pharmaceutical products are responsible for 50% of the patient’s cost of branded prescription drugs related to the Medicare Part D Coverage Gap. In order to estimate the cost to us of this coverage gap responsibility, we analyze data for eligible Medicare Part D patients against data for eligible Medicare Part D patients treated with our products as well as the historical invoices. This expense is recognized throughout the year as costs are incurred. In certain international markets government-sponsored programs require rebates to be paid based on program specific rules and, accordingly, the rebate accruals are determined primarily on estimated eligible sales.
Rebates or administrative fees are offered to certain wholesale customers, group purchasing organizations and end-user customers, consistent with pharmaceutical industry practices. Settlement of rebates and fees may generally occur from one to 15 months from the date of sale. We record a provision for rebates at the time of sale based on contracted rates and historical redemption rates. Assumptions used to establish the provision include level of wholesaler inventories, contract sales volumes and average contract pricing. We regularly review the information related to these estimates and adjust the provision accordingly.
Chargeback accruals are based on the differentials between product acquisition prices paid by wholesalers and lower government contract pricing paid by eligible customers covered under federally qualified programs. Distributor service fee accruals are based on contractual fees to be paid to the wholesale distributor for services provided. TRICARE is a health care program of the U.S. Department of Defense Military Health System that provides civilian health benefits for military personnel, military retirees and their dependents. TRICARE rebate accruals are included in chargeback accruals and are based on estimated Department of Defense eligible sales multiplied by the TRICARE rebate formula.
See Critical Accounting Estimates and Significant Accounting Policies below for further discussion of gross to net sales accruals.
Gross to net sales accruals and the balance in the related allowance accounts for the years ended December 31, 2016, 2015 and 2014 were as follows (in millions):
A comparison of provisions for allowances for sales within each of the four categories noted above for 2016 and 2015 follows:
2016 compared to 2015: Provisions for sales returns decreased by $5.6 million in 2016 compared to 2015, primarily due to the ABRAXANE® allowances for sales returns being $5.0 million higher in 2015 than in 2016 due to an increase in inventory levels held by certain distributors in 2015. Provisions for sales returns also decreased by $1.0 million each for both REVLIMID® and ISTODAX®. These reductions were partially offset by a $1.5 million increase in the returns allowance for OTEZLA® in 2016 primarily related to returns of product that had reached their expiration dates.
Discount provisions increased by $41.8 million in 2016 compared to 2015, primarily due to increased sales volumes. The $41.8 million increase consisted of a $37.7 million increase in the United States and a $4.1 million increase related to international markets. The U.S. increases included increases of $21.0 million for cash discounts related to REVLIMID®, $12.8 million related to OTEZLA® and $4.3 million related to POMALYST®.
Government rebate provisions increased by $269.3 million in 2016 compared to 2015, primarily due to a $120.8 million increase in international government rebates. The increase in international government rebates was primarily driven by higher sales volumes for our primary products in Europe and increased international rebate rates, as well as an adjustment of our accrual to reflect higher rebate rates for IMNOVID® in France. The increase in the allowance for sales of IMNOVID® in France related to prior periods was $15.1 million and the increase for sales of IMNOVID® in the current year due to higher rebate rates in France was $23.2 million. The $148.5 million increase in the U.S. market was primarily due to higher sales volumes and increased rebate rates, with $107.7 million due to an increase in Medicaid rebates (primarily in the managed care channel) and $40.8 million due to an increase in expense related to Medicare Part D Coverage Gap.
Chargebacks and distributor service fees provisions increased by $211.8 million in 2016 compared to 2015. Chargebacks increased by approximately $140.4 million and distributor service fees increased by approximately $71.4 million. The chargeback increases were primarily due to higher sales volumes, including an $11.4 million increase related to the TRICARE program driven by higher sales volume and increased rebate rates. The distributor service fee increase was primarily attributable to OTEZLA®, which accounted for $64.1 million of the increase in distributor service fees.
2015 compared to 2014: Provisions for sales returns increased by $13.8 million in 2015 compared to 2014, primarily due to a $5.0 million increase in ABRAXANE® returns reserve allowance related to inventory levels held by certain distributors at the end of 2015. Higher net product sales volumes and elevated returns activity in the U.S. market also resulted in $6.0 million of increases in 2015. In addition, $4.8 million of reductions in returns reserves were recorded in 2014 for the migration of THALOMID® to specialty pharmacies and for VIDAZA® inventory levels held at distributors following competition from generic versions of VIDAZA®. These increases were partially offset by a $2.4 million decrease related to POMALYST® in 2015 due to lower returns activity.
Discount provisions increased by $23.8 million in 2015 compared to 2014, primarily due to increased sales volumes. The $23.8 million increase consisted of a $24.3 million increase in the United States, which included increases of $13.4 million of cash discounts related to REVLIMID®, $8.9 million related to OTEZLA® and $3.0 million related to POMALYST®. The U.S. increases were partly offset by a $0.5 million decrease related to international cash discounts.
Government rebate provisions increased by $132.4 million in 2015 compared to 2014, primarily due to a $97.9 million increase in international government rebates, due to higher sales volumes and increased rebate rates, and a $26.4 million increase related to Medicaid rebates due to increased sales and Medicaid expansion and a $8.1 million increase in expense related to Medicare Part D Coverage Gap.
Chargebacks and distributor service fees provisions increased by $164.1 million in 2015 compared to 2014. Chargebacks increased by approximately $102.1 million and distributor service fees increased by approximately $62.0 million. The chargeback increases were primarily due to higher sales volumes and a greater portion of sales qualifying for chargeback rebates. The distributor service fee increase was primarily attributable to OTEZLA®, which launched in April 2014, resulting in an increase of $49.3 million in service fees for 2015.
Cost of Goods Sold (excluding amortization of acquired intangible assets): Cost of goods sold and related percentages for the years ended December 31, 2016, 2015 and 2014 were as follows (dollar amounts in millions):
Cost of goods sold (excluding amortization of acquired intangible assets) increased by $17.9 million to $438.0 million in 2016 compared to 2015. The increase was primarily due to the higher level of net product sales. As a percent of net product sales, cost of goods sold (excluding amortization of acquired intangible assets) decreased to 3.9% for 2016 compared to 4.6% for 2015, primarily due to OTEZLA® and POMALYST®, which have lower cost, making up a higher percentage of net product sales, while sales of ABRAXANE® and azacitidine for injection, which have higher cost, made up a lower percentage of net product sales.
Cost of goods sold (excluding amortization of acquired intangible assets) increased by $34.2 million to $420.1 million in 2015 compared to 2014. The increase was primarily due to the higher level of net product sales. The changing mix of product sales toward lower cost products that was seen in 2016 compared to 2015 also occurred in 2015 compared to 2014. As a percent of net product sales, cost of goods sold (excluding amortization of acquired intangible assets) decreased to 4.6% for 2015 compared to 5.1% for 2014, primarily due to OTEZLA® and POMALYST®, which have lower cost, making up a higher percentage of net product sales, while sales of ABRAXANE® and azacitidine for injection, which have higher cost, made up a lower percentage of net product sales.
Research and Development: Research and development costs are expensed as incurred and primarily include salary and benefit costs, third-party grants and fees paid to clinical research organizations, supplies, upfront and milestone payments resulting from collaboration arrangements and expenses for research and development asset acquisitions.
Research and development expenses and related percentages for the years ended December 31, 2016, 2015 and 2014 were as follows (dollar amounts in millions):
Research and development expenses increased by $772.8 million to $4.470 billion in 2016, compared to 2015. The increase was primarily due to $892.9 million of research and development asset acquisition expense associated with the purchases of EngMab, Acetylon, and Triphase as well as increases in activity in support of our early- to mid-stage product pipeline, partially offset by decreases in expenses related to collaboration arrangements. See Note 2 of Notes to Consolidated Financial Statements contained in this Annual Report on Form 10-K for additional details related to our purchases of EngMab, Acetylon, and Triphase.
Research and development expenses increased by $1.267 billion to $3.697 billion in 2015 compared to 2014. The increase was primarily due to a $1.024 billion increase in expenses related to collaboration arrangements.
The following table provides a breakdown of research and development expenses (in millions):
We make significant investments in research and development in support of multiple ongoing proprietary clinical development programs which support both our existing products and pipeline of new drug candidates. See Item 1. "Business" for a table summarizing the current stage of development of both our commercial stage products and new drug candidates. See Note 17 of Notes to Consolidated Financial Statements contained in this Annual Report on Form 10-K for additional details related to certain of our collaboration arrangements.
We do not collect costs on a project basis or for any category of projects for the majority of costs involved in carrying out research projects. While we do perform cost calculations to facilitate our internal evaluation of individual projects, these calculations include significant estimations and allocations that are not relevant to, or included in, our external financial reporting mechanisms. As a consequence, we do not report research and development costs at the project level.
The following table presents significant developments in our phase III clinical trials and regulatory approval requests that occurred during the three-month period ended December 31, 2016, as well as developments that are expected to occur if the future occurrence is material and reasonably certain:
Regulatory approval requests in major markets:
Product
Disease Indication
Major
Market
Regulatory
Agency
Action
enasidenib
Relapsed or refractory acute myeloid leukemia with isocitrate dehydrogenase-2 (IDH2) mutation
U.S.
FDA
Q4 2016 (submitted)
Regulatory agency actions:
Product
Disease Indication
Major
Market
Regulatory
Agency
Action
REVLIMID®
NDMM post-ASCT maintenance
EU
CHMP1
Positive Opinion
OTEZLA®
Psoriasis, Psoriatic arthritis
Japan
PMDA2
Approval
1 European Medicines Agency’s Committee for Medicinal Products for Human Use
2 Pharmaceuticals and Medical Devices Agency
Selling, General and Administrative: Selling, general and administrative expenses primarily include salary and benefit costs for employees included in our sales, marketing, finance, legal and administrative organizations, costs related to the launch of new products or those approved for new indications, outside professional services, donations to independent non-profit patient assistance organizations in the United States and facilities costs.
Selling, general and administrative expenses and related percentages for the years ended December 31, 2016, 2015 and 2014 were as follows (dollar amounts in millions):
Selling, general and administrative expenses increased by $352.3 million to $2.658 billion for 2016 compared to 2015. The increase was primarily due to a $198.5 million litigation-related loss contingency accrual expense, and an $89.1 million increase in selling and marketing activities. See Note 18 of Notes to Consolidated Financial Statements contained in this Annual Report on Form 10-K for additional details related to the litigation-related loss contingency accrual expense.
Selling, general and administrative expenses increased by $277.5 million to $2.305 billion in 2015 compared to 2014. The increase was primarily due to increases in expenses associated with our growing organization to support inflammation and immunology products and product candidates, such as OTEZLA® as well as increases in selling and marketing activities related to recently approved indications for REVLIMID®, OTEZLA® and POMALYST®/IMNOVID®.
Amortization of Acquired Intangible Assets: Amortization of intangible assets acquired as a result of business combinations is summarized below for the years ended December 31, 2016, 2015 and 2014 (in millions):
Amortization of acquired intangible assets increased by $180.0 million to $459.0 million in 2016 compared to 2015. The increase in amortization expense primarily related to an $83.1 million impairment charge as well as $18.4 million of accelerated amortization expense, both related to the technology platform obtained in the Avila acquisition, amortization of the technology platform acquired in the October 2015 acquisition of Quanticel Pharmaceuticals, Inc. (Quanticel), and a reduction in the estimated useful lives of intangible assets obtained in the acquisition of Gloucester Pharmaceuticals, Inc. (Gloucester) following the grant to Fresenius Kabi USA, LLC of a non-exclusive, royalty-free sublicense to manufacture and market a generic version of romidepsin for injection as of February 1, 2018.
Amortization of acquired intangible assets increased by $20.7 million to $279.0 million in 2015 compared to 2014 primarily due to the amortization of the technology platform asset recorded in the acquisition of Quanticel and an acceleration of amortization expense related to certain Gloucester related intangible assets, partly offset by certain Abraxis related intangibles becoming fully amortized during the first half of 2014.
Acquisition Related Charges and Restructuring, net: Acquisition related charges and restructuring, net is summarized below for the years ended December 31, 2016, 2015 and 2014 (in millions):
Acquisition related charges and restructuring, net decreased by $261.8 million to $37.8 million in 2016 compared to 2015. The decrease in the net expense for the current year period compared to the prior year period was primarily due to a $296.7 million reduction in costs related to the acquisition of Receptos which occurred in August 2015 and a $61.3 million increase in the benefit recorded for adjustments to contingent consideration issued as part of the acquisition of Avila related to adjustments made to estimates of probability and timing of future potential milestone payments payable to the former shareholders of Avila. These benefits were partly offset by a $77.1 million reduction in benefit recorded for fair value adjustments to our liability related to publicly traded contingent value rights (CVRs) that were issued as part of the acquisition of Abraxis BioScience, Inc. (Abraxis), an $8.1 million increase in expense related to our contingent liabilities for the Quanticel acquisition, and a $6.5 million increase in restructuring charges in the current year period related to our relocation of certain operations into our two Summit, NJ locations as well as costs associated with certain headcount reductions.
Acquisition related charges and restructuring, net increased by $250.9 million to $299.6 million in 2015 compared to $48.7 million in 2014. The increase was due to $296.8 million in costs related to the acquisition of Receptos in August 2015, a $28.3 million increase in expense in the current year period related to our contingent liabilities for the Nogra Pharma Limited (Nogra) acquisition, which was acquired in the second quarter of 2014, a $18.7 million reduction in the benefit recorded in the current year period for our contingent liabilities related to the Avila acquisition compared to the prior year period, and $9.9 million of restructuring charges related to our relocation of certain operations into our two Summit, NJ locations as well as costs associated with certain headcount reductions. These increases in expense were partly offset by a $102.6 million reduction in expense in the current year period related to reductions in the fair value of our liability related to publicly traded CVRs that were issued as part of the acquisition of Abraxis in 2010.
Interest and Investment Income, Net: Interest and investment income, net is summarized below for the years ended December 31, 2016, 2015 and 2014 (dollar amounts in millions):
Interest and investment income, net which includes the net income associated with our investments in available-for-sale marketable securities, decreased by $0.8 million to $30.3 million in 2016 compared to 2015.
Interest and investment income, net increased by $2.9 million to $31.1 million in 2015 compared to 2014 primarily due to lower losses on the sale of marketable securities in 2015 compared to the prior year.
Interest Expense: Interest expense is summarized below for the years ended December 31, 2016, 2015 and 2014 (dollar amounts in millions):
Interest expense increased by $189.5 million to $500.1 million for 2016 compared to 2015 primarily due to interest expense associated with the issuance of $8.000 billion of senior notes in August 2015. For more information related to our debt issuances, see “Liquidity and Capital Resources” and Note 11 of Notes to Consolidated Financial Statements contained in this Annual Report on Form 10-K.
Interest expense increased by $134.5 million to $310.6 million in 2015 compared to 2014 primarily due to interest expense associated with the issuance of $8.000 billion of senior notes in August 2015 and $2.500 billion in May 2014.
Other Income (Expense), Net: Other income (expense), net is summarized below for the years ended December 31, 2016, 2015 and 2014 (in millions):
Other income (expense), net was a net expense of $324.3 million for 2016 and a net income of $48.4 million for 2015. The $372.7 million increase in net expense was primarily due to increased impairment charges recorded in the 2016 period related to certain equity investments and a gain on the sale of our equity investment in Flexus that was recorded in 2015, partly offset by a gain on the sale of our LifebankUSA business and a gain on Celgene puts sold.
Other income (expense), net was a net income of $48.4 million for 2015 and a net expense of $43.7 million for 2014. The $92.1 million increase in net income was primarily due to a gain on the sale of our equity investment in Flexus and currency fluctuations, partly offset by higher impairment charges incurred in 2015 when compared to 2014.
Income Tax Provision: The income tax provision decreased by $48.2 million to $373.3 million in 2016 compared to 2015 as a result of a decrease in the effective tax rate, partially offset by an increase in income before taxes. The effective tax rate for 2016 is 15.7%. Our effective tax rate is a function of the distribution of our pre-tax income among the many jurisdictions in which we operate. Our pre-tax income is earned and taxed in either the U.S. at a statutory tax rate of 35%, or outside the U.S. at significantly lower statutory tax rates. The differences in tax rates between jurisdictions can significantly impact our effective tax rate as our business changes and pre-tax earnings shift from year to year. The effective tax rate for 2015 was 20.8%. The 5.1 percentage point decrease in our effective tax rate in 2016 compared to 2015 is primarily the result of tax benefits related to a loss on our investment in Avila, offset by a non-deductible pre-tax charge related to our acquisition of Acetylon and non-recurring charges to tax expense recorded in 2015 related to both the global mix of funding sources for payments to collaboration partners, primarily the initiation of our collaborations with AstraZeneca PLC (AstraZeneca) and Juno, and an increase in the valuation allowance for certain deferred tax assets obtained in our acquisition of Receptos, Inc. (Receptos).
The income tax provision increased by $94.0 million to $421.5 million in 2015 compared to 2014 primarily as a result of an increase in the effective tax rate, partially offset by a decrease in income before taxes. The effective tax rate for 2015 was 20.8%. The effective tax rate for 2014 was 14.1%. The 6.7 percentage point increase in our effective tax rate in 2015 compared to 2014 was primarily the result of an increase in tax expense related to the global mix of funding sources for payments to collaboration partners, primarily the initiation of our collaborations with AstraZeneca and Juno, and an increase in the valuation allowance for certain deferred tax assets obtained in our acquisition of Receptos, partially offset by a non-recurring tax expense recorded in 2014 related to the launch of new products.
Accounting Standards Update No. 2016-09, "Compensation-Stock Compensation" (ASU 2016-09) changes several aspects of the accounting for share-based payment transactions including requiring all excess tax benefits and tax deficiencies to be recognized in the income tax provision. The new standard will be effective for us on January 1, 2017. We anticipate that the new standard will have a favorable impact on our effective tax rate in 2017. The amount of the reduction to our effective tax rate will depend upon future movements in our share price as well as the magnitude of stock award exercises, which are both difficult to estimate. See Note 1 of Notes to Consolidated Financial Statements contained in this Annual Report on Form 10-K for additional information related to this accounting standard update.
In addition to our future adoption of ASU 2016-09, our future effective tax rate can be materially impacted by shifts in the distribution of our pre-tax income among the jurisdictions where we operate, as well as payments to collaboration partners, acquisitions, divestitures, changes in tax laws, audit settlements, and many other factors which are difficult to forecast.
Net Income: Net income and per common share amounts for the years ended December 31, 2016, 2015 and 2014 were as follows (dollar amounts in millions, except per share data):
The $397.2 million increase in net income to $1.999 billion in 2016 compared to 2015 was primarily due to a higher level of net product sales and a $601.9 million reduction in collaboration-related expenses, partly offset by increases in other expenses, including $892.9 million of research and development asset acquisition expense associated with the purchases of EngMab, Acetylon and Triphase, $345.3 million of increased impairment charges related to strategic equity investments, which included $272.2 million related to our equity investment in Juno, an increase in selling, general and administrative expenses primarily due to a $198.5 million litigation-related loss contingency accrual expense, and an $83.1 million impairment charge related to the technology platform obtained in our 2012 acquisition of Avila.
The $397.9 million decrease in net income to $1.602 billion in 2015 compared to 2014 was primarily due to higher research and development collaboration related expenses, which included upfront expenses of $575.1 million, $450.0 million, and $149.8 million for our collaborations with Juno, AstraZeneca and Nurix, respectively, as well as $400.4 million of expenses associated with the acquisition and operations of Receptos. The increased collaboration and acquisition related expenses in 2015 were partly offset by higher net product sales as well as an $85.9 million realized gain on the sale of our equity investment in Flexus Biosciences, Inc. in April 2015. The $0.45 decrease in diluted earnings per share in 2015 compared to 2014 was favorably impacted by the repurchase of 28.1 million common shares under our common share repurchase program, reducing our outstanding share base.
Liquidity and Capital Resources
The following table summarizes the components of our financial condition for the years ended December 31, 2016, 2015 and 2014 (in millions):
Includes cash, cash equivalents and marketable securities available-for-sale, accounts receivable, net of allowances, inventory and other current assets, less short-term borrowings and current portion of long-term debt, accounts payable, accrued expenses and other current liabilities, and income taxes payable.
We rely primarily on positive cash flows from operating activities, proceeds from sales of available-for-sale marketable securities and borrowings in the form of long-term notes payable and short-term commercial paper to provide for our liquidity requirements. We expect continued growth in our expenditures, particularly those related to research and development, clinical trials, commercialization of new products, international expansion and capital investments. However, we anticipate that existing cash and cash equivalent balances, marketable securities available-for-sale, cash generated from operations and existing sources of and access to financing are adequate to fund our operating needs, capital expenditures, debt service requirements and our plans to purchase our stock and pursue strategic business initiatives for the foreseeable future.
Many of our operations are conducted outside the United States and significant portions of our cash, cash equivalents and short-term investments are held internationally. As of December 31, 2016, we held approximately $6.113 billion of these short-term funds in foreign tax jurisdictions. The amount of funds held in U.S. tax jurisdictions can fluctuate due to the timing of receipts and payments in the ordinary course of business, including intercompany transactions, as well as for other reasons, such as repurchases of our common stock, internal reorganizations, business-development activities and debt issuances. As part of our ongoing liquidity assessments, we regularly monitor the mix of domestic and international cash flows (both inflows and outflows). Repatriation of overseas funds can result in additional U.S. federal, state and local income tax payments. We record U.S. deferred tax liabilities for certain unremitted earnings, but when amounts earned overseas are expected to be permanently reinvested outside of the United States, no accrual for U.S. taxes is provided. Approximately $900.0 million of our foreign earnings, included in the $6.113 billion of short-term funds in foreign tax jurisdictions, may not be required for use in offshore operations and may be available for use in the United States. These earnings are not treated as permanently reinvested and accordingly, our deferred tax liabilities as of December 31, 2016 and December 31, 2015 included $316.5 million for the estimated U.S. federal and state income taxes that may be incurred should these earnings be repatriated. The remaining foreign earnings are unremitted and expected to be permanently reinvested outside the United States. We do not rely on these earnings as a source of funds for our domestic business as we expect to have sufficient current cash resources combined with future cash flows in the United States to fund our U.S. operational and strategic needs.
Share Repurchase Program: In June 2016, our Board of Directors approved an increase of $3.000 billion to our authorized share repurchase program, bringing the total amount authorized since April 2009 to an aggregate of up to $20.500 billion of our common stock of which we have approximately $4.731 billion remaining for future share repurchases. During 2016, we used $2.160 billion for repurchases of our common stock, measured on a settlement date basis.
Components of Working Capital
Cash, Cash Equivalents and Marketable Securities Available for Sale: We invest our excess cash primarily in money market funds, repurchase agreements, time deposits, U.S. Treasury securities, U.S. government-sponsored agency mortgage-backed securities (MBS), global corporate debt securities and asset backed securities. All liquid investments with maturities of three months or less from the date of purchase are classified as cash equivalents and all investments with maturities of greater than three months from the date of purchase are classified as marketable securities available-for-sale. The $1.418 billion increase in cash, cash equivalents and marketable securities available for sale at December 31, 2016 compared to 2015 was primarily due to $3.976 billion of net cash from operating activities, partially offset by $2.160 billion of payments under our share repurchase program and $562.5 million of net unrealized holding losses on marketable securities available-for-sale.
Marketable securities available-for-sale are carried at fair value, held for an unspecified period of time and are intended for use in meeting our ongoing liquidity needs. Unrealized gains and losses on available-for-sale securities, which are deemed to be temporary, are reported as a separate component of stockholders' equity, net of tax. The cost of debt securities is adjusted for amortization of premiums and accretion of discounts to maturity. The amortization, along with realized gains and losses and other than temporary impairment charges, is included in interest and investment income, net. For more information related to the fair value and valuation of our marketable securities, see Note 4 of Notes to Consolidated Financial Statements contained in this Annual Report on Form 10-K.
Accounts Receivable, Net: Accounts receivable, net increased by $199.7 million to $1.621 billion at December 31, 2016 compared to December 31, 2015. Sales made outside the United States typically have payment terms that are greater than 60 days, thereby extending collection periods beyond those in the United States. We expect our accounts receivable balance to grow as our international sales continue to expand.
We continue to monitor economic conditions, including the volatility associated with international economies, the sovereign debt situation in certain European countries and associated impacts on the financial markets and our business. Our current business model in these markets is typically to sell our products directly to principally government owned or controlled hospitals, which in turn directly deliver critical care to patients. Our products are used to treat life-threatening diseases and we believe this business model enables timely delivery and adequate supply of products. Many of the outstanding receivable balances are related to government-funded hospitals and we believe the receivable balances are ultimately collectible. Similarly, we believe that future sales to these customers will continue to be collectible.
Inventory: Inventory balances increased by $54.5 million to $497.9 million at the end of 2016 compared to 2015. The increase was primarily due to an increase in ABRAXANE® raw materials.
Other Current Assets: Other current assets decreased by $205.4 million to $779.3 million at the end of 2016 compared to 2015 due to a $47.7 million decrease in the fair value of derivative instruments recorded as Other current assets, a $115.5 million decrease in prepaid taxes and a $42.2 million net decrease in other accounts.
Commercial Paper: We have a commercial paper program (Program) under which we issue unsecured commercial paper notes (Commercial Paper) on a private placement basis, the proceeds of which are used for general corporate purposes. In April 2016 our Board of Directors authorized an increase in the maximum amount of commercial paper issuable to $2.000 billion. As of December 31, 2016, we had available capacity to issue up to $2.000 billion of Commercial Paper and there were no borrowings under the Program. The maturities of the Commercial Paper may vary, but may not exceed 270 days from the date of issue. The Commercial Paper is sold under customary terms to a dealer or in the commercial paper market and is issued at a discount from par or, alternatively, is sold at par and bears varying interest rates on a fixed or floating basis. Borrowings under the Program, if any, are accounted for as short-term borrowings.
Senior Unsecured Credit Facility: We maintain a senior unsecured revolving credit facility (Credit Facility) that provides revolving credit in the aggregate amount of $2.000 billion which was increased from $1.750 billion in April 2016 and extended from April 17, 2020 to April 17, 2021. Amounts may be borrowed in U.S. Dollars for general corporate purposes. The Credit Facility currently serves as backup liquidity for our Commercial Paper borrowings. At December 31, 2016, there was no outstanding borrowing against the Credit Facility.
The Credit Facility contains affirmative and negative covenants, including certain customary financial covenants. We were in compliance with all financial covenants as of December 31, 2016.
Accounts Payable, Accrued Expenses and Other Current Liabilities: Accounts payable, accrued expenses and other current liabilities increased by $473.6 million to $2.362 billion at the end of 2016 compared to 2015. The increase was primarily due to increases of $194.5 million for sales adjustment accruals, $198.5 million for a litigation-related loss contingency accrual, $86.7 million for clinical trial and research and development expense accruals and $60.4 million for compensation-related accruals and $99.5 million of net other increases. These increases were partially offset by decreases of $103.5 million related to collaboration agreement accruals and $62.5 million of contingent consideration related accruals.
Income Taxes Payable (Current and Non-Current): Income taxes payable increased by $117.6 million to $461.6 million at the end of 2016 compared to 2015, primarily from the current provision for income taxes of $717.3 million and net deferred intercompany credits of $21.9 million, offset by income tax payments of $373.0 million, tax benefits of share-based compensation of $186.2 million and a decrease in refundable income taxes of $65.6 million.
Senior Notes: We have an aggregate of $14.250 billion principal amount of senior notes outstanding with varying maturity dates from 2017 through 2045, with $500.0 million maturing in August 2017.
Cash flows from operating, investing and financing activities for the years ended December 31, 2016, 2015 and 2014 were as follows (in millions):
Operating Activities: Net cash provided by operating activities increased by $1.492 billion to $3.976 billion in 2016 compared to 2015. The increase in net cash provided by operating activities was primarily attributable to an increase in net income of $397.2 million in 2016 compared to 2015, which included a $493.5 million net increase in adjustments to reconcile net income to net cash provided by operating activities for items such as impairment charges, derivative activities, changes in deferred income taxes and amortization expenses compared to 2015. Derivative activities during 2016 included cash receipts of $195.6 million related to the settlement of interest rate swap contracts that had been designated as fair value hedges of certain of our fixed rate notes. Increases in net cash provided by operating activities were also driven by a $420.4 million increase in change in other operating assets primarily attributable to a $297.6 million decrease in prepaid taxes and a $91.9 million increase in change in accounts payable and other operating liabilities primarily attributable to an increase of $198.5 million of accrued expenses related to a litigation-related loss contingency accrual as well as other balance sheet fluctuations.
Net cash provided by operating activities decreased by $322.4 million to $2.484 billion in 2015 compared to 2014 primarily attributable to a decrease in net income of $397.9 million in 2015 compared to 2014 driven by increased research and development collaboration related expenses.
Investing Activities: Net cash used in investing activities decreased by $5.257 billion in 2016 compared to 2015. The decrease in net cash used in investing activities was primarily the result of the purchases of Receptos and Quanticel in 2015 without a corresponding purchase in 2016, resulting in a cash usage of $7.695 billion during 2015, partially offset by a decrease in cash provided by net purchases and sales of marketable securities available for sale. Net purchases of marketable securities available for sale during 2016 amounted to a net cash usage of $647.7 million during 2016 compared to net cash proceeds of $1.910 billion from net sales of marketable securities available for sale during 2015.
Net cash used in investing activities increased by $4.821 billion in 2015 compared to 2014. The increase in net cash used in investing activities was primarily due to $7.695 billion of payments for the acquisitions of Receptos and Quanticel, net of cash acquired. This was partially offset by net proceeds of $1.910 billion from net sales of marketable securities available-for-sale during 2015 compared with $485.5 million of net purchases of marketable securities available-for-sale during 2014. In addition, $710.0 million was used for the acquisition of Nogra in 2014.
Financing Activities: Net cash used in financing activities was $1.646 billion in 2016 compared to net cash provided by financing activities of $4.585 billion in 2015. The decrease in net cash provided by financing activities was primarily attributable to the 2015 issuance of long-term debt which provided $7.913 billion.
Net cash provided by financing activities increased by $5.002 billion in 2015 compared to 2014. The increase in net cash provided by financing activities was primarily attributable to the $5.443 billion increase in proceeds from the issuance of long-term debt partially offset by the $513.9 million re-payment of long-term debt.
Contractual Obligations
The following table sets forth our contractual obligations as of December 31, 2016 (in millions):
The senior note obligation amounts include future principal and interest payments for both current and non-current obligations.
Senior Notes: In August 2015, we issued an additional $8.000 billion principal amount of senior notes consisting of $1.000 billion aggregate principal amount of 2.125% Senior Notes due 2018, $1.500 billion aggregate principal amount of 2.875% Senior Notes due 2020, $1.000 billion aggregate principal amount of 3.550% Senior Notes due 2022, $2.500 billion aggregate principal amount of 3.875% Senior Notes due 2025 and $2.000 billion aggregate principal amount of 5.000% Senior Notes due 2045.
In May 2014, we issued a total of $2.500 billion principal amount of senior notes consisting of $500.0 million aggregate principal amount of 2.250% Senior Notes due 2019, $1.000 billion aggregate principal amount of 3.625% Senior Notes due 2024 and $1.000 billion aggregate principal amount of 4.625% Senior Notes due 2044.
In August 2013, we issued a total of $1.500 billion principal amount of senior notes consisting of $400.0 million aggregate principal amount of 2.300% Senior Notes due 2018, $700.0 million aggregate principal amount of 4.000% Senior Notes due 2023 and $400.0 million aggregate principal amount of 5.250% Senior Notes due 2043.
In August 2012, we issued a total of $1.500 billion principal amount of senior notes consisting of $500.0 million aggregate principal amount of 1.90% Senior Notes due 2017, and $1.000 billion aggregate principal amount of 3.25% Senior Notes due 2022.
In October 2010, we issued a total of $1.250 billion principal amount of senior notes consisting of $500.0 million aggregate principal amount of 2.45% Senior Notes which matured and were repaid in 2015, $500.0 million aggregate principal amount of 3.95% Senior Notes due 2020 and $250.0 million aggregate principal amount of 5.7% Senior Notes due 2040.
Operating Leases: We lease office and research facilities under various operating lease agreements in the United States and various international markets. The non-cancelable lease terms for operating leases expire at various dates between 2017 and 2025 and include renewal options. In general, we are also required to reimburse the lessors for real estate taxes, insurance, utilities, maintenance and other operating costs associated with the leases. For more information on the major facilities that we occupy under lease arrangements refer to Part I, Item 2. "Properties" of this Annual Report on Form 10-K.
Other Contract Commitments: Other contract commitments of $238.2 million as of December 31, 2016 primarily included $172.2 million in contractual obligations related to product supply contracts. In addition, we have committed to invest an aggregate $66.0 million in investment funds, which are callable at any time.
Collaboration Arrangements and Acquired Research and Development Assets: We have entered into certain research and development collaboration agreements with third parties and have acquired research and development assets from third parties with the potential for future milestone and royalty payments 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 which could cause the discontinuance of the programs. Due to the nature of these arrangements, the future potential payments related to the attainment of specified development, regulatory approval and sales-based milestones
over a period of several years are inherently uncertain, and accordingly, no amounts have been recorded for these future potential payments in our Consolidated Balance Sheets at December 31, 2016 and 2015 contained in this Annual Report on Form 10-K. Potential milestone payments (not including potential royalty payments) total approximately $8.568 billion, including approximately $4.006 billion contingent on the achievement of various research, development and regulatory approval milestones and approximately $4.562 billion in sales-based milestones. For additional information about our collaboration arrangements and acquisitions of research and development assets, see Note 17 and Note 2, respectively, of Notes to Consolidated Financial Statements contained in this Annual Report on Form 10-K.
New Accounting Standards
For a discussion of new accounting standards please see Note 1 of Notes to Consolidated Financial Statements contained in this Annual Report on Form 10-K.
Critical Accounting Estimates and Significant Accounting Policies
A critical accounting policy is one that is both important to the portrayal of our financial condition and results of operation and requires management's most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain. While our significant accounting policies are more fully described in Note 1 of Notes to Consolidated Financial Statements included in this Annual Report on Form 10-K, we believe the following accounting estimates and policies to be critical:
Revenue Recognition: Revenue from the sale of products is recognized when title and risk of loss of the product is transferred to the customer and the sales price is fixed and determinable. Provisions for discounts, early payments, rebates, sales returns and distributor chargebacks under terms customary in the industry are provided for in the same period the related sales are recorded. We record estimated reductions to revenue for volume-based discounts and rebates at the time of the initial sale. The estimated reductions to revenue for such volume-based discounts and rebates are based on the sales terms, historical experience and trend analysis.
We recognize revenue from royalties based on licensees' sales of our products or products using our technologies. Royalties are recognized as earned in accordance with the contract terms when royalties from licensees can be reasonably estimated and collectability is reasonably assured. If royalties cannot be reasonably estimated or collectability of a royalty amount is not reasonably assured, royalties are recognized as revenue when the cash is received.
Gross to Net Sales Accruals: We base our sales returns allowance on estimated on-hand retail/hospital inventories, measured end-customer demand as reported by third-party sources, actual returns history and other factors, such as the trend experience for lots where product is still being returned or inventory centralization and rationalization initiatives conducted by major pharmacy chains, as applicable. If the historical data we use to calculate these estimates do not properly reflect future returns, then a change in the allowance would be made in the period in which such a determination is made and revenues in that period could be materially affected. Under this methodology, we track actual returns by individual production lots. Returns on closed lots, that is, lots no longer eligible for return credits, are analyzed to determine historical returns experience. Returns on open lots, that is, lots still eligible for return credits, are monitored and compared with historical return trend rates. Any changes from the historical trend rates are considered in determining the current sales return allowance. REVLIMID®, POMALYST®/IMNOVID® and THALOMID®/Thalidomide Celgene® are distributed primarily through hospitals and contracted pharmacies, which are typically subject to tighter controls of inventory quantities within the supply channel and, thus, resulting in lower returns activity.
Sales discount accruals are based on payment terms extended to customers.
Government rebate accruals are based on estimated payments due to governmental agencies for purchases made by third parties under various governmental programs. U.S. Medicaid rebate accruals are generally based on historical payment data and estimates of future Medicaid beneficiary utilization applied to the Medicaid unit rebate formula established by the Center for Medicaid and Medicare Services. The Medicaid rebate percentage was increased and extended to Medicaid Managed Care Organizations in March 2010. The accrual of the rebates associated with Medicaid Managed Care Organizations is calculated based on estimated historical patient data related to Medicaid Managed Care Organizations. We also analyze actual billings received from the states to further support the accrual rates. We will continue to adjust the rebate accruals as more information becomes available and to reflect actual claims experience.
Manufacturers of pharmaceutical products are responsible for 50% of the patient’s cost of branded prescription drugs related to the Medicare Part D Coverage Gap. In order to estimate the cost to us of this coverage gap responsibility, we analyze data for eligible Medicare Part D patients against data for eligible Medicare Part D patients treated with our products as well as the historical invoices. This expense is recognized throughout the year as costs are incurred. In certain international markets government-
sponsored programs require rebates to be paid based on program specific rules and, accordingly, the rebate accruals are determined primarily on estimated eligible sales.
Rebates or administrative fees are offered to certain wholesale customers, group purchasing organizations and end-user customers, consistent with pharmaceutical industry practices. Settlement of rebates and fees may generally occur from one to 15 months from the date of sale. We record a provision for rebates at the time of sale based on contracted rates and historical redemption rates. Assumptions used to establish the provision include level of wholesaler inventories, contract sales volumes and average contract pricing. We regularly review the information related to these estimates and adjust the provision accordingly.
Chargeback accruals are based on the differentials between product acquisition prices paid by wholesalers and lower government contract pricing paid by eligible customers covered under federally qualified programs. Distributor service fee accruals are based on contractual fees to be paid to the wholesale distributor for services provided. TRICARE is a health care program of the U.S. Department of Defense Military Health System that provides civilian health benefits for military personnel, military retirees and their dependents. TRICARE rebate accruals are included in chargeback accruals and are based on estimated Department of Defense eligible sales multiplied by the TRICARE rebate formula.
Allowance for Doubtful Accounts: We estimate an allowance for doubtful accounts primarily based on the credit worthiness of our customers, historical payment patterns, aging of receivable balances and general economic conditions, including publicly available information on the credit worthiness of countries themselves and provinces or areas within such countries where they are the ultimate customers.
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 bases of assets and liabilities using enacted tax rates in effect for years in which the temporary differences are expected to reverse. We provide a valuation allowance when it is more likely than not that deferred tax assets will not be realized.
We account for interest and penalties related to uncertain tax positions as part of our provision for income taxes. These unrecognized tax benefits relate primarily to issues common among multinational corporations in our industry. We apply a variety of methodologies in making these estimates which include studies performed by independent economists, advice from industry and subject experts, evaluation of public actions taken by the U.S. Internal Revenue Service and other taxing authorities, as well as our own industry experience. We provide estimates for unrecognized tax benefits. If our estimates are not representative of actual outcomes, our results of operations could be materially impacted.
We periodically evaluate the likelihood of the realization of deferred tax assets, and reduce the carrying amount of these deferred tax assets by a valuation allowance to the extent we believe a portion will not be realized. We consider many factors when assessing the likelihood of future realization of deferred tax assets, including our recent cumulative earnings experience by taxing jurisdiction, expectations of future taxable income, carryforward periods available to us for tax reporting purposes, various income tax strategies and other relevant factors. Significant judgment is required in making this assessment and, to the extent future expectations change, we would have to assess the recoverability of our deferred tax assets at that time. At December 31, 2016, it was more likely than not that we would realize our deferred tax assets, net of valuation allowances.
Share-Based Compensation: We utilize share based compensation in the form of stock options, restricted stock units, or RSUs, and performance-based restricted stock units, or PSUs. Compensation expense is recognized in the Consolidated Statements of Income based on the estimated fair value of the awards at grant date. Compensation expense recognized reflects an estimate of the number of awards expected to vest after taking into consideration an estimate of award forfeitures based on actual experience and is recognized on a straight-line basis over the requisite service period, which is generally the vesting period required to obtain full vesting. Management expectations related to the achievement of performance goals associated with PSU grants is assessed regularly and that assessment is used to determine whether PSU grants are expected to vest. If performance-based milestones related to PSU grants are not met or not expected to be met, any compensation expense recognized to date associated with grants that are not expected to vest will be reversed.
Other-Than-Temporary Impairments of Available-For-Sale Marketable Securities: A decline in the market value of any available-for-sale marketable security below its cost that is deemed to be other-than-temporary results in a reduction in carrying amount to fair value. The impairment is charged to operations and a new cost basis for the security established. The determination of whether an available-for-sale marketable security is other-than-temporarily impaired requires significant judgment and requires consideration of available quantitative and qualitative evidence in evaluating the potential impairment. Factors evaluated to determine whether the investment is other-than-temporarily impaired include: significant deterioration in the issuer's earnings performance, credit rating, asset quality, business prospects of the issuer, adverse changes in the general market conditions in which the issuer operates, length of time that the fair value has been below our cost, our expected future cash flows from the
security, our intent not to sell, an evaluation as to whether it is more likely than not that we will not have to sell before recovery of our cost basis, and issues that raise concerns about the issuer's ability to continue as a going concern. Assumptions associated with these factors are subject to future market and economic conditions, which could differ from our assessment.
Derivatives and Hedging Activities: All derivative instruments are recognized on the balance sheet at their fair value. Changes in the fair value of derivative instruments are recorded each period in current earnings or other comprehensive income (loss), depending on whether a derivative instrument is designated as part of a hedging transaction and, if it is, the type of hedging transaction. For a derivative to qualify as a hedge at inception and throughout the hedged period, we formally document the nature and relationships between the hedging instruments and hedged item. We assess, both at inception and on an on-going basis, whether the derivative instruments that are used in cash flow hedging transactions are highly effective in offsetting the changes in cash flows of hedged items. We assess hedge effectiveness on a quarterly basis and record the gain or loss related to the ineffective portion of derivative instruments, if any, to current earnings. If we determine that a forecasted transaction is no longer probable of occurring, we discontinue hedge accounting and any related unrealized gain or loss on the derivative instrument is recognized in current earnings. We use derivative instruments, including those not designated as part of a hedging transaction, to manage our exposure to movements in foreign exchange, our stock price and interest rates. The use of these derivative instruments modifies the exposure of these risks with the intent to reduce our risk or cost.
Investments in Other Entities: We hold a portfolio of investments in equity securities and certain investment funds that are accounted for under either the equity method or cost method. Investments in companies or certain investment funds over which we have significant influence but not a controlling interest are accounted for using the equity method, with our share of earnings or losses reported in other income (expense), net. Investments in equity securities of companies that become publicly traded are accounted for as available-for-sale marketable securities prospectively from the date of such companies' initial public offering.
Our cost method and equity method investments are included in other assets on the Consolidated Balance Sheets.
All investments are reviewed on a regular basis for possible impairment. If an investment's fair value is determined to be less than its net carrying value and the decline is determined to be other-than-temporary, the investment is written down to its fair value. Such an evaluation is judgmental and dependent on specific facts and circumstances. Factors considered in determining whether an other-than-temporary decline in value has occurred include: market value or exit price of the investment based on either market-quoted prices or future rounds of financing by the investee; length of time that the market value was below its cost basis; financial condition and business prospects of the investee; our intent and ability to retain the investment for a sufficient period of time to allow for recovery in market value of the investment; issues that raise concerns about the investee's ability to continue as a going concern; any other information that we may be aware of related to the investment.
Accounting for Long-Term Incentive Plans: We have established a Long-Term Incentive Plan, or LTIP, designed to provide key officers and executives with performance-based incentive opportunities contingent upon achievement of pre-established corporate performance objectives covering a three-year period. At December 31, 2016, we had recorded liabilities for three separate three-year performance cycles running concurrently and ending December 31, 2016, 2017 and 2018. Performance measures for each of the performance cycles are based on the following components: 37.5% on non-GAAP earnings per share (as defined in the LTIP); 37.5% on total non-GAAP revenue (as defined in the LTIP); and 25% on relative total shareholder return, which is a measurement of our stock price performance during the applicable three-year period compared with a group of other companies in the biopharmaceutical industry.
Threshold, target and maximum cash payout levels are calculated as a percentage between 0% to 200% of each participant’s base salary at the time the LTIP was approved by the Compensation Committee. Such awards are payable in cash or common stock or a mixture of cash and common stock, which will be determined by the Compensation Committee at the time of award delivery. Share-based payout levels are calculated using the cash-based threshold, target and maximum levels, divided by the average closing price of Celgene stock for the 30 trading days prior to the commencement of each performance cycle. Therefore, final share-based award values are reflective of the stock price at the end of the measurement period. The Compensation Committee may determine that payments made in common stock are restricted from trading for a period of time. We accrue the long-term incentive liability over each three-year cycle. Prior to the end of a three-year cycle, the accrual is based on an estimate of our level of achievement during the cycle. Upon a change in control, participants will be entitled to an immediate payment equal to their target award or, if higher, an award based on actual performance through the date of the change in control.
Accruals recorded for the LTIP entail making certain assumptions concerning future non-GAAP earnings per share, non-GAAP revenues and relative total shareholder return, as defined; the actual results of which could be materially different than the assumptions used. Accruals for the LTIP are reviewed on a regular basis and revised accordingly so that the liability recorded reflects updated estimates of future payouts. In estimating the accruals, management considers actual results to date for the
performance period, expected results for the remainder of the performance period, operating trends, product development, pricing and competition.
Valuation of Goodwill, Acquired Intangible Assets, Other Assets and In-Process Research and Development (IPR&D): We have recorded goodwill, acquired intangible assets and IPR&D through acquisitions accounted for as business combinations. When identifiable intangible assets, including in-process research and development and technology platforms are acquired, we determine the fair values of these assets as of the acquisition date. Discounted cash flow models are typically used in these valuations if quoted market prices are not available, and the models require the use of significant estimates and assumptions including but not limited to:
•
projecting regulatory approvals;
•
estimating future cash flows from product sales resulting from completed products and in-process projects or estimating future cash flows expected to be collected; and
•
developing appropriate discount rates and probability rates.
Goodwill represents the excess of purchase price over fair value of net assets acquired in a business combination accounted for by the acquisition method of accounting and is not amortized, but is subject to impairment testing. We test our goodwill for impairment at least annually or when a triggering event occurs that could indicate a potential impairment by assessing qualitative factors or performing a quantitative analysis in determining whether it is more likely than not that the fair value of net assets are below their carrying amounts.
Intangible assets with definite useful lives are amortized to their estimated residual values over their estimated useful lives and reviewed for impairment if certain events occur. Intangible assets related to IPR&D product rights are treated as indefinite-lived intangible assets and not amortized until the product is approved for sale by regulatory authorities in specified markets. At that time, we will determine the useful life of the asset, reclassify the asset out of IPR&D and begin amortization. Impairment testing is also performed at least annually or when a triggering event occurs that could indicate a potential impairment. Such test entails completing an updated discounted cash flow model to estimate the fair value of the IPR&D asset. If required, the impairment test for intangible assets with definite useful lives is completed by comparing an updated non-discounted cash flow model to the book value of the intangible asset.
Valuation of Contingent Consideration Resulting from a Business Combination: We record contingent consideration resulting from a business combination at its fair value on the acquisition date, and for each subsequent reporting period revalue these obligations and record increases or decreases in their fair value as an adjustment to operating earnings in the consolidated statements of income. Changes to contingent consideration obligations can result from movements in publicly traded share prices of CVRs, adjustments to discount rates and periods, updates in the assumed achievement or timing of any development milestones or changes in the probability of certain clinical events and changes in the assumed probability associated with regulatory approval. The assumptions related to determining the value of a contingent consideration include a significant amount of judgment and any changes in the assumptions could have a material impact on the amount of contingent consideration expense recorded in any given period. Our contingent consideration liabilities were recorded in the acquisitions of Gloucester, Abraxis, Avila, Nogra, and Quanticel. The fair values of the Gloucester, Avila, Nogra, and Quanticel contingent consideration liabilities are based on the discount rate, probability and estimated timing of cash milestone payments to the former shareholders of each business. The fair value of the Abraxis contingent consideration liability is based on the quoted market price of the publicly traded CVRs.
ITEM 7A.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The following discussion provides forward-looking quantitative and qualitative information about our potential exposure to market risk. Market risk represents the potential loss arising from adverse changes in the value of financial instruments. The risk of loss is assessed based on the likelihood of adverse changes in fair values, cash flows or future earnings.
We have established guidelines relative to the diversification and maturities of investments to maintain safety and liquidity. These guidelines are reviewed periodically and may be modified depending on market conditions. Although investments may be subject to credit risk, our investment policy specifies credit quality standards for our investments and limits the amount of credit exposure from any single issue, issuer or type of investment. At December 31, 2016, our market risk sensitive instruments consisted of marketable securities available-for-sale, our long-term debt and certain derivative contracts.
Marketable Securities Available-for-Sale: At December 31, 2016, our marketable securities available for sale consisted of U.S. Treasury securities, U.S. government-sponsored agency mortgage-backed (MBS) securities, global corporate debt securities, asset backed securities, time deposits with original maturities of greater than three months and marketable equity securities. U.S. government-sponsored agency MBS include mortgage backed securities issued by the Federal National Mortgage Association, the Federal Home Loan Mortgage Corporation and the Government National Mortgage Association. Corporate debt - global includes obligations issued by investment-grade corporations including some issues that have been guaranteed by governments and government agencies. Asset backed securities consist of triple-A rated securities with cash flows collateralized by credit card receivables and auto loans.
Our marketable securities available for sale are primarily equity investments in the publicly traded common stock of companies, including common stock of companies with whom we have entered into collaboration agreements. In addition, we invest in debt securities that are carried at fair value, held for an unspecified period of time and are intended for use in meeting our ongoing liquidity needs. Unrealized gains and losses on available-for-sale securities, which are deemed to be temporary, are reported as a separate component of stockholders' equity, net of tax. The cost of debt securities is adjusted for amortization of premiums and accretion of discounts to maturity. The amortization, along with realized gains and losses and other than temporary impairment charges related to debt securities, is included in Interest and investment income, net. Realized gains and losses and other than temporary impairment charges related to equity securities are included in Other income (expense), net.
As of December 31, 2016, the principal amounts, fair values and related weighted-average interest rates of our investments in debt securities, excluding time deposits, classified as marketable securities available-for-sale were as follows (dollar amounts in millions):
Debt Obligations
Short-Term Borrowings and Current Portion of Long-Term Debt: We had no outstanding short-term borrowing as of December 31, 2016 or December 31, 2015. The carrying value of the current portion of long-term debt outstanding at December 31, 2016 and December 31, 2015 includes (in millions):
Long-Term Debt: Our outstanding senior notes with maturity dates in excess of one year after December 31, 2016 have an aggregate principal amount of $13.750 billion with varying maturity dates and interest rates. The principal amounts and carrying values of these senior notes as of December 31, 2016 are summarized below (in millions):
At December 31, 2016, the fair value of our senior notes outstanding was $14.572 billion.
MARKET RISK MANAGEMENT
Our revenue and earnings, cash flows and fair values of assets and liabilities can be impacted by fluctuations in foreign exchange rates and interest rates. We actively manage the impact of foreign exchange rate and interest rate movements through operational means and through the use of various financial instruments, including derivative instruments such as foreign currency option contracts, foreign currency forward contracts, treasury rate lock agreements and interest rate swap contracts. In instances where these financial instruments are accounted for as cash flow hedges or fair value hedges we may from time to time terminate the hedging relationship. If a hedging relationship is terminated we generally either settle the instrument or enter into an offsetting instrument.
Foreign Currency Risk Management
We maintain a foreign exchange exposure management program to mitigate the impact of volatility in foreign exchange rates on future foreign currency cash flows, translation of foreign earnings and changes in the fair value of assets and liabilities denominated in foreign currencies.
Through our revenue hedging program, we endeavor to reduce the impact of possible unfavorable changes in foreign exchange rates on our future U.S. Dollar cash flows that are derived from foreign currency denominated sales. To achieve this objective, we hedge a portion of our forecasted foreign currency denominated sales that are expected to occur in the foreseeable future, typically within the next three years, with a maximum of five years. We manage our anticipated transaction exposure principally with foreign currency forward contracts, a combination of foreign currency put and call options, and occasionally purchased foreign currency put options.
Foreign Currency Forward Contracts: We use foreign currency forward contracts to hedge specific forecasted transactions denominated in foreign currencies, manage exchange rate volatility in the translation of foreign earnings, and reduce exposures to foreign currency fluctuations of certain assets and liabilities denominated in foreign currencies.
We manage a portfolio of foreign currency forward contracts to protect against changes in anticipated foreign currency cash flows resulting from changes in foreign currency exchange rates, primarily associated with non-functional currency denominated revenues and expenses of foreign subsidiaries. The foreign currency forward hedging contracts outstanding at December 31, 2016
and December 31, 2015 had settlement dates within 31 months and 36 months, respectively. The spot rate components of these foreign currency forward contracts are designated as cash flow hedges and, to the extent effective, any unrealized gains or losses are reported in other comprehensive income (OCI) and reclassified to operations in the same periods during which the underlying hedged transactions affect earnings. If a hedging relationship is terminated with respect to a foreign currency forward contract, accumulated gains or losses associated with the contract remain in OCI until the hedged forecasted transaction occurs and are reclassified to operations in the same periods during which the underlying hedged transaction affects earnings. Any ineffectiveness on these foreign currency forward contracts is reported on the Consolidated Statements of Income in Other income (expense), net. The forward point components of these foreign currency forward contracts are not designated as cash flow hedges and all fair value adjustments of forward point amounts are recorded to other income (expense), net. Foreign currency forward contracts entered into to hedge forecasted revenue and expenses were as follows at December 31, 2016 and December 31, 2015 (in millions):
We consider the impact of our own and the counterparties’ credit risk on the fair value of the contracts as well as the ability of each party to execute its obligations under the contract on an ongoing basis. As of December 31, 2016, credit risk did not materially change the fair value of our foreign currency forward contracts.
We also manage a portfolio of foreign currency contracts to reduce exposures to foreign currency fluctuations of certain recognized assets and liabilities denominated in foreign currencies and, from time to time, we enter into foreign currency contracts to manage exposure related to translation of foreign earnings. These foreign currency forward contracts have not been designated as hedges and, accordingly, any changes in their fair value are recognized on the Consolidated Statements of Income in Other income (expense), net in the current period. The aggregate notional amount of the foreign currency forward non-designated hedging contracts outstanding at December 31, 2016 and December 31, 2015 were $933.8 million and $920.0 million, respectively.
Although not predictive in nature, we believe a hypothetical 10% threshold reflects a reasonably possible near-term change in foreign currency rates. Assuming that the December 31, 2016 exchange rates were to change by a hypothetical 10%, the fair value of the foreign currency forward contracts would change by approximately $336.8 million. However, since the contracts either hedge specific forecasted intercompany transactions denominated in foreign currencies or relate to assets and liabilities denominated in currencies other than the entities' functional currencies, any change in the fair value of the contract would be either reported in OCI and reclassified to earnings in the same periods during which the underlying hedged transactions affect earnings or re-measured through earnings each period along with the underlying asset or liability.
Foreign Currency Option Contracts: From time to time, we may hedge a portion of our future foreign currency exposure by utilizing a strategy that involves both a purchased local currency put option and a written local currency call option that are accounted for as hedges of future sales denominated in that local currency. Specifically, we sell (or write) a local currency call option and purchase a local currency put option with the same expiration dates and local currency notional amounts but with different strike prices. This combination of transactions is generally referred to as a “collar.” The expiration dates and notional amounts correspond to the amount and timing of forecasted foreign currency sales. The foreign currency option contracts outstanding at December 31, 2016 and December 31, 2015 had settlement dates within 48 months and 36 months, respectively. If the U.S. Dollar weakens relative to the currency of the hedged anticipated sales, the purchased put option value reduces to zero and we benefit from the increase in the U.S. Dollar equivalent value of our anticipated foreign currency cash flows; however, this benefit would be capped at the strike level of the written call, which forms the upper end of the collar. The premium collected from the sale of the call option is equal to the premium paid for the purchased put option, resulting in a net zero cost for each collar.
Outstanding foreign currency option contracts entered into to hedge forecasted revenue were as follows at December 31, 2016 and December 31, 2015:
1 U.S. dollar notional amounts are calculated as the hedged local currency amount multiplied by the strike value of the foreign currency option. The local currency notional amounts of our purchased put and written call that are designated as hedging activities are equal to each other.
We also have entered into foreign currency put option contracts to hedge forecasted revenue which were not part of a collar strategy. Such put option contracts had a notional value of $386.8 million at December 31, 2016 and settlement dates within 24 months.
Assuming that the December 31, 2016 exchange rates were to change by a hypothetical 10%, the fair value of the foreign currency option contracts would increase by approximately $153.4 million if the U.S. Dollar were to strengthen and decrease by approximately $139.0 million if the U.S. Dollar were to weaken. However, since the contracts hedge specific forecasted intercompany transactions denominated in foreign currencies, any change in the fair value of the contract would be reported in other comprehensive income and reclassified to earnings in the same periods during which the underlying hedged transactions affect earnings.
Interest Rate Risk Management
Forward Starting Interest Rate Swaps and Treasury Rate Locks: In anticipation of issuing fixed-rate debt, we may use forward starting interest rate swaps (forward starting swaps) or treasury rate lock agreements (treasury rate locks) that are designated as cash flow hedges to hedge against changes in interest rates that could impact expected future issuances of debt. To the extent these hedges of cash flows related to anticipated debt are effective, any realized or unrealized gains or losses on the forward starting swaps or treasury rate locks are reported in OCI and are recognized in income over the life of the anticipated fixed-rate notes.
During 2014, we entered into forward starting swaps that were designated as cash flow hedges to hedge against changes in interest rates that could impact an anticipated issuance of debt in 2015. During 2015, we entered into additional forward starting swaps and treasury rate locks. Forward starting swaps and treasury rate locks with a combined aggregate notional amount of $2.900 billion were settled upon the issuance of debt in August 2015, when the net fair value of the forward starting swaps and treasury rate locks in accumulated OCI was in a loss position of $21.6 million. The net loss will be recognized as interest expense over the life of the associated senior notes. At December 31, 2016 and December 31, 2015, we had outstanding forward starting swaps with effective dates in 2017 and 2018 and maturing in ten years that were designated as cash flow hedges with notional amounts as shown in the table below:
A sensitivity analysis to measure potential changes in the market value of our forward starting interest rate swap contracts from a change in interest rates indicated that a one percentage point increase in interest rates at December 31, 2016 would have increased the fair value of our contracts by $80.2 million. A one percentage point decrease at December 31, 2016 would have decreased the aggregate fair value of our contracts by $90.4 million.
Interest Rate Swap Contracts: From time to time we hedge the fair value of certain debt obligations through the use of interest rate swap contracts. The interest rate swap contracts are designated hedges of the fair value changes in the notes attributable to changes in interest rates. Since the specific terms and notional amount of the swap are intended to match those of the debt being hedged, it is assumed to be a highly effective hedge and all changes in fair value of the swap are recorded on the Consolidated Balance Sheets with no net impact recorded in income. Any net interest payments made or received on interest rate swap contracts are recognized as interest expense. If a hedging relationship is terminated for an interest rate swap contract, accumulated gains or losses associated with the contract are measured and recorded as a reduction or increase of current and future interest expense associated with the previously hedged debt obligations.
We had entered into swap contracts that were designated as hedges of certain of our fixed rate notes and also terminated the hedging relationship by settling certain of those swap contracts during 2016 and 2015. In July 2016, we terminated the hedging relationship on all of our then outstanding swap contracts, amounting to $3.600 billion notional amount, by settling such swap contracts. The settlement of swap contracts resulted in the receipt of net proceeds of $195.6 million and $10.8 million during the years ended December 31, 2016 and 2015, respectively, which are accounted for as a reduction of current and future interest expense associated with these notes. See Note 11 of Notes to Consolidated Financial Statements contained in this Annual Report on Form 10-K for additional details related to reductions of current and future interest expense.
A sensitivity analysis to measure potential changes in the market value of our debt and interest rate swap contracts from a change in interest rates indicated that a one percentage point increase in interest rates at December 31, 2016 would have reduced the aggregate fair value of our net payable by $992.5 million. A one percentage point decrease at December 31, 2016 would have increased the aggregate fair value of our net payable by $1.151 billion.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
CELGENE CORPORATION AND SUBSIDIARIES
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Stockholders
Celgene Corporation:
We have audited the accompanying consolidated balance sheets of Celgene Corporation and subsidiaries (the Company) as of December 31, 2016 and 2015, and the related consolidated statements of income, comprehensive income, cash flows, and stockholders' equity for each of the years in the three-year period ended December 31, 2016. In connection with our audits of the consolidated financial statements, we also have audited the consolidated financial statement schedule, "Schedule II - Valuation and Qualifying Accounts." These consolidated financial statements and consolidated financial statement schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements and consolidated financial statement schedule based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Celgene Corporation and subsidiaries as of December 31, 2016 and 2015, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2016, in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related consolidated financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of the Company's internal control over financial reporting as of December 31, 2016, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission in 2013 and our report dated February 10, 2017 expressed an unqualified opinion on the effectiveness of the Company's internal control over financial reporting.
/s/ KPMG LLP
Short Hills, New Jersey
February 10, 2017
CELGENE CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Dollars in millions, except per share amounts)
See accompanying Notes to Consolidated Financial Statements
CELGENE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(In millions, except per share amounts)
See accompanying Notes to Consolidated Financial Statements
CELGENE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Dollars in millions)
See accompanying Notes to Consolidated Financial Statements
CELGENE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in millions)
See accompanying Notes to Consolidated Financial Statements
CELGENE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS - (Continued)
(Dollars in millions)
See accompanying Notes to Consolidated Financial Statements
CELGENE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(Dollars in millions)
See accompanying Notes to Consolidated Financial Statements
CELGENE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in millions, except per share amounts, unless otherwise indicated)
1. Nature of Business, Basis of Presentation and Summary of Significant Accounting Policies
Celgene Corporation, together with its subsidiaries (collectively “we,” “our,” “us,” “Celgene” or the “Company”), is an integrated global biopharmaceutical company engaged primarily in the discovery, development and commercialization of innovative therapies for the treatment of cancer and inflammatory diseases through next-generation solutions in protein homeostasis, immuno-oncology, epigenetics, immunology and neuro-inflammation. Celgene Corporation was incorporated in the State of Delaware in 1986.
Our primary commercial stage products include REVLIMID®, POMALYST®/IMNOVID®, OTEZLA®, ABRAXANE®, VIDAZA®, azacitidine for injection (generic version of VIDAZA®) and THALOMID® (sold as THALOMID® or Thalidomide Celgene® outside of the U.S.). In addition, we earn revenue from other product sales and licensing arrangements.
The consolidated financial statements include the accounts of Celgene Corporation and its subsidiaries. Investments in limited partnerships and interests where we have an equity interest of 50% or less and do not otherwise have a controlling financial interest are accounted for by either the equity or cost method.
We operate in a single segment engaged in the discovery, development, manufacturing, marketing, distribution and sale of innovative therapies for the treatment of cancer and inflammatory diseases. Consistent with our operational structure, our Chief Executive Officer (CEO), as the chief operating decision maker, manages and allocates resources at the global corporate level. Our global research and development organization is responsible for discovery of new drug candidates and supports development and registration efforts for potential future products. Our global supply chain organization is responsible for the manufacturing and supply of products. Regional/therapeutic area commercial organizations market, distribute and sell our products. The business is also supported by global corporate staff functions. Managing and allocating resources at the global corporate level enables our CEO to assess both the overall level of resources available and how to best deploy these resources across functions, therapeutic areas, regional commercial organizations and research and development projects in line with our overarching long-term corporate-wide strategic goals, rather than on a product or franchise basis. Consistent with this decision-making process, our CEO uses consolidated, single-segment financial information for purposes of evaluating performance, allocating resources, setting incentive compensation targets, as well as forecasting future period financial results.
The preparation of the consolidated financial statements requires management to make estimates and assumptions that affect reported amounts and disclosures. Actual results could differ from those estimates. We are subject to certain risks and uncertainties related to, among other things, product development, regulatory approval, market acceptance, scope of patent and proprietary rights, competition, outcome of legal and governmental proceedings, European credit risk, technological change and product liability.
Certain prior year amounts have been reclassified to conform to the current year's presentation.
Financial Instruments: Certain financial instruments reflected in the Consolidated Balance Sheets, (e.g., cash, cash equivalents, accounts receivable, certain other assets, accounts payable, short-term borrowings and certain other liabilities) are recorded at cost, which approximates fair value due to their short-term nature. The fair values of financial instruments other than marketable securities are determined through a combination of management estimates and information obtained from third parties using the latest market data. The fair value of available-for-sale marketable securities is determined utilizing the valuation techniques appropriate to the type of security (see Note 4).
Derivative Instruments and Hedges: All derivative instruments are recognized on the balance sheet at their fair value. Changes in the fair value of derivative instruments are recorded each period in current earnings or other comprehensive income (loss), depending on whether a derivative instrument is designated as part of a hedging transaction and, if it is, the type of hedging transaction. For a derivative to qualify as a hedge at inception and throughout the hedged period, we formally document the nature and relationships between the hedging instruments and hedged item. We assess, both at inception and on an on-going basis, whether the derivative instruments that are used in cash flow hedging transactions are highly effective in offsetting the changes in cash flows of hedged items. We assess hedge ineffectiveness on a quarterly basis and record the gain or loss related to the ineffective portion of derivative instruments, if any, to current earnings. If we determine that a forecasted transaction is no longer probable of occurring, we discontinue hedge accounting and any related unrealized gain or loss on the derivative instrument is recognized in current earnings. We use derivative instruments, including those not designated as part of a hedging transaction, to manage our exposure to movements
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in foreign exchange, our stock price and interest rates. The use of these derivative instruments modifies the exposure of these risks with the intent to reduce our risk or cost.
Cash, Cash Equivalents and Marketable Securities Available for Sale: We invest our excess cash primarily in money market funds, repurchase agreements, time deposits, U.S. Treasury securities, U.S. government-sponsored agency mortgage-backed securities (MBS), global corporate debt securities and asset backed securities. All liquid investments with maturities of three months or less from the date of purchase are classified as cash equivalents and all investments with maturities of greater than three months from date of purchase are classified as marketable securities available for sale. We determine the appropriate classification of our investments in marketable debt and equity securities at the time of purchase. In addition, our equity investments in the publicly traded common stock of companies, including common stock of companies with whom we have entered into collaboration agreements, are designated as marketable securities available for sale.
Our marketable securities available for sale are primarily equity investments in the publicly traded common stock of companies, including common stock of companies with whom we have entered into collaboration agreements. In addition, we invest in debt securities that are carried at fair value, held for an unspecified period of time and are intended for use in meeting our ongoing liquidity needs. Unrealized gains and losses on available-for-sale securities, which are deemed to be temporary, are reported as a separate component of stockholders' equity, net of tax. The cost of debt securities is adjusted for amortization of premiums and accretion of discounts to maturity. The amortization, along with realized gains and losses and other-than-temporary impairment charges related to debt securities, is included in Interest and investment income, net. Realized gains and losses and other than temporary impairment charges related to equity securities are included in Other income (expense), net.
A decline in the market value of any available-for-sale security below its carrying value that is determined to be other-than-temporary would result in a charge to earnings and decrease in the security's carrying value down to its newly established fair value. Factors evaluated to determine if an investment is other-than-temporarily impaired include significant deterioration in earnings performance, credit rating, asset quality or business prospects of the issuer; adverse changes in the general market condition in which the issuer operates; our intent to hold to maturity and an evaluation as to whether it is more likely than not that we will not have to sell before recovery of its cost basis; our expected future cash flows from the security; and issues that raise concerns about the issuer's ability to continue as a going concern.
Concentration of Credit Risk: Cash, cash equivalents and marketable securities are financial instruments that potentially subject the Company to concentration of credit risk. We invest our excess cash primarily in money market funds, repurchase agreements, time deposits, U.S. Treasury securities, U.S. government-sponsored agency MBS, global corporate debt securities and asset backed securities (see Note 6). We have established guidelines relative to diversification and maturities to maintain safety and liquidity. These guidelines are reviewed periodically and may be modified to take advantage of trends in yields and interest rates.
We sell our products in the United States primarily through wholesale distributors and specialty contracted pharmacies. Therefore, wholesale distributors and large pharmacy chains account for a large portion of our U.S. trade receivables and net product revenues (see Note 19). International sales are primarily made directly to hospitals, clinics and retail chains, many of which in Europe are government owned and have extended their payment terms in recent years given the economic pressure these countries are facing. We continuously monitor the creditworthiness of our customers, including these governments, and have internal policies regarding customer credit limits. We estimate an allowance for doubtful accounts primarily based on the credit worthiness of our customers, historical payment patterns, aging of receivable balances and general economic conditions, including publicly available information on the credit worthiness of countries themselves and provinces or areas within such countries where they are the ultimate customers.
We continue to monitor economic conditions, including the volatility associated with international economies, the sovereign debt situation in certain European countries and associated impacts on the financial markets and our business. Our current business model in these markets is typically to sell our products directly to principally government owned or controlled hospitals, which in turn directly deliver critical care to patients. Our products are used to treat life-threatening diseases and we believe this business model enables timely delivery and adequate supply of products. Many of the outstanding receivable balances are related to government-funded hospitals and we believe the receivable balances are ultimately collectible. Similarly, we believe that future sales to these customers will continue to be collectible.
Inventory: Inventories are recorded at the lower of cost or market, with cost determined on a first-in, first-out basis. We periodically review the composition of inventory in order to identify obsolete, slow-moving or otherwise non-saleable items. If non-saleable items are observed and there are no alternate uses for the inventory, we will record a write-down to net realizable value in the period that the decline in value is first recognized. Included in inventory are raw materials used in the production of preclinical and clinical products, which are charged to research and development expense when consumed.
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We capitalize inventory costs associated with certain products prior to regulatory approval of products, or for inventory produced in new production facilities, when management considers it highly probable that the pre-approval inventories will be saleable. The determination to capitalize is based on the particular facts and circumstances relating to the expected regulatory approval of the product or production facility being considered, and accordingly, the time frame within which the determination is made varies from product to product. The assessment of whether or not the product is considered highly probable to be saleable is made on a quarterly basis and includes, but is not limited to, how far a particular product or facility has progressed along the approval process, any known safety or efficacy concerns, potential labeling restrictions and other impediments. We could be required to write down previously capitalized costs related to pre-launch inventories upon a change in such judgment, or due to a denial or delay of approval by regulatory bodies, a delay in commercialization or other potential factors.
Property, Plant and Equipment: Property, plant and equipment are stated at cost less accumulated depreciation. Depreciation of plant and equipment is recorded using the straight-line method. Building improvements are depreciated over the remaining useful life of the building. Leasehold improvements are depreciated over the lesser of the economic useful life of the asset or the remaining term of the lease, including anticipated renewal options. The estimated useful lives of capitalized assets are as follows:
Maintenance and repairs are charged to operations as incurred, while expenditures for improvements which extend the life of an asset are capitalized.
Capitalized Software Costs: We capitalize software costs incurred in connection with developing or obtaining software. Capitalized software costs are included in property, plant and equipment, net and are amortized over their estimated useful life of three to seven years from the date the systems are ready for their intended use.
Investments in Other Entities: We hold a portfolio of investments in equity securities and certain investment funds that are accounted for under either the equity method or cost method. Investments in companies or certain investment funds over which we have significant influence but not a controlling interest are accounted for using the equity method, with our share of earnings or losses reported in other income (expense), net. Our equity investments in the publicly traded common stock of companies, including common stock of companies with whom we have entered into collaboration agreements, are designated as marketable securities available for sale. Investments in equity securities of companies that become publicly traded are accounted for as available-for-sale marketable securities prospectively from the date of such companies' initial public offering if we are not restricted from selling our investment for greater than one year. Our cost method and equity method investments are included in other assets on the Consolidated Balance Sheets.
All investments are reviewed on a regular basis for possible impairment. If an investment's fair value is determined to be less than its net carrying value and the decline is determined to be other-than-temporary, the investment is written down to its fair value. Such an evaluation is judgmental and dependent on specific facts and circumstances. Factors considered in determining whether an other-than-temporary decline in value has occurred include: market value or exit price of the investment based on either market-quoted prices or future rounds of financing by the investee; length of time that the market value was below its cost basis; financial condition and business prospects of the investee; our intent and ability to retain the investment for a sufficient period of time to allow for recovery in market value of the investment; issues that raise concerns about the investee's ability to continue as a going concern; any other information that we may be aware of related to the investment.
Other Intangible Assets: Intangible assets with definite useful lives are amortized to their estimated residual values over their estimated useful lives and reviewed for impairment if certain events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Amortization is initiated for in-process research and development (IPR&D) intangible assets when their useful lives have been determined. IPR&D intangible assets which are determined to have had a drop in their fair value are adjusted downward and an expense recognized in the income statement. These IPR&D intangible assets are tested at least annually or when a triggering event occurs that could indicate a potential impairment.
Goodwill: Goodwill represents the excess of purchase price over fair value of net assets acquired in a business combination accounted for by the acquisition method of accounting and is not amortized, but is subject to impairment testing. We test our
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goodwill for impairment at least annually or when a triggering event occurs that could indicate a potential impairment by assessing qualitative factors or performing a quantitative analysis in determining whether it is more likely than not that the fair value of net assets are below their carrying amounts.
Impairment of Long-Lived Assets: Long-lived assets, such as property, plant and equipment and certain other long-term assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable.
Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset or asset group to the estimated undiscounted future cash flows expected to be generated by the asset or asset group. If the carrying amount of the assets exceed their estimated future undiscounted net cash flows, an impairment charge is recognized for the amount by which the carrying amount of the assets exceed the fair value of the assets.
Contingent Consideration from Business Combinations: Subsequent to the acquisition date, we measure contingent consideration arrangements at fair value for each period with changes in fair value recognized in income as Acquisition related charges, net. Changes in contingent consideration obligation values can result from movements in publicly listed prices of our Contingent Value Rights (CVRs), adjustments to discount rates, updates in the assumed achievement or timing of milestones or changes in the probability of certain clinical events and changes in the assumed probability associated with regulatory approval. In the absence of new information, changes in fair value reflect only the passage of time as development work towards the achievement of the milestones progresses, and is accrued based on an accretion schedule.
Foreign Currency Translation: Operations in non-U.S. entities are recorded in the functional currency of each entity. For financial reporting purposes, the functional currency of an entity is determined by a review of the source of an entity's most predominant cash flows. The results of operations for non-U.S. dollar functional currency entities are translated from functional currencies into U.S. dollars using the average currency rate during each month, which approximates the results that would be obtained using actual currency rates on the dates of individual transactions. Assets and liabilities are translated using currency rates at the end of the period. Adjustments resulting from translating the financial statements of our foreign entities into the U.S. dollar are excluded from the determination of net income and are recorded as a component of other comprehensive income (loss). Transaction gains and losses are recorded in other income (expense), net in the Consolidated Statements of Income.
Research and Development Costs: Research and development costs are expensed as incurred. These include all internal and external costs related to services contracted by us. Upfront and milestone payments made to third parties in connection with research and development collaborations are expensed as incurred up to the point of regulatory approval. Milestone payments made to third parties upon regulatory approval are capitalized and amortized over the remaining useful life of the related product. Upfront payments are recorded when incurred, and milestone payments are recorded when the specific milestone has been achieved. Asset acquisition expenses, including expenses to acquire rights to pre-commercial compounds from a collaboration partner when there will be no further participation from the collaboration partner or other parties, are recorded as incurred.
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 bases of assets and liabilities using enacted tax rates in effect for years in which the temporary differences are expected to reverse. A valuation allowance is provided when it is more likely than not that some portion or all of a deferred tax asset will not be realized. We recognize the benefit of an uncertain tax position that we have taken or expect to take on income tax returns we file if such tax position is more likely than not to be sustained.
Revenue Recognition: Revenue from the sale of products is recognized when title and risk of loss of the product is transferred to the customer and the sales price is fixed and determinable. Provisions for discounts, early payments, rebates, sales returns and distributor chargebacks under terms customary in the industry are provided for in the same period the related sales are recorded. We record estimated reductions to revenue for volume-based discounts and rebates at the time of the initial sale. The estimated reductions to revenue for such volume-based discounts and rebates are based on the sales terms, historical experience and trend analysis.
We base our sales returns allowance on estimated on-hand retail/hospital inventories, measured end-customer demand as reported by third-party sources, actual returns history and other factors, such as the trend experience for lots where product is still being returned or inventory centralization and rationalization initiatives conducted by major pharmacy chains, as applicable. If the historical data we use to calculate these estimates do not properly reflect future returns, then a change in the allowance would be made in the period in which such a determination is made and revenues in that period could be materially affected. Under this methodology, we track actual returns by individual production lots. Returns on closed lots, that is, lots no longer eligible for return credits, are analyzed to determine historical returns experience. Returns on open lots, that is, lots still eligible for return credits,
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are monitored and compared with historical return trend rates. Any changes from the historical trend rates are considered in determining the current sales return allowance.
Sales discount accruals are based on payment terms extended to customers.
Government rebate accruals are based on estimated payments due to governmental agencies for purchases made by third parties under various governmental programs. U.S. Medicaid rebate accruals are generally based on historical payment data and estimates of future Medicaid beneficiary utilization applied to the Medicaid unit rebate formula established by the Center for Medicaid and Medicare Services. The Medicaid rebate percentage was increased and extended to Medicaid Managed Care Organizations in March 2010. The accrual of the rebates associated with Medicaid Managed Care Organizations is calculated based on estimated historical patient data related to Medicaid Managed Care Organizations. We also analyze actual billings received from the states to further support the accrual rates. Manufacturers of pharmaceutical products are responsible for 50% of the patient’s cost of branded prescription drugs related to the Medicare Part D Coverage Gap. In order to estimate the cost to us of this coverage gap responsibility, we analyze data for eligible Medicare Part D patients against data for eligible Medicare Part D patients treated with our products as well as the historical invoices. This expense is recognized throughout the year as costs are incurred. In certain international markets government-sponsored programs require rebates to be paid based on program specific rules and, accordingly, the rebate accruals are determined primarily on estimated eligible sales.
Rebates or administrative fees are offered to certain wholesale customers, group purchasing organizations and end-user customers, consistent with pharmaceutical industry practices. Settlement of rebates and fees may generally occur from one to 15 months from the date of sale. We record a provision for rebates at the time of sale based on contracted rates and historical redemption rates. Assumptions used to establish the provision include level of wholesaler inventories, contract sales volumes and average contract pricing. We regularly review the information related to these estimates and adjust the provision accordingly.
Chargeback accruals are based on the differentials between product acquisition prices paid by wholesalers and lower government contract pricing paid by eligible customers covered under federally qualified programs. Distributor service fee accruals are based on contractual fees to be paid to the wholesale distributor for services provided. TRICARE is a health care program of the U.S. Department of Defense Military Health System that provides civilian health benefits for military personnel, military retirees and their dependents. TRICARE rebate accruals are included in chargeback accruals and are based on estimated Department of Defense eligible sales multiplied by the TRICARE rebate formula.
We record estimated reductions to revenue for free goods and volume-based discounts at the time of the initial sale. The estimated reductions to revenue for such free goods and volume-based discounts are based on the sales terms, historical experience and trend analysis. The cost of free goods is included in cost of goods sold (excluding amortization of acquired intangible assets).
We recognize revenue from royalties based on licensees' sales of our products or products using our technologies. Royalties are recognized as earned in accordance with the contract terms when royalties from licensees can be reasonably estimated and collectability is reasonably assured. If royalties cannot be reasonably estimated or collectability of a royalty amount is not reasonably assured, royalties are recognized as revenue when the cash is received.
Share-Based Compensation: We utilize share based compensation in the form of stock options, restricted stock units (RSUs) and performance-based restricted stock units (PSUs). Compensation expense is recognized in the Consolidated Statements of Income based on the estimated fair value of the awards at grant date. Compensation expense recognized reflects an estimate of the number of awards expected to vest after taking into consideration an estimate of award forfeitures based on actual experience and is recognized on a straight-line basis over the requisite service period, which is generally the vesting period required to obtain full vesting. Management expectations related to the achievement of performance goals associated with PSU grants is assessed regularly and that assessment is used to determine whether PSU grants are expected to vest. If performance-based milestones related to PSU grants are not met or not expected to be met, any compensation expense recognized to date associated with grants that are not expected to vest will be reversed.
The fair values of stock option grants are estimated as of the date of grant using a Black-Scholes option valuation model. The fair values of RSU and PSU grants that are not based on market performance are based on the market value of our Common Stock on the date of grant. Certain of our PSU grants are measured based on the achievement of specified performance and market targets, including non-GAAP revenue, non-GAAP earnings per share, and relative total shareholder return. The grant date fair value for the portion of the PSUs related to non-GAAP revenue and non-GAAP earnings per share is estimated using the fair market value of our common stock on the grant date. The grant date fair value for the portion of the PSUs related to relative total shareholder return is estimated using the Monte Carlo valuation model.
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Earnings Per Share: Basic earnings per share is computed by dividing net income by the weighted-average number of common shares outstanding during the period. Diluted earnings per share is computed by dividing net income by the weighted-average number of common shares outstanding during the period, assuming potentially dilutive common shares resulting from option exercises, RSUs, PSUs, warrants and other incentives had been issued and any proceeds thereof used to repurchase common stock at the average market price during the period. The assumed proceeds used to repurchase common stock is the sum of the amount to be paid to us upon exercise of options, the amount of compensation cost attributed to future services and not yet recognized and, if applicable, the amount of excess income tax benefit that would be credited to paid-in capital upon exercise.
New accounting standards which have been adopted
In April 2015, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update No. 2015-03, "Simplifying the Presentation of Debt Issuance Costs" (ASU 2015-03). ASU 2015-03 more closely aligns the presentation of debt issuance costs under U.S. GAAP with the presentation under comparable IFRS standards by requiring that debt issuance costs be presented on the balance sheet as a direct deduction from the carrying amount of the related debt liability, similar to the presentation of debt discounts or premiums. We adopted ASU 2015-03 in the first quarter of 2016. Other assets and Long-term debt, net of discount have been restated as of December 31, 2015 to reflect the retroactive reclassification of $89.0 million of debt issuance costs that have been reclassified from Other assets to Long-term debt, net of discount.
In April 2015, the FASB issued Accounting Standards Update No. 2015-05, "Customer’s Accounting for Fees Paid in a Cloud Computing Arrangement" (ASU 2015-05). ASU 2015-05 provides guidance to help companies evaluate the accounting for fees paid by a customer in a cloud computing arrangement. The new guidance clarifies that if a cloud computing arrangement includes a software license, the customer should account for the license consistent with its accounting for other software licenses. If the arrangement does not include a software license, the customer should account for the arrangement as a service contract. ASU 2015-05 was effective for us beginning in the first quarter of 2016. The adoption of this updated standard did not have a material impact on our consolidated financial statements and related disclosures.
In September 2015, the FASB issued Accounting Standards Update No. 2015-16, "Simplifying the Accounting for Measurement-Period Adjustments" (ASU 2015-16). ASU 2015-16 replaces the requirement that an acquirer in a business combination account for measurement period adjustments retrospectively with a requirement that an acquirer recognize adjustments to the provisional amounts that are identified during the measurement period in the reporting period in which the adjustment amounts are determined. ASU 2015-16 requires that the acquirer record, in the same period’s financial statements, the effect on earnings of changes in depreciation, amortization, or other income effects, if any, as a result of the change to the provisional amounts, calculated as if the accounting had been completed at the acquisition date. ASU 2015-16 was effective for us beginning in the first quarter of 2016. During the third quarter of 2016 we recorded a measurement period adjustment related to the valuation of contingent consideration and goodwill associated with the 2015 acquisition of Quanticel Pharmaceuticals, Inc. (Quanticel) that reduced the acquisition date fair values of both contingent consideration and goodwill by $10.7 million. There was no material impact on 2016 net income.
New accounting standards which have not yet been adopted
In May 2014, the FASB issued Accounting Standards Update No. 2014-09, “Revenue from Contracts with Customers” (ASU 2014-09) and has subsequently issued a number of amendments to ASU 2014-09. The new standard, as amended, provides a single comprehensive model to be used in the accounting for revenue arising from contracts with customers and supersedes current revenue recognition guidance, including industry-specific guidance. The standard’s stated core principle is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. To achieve this core principle, ASU 2014-09 includes provisions within a five step model that includes identifying the contract with a customer, identifying the performance obligations in the contract, determining the transaction price, allocating the transaction price to the performance obligations, and recognizing revenue when, or as, an entity satisfies a performance obligation. In addition, the standard requires disclosure of the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers.
The new standard will be effective for us beginning January 1, 2018 and permits two methods of adoption: the full retrospective method, which requires the standard to be applied to each prior period presented, or the modified retrospective method, which requires the cumulative effect of adoption to be recognized as an adjustment to opening retained earnings in the period of adoption. We currently anticipate adopting the standard using the modified retrospective method.
We have substantially completed an analysis of existing contracts with our customers and assessed the differences in accounting for such contracts under ASU 2014-09 compared with current revenue accounting standards. Based on our review of current customer contracts, we do not expect the implementation of ASU 2014-09 to have a material quantitative impact on our consolidated
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financial statements as the timing of revenue recognition for product sales is not expected to significantly change. In limited instances, we may recognize revenue earlier than under the current standard. Currently, we defer certain revenue where the price pursuant to the underlying customer arrangement is not fixed and determinable. Under the new standard, such customer arrangements will be accounted for as variable consideration, which may result in revenue being recognized earlier provided we can reliably estimate the ultimate price expected to be realized from the customer. The new standard will result in additional revenue-related disclosures in the footnotes to our consolidated financial statements. We will continue to assess new customer contracts during 2017. Adoption of this standard will require changes to our business processes, systems and controls to support the additional required disclosures. We are in the process of identifying such changes.
In July 2015, the FASB issued Accounting Standards Update No. 2015-11, "Inventory (Topic 330): Simplifying the Measurement of Inventory" (ASU 2015-11). ASU 2015-11 applies only to inventory for which cost is determined by methods other than last-in, first-out and the retail inventory method, which includes inventory that is measured using first-in, first-out or average cost. Inventory within the scope of this standard is required to be measured at the lower of cost and net realizable value. Net realizable value is the estimated selling prices in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. The new standard will be effective for us on January 1, 2017. We do not expect the implementation of the updated standard to have a material impact on our consolidated financial statements and related disclosures.
In January 2016, the FASB issued Accounting Standards Update No. 2016-01, "Financial Instruments-Overall: Recognition and Measurement of Financial Assets and Financial Liabilities" (ASU 2016-01). ASU 2016-01 changes accounting for equity investments, financial liabilities under the fair value option, and presentation and disclosure requirements for financial instruments. ASU 2016-01 does not apply to equity investments in consolidated subsidiaries or those accounted for under the equity method of accounting. In addition, the FASB clarified guidance related to the valuation allowance assessment when recognizing deferred tax assets resulting from unrealized losses on available-for-sale debt securities. Equity investments with readily determinable fair values will be measured at fair value with changes in fair value recognized in net income. Companies have the option to either measure equity investments without readily determinable fair values at fair value or at cost adjusted for changes in observable prices minus impairment. Changes in measurement under either alternative will be recognized in net income. Companies that elect the fair value option for financial liabilities must recognize changes in fair value related to instrument-specific credit risk in other comprehensive income. Companies must assess valuation allowances for deferred tax assets related to available-for-sale debt securities in combination with their other deferred tax assets. ASU 2016-01 will be effective for us beginning in the first quarter of 2018 and early adoption is available to publicly traded companies for the provision to record fair value changes for financial liabilities under the fair value option resulting from instrument-specific credit risk in other comprehensive income. We expect the implementation of this standard to have an impact on our consolidated financial statements and related disclosures, as we held publicly traded equity investments at December 31, 2016 with a fair value of $891.1 million, as well as equity investments accounted for under the cost method. A cumulative-effect adjustment to the balance sheet will be recorded as of the beginning of the fiscal year of adoption. The implementation of ASU 2016-01 is expected to increase volatility in our net income as the volatility currently recorded in other comprehensive income related to changes in the fair market value of available for sale equity investments will be reflected in net income after adoption.
In February 2016, the FASB issued Accounting Standards Update No. 2016-02, "Leases" (ASU 2016-02). ASU 2016-02 provides accounting guidance for both lessee and lessor accounting models. Among other things, lessees will recognize a right-of-use asset and a lease liability for leases with a duration of greater than one year. For income statement purposes, ASU 2016-02 will require leases to be classified as either operating or finance. Operating leases will result in straight-line expense while finance leases will result in a front-loaded expense pattern. The new standard will be effective for us on January 1, 2019 and will be adopted using a modified retrospective approach which will require application of the new guidance at the beginning of the earliest comparative period presented. We are currently evaluating the effect that the updated standard will have on our consolidated financial statements and related disclosures. We expect the implementation of this standard to have an impact on our consolidated financial statements and related disclosures as we have aggregate future minimum lease payments of $213.4 million at December 31, 2016 under our current portfolio of non-cancelable leased office and research facilities with various expirations dates between 2017 and 2025. We anticipate recognition of additional assets and corresponding liabilities related to these leases on our consolidated balance sheet.
In March 2016, the FASB issued Accounting Standards Update No. 2016-07, "Investments-Equity Method and Joint Ventures" (ASU 2016-07). ASU 2016-07 eliminates the requirement that when an investment qualifies for use of the equity method as a result of an increase in the level of ownership interest or degree of influence, an investor must adjust the investment, results of operations, and retained earnings retroactively as if the equity method had been in effect during all previous periods that the investment had been held. Under the new guidance, available-for-sale equity securities that become qualified for the equity method of accounting will result in the recognition through earnings of the unrealized holding gain or loss in accumulated other comprehensive income at the date the investment becomes qualified for use of the equity method. The new standard will be
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effective for us on January 1, 2017 and will be adopted on a prospective basis. We do not expect the implementation of the updated standard to have a material impact on our consolidated financial statements and related disclosures.
In March 2016, the FASB issued Accounting Standards Update No. 2016-09, "Compensation-Stock Compensation" (ASU 2016-09). ASU 2016-09 changes several aspects of the accounting for share-based payment transactions including requiring all excess tax benefits and tax deficiencies to be recognized in the Statement of Income as a discrete item in the reporting period in which they occur, classification of awards as either equity or liabilities, employee tax withholding, calculation of shares for use in diluted earnings per share, and classification on the Statement of Cash Flows. The new standard will be effective for us on January 1, 2017. Changes introduced by ASU 2016-09 related to the timing of when unrecognized tax benefits are recognized, minimum statutory withholding requirements, forfeitures, and intrinsic value will be applied using a modified retrospective transition method by means of a cumulative-effect adjustment to equity as of the beginning of the first quarter of 2017. We anticipate that the updated standard will result in an increase in the shares used in the calculation of diluted earnings per share in an amount that will vary depending primarily on the share price of our common stock during future periods as well as the strike prices of outstanding employee stock options during future periods. We expect the adoption of ASU 2016-09 to have a number of impacts on our consolidated financial statements, the most notable being a decrease in our income tax provision, an increase in the number of shares used in the calculation of diluted earnings per share and a decrease in cash provided by financing activities with a corresponding increase in cash provided by operating activities. The magnitude of such impacts will depend upon future movements in our share price as well as the timing of stock award exercises, which are both difficult to estimate.
In June 2016, the FASB issued Accounting Standards Update No. 2016-13, "Financial Instruments - Credit Losses: Measurement of Credit Losses on Financial Instruments" (ASU 2016-13). ASU 2016-13 requires that expected credit losses relating to financial assets measured on an amortized cost basis and available-for-sale debt securities be recorded through an allowance for credit losses. ASU 2016-13 limits the amount of credit losses to be recognized for available-for-sale debt securities to the amount by which carrying value exceeds fair value and also requires the reversal of previously recognized credit losses if fair value increases. The new standard will be effective for us on January 1, 2020. Early adoption will be available on January 1, 2019. We are currently evaluating the effect that the updated standard will have on our consolidated financial statements and related disclosures.
In August 2016, the FASB issued Accounting Standards Update No. 2016-15, "Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments" (ASU 2016-15). ASU 2016-15 clarifies how companies present and classify certain cash receipts and cash payments in the statement of cash flows where diversity in practice exists. ASU 2016-15 is effective for us in our first quarter of fiscal 2018 and earlier adoption is permitted. We are currently evaluating the effect that the updated standard will have on our consolidated financial statements and related disclosures.
In October 2016, the FASB issued Accounting Standards Update No. 2016-16, "Intra-Entity Transfers of Assets Other Than Inventory” (ASU 2016-16). ASU 2016-16 requires the income tax consequences of intra-entity transfers of assets other than inventory to be recognized as current period income tax expense or benefit and removes the requirement to defer and amortize the consolidated tax consequences of intra-entity transfers. The new standard will be effective for us on January 1, 2018 and will be adopted using a modified retrospective approach which requires a cumulative effect adjustment to retained earnings as of the beginning of the period of adoption. Early adoption is permitted at the beginning of a fiscal year. We are currently evaluating the effect that the updated standard will have on our consolidated financial statements and related disclosures.
In January 2017, the FASB issued Accounting Standards Update No. 2017-01, “Business Combinations” (ASU 2017-01). ASU 2017-01 provides guidance for evaluating whether transactions should be accounted for as acquisitions (or disposals) of assets or businesses. The guidance provides a screen to determine when an integrated set of assets and activities (a “set”) does not qualify to be a business. The screen requires that when substantially all of the fair value of the gross assets acquired (or disposed of) is concentrated in an identifiable asset or a group of similar identifiable assets, the set is not a business. If the screen is not met, the guidance requires a set to be considered a business to include, at a minimum, an input and a substantive process that together significantly contribute to the ability to create outputs and removes the evaluation as to whether a market participant could replace the missing elements. The new standard will be effective for us on January 1, 2018 and will be adopted on a prospective basis. Early adoption is permitted. We are currently evaluating the effect that the standard will have on our consolidated financial statements and related disclosures.
2. Acquisitions and Divestitures
Acquisitions and Divestitures of Businesses
Receptos, Inc. (Receptos): On August 27, 2015 (Acquisition Date), we acquired all of the outstanding common stock of Receptos, resulting in Receptos becoming our wholly-owned subsidiary. Receptos' lead drug candidate, ozanimod, is a small molecule that modulates sphingosine 1-phosphate 1 and 5 receptors and it is in development for immune-inflammatory indications, including
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inflammatory bowel disease and relapsing multiple sclerosis (RMS). The acquisition of Receptos also included RPC4046, an anti-interleukin-13 (IL-13) antibody in development for eosinophilic esophagitis (EoE), an allergic/immune-mediated orphan disease. RPC4046 was licensed from AbbVie Bahamas Ltd. and AbbVie Inc. (collectively referred to as AbbVie). The results of operations and cash flows for Receptos are included in our consolidated financial statements from the Acquisition Date and the assets and liabilities of Receptos have been recorded at their respective fair values on the Acquisition Date and consolidated with our assets and liabilities.
We paid approximately $7.626 billion, consisting of $7.311 billion for common stock outstanding and $0.315 billion for the portion of equity compensation attributable to the pre-combination period. In addition, we paid $0.197 billion for the portion of equity compensation attributable to the post-combination service period, which has been recorded as expense over the required service period ending in the fourth quarter of 2015.
The acquisition has been accounted for using the acquisition method of accounting which requires that assets acquired and liabilities assumed be recognized at their fair values as of the acquisition date and requires the fair value of acquired IPR&D to be classified as indefinite-lived assets until the successful completion or abandonment of the associated research and development efforts.
The total consideration for the acquisition of Receptos is summarized as follows:
The purchase price allocation resulted in the following amounts being allocated to the assets acquired and liabilities assumed at the Acquisition Date based upon their respective fair values summarized below. During the fourth quarter of 2015, adjustments were recorded to increase the amounts initially recorded for deferred tax assets, deferred tax liabilities and goodwill as of the Acquisition Date.
1 Includes cash and cash equivalents, available for sale marketable securities, other current assets, accounts payable, and accrued expenses and other current liabilities.
2 Following adoption of Accounting Standards Update No. 2015-17, "Balance Sheet Classification of Deferred Taxes" in the fourth quarter of 2015 all deferred tax assets and liabilities and associated valuation allowances are classified as non-current.
3 Upon integration of the acquired intangible assets into our offshore research, manufacturing, and commercial operations, the deferred tax liability was reclassified to a non-current tax liability.
The fair values of current and other non-current assets, current liabilities and property, plant and equipment were determined to approximate their book values.
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The fair value assigned to acquired IPR&D was based on the present value of expected after-tax cash flows attributable to ozanimod, which is in phase II and III testing. The present value of expected after-tax cash flows attributable to ozanimod and assigned to IPR&D was determined by estimating the after-tax costs to complete development of ozanimod into a commercially viable product, estimating future revenue and ongoing expenses to produce, support and sell ozanimod, on an after-tax basis, and discounting the resulting net cash flows to present value. The revenue and costs projections used were reduced based on the probability that compounds at similar stages of development will become commercially viable products. The rate utilized to discount the net cash flows to their present value reflects the risk associated with the intangible asset and is benchmarked to the cost of equity. Acquired IPR&D will be accounted for as an indefinite-lived intangible asset until regulatory approval in a major market or discontinuation of development.
The excess of purchase price over the fair value amounts assigned to identifiable assets acquired and liabilities assumed represents the goodwill amount resulting from the acquisition. The goodwill recorded as part of the acquisition is primarily attributable to the broadening of our product portfolio and research capabilities in the inflammation and immunology therapeutic area, the assembled workforce and the deferred tax consequences of the IPR&D asset recorded for financial statement purposes. We do not expect any portion of this goodwill to be deductible for tax purposes. The goodwill attributable to the acquisition has been recorded as a non-current asset in our Consolidated Balance Sheets and is not amortized, but is subject to review for impairment annually.
From the Acquisition Date through December 31, 2015, our Consolidated Statements of Income included expenses of $380.5 million associated with the acquisition and operations of Receptos as follows1:
1 In addition, Celgene incurred $19.9 million of acquisition related costs prior to the acquisition date.
2 Consists of acquisition-related compensation expense and transaction costs.
Pro Forma Financial Information:
The following table provides unaudited pro forma financial information for the twelve-month periods ended December 31, 2015 as if the acquisition of Receptos had occurred on January 1, 2014.
The unaudited pro forma financial information was prepared using the acquisition method of accounting and was based on the historical financial information of Celgene and Receptos. The pro-forma financial information assumes that the acquisition-related transaction fees and costs incurred were removed from the twelve-month period ended December 31, 2015 and were assumed to have been incurred during the first quarter of 2014. The unaudited pro forma results do not reflect any operating efficiencies or potential cost savings that may result from the combined operations of Celgene and Receptos. Accordingly, these unaudited pro forma results are presented for illustrative purposes and are not intended to represent or be indicative of the actual results of operations of the combined company that would have been achieved had the acquisition occurred at the beginning of the period presented, nor are they intended to represent or be indicative of future results of operations.
Quanticel Pharmaceuticals, Inc. (Quanticel): On October 19, 2015, we completed our acquisition of Quanticel, a privately held biotechnology company focused on cancer drug discovery, for consideration consisting of $95.9 million in cash at closing plus contingent consideration consisting of future payments of up to $385.0 million for achieving specified discovery and development targets. We had a research collaboration arrangement with Quanticel since 2011. Through this purchase, Quanticel has become
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our wholly-owned subsidiary, and we will benefit from full access to Quanticel’s proprietary platform for the single-cell genomic analysis of human cancer, as well as Quanticel’s programs that target specific epigenetic modifiers, which we expect will advance our pipeline of innovative cancer therapies.
The acquisition was accounted for using the acquisition method of accounting for business combinations which requires the assets and liabilities of Quanticel to be recorded at their respective fair values on the acquisition date and consolidated into our Consolidated Balance Sheets. The results of operations and cash flows for Quanticel have been included in our consolidated financial statements from the date of acquisition. Pro-forma results of operations for this acquisition have not been presented because this acquisition is not material to our consolidated results of operations.
Fair value amounts allocated to contingent consideration and goodwill presented below have been reduced by $10.7 million during 2016. These measurement period adjustments were not significant and did not have a significant impact on our financial condition, results of operations or cash flows.
The fair value of consideration transferred in the acquisition of Quanticel is shown in the table below:
Prior to the acquisition of Quanticel, we had an equity interest equal to approximately 5% of the company’s total capital stock (on an “as converted” basis). Based on the fair market value of this interest derived from the purchase price, we recognized a gain of $10.3 million, which was reflected as a component of Other income (expense), net within our Consolidated Statement of Income for the year ended December 31, 2015.
Our potential contingent consideration payments are classified as liabilities, which were measured at fair value as of the acquisition date. We estimated the fair value of potential contingent consideration using a probability-weighted discounted cash flow approach, which reflects the probability and timing of future potential payments. This fair value measurement is based on significant inputs that are not observable in the market and thus represents a level three liability within the fair value hierarchy. The resulting probability-weighted cash flows were discounted using a discount rate based on a market participant assumption. See Note 4 for post-acquisition changes in fair value. The purchase price allocation resulted in the following amounts being allocated to the assets acquired and liabilities assumed at the acquisition date based upon their respective fair values summarized below.
1 Includes cash and cash equivalents, available-for-sale marketable securities, other current assets, accounts payable and accrued expenses and other current liabilities.
2 Technology platform related to Quanticel’s proprietary technology platform for the single-cell genomic analysis of human cancer.
The fair values of current and other non-current assets, property, plant and equipment, current liabilities and debt were determined to approximate their book values.
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The fair value of the technology platform intangible asset is equal to the present value of the after-tax cash flows attributable to the intangible asset, which was calculated based on the multi-period excess earnings method of the income approach. The multi-period excess earnings method of the income approach included estimating probability adjusted annual after-tax net cash flows through the cycle of development and commercialization of potential products generated by the technology platform then discounting the resulting probability adjusted net post-tax cash flows using a discount rate commensurate with the risk of our overall business operations to arrive at the net present value.
The excess of purchase price over the fair value amounts assigned to the identifiable assets acquired and liabilities assumed represents the goodwill amount resulting from the acquisition. The goodwill recorded as part of the acquisition is largely attributable to the deferred tax consequences of the finite-lived technology platform intangible asset recorded for financial statement purposes, as well as intangible assets that do not qualify for separate recognition at the time of the acquisition. We do not expect any portion of this goodwill to be deductible for tax purposes. Goodwill attributable to the acquisition has been recorded as a non-current asset in our Consolidated Balance Sheets and is not amortized, but is subject to review for impairment annually.
Nogra Pharma Limited (Nogra): On April 23, 2014, we entered into a license agreement with Nogra, pursuant to which Nogra granted us an exclusive, royalty-bearing license for its intellectual property relating to GED-0301, an antisense oligonucleotide targeting Smad7, to develop and commercialize products containing GED-0301 for the treatment of Crohn’s disease and other indications. A phase II trial of GED-0301 in patients with active Crohn's disease has been completed and we have initiated a multi-trial clinical program that is designed to support global registrations of GED-0301 in Crohn's disease.
Under the terms of the agreement, which became effective on May 14, 2014 after receipt of certain governmental clearances and approvals, we made an upfront payment of $710.0 million and may make additional contingent developmental, regulatory and sales milestone payments as well as payments based on percentages of annual sales of licensed products. The maximum aggregate amount payable for development and regulatory milestones is approximately $815.0 million, which covers such milestones relating to Crohn’s disease and other indications. Starting from global annual net sales of $500.0 million, aggregate tiered sales milestone payments could total a maximum of $1.050 billion if global annual net sales reach $4.000 billion.
The development and application of the intellectual property covered under the license agreement will be managed by joint committees composed of members from each of Nogra and us. We have the tie-breaking vote on the joint steering committee and as such have ultimate decision-making authority for development, regulatory and commercialization decisions. The agreement also includes provisions for access to employees of Nogra, technical assistance, transfer of manufacturing agreements and transfer of Nogra know-how related to GED-0301. Based on the foregoing factors, for accounting purposes, we have concluded that the acquired assets meet the definition of a business and have accounted for the GED-0301 license as IPR&D acquired in a business combination. The acquisition method of accounting requires that (a) the assets acquired and liabilities assumed be recognized at their fair values as of the acquisition date and (b) the fair value of IPR&D be classified as an indefinite-lived asset until the successful completion or abandonment of the associated research and development efforts. Pro-forma results of operations for this acquisition have not been presented because this acquisition is not material to our consolidated results of operations.
The fair value of consideration transferred to acquire the license amounted to:
Our potential contingent consideration payments were measured at fair value as of the acquisition date and classified as liabilities. We estimated the fair value of potential contingent consideration using a probability-weighted income approach, which reflects the probability and timing of future potential payments. This fair value measurement is based on significant inputs that are not observable in the market and thus represents a level three liability within the fair value hierarchy. The resulting probability-weighted cash flows were discounted using a discount rate based on a market participant assumption. See Note 4 for post-acquisition changes in fair value. The purchase price allocation resulted in the following amounts being allocated to the assets acquired at the acquisition date based on their respective fair values:
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The fair value of the acquired IPR&D asset was based on the present value of expected net cash flows from the GED-0301 product candidate. Net cash flows were determined by estimating future sales, net of the costs to complete development of GED-0301 into a commercially viable product. Estimated net cash flows were adjusted to reflect the probability of successfully developing a new drug from a product candidate that has completed a phase II trial. Additionally, the projections considered the relevant market sizes and growth factors and the nature and expected timing of a new product introduction. The resulting net cash flows from such potential products include our estimates of cost of sales, operating expenses, and income taxes. The rates utilized to discount the net cash flows to their present value were commensurate with the stage of development of the project and uncertainties in the economic estimates used in the projections described above. The acquired IPR&D asset is accounted for as an indefinite-lived intangible asset until regulatory approval in a major market or discontinuation.
The excess of purchase price over the fair value amounts assigned to the assets acquired represents the goodwill amount resulting from the acquisition. The goodwill recorded as part of the acquisition is largely attributable to intangible assets that do not qualify for separate recognition. We expect this goodwill to be deductible for tax purposes.
The license agreement may be terminated (i) at our discretion upon 180 days’ written notice to Nogra, provided that such termination will not become effective before May 14, 2017, and (ii) by either party upon material breach of the other party, subject to cure periods. Upon the expiration of our royalty payment obligations under the license agreement, on a country-by-country and licensed product-by-licensed product basis, the license granted under the license agreement will become fully paid-up, irrevocable, perpetual, and non-terminable with respect to such licensed product in such country.
LifebankUSA: In February 2016, we completed the sale of certain assets of Celgene Cellular Therapeutics (CCT) comprising CCT's biobanking business known as LifebankUSA, CCT’s biomaterials portfolio of assets, including Biovance®, and CCT's rights to PSC-100, a placental stem cell program, to Human Longevity, Inc. (HLI), a genomics and cell therapy-based diagnostic and therapeutic company based in San Diego, California. We received 3.4 million shares of HLI Class A common stock with a fair value of $39.6 million as consideration in the transaction. The fair value of the shares common stock we received was determined based on the most recent preferred share offering and reduced for the estimated value of the liquidation preference not offered to common share-holders. The transaction generated a $37.5 million gain that was recorded on our Consolidated Statements of Income in Other income (expense), net. As of December 31, 2016 our total investment in HLI represents approximately 16% of HLI's outstanding capital stock.
Other Acquisitions
EngMab AG (EngMab): On September 27, 2016, we acquired all of the outstanding shares of EngMab, a privately held biotechnology company focused on T-cell bi-specific antibodies. EngMab’s lead molecule, EM901 is a preclinical T-cell bi-specific antibody targeting B-cell maturation antigen (BCMA). The acquisition also included another early stage program.
The consideration included an initial payment of 606.9 million Swiss Francs (CHF) (approximately $625.3 million at the time of acquisition), contingent development and regulatory milestones of up to CHF 150.0 million (approximately $154.7 million) and contingent commercial milestones of up to CHF 2.250 billion (approximately $2.320 billion) based on cumulative sales levels of between $1.000 billion and $40.000 billion. The acquisition of EngMab did not include any significant processes and thus, for accounting purposes, we have concluded that the acquired assets did not meet the definition of a business. The initial payment was allocated primarily to the EM901 molecule and another early stage program, resulting in a $623.3 million research and development asset acquisition expense and $2.0 million of net working capital acquired.
Acetylon Pharmaceuticals, Inc. (Acetylon): On December 16, 2016, we acquired all of the remaining outstanding equity interests we did not already own (approximately 86%) in Acetylon, a privately held biotechnology company focused on developing next-generation selective small molecule histone deacetylase (“HDAC”) inhibitors, which allow for epigenetic regulation of gene and protein function. Acetylon’s lead molecule, ACY-241 is a HDAC6 inhibitor in Phase 1 trials for relapsed and/or refractory multiple
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myeloma. The acquisition also included another early stage molecule. Prior to the acquisition, we had an equity interest equal to approximately 14% of Acetylon’s total capital stock with a carrying value of approximately $30.0 million.
The consideration transferred included an initial payment of $196.3 million. In addition, the sellers of Acetylon are eligible to receive contingent regulatory milestones of up to $375.0 million per eligible product, contingent commercial milestones of up to $1.500 billion based on achieving annual net sales in excess of $1.000 billion and tiered royalties on annual net sales of eligible products. The acquisition did not include any significant processes and thus, for accounting purposes, we have concluded that the acquired assets did not meet the definition of a business. The initial payment and carrying value of our previous equity interest were allocated primarily to ACY-241 and another early stage molecule, resulting in a $226.1 million research and development asset acquisition expense and $0.2 million of net assets acquired.
Triphase Research and Development I Corporation (Triphase): On November 17, 2016, we acquired from Triphase Accelerator, L.P. (Sellers) all of the outstanding shares of Triphase by exercising the option we acquired on October 22, 2012. Triphase is a privately held, biotechnology company focusing on the development of marizomib for glioblastoma and relapsed and/or refractory multiple myeloma.
The consideration transferred was valued at $42.4 million including the value of the exercised option of $17.6 million. In addition, the sellers are eligible to receive contingent development and regulatory milestones of up to $125.0 million, contingent commercial milestones of up to $300.0 million based on achieving annual net sales equal in excess of $1.000 billion and royalties on annual net sales. The acquisition did not include any significant processes and thus, for accounting purposes, we have concluded that the acquired assets did not meet the definition of a business. The consideration transferred was allocated primarily to the marizomib asset, resulting in a $43.5 million research and development asset acquisition expense and $1.1 million of net liabilities acquired.
3. Earnings Per Share
The total number of potential shares of common stock excluded from the diluted earnings per share computation because their inclusion would have been anti-dilutive was 23.8 million in 2016, 14.1 million in 2015 and 18.7 million in 2014.
During the period of April 2009 through December 2016, our Board of Directors approved repurchases of up to an aggregate of $20.500 billion of our common stock, including the authorization in June 2016 to repurchase an additional $3.000 billion of our common stock.
As part of the management of our share repurchase program, we may, from time to time, sell put options on our common stock with strike prices that we believe represent an attractive price to purchase our shares. If the trading price of our shares exceeds the strike price of the put option at the time the option expires, we will have economically reduced the cost of our share repurchase program by the amount of the premium we received from the sale of the put option. If the trading price of our stock is below the strike price of the put option at the time the option expires, we would purchase the shares covered by the option at the strike price of the put option. During 2016, 2015 and 2014 we recorded net gains of $7.6 million, net losses of $9.9 million, and net gains of $11.6 million, respectively, from selling put options on our common stock on the Consolidated Statements of Income in Other income (expense), net. At December 31, 2016, we had no outstanding put options.
We repurchased 21.4 million shares of common stock under the program from all sources during 2016 at a total cost of $2.160 billion. As of December 31, 2016, we had a remaining open-ended repurchase authorization of $4.731 billion.
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4. Financial Instruments and Fair Value Measurement
The table below presents information about assets and liabilities that are measured at fair value on a recurring basis as of December 31, 2016 and 2015, and the valuation techniques we utilized to determine such fair value.
•
Level 1 inputs utilize quoted prices (unadjusted) in active markets for identical assets or liabilities. Our level 1 assets consist of marketable equity securities. Our level 1 liability relates to our publicly traded CVRs. See Note 18 for a description of the CVRs.
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Level 2 inputs utilize observable quoted prices for similar assets and liabilities in active markets and observable quoted prices for identical or similar assets in markets that are not very active. Our level 2 assets consist primarily of U.S. Treasury securities, U.S. government-sponsored agency MBS, global corporate debt securities, asset backed securities, time deposits with original maturities of greater than three months, foreign currency forward contracts, purchased foreign currency options and interest rate swap contracts. Our level 2 liabilities relate to written foreign currency options.
•
Level 3 inputs utilize unobservable inputs and include valuations of assets or liabilities for which there is little, if any, market activity. We do not have any level 3 assets. Our level 3 liabilities consist of contingent consideration related to undeveloped product rights and technology platforms resulting from the acquisitions of Gloucester Pharmaceuticals, Inc. (Gloucester), Nogra, Avila Therapeutics, Inc. (Avila) and Quanticel.
Our contingent consideration obligations are recorded at their estimated fair values and we revalue these obligations each reporting period until the related contingencies are resolved. The fair value measurements are estimated using probability-weighted discounted cash flow approaches that are based on significant unobservable inputs related to product candidates acquired in business combinations and are reviewed quarterly. These inputs include, as applicable, estimated probabilities and timing of achieving specified development and regulatory milestones, estimated annual sales and the discount rate used to calculate the present value of estimated future payments. Significant changes which increase or decrease the probabilities of achieving the related development and regulatory events, shorten or lengthen the time required to achieve such events, or increase or decrease estimated annual sales would result in corresponding increases or decreases in the fair values of these obligations. Changes in the fair value of contingent consideration obligations are recognized in Acquisition related charges, net in the Consolidated Statements of Income. The fair value of our contingent consideration as of December 31, 2016 and December 31, 2015 was calculated using the following significant unobservable inputs:
The maximum remaining potential payments related to the contingent consideration from the acquisitions of Gloucester, Avila and Quanticel are estimated to be $120.0 million, $475.0 million and $313.6 million, respectively, and $1.865 billion plus other amounts calculated as a percentage of annual sales pursuant to the license agreement with Nogra.
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There were no security transfers between levels 1 and 2 during years ended December 31, 2016 and 2015. The following table represents a roll-forward of the fair value of level 3 instruments:
The roll-forward of the fair value of level 3 instruments above includes an $89.6 million decrease in the fair value of contingent consideration from the acquisition of Avila that was recorded during 2016 as a result of adjustments made to the probability and timing of future potential milestone payments. An adjustment was also made to the technology platform asset obtained in the acquisition of Avila based on probability-weighted future cash flows, which resulted in an $83.1 million reduction in the fair value
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of the technology platform asset during 2016 (see Note 10). The fair value of level 3 liabilities also decreased by $49.8 million for milestones related to the acquisition of Quanticel that were achieved during 2016. Lastly, a $10.7 million measurement period adjustment was recorded during 2016 related to the valuation of contingent consideration associated with the 2015 acquisition of Quanticel (see Note 2). These decreases were partly offset by accretion of the fair value of our contingent consideration due to the passage of time. Changes to the fair value of contingent consideration are recorded on the Consolidated Statements of Income as Acquisition related charges, net.
5. Derivative Instruments and Hedging Activities
Our revenue and earnings, cash flows and fair values of assets and liabilities can be impacted by fluctuations in foreign exchange rates and interest rates. We actively manage the impact of foreign exchange rate and interest rate movements through operational means and through the use of various financial instruments, including derivative instruments such as foreign currency option contracts, foreign currency forward contracts, treasury rate lock agreements and interest rate swap contracts. In instances where these financial instruments are accounted for as cash flow hedges or fair value hedges we may from time to time terminate the hedging relationship. If a hedging relationship is terminated we generally either settle the instrument or enter into an offsetting instrument.
Foreign Currency Risk Management
We maintain a foreign exchange exposure management program to mitigate the impact of volatility in foreign exchange rates on future foreign currency cash flows, translation of foreign earnings and changes in the fair value of assets and liabilities denominated in foreign currencies.
Through our revenue hedging program, we endeavor to reduce the impact of possible unfavorable changes in foreign exchange rates on our future U.S. Dollar cash flows that are derived from foreign currency denominated sales. To achieve this objective, we hedge a portion of our forecasted foreign currency denominated sales that are expected to occur in the foreseeable future, typically within the next three years, with a maximum of five years. We manage our anticipated transaction exposure principally with foreign currency forward contracts, a combination of foreign currency put and call options, and occasionally purchased foreign currency put options.
Foreign Currency Forward Contracts: We use foreign currency forward contracts to hedge specific forecasted transactions denominated in foreign currencies, manage exchange rate volatility in the translation of foreign earnings, and reduce exposures to foreign currency fluctuations of certain assets and liabilities denominated in foreign currencies.
We manage a portfolio of foreign currency forward contracts to protect against changes in anticipated foreign currency cash flows resulting from changes in foreign currency exchange rates, primarily associated with non-functional currency denominated revenues and expenses of foreign subsidiaries. The foreign currency forward hedging contracts outstanding at December 31, 2016 and December 31, 2015 had settlement dates within 31 months and 36 months, respectively. The spot rate components of these foreign currency forward contracts are designated as cash flow hedges and, to the extent effective, any unrealized gains or losses are reported in other comprehensive income (OCI) and reclassified to operations in the same periods during which the underlying hedged transactions affect earnings. If a hedging relationship is terminated with respect to a foreign currency forward contract, accumulated gains or losses associated with the contract remain in OCI until the hedged forecasted transaction occurs and are reclassified to operations in the same periods during which the underlying hedged transactions affect earnings. Any ineffectiveness on these foreign currency forward contracts is reported on the Consolidated Statements of Income in Other income (expense), net. The forward point components of these foreign currency forward contracts are not designated as cash flow hedges and all fair value adjustments of forward point amounts are recorded to Other income (expense), net. Foreign currency forward contracts entered into to hedge forecasted revenue and expenses were as follows at December 31, 2016 and December 31, 2015:
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We consider the impact of our own and the counterparties’ credit risk on the fair value of the contracts as well as the ability of each party to execute its obligations under the contract on an ongoing basis. As of December 31, 2016, credit risk did not materially change the fair value of our foreign currency forward contracts.
We also manage a portfolio of foreign currency contracts to reduce exposures to foreign currency fluctuations of certain recognized assets and liabilities denominated in foreign currencies and, from time to time, we enter into foreign currency contracts to manage exposure related to translation of foreign earnings. These foreign currency forward contracts have not been designated as hedges and, accordingly, any changes in their fair value are recognized on the Consolidated Statements of Income in Other income (expense), net in the current period. The aggregate notional amount of the foreign currency forward non-designated hedging contracts outstanding at December 31, 2016 and December 31, 2015 were $933.8 million and $920.0 million, respectively.
Foreign Currency Option Contracts: From time to time, we may hedge a portion of our future foreign currency exposure by utilizing a strategy that involves both a purchased local currency put option and a written local currency call option that are accounted for as hedges of future sales denominated in that local currency. Specifically, we sell (or write) a local currency call option and purchase a local currency put option with the same expiration dates and local currency notional amounts but with different strike prices. This combination of transactions is generally referred to as a “collar.” The expiration dates and notional amounts correspond to the amount and timing of forecasted foreign currency sales. The foreign currency option contracts outstanding at December 31, 2016 and December 31, 2015 had settlement dates within 48 months and 36 months, respectively. If the U.S. Dollar weakens relative to the currency of the hedged anticipated sales, the purchased put option value reduces to zero and we benefit from the increase in the U.S. Dollar equivalent value of our anticipated foreign currency cash flows; however, this benefit would be capped at the strike level of the written call, which forms the upper end of the collar. The premium collected from the sale of the call option is equal to the premium paid for the purchased put option, resulting in a net zero cost for each collar. Outstanding foreign currency option contracts entered into to hedge forecasted revenue were as follows at December 31, 2016 and December 31, 2015:
1 U.S. Dollar notional amounts are calculated as the hedged local currency amount multiplied by the strike value of the foreign currency option. The local currency notional amounts of our purchased put and written call that are designated as hedging activities are equal to each other.
We also have entered into foreign currency put option contracts to hedge forecasted revenue which were not part of a collar strategy. Such put option contracts had a notional value of $386.8 million at December 31, 2016 and settlement dates within 24 months.
Interest Rate Risk Management
Forward Starting Interest Rate Swaps and Treasury Rate Locks: In anticipation of issuing fixed-rate debt, we may use forward starting interest rate swaps (forward starting swaps) or treasury rate lock agreements (treasury rate locks) that are designated as cash flow hedges to hedge against changes in interest rates that could impact expected future issuances of debt. To the extent these hedges of cash flows related to anticipated debt are effective, any realized or unrealized gains or losses on the forward starting swaps or treasury rate locks are reported in OCI and are recognized in income over the life of the anticipated fixed-rate notes.
During 2014, we entered into forward starting swaps that were designated as cash flow hedges to hedge against changes in interest rates that could impact an anticipated issuance of debt in 2015. During 2015, we entered into additional forward starting swaps and treasury rate locks. Forward starting swaps and treasury rate locks with a combined aggregate notional amount of $2.900 billion were settled upon the issuance of debt in August 2015, when the net fair value of the forward starting swaps and treasury rate locks in accumulated OCI was in a loss position of $21.6 million. The net loss will be recognized as interest expense over the life of the associated senior notes. At December 31, 2016 and December 31, 2015, we had outstanding forward starting swaps with effective dates in 2017 and 2018 and maturing in ten years that were designated as cash flow hedges with notional amounts as shown in the table below:
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Interest Rate Swap Contracts: From time to time we hedge the fair value of certain debt obligations through the use of interest rate swap contracts. The interest rate swap contracts are designated hedges of the fair value changes in the notes attributable to changes in interest rates. Since the specific terms and notional amount of the swap are intended to match those of the debt being hedged, it is assumed to be a highly effective hedge and all changes in fair value of the swap are recorded on the Consolidated Balance Sheets with no net impact recorded in income. Any net interest payments made or received on interest rate swap contracts are recognized as interest expense. If a hedging relationship is terminated for an interest rate swap contract, accumulated gains or losses associated with the contract are measured and recorded as a reduction or increase of current and future interest expense associated with the previously hedged debt obligations.
We had entered into swap contracts that were designated as hedges of certain of our fixed rate notes and also terminated the hedging relationship by settling certain of those swap contracts during 2016 and 2015. In July 2016, we terminated the hedging relationship on all of our then outstanding swap contracts, amounting to $3.600 billion notional amount, by settling such swap contracts. The settlement of swap contracts resulted in the receipt of net proceeds of $195.6 million and $10.8 million during the years ended December 31, 2016 and 2015, respectively, which are accounted for as a reduction of current and future interest expense associated with these notes. See Note 11 for additional details related to reductions of current and future interest expense.
The following table summarizes the notional amounts of our outstanding interest rate swap contracts at December 31, 2016 and December 31, 2015:
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The following table summarizes the fair value and presentation in the Consolidated Balance Sheets for derivative instruments as of December 31, 2016 and 2015:
1 Derivative instruments in this category are subject to master netting arrangements and are presented on a net basis in the Consolidated Balance Sheets in accordance with ASC 210-20.
The following table summarizes the effect of derivative instruments designated as cash-flow hedging instruments on the Consolidated Statements of Income for the years ended December 31, 2016 and 2015:
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Net gains of $310.6 million are expected to be reclassified from Accumulated OCI into income in the next 12 months.
The amount of net gains recognized in income represents $17.1 million of gains related to amounts excluded from the assessment of hedge effectiveness (fair value adjustments of forward point amounts) and $2.2 million in gains related to the ineffective portion of the hedging relationships.
The amount of net gains recognized in income represents $23.0 million of gains related to amounts excluded from the assessment of hedge effectiveness (fair value adjustments of forward point amounts) and $3.0 million of losses related to the ineffective portion of the hedging relationships.
The amount of net loss recognized in income relates to the ineffective portion of the hedging relationships.
The following table summarizes the effect of derivative instruments designated as fair value hedging instruments on the Consolidated Statements of Income for the years ended December 31, 2016 and 2015:
The following table summarizes the effect of derivative instruments not designated as hedging instruments on the Consolidated Statements of Income for the years ended December 31, 2016 and 2015:
The impact of gains and losses on foreign exchange contracts not designated as hedging instruments related to changes in the fair value of assets and liabilities denominated in foreign currencies are generally offset by net foreign exchange gains and losses, which are also included on the Consolidated Statements of Income in Other income (expense), net for all periods presented. When we enter into foreign exchange contracts not designated as hedging instruments to mitigate the impact of exchange rate volatility in the translation of foreign earnings, gains and losses will generally be offset by fluctuations in the U.S. Dollar translated amounts of each Income Statement account in current and/or future periods.
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6. Cash, Cash Equivalents and Marketable Securities Available-for-Sale
Money market funds of $1.598 billion and $1.413 billion at December 31, 2016 and 2015, respectively, were recorded at cost, which approximates fair value and are included in cash and cash equivalents.
The amortized cost, gross unrealized holding gains, gross unrealized holding losses and estimated fair value of available-for-sale securities by major security type and class of security at December 31, 2016 and 2015 were as follows:
1 Time deposits with original maturities of greater than three months.
U.S. government-sponsored agency MBS include mortgage-backed securities issued by the Federal National Mortgage Association, the Federal Home Loan Mortgage Corporation and the Government National Mortgage Association. Corporate debt-global includes obligations issued by investment-grade corporations, including some issues that have been guaranteed by governments and government agencies. Asset backed securities consist of triple-A rated securities with cash flows collateralized by credit card receivables and auto loans. Marketable equity securities consist of investments in publicly traded equity securities. The decrease in net unrealized gains in marketable equity securities in 2016 compared to 2015 primarily reflects the decrease in market value for certain equity investments during 2016. During the fourth quarter of 2016, we recorded an expense of $272.2 million to reclassify the unrealized loss in OCI related to our holding of Juno Therapeutics, Inc. (Juno) common shares due to a decline in the underlying fair value of the securities, which we concluded to be other-than-temporary. The adjustment reflects Juno’s share price as of December 31, 2016 and is included on the Consolidated Statement of Income in Other income (expense), net. Net unrealized losses in marketable debt securities primarily reflect the impact of increased interest rates at December 31, 2016.
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The fair value of all available-for-sale securities, which have been in an unrealized loss position for less than and longer than 12 months at December 31, 2016, was as follows:
We believe that the remaining decline in fair value of securities held at December 31, 2016 below their cost is temporary and intend to retain our investment in these securities for a sufficient period of time to allow for recovery in the market value of these investments.
Duration periods of available-for-sale debt securities at December 31, 2016 were as follows:
7. Inventory
A summary of inventories by major category at December 31, 2016 and 2015 follows:
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8. Property, Plant and Equipment
Property, plant and equipment at December 31, 2016 and 2015 consisted of the following:
The increase in the balance of buildings from December 31, 2015 to December 31, 2016 primarily relates to the expansion of our corporate headquarters in Summit, New Jersey and the construction of a new manufacturing facility in Couvet, Switzerland.
9. Other Financial Information
Other current assets at December 31, 2016 and 2015 consisted of the following:
Accrued expenses and other current liabilities at December 31, 2016 and 2015 consisted of the following:
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Other non-current liabilities at December 31, 2016 and 2015 consisted of the following:
10. Intangible Assets and Goodwill
Intangible Assets: Our finite lived intangible assets primarily consist of developed product rights and technology obtained from the Pharmion Corp. (Pharmion), Gloucester, Abraxis BioScience, Inc. (Abraxis), Avila and Quanticel acquisitions. The remaining weighted-average amortization period for finite-lived intangible assets not fully amortized is approximately 9.4 years. Our indefinite lived intangible assets consist of acquired IPR&D product rights from the Receptos, Nogra and Gloucester acquisitions.
Intangible assets outstanding as of December 31, 2016 and December 31, 2015 are summarized as follows:
The gross carrying value of intangible assets decreased by $83.6 million in 2016 compared to 2015 primarily due to an $83.1 million impairment charge included in Amortization of acquired intangible assets, to write down the technology platform asset obtained in the acquisition of Avila. The impairment charge was due to revised estimates of the probability-weighted forecasted future cash flows expected to be produced from the technology platform compared to prior estimates. An adjustment was also made to the probability and timing of future potential milestone payments, which resulted in a reduction in the fair value of our contingent consideration payable to the former shareholders of Avila (see Note 4).
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Amortization expense was $465.7 million, $284.7 million and $263.9 million for the years ended December 31, 2016, 2015 and 2014, respectively. Amortization expense increased by a net $181.0 million in 2016 compared to 2015, the increase primarily related to the impairment charge noted above as well as an acceleration of amortization expense related to the Avila technology platform, the amortization of the technology platform received in the October 2015 acquisition of Quanticel and a reduction in the estimated useful lives of intangible assets related to the acquisition of Gloucester following the grant to Fresenius Kabi USA, LLC of a non-exclusive, royalty-free sublicense to manufacture and market a generic version of romidepsin for injection as of February 1, 2018. Assuming no changes in the gross carrying amount of finite lived intangible assets, the future annual amortization expense related to finite lived intangible assets is expected to be approximately $335.9 million in 2017, $252.3 million in 2018, $155.5 million in 2019, $154.2 million in 2020, and $151.5 million in 2021.
Goodwill: At December 31, 2016, our goodwill related to the 2015 acquisitions of Receptos and Quanticel, 2014 acquisition of Nogra, the 2012 acquisition of Avila, the 2010 acquisitions of Abraxis and Gloucester, the 2008 acquisition of Pharmion and the 2004 acquisition of Penn T Limited.
The change in carrying value of goodwill is summarized as follows:
11. Debt
Short-Term Borrowings and Current Portion of Long-Term Debt: We had no outstanding short-term borrowing as of December 31, 2016 or December 31, 2015. The current portion of long-term debt outstanding as of December 31, 2016 and 2015 includes:
Long-Term Debt: Our outstanding senior notes with maturity dates in excess of one year after December 31, 2016 have an aggregate principal amount of $13.750 billion with varying maturity dates and interest rates. The carrying values of the long-term portion of these senior notes at December 31, 2016 and 2015 are summarized below:
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At December 31, 2016, the fair value of our outstanding Senior Notes was $14.572 billion and represented a level 2 measurement within the fair value measurement hierarchy.
In August 2015, we issued an additional $8.000 billion principal amount of senior notes consisting of $1.000 billion aggregate principal amount of 2.125% Senior Notes due 2018 (the 2018 notes), $1.500 billion aggregate principal amount of 2.875% Senior Notes due 2020 (the 2020 notes), $1.000 billion aggregate principal amount of 3.550% Senior Notes due 2022 (the 2022 notes), $2.500 billion aggregate principal amount of 3.875% Senior Notes due 2025 (the 2025 notes) and $2.000 billion aggregate principal amount of 5.000% Senior Notes due 2045 (the 2045 notes and together with the 2018 notes, the 2020 notes, the 2022 notes, and the 2025 notes, referred to herein as the “2015 issued notes”).
The 2015 issued notes were issued at 99.994%, 99.819%, 99.729%, 99.034%, and 99.691% of par, respectively, and the discount is being amortized as additional interest expense over the period from issuance through maturity. Offering costs of approximately $50.0 million have been recorded as debt issuance costs on our Consolidated Balance Sheets and are being amortized as additional interest expense using the effective interest rate method over the period from issuance through maturity. Interest on the 2015 issued notes is payable semi-annually in arrears on February 15 and August 15 each year beginning February 15, 2016 and the principal on each 2015 issued note is due in full at their respective maturity dates. The 2015 issued notes may be redeemed at our option, in whole or in part; the 2018 notes, the 2020 notes, and the 2022 notes may be redeemed at any time, the 2025 notes and 2045 notes may be redeemed at three months and six months prior to the maturity dates, respectively.
Early redemption would be at a redemption price equaling accrued and unpaid interest plus the greater of 100% of the principal amount of the 2015 issued notes to be redeemed or the sum of the present values of the remaining scheduled payments of interest and principal discounted to the date of redemption on a semi-annual basis plus 20 basis points in the case of the 2018 notes, 20 basis points in the case of the 2020 notes, 25 basis points in the case of the 2022 notes, 30 basis points in the case of the 2025 notes, and 35 basis points in the case of the 2045 notes. If we experience a change of control accompanied by a downgrade of the debt to below investment grade, we will be required to offer to repurchase the 2015 issued notes at a purchase price equal to 101% of their principal amount plus accrued and unpaid interest. We are subject to covenants which limit our ability to pledge properties as security under borrowing arrangements and limit our ability to perform sale and leaseback transactions involving our property.
In 2015, the 2.45% senior notes with a principal amount of $500.0 million matured and were repaid. We also assumed $13.9 million of debt obligations as part of the acquisition of Quanticel in 2015 that were repaid in 2015.
From time to time, we have used treasury rate locks and forward starting interest rate swap contracts to hedge against changes in interest rates in anticipation of issuing fixed-rate notes. As of December 31, 2016, a balance of $60.9 million in losses remained in accumulated OCI related to settlements of these derivative instruments and will be recognized as interest expense over the life of the notes.
At December 31, 2016, we were party to pay-floating, receive-fixed interest rate swap contracts designated as fair value hedges of fixed-rate notes as described in Note 5. Our swap contracts outstanding at December 31, 2016 effectively convert the hedged portion of our fixed-rate notes to floating rates. From time to time we terminate the hedging relationship on certain of our swap contracts by settling the contracts or by entering into offsetting contracts. Any net proceeds received or paid in these settlements are accounted for as a reduction or increase of current and future interest expense associated with the previously hedged notes. As of December 31, 2016 and 2015, we had a balances of $173.5 million and $33.1 million, respectively, of unamortized gains recorded as a component of our debt as a result of past swap contract settlements, including $160.8 million and $6.0 million related to the settlement of swap contracts during 2016 and 2015, respectively. See Note 5 for additional details related to interest rate swap contract activity.
Commercial Paper: In April 2016, our Board of Directors authorized an increase in the maximum amount of commercial paper issuable to $2.000 billion. As of December 31, 2016 and December 31, 2015, we had available capacity to issue up to $2.000 billion and $1.750 billion of Commercial Paper, respectively, and there were no borrowings under the Program.
Senior Unsecured Credit Facility: We maintain a senior unsecured revolving credit facility (Credit Facility) that provides revolving credit in the aggregate amount of $2.000 billion, which was increased from $1.750 billion in April 2016. Also in April 2016, the term of the Credit Facility was extended from April 17, 2020 to April 17, 2021. Amounts may be borrowed in U.S. dollars for general corporate purposes. The Credit Facility currently serves as backup liquidity for our Commercial Paper borrowings. At December 31, 2016 and 2015, there was no outstanding borrowing against the Credit Facility.
The Credit Facility contains affirmative and negative covenants including certain customary financial covenants. We were in compliance with all financial covenants as of December 31, 2016.
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12. Stockholders' Equity
Preferred Stock: Our Board of Directors is authorized to issue, at any time, without further stockholder approval, up to 5.0 million shares of preferred stock, and to determine the price, rights, privileges, and preferences of such shares.
Common Stock: At December 31, 2016, we were authorized to issue up to 1.150 billion shares of common stock of which shares of common stock issued totaled 954.1 million.
Treasury Stock: During the period of April 2009 through December 2016, our Board of Directors has approved repurchases of up to an aggregate $20.500 billion of our common stock, including the June 2016 authorization to repurchase an additional $3.000 billion of our common stock. We repurchased $2.159 billion, $3.251 billion, and $2.928 billion of treasury stock under the program in 2016, 2015 and 2014, respectively, excluding transaction fees. As of December 31, 2016 an aggregate 168.2 million common shares were repurchased under the program at an average price of $93.73 per common share and total cost of $15.780 billion.
Other: When employee awards of RSUs vest and are settled net in order to fulfill minimum statutory tax withholding requirements, the shares withheld are reflected as treasury stock.
A summary of changes in common stock issued and treasury stock is presented below (in millions of shares):
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13. Accumulated Other Comprehensive Income
The components of other comprehensive income (loss) consist of changes in pension liability, changes in net unrealized gains (losses) on marketable securities classified as available-for-sale, net unrealized gains (losses) related to cash flow hedges and changes in foreign currency translation adjustments.
The accumulated balances related to each component of other comprehensive income (loss), net of tax, are summarized as follows:
14. Share-Based Compensation
We have a stockholder-approved stock incentive plan, the 2008 Stock Incentive Plan (Amended and Restated as of April 15, 2015, as amended effective June 15, 2016) (Plan) that provides for the granting of options, RSUs, PSUs and other share-based awards to our employees, officers and non-employee directors. The Management Compensation and Development Committee of the Board of Directors (Compensation Committee) may determine the type, amount and terms, including vesting, of any awards made under the Plan.
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On June 15, 2016, our stockholders approved an amendment of the Plan, which included the following key modifications: adoption of an aggregate share reserve of 265,263,282 shares of Common Stock, which includes 17,500,000 new shares of Common Stock; a limitation on the aggregate equity compensation that may be provided to non-employee members of the Board of Directors; and an amendment that includes clarifying changes to employee award provisions regarding vesting acceleration on a change in control or certain employment terminations events and the applicability of the Plan's five percent limitation on such awards. The term of the plan is through April 15, 2025.
With respect to options granted under the Plan, the exercise price may not be less than the market closing price of the common stock on the date of grant. In general, options granted under the Plan vest over periods ranging from immediate vesting to four-year vesting and expire ten years from the date of grant, subject to earlier expiration in case of termination of employment unless the participant meets the retirement provision under which the option would have a maximum of three additional years to vest. The vesting period for options granted under the Plan is subject to certain acceleration provisions if a change in control, as defined in the Plan, occurs. Plan participants may elect to exercise options at any time during the option term. However, any shares so purchased which have not vested as of the date of exercise shall be subject to forfeiture, which will lapse in accordance with the established vesting time period.
During 2015, we increased our usage of PSUs and began issuing PSUs to certain executive officers that are payable in shares of our common stock at the end of a three-year performance measurement period. The number of shares to be issued at the end of the measurement period will vary, based on performance, from 0% to 200% of the target number of PSUs granted, depending on the achievement of specified performance and market targets for non-GAAP revenue (37.5% weighting), non-GAAP earnings per share (37.5% weighting), and relative total shareholder return (25% weighting). All shares delivered upon PSU vesting are restricted from trading for one year and one day from the vesting date.
The grant date fair value for the portion of the PSUs related to non-GAAP revenue and non-GAAP earnings per share was estimated using the fair market value of our common stock on the grant date. The grant date fair value for the portion of the PSUs related to relative total shareholder return was estimated using the Monte Carlo valuation model.
Shares of common stock available for future share-based grants under all plans were 40.9 million at December 31, 2016.
The following table summarizes the components of share-based compensation expense in the Consolidated Statements of Income for the years ended December 31, 2016, 2015 and 2014:
Included in share-based compensation expense for the years ended December 31, 2016, 2015 and 2014 was compensation expense related to non-qualified stock options of $357.1 million, $346.1 million and $276.3 million, respectively. Net proceeds received from share-based compensation arrangements for the years ended December 31, 2016, 2015 and 2014 were $359.1 million, $251.7 million and $297.2 million, respectively, and the excess tax benefit recognized was $188.8 million, $300.5 million and $250.6 million, respectively. We do not recognize a deferred tax asset for excess tax benefits that have not been realized and have adopted the tax law method as our accounting policy regarding the ordering of tax benefits to determine whether an excess tax benefit has been realized.
Stock Options: As of December 31, 2016, there was $602.5 million of total unrecognized compensation cost related to stock options granted under the plans. That cost will be recognized over an expected remaining weighted-average period of 2.0 years.
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The weighted-average grant date fair value of the stock options granted during the years ended December 31, 2016, 2015 and 2014 was $32.49 per share, $38.83 per share and $27.92 per share, respectively. We estimated the fair value of options granted using a Black-Scholes option pricing model with the following assumptions:
The risk-free interest rate is based on the U.S. Treasury zero-coupon curve. Expected volatility of stock option awards is estimated based on the implied volatility of our publicly traded options with settlement dates of six months. The use of implied volatility was based upon the availability of actively traded options on our common stock and the assessment that implied volatility is more representative of future stock price trends than historical volatility. The expected term of an employee share option is the period of time for which the option is expected to be outstanding. We made a determination of expected term by analyzing employees' historical exercise experience from its history of grants and exercises in our option database and management estimates. Forfeiture rates are estimated based on historical data.
The following table summarizes all stock option activity for the year ended December 31, 2016:
The total fair value of shares vested during the years ended December 31, 2016, 2015 and 2014 was $334.5 million, $266.5 million and $211.3 million, respectively. The total intrinsic value of stock options exercised during the years ended December 31, 2016, 2015 and 2014 was $747.2 million, $993.5 million and $946.6 million, respectively. We primarily utilize newly issued shares to satisfy the exercise of stock options.
Restricted Stock Units: We issue RSUs, under our equity program in order to provide an effective incentive award with a strong retention component. Equity awards may, at the option of employee participants, be divided between stock options and RSUs. The employee may choose between alternate Company defined mixes of stock options and RSUs, with the number of options to be granted reduced by four for every one RSU to be granted.
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Information regarding the Company's RSUs for the year ended December 31, 2016 is as follows (shares in millions):
As of December 31, 2016, there was $374.0 million of total unrecognized compensation cost related to non-vested RSU awards. That cost is expected to be recognized over a weighted-average period of 1.6 years. The Company primarily utilizes newly issued shares to satisfy the vesting of RSUs.
Performance-Based Restricted Stock Units: We grant performance-based restricted stock units that vest contingent upon the achievement of pre-determined performance-based milestones that are either related to product development or the achievement of specified performance and market targets, including non-GAAP revenue, non-GAAP earnings per share, and relative total shareholder return. The following table summarizes the Company's performance-based restricted stock unit activity for the year ended December 31, 2016 (shares in thousands):
As of December 31, 2016, there was $27.2 million of total unrecognized compensation cost related to non-vested awards of performance-based RSUs that is expected to be recognized over a weighted-average period of 1.7 years.
15. Employee Benefit Plans
We sponsor an employee savings and retirement plan, which qualifies under Section 401(k) of the Internal Revenue Code, as amended (the Code) for our U.S. employees. Our contributions to the U.S. savings plan are discretionary and have historically been made in the form of our common stock (see Note 12). Such contributions are based on specified percentages of employee contributions up to 6% of eligible compensation or a maximum permitted by law. Total expense for contributions to the U.S. savings plans were $40.2 million, $35.1 million and $40.7 million in 2016, 2015 and 2014, respectively.
We also sponsor defined contribution plans in certain foreign locations. Participation in these plans is subject to the local laws that are in effect for each country and may include statutorily imposed minimum contributions. We also maintain defined benefit plans in certain foreign locations for which the obligations and the net periodic pension costs were determined to be immaterial at December 31, 2016.
In 2000, our Board of Directors approved a deferred compensation plan. The plan was frozen effective as of December 31, 2004, and no additional contributions or deferrals can be made to that plan. Accrued benefits under the frozen plan will continue to be governed by the terms under the tax laws in effect prior to the enactment of American Jobs Creation Act of 2004, Section 409A (Section 409A).
In February 2005, our Board of Directors adopted the Celgene Corporation 2005 Deferred Compensation Plan, effective as of January 1, 2005, and amended the plan in February 2008. This plan operates as our ongoing deferred compensation plan and is intended to comply with Section 409A. Eligible participants, which include certain top-level executives as specified by the plan,
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can elect to defer up to an amended 90% of the participant's base salary, 100% of cash bonuses and equity compensation allowed under Section 409A. Company contributions to the deferred compensation plan represent a match to certain participants' deferrals up to a specified percentage, which currently ranges from 10% to 20%, depending on the employee's position as specified in the plan, of the participant's base salary. We recorded expenses of $0.3 million, $0.3 million and $0.3 million related to our contributions to the deferred compensation plans in 2016, 2015 and 2014, respectively. The Company's matches are fully vested upon contribution. All other Company contributions to the plan do not vest until the specified requirements are met. At December 31, 2016 and 2015, we had a deferred compensation liability included in other non-current liabilities in the Consolidated Balance Sheets of approximately $125.1 million and $104.5 million, respectively, which included the participant's elected deferral of salaries and bonuses, the Company's matching contribution and earnings on deferred amounts as of that date. The plan provides various alternatives for the measurement of earnings on the amounts participants defer under the plan. The measurement alternatives are based on returns of a variety of funds that offer plan participants the option to spread their risk across a diverse group of investments.
We have established a Long-Term Incentive Plan, or LTIP, designed to provide key officers and executives with performance-based incentive opportunities contingent upon achievement of pre-established corporate performance objectives covering a three-year period. At December 31, 2016, we had recorded liabilities for three separate three-year performance cycles running concurrently and ending December 31, 2016, 2017 and 2018. Performance measures for each of the performance cycles are based on the following components: 37.5% on non-GAAP earnings per share (as defined in the LTIP); 37.5% on total non-GAAP revenue (as defined in the LTIP); and 25% on relative total shareholder return, which is a measurement of our stock price performance during the applicable three-year period compared with a group of other companies in the biopharmaceutical industry.
Threshold, target and maximum cash payout levels are calculated as a percentage between 0% to 200% of each participant’s base salary at the time the LTIP was approved by the Compensation Committee. Such awards are payable in cash or common stock or a mixture of cash and common stock, which will be determined by the Compensation Committee at the time of award delivery. Share-based payout levels are calculated using the cash-based threshold, target and maximum levels, divided by the average closing price of Celgene stock for the 30 trading days prior to the commencement of each performance cycle. Therefore, final share-based award values are reflective of the stock price at the end of the measurement period. The Compensation Committee may determine that payments made in common stock are restricted from trading for a period of time. The estimated payout value for the three-year performance cycle ended December 31, 2016 is $24.8 million, which is included in Accrued expenses and other current liabilities at December 31, 2016, and the maximum potential cash-based payout, assuming maximum objectives are achieved for performance cycles ending in 2017, 2018 and 2019 are $14.2 million, $14.6 million and $14.9 million, respectively. The reduction in the maximum potential cash-based payout for cycles ending after 2016 reflect a shift in the mix of compensation components for certain senior executives, including performance-based equity compensation in lieu of LTIP participation. We accrue the long-term incentive liability over each three-year cycle. Prior to the end of a three-year cycle, the accrual is based on an estimate of our level of achievement during the cycle. Upon a change in control, participants will be entitled to an immediate payment equal to their target award or, if higher, an award based on actual performance through the date of the change in control. For the years ended December 31, 2016, 2015 and 2014, we recognized expense related to the LTIP of $12.8 million, $24.9 million and $42.3 million, respectively.
16. Income Taxes
Income before income taxes is as follows:
For the years ended December 31, 2016, 2015 and 2014, U.S. income before income taxes reflects charges related to share-based compensation, upfront collaboration payments, asset impairments, acquisitions and interest expense which in the aggregate, increased from 2014 to 2016. Many of these charges are not deductible for U.S. income tax purposes. Non-U.S. income before income taxes reflects the results of our commercial, research and manufacturing operations outside the U.S.
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The provision (benefit) for taxes on income is as follows:
Amounts are reflected in the preceding tables based on the location of the taxing authorities.
Deferred taxes arise because of different treatment between financial statement accounting and tax accounting, known as temporary differences. We record the tax effect on these temporary differences as deferred tax assets (generally items that can be used as a tax deduction or credit in future periods) or deferred tax liabilities (generally items for which we received a tax deduction but have not yet recorded in the Consolidated Statements of Income and the tax effects of acquisition related temporary differences). We evaluate the likelihood of the realization of deferred tax assets and record a valuation allowance if it is more likely than not that all or a portion of the asset will not be realized. We consider many factors when assessing the likelihood of future realization of deferred tax assets, including our recent cumulative earnings experience by taxing jurisdiction, expectations of future taxable income, the carryforward periods available to us for tax reporting purposes, tax planning strategies and other relevant factors. Significant judgment is required in making this assessment. At December 31, 2016 and 2015, it was more likely than not that we would realize our deferred tax assets, net of valuation allowances. The $52.5 million increase in the valuation allowance from 2015 to 2016 relates primarily to certain state and foreign net operating loss (NOL) carryforwards.
We do not provide for U.S. federal or state income taxes on unremitted earnings of our international subsidiaries that are indefinitely reinvested outside the United States. As of December 31, 2016, we have not made a U.S. tax provision on $13.300 billion of unremitted earnings of our international subsidiaries. As these earnings are expected to be reinvested overseas indefinitely, it is not practicable to compute the estimated deferred tax liability on these earnings. Approximately $900.0 million of our foreign earnings may not be required for use in offshore operations and are not treated as permanently reinvested. Our deferred tax liabilities include $316.5 million for the estimated U.S. federal and state income taxes that may be incurred should these earnings be repatriated. In drawing this conclusion, we considered our future sources of funds as well as our global operating and strategic liquidity needs, including common share repurchase activities and expansion of our commercial, research, manufacturing and administrative operations worldwide.
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At December 31, 2016 and 2015 the tax effects of temporary differences that give rise to deferred tax assets and liabilities were as follows:
At December 31, 2016 and 2015, deferred tax assets and liabilities were classified on our Consolidated Balance Sheets as follows:
Reconciliation of the U.S. statutory income tax rate to the Company's effective tax rate is as follows:
Our reconciliation of the U.S. statutory income tax rate to our effective tax rate includes foreign tax rate differences from our foreign operations which are subject to income taxes at different rates than the United States. The benefit related to foreign tax rate differences primarily results from our commercial operations in Switzerland, which include significant research and development and manufacturing for worldwide markets. We operated under an income tax agreement in Switzerland through 2015 that provided an exemption from most Swiss income taxes on our operations in Switzerland. Beginning in 2016, we are operating under a new agreement with the Swiss tax authorities which reflects a reorganization and expansion of our Swiss operations, and results in similar tax benefits through the end of 2024. The difference between the maximum statutory Swiss income tax rate (approximately 15.6% in 2016, 17.0% in 2015 and 18.4% in 2014) and our Swiss income tax rate under the tax agreements resulted in a reduction in our 2016, 2015 and 2014 effective tax rates of 20.5, 25.7 and 18.0 percentage points, respectively. The impact of acquisition and collaboration related differences on our effective tax rate was higher in 2015 primarily due to initiations of collaborations with AstraZeneca and Juno in that year. The reconciliation also includes the effect of changes in uncertain tax positions, which include the effect of settlements, expirations of statutes of limitations, and other changes in prior year tax positions.
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At December 31, 2016, we had federal NOL carryforwards of approximately $200.7 million and state NOL carryforwards of approximately $1.313 billion that will expire in the years 2017 through 2036. We also have research and experimentation credit carryforwards of approximately $16.1 million that will expire in the years 2018 through 2036. Deferred tax assets for most of these carryforwards are subject to a full valuation allowance. Excess tax benefits related to share-based compensation deductions incurred after December 31, 2005 are required to be recognized in the period in which the tax deduction is realized through a reduction of income taxes payable. As a result, we have not recorded deferred tax assets for these share-based compensation deductions included in our NOL carryforwards and research and experimentation credit carryforwards. At December 31, 2016, deferred tax assets have not been recorded for state NOL carryforwards of approximately $527.8 million and research and experimentation tax credits of approximately $4.0 million. Upon adoption of ASU 2016-09 on January 1, 2017, unrecorded deferred tax assets for NOL carryforwards and research and experimentation credit carryforwards generated by excess tax benefits are required to be recorded, net of valuation allowances, by means of a cumulative-effect adjustment to equity. We do not expect the cumulative-effect adjustment to have a material impact on our net deferred tax assets.
We realized excess tax benefits related to share-based compensation in 2016, 2015 and 2014 for income tax purposes and have increased additional paid-in capital in the amount of approximately $185.4 million, $302.1 million and $252.6 million, respectively. Effective January 1, 2017, ASU 2016-09 requires that all excess tax benefits and tax deficiencies related to share-based compensation be recognized in the income tax provision as a discrete item in the reporting period in which they occur. We have recorded deferred income taxes related to net unrealized gains on securities as a component of accumulated other comprehensive income resulting in a deferred income tax liability at December 31, 2016 and 2015 of $69.3 million and $129.9 million, respectively.
In 2015, we acquired all of the outstanding common stock of Receptos. The acquisition was accounted for using the acquisition method of accounting, and we recorded a deferred tax liability of $2.519 billion related to the acquisition. Upon integration of the acquired assets into our offshore research, manufacturing, and commercial operations, the deferred tax liability was reclassified to a non-current tax liability. This liability represents an estimate of income tax that may be incurred in the future. This income tax liability is contingent upon successful development of the acquired IPR&D into a commercially viable product and would be incurred over the product's economic useful life.
Our tax returns are under routine examination in many taxing jurisdictions. The scope of these examinations includes, but is not limited to, the review of our taxable presence in a jurisdiction, our deduction of certain items, our claims for research and development tax credits, our compliance with transfer pricing rules and regulations and the inclusion or exclusion of amounts from our tax returns as filed. Our U.S. federal income tax returns have been audited by the IRS through the year ended December 31, 2008. Tax returns for the years ended December 31, 2009, 2010, and 2011 are currently under examination by the IRS. We are also subject to audits by various state and foreign taxing authorities, including, but not limited to, most U.S. states and major European and Asian countries where we have operations.
We regularly reevaluate our tax positions and the associated interest and penalties, if applicable, resulting from audits of federal, state and foreign income tax filings, as well as changes in tax law (including regulations, administrative pronouncements, judicial precedents, etc.) that would reduce the technical merits of the position to below more likely than not. We believe that our accruals for tax liabilities are adequate for all open years. Many factors are considered in making these evaluations, including past history, recent interpretations of tax law and the specifics of each matter. Because tax regulations are subject to interpretation and tax litigation is inherently uncertain, these evaluations can involve a series of complex judgments about future events and can rely heavily on estimates and assumptions. We apply a variety of methodologies in making these estimates and assumptions, which include studies performed by independent economists, advice from industry and subject matter experts, evaluation of public actions taken by the IRS and other taxing authorities, as well as our industry experience. These evaluations are based on estimates and assumptions that have been deemed reasonable by management. However, if management's estimates are not representative of actual outcomes, our results of operations could be materially impacted.
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Unrecognized tax benefits, generally represented by liabilities on the consolidated balance sheet and all subject to tax examinations, arise when the estimated benefit recorded in the financial statements differs from the amounts taken or expected to be taken in a tax return because of the uncertainties described above. A reconciliation of the beginning and ending amount of unrecognized tax benefits is as follows:
These unrecognized tax benefits relate primarily to issues common among multinational corporations. If recognized, unrecognized tax benefits of approximately $388.3 million would have a net impact on the effective tax rate. We account for interest and penalties related to uncertain tax positions as part of our provision for income taxes. Accrued interest at December 31, 2016 and 2015 is approximately $40.1 million and $32.6 million, respectively.
We have recorded changes in the liability for unrecognized tax benefits related to income tax audits in various taxing jurisdictions. The liability for unrecognized tax benefits is expected to increase in the next twelve months relating to operations occurring in that period. Any settlements of examinations with taxing authorities or expirations of statutes of limitations would likely result in a decrease in our liability for unrecognized tax benefits and a corresponding increase in taxes paid or payable and/or a decrease in income tax expense. It is reasonably possible that the amount of the liability for unrecognized tax benefits could change by a significant amount during the next twelve-month period as a result of settlements or expirations of statutes of limitations. Finalizing examinations with the relevant taxing authorities can include formal administrative and legal proceedings and, as a result, it is difficult to estimate the timing and range of possible change related to the Company’s unrecognized tax benefits. An estimate of the range of the possible change cannot be made until issues are further developed or examinations close. Our estimates of tax benefits and potential tax benefits may not be representative of actual outcomes, and variation from such estimates could materially affect our financial statements in the period of settlement or when the statutes of limitations expire.
17. Collaboration Agreements
We enter into collaborative arrangements for the research and development, license, manufacture and/or commercialization of products and/or product candidates. In addition, we also acquire products, product candidates and research and development technology rights and establish research and development collaborations with third parties to enhance our strategic position within our industry by strengthening and diversifying our research and development capabilities, product pipeline and marketed product base. These arrangements may include non-refundable, upfront payments, payments for options to acquire rights to products and product candidates and other rights, as well as potential development, regulatory and commercial performance milestone payments, cost sharing arrangements, royalty payments, profit sharing and equity investments. These arrangements could include obligations for us to make equity investments in the event of an initial public offering of equity by our partners. The activities under these collaboration agreements are performed with no guarantee of either technological or commercial success. Although we do not consider any individual alliance to be material, certain of the more notable alliances are described below. Summarized financial information related to our alliances is presented in tabular format after the description of alliances:
Acceleron Pharma (Acceleron): We have worldwide strategic collaboration agreements with Acceleron for the joint development and commercialization of sotatercept (ACE-011) and luspatercept (ACE-536). Luspatercept is currently in phase III studies for beta-thalassemia and MDS.
On January 1, 2013 we became responsible for the payment of all development costs related to sotatercept and luspatercept and have recognized development expenses as research and development expense as they were incurred.
With respect to the sotatercept program, Acceleron is eligible to receive up to $367.0 million in development, regulatory approval and sales-based milestones and up to an additional $348.0 million for each of three specific discovery stage programs. We also agreed to co-promote the developed products in North America. Acceleron will receive tiered royalties on worldwide net sales upon the commercialization of a development compound.
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With respect to the luspatercept program, we have an exclusive, worldwide, royalty-bearing license to luspatercept and future Acceleron products for the treatment of anemia. We also agreed to co-promote the products in the United States, Canada and Mexico. Acceleron is eligible to receive development, regulatory approval and sales-based milestones of up to $217.5 million for luspatercept and up to an additional $170.8 million for the first discovery stage program, $148.8 million for the second discovery stage program and $125.4 million for each additional discovery stage program thereafter. Acceleron will receive tiered royalties on worldwide net sales upon the commercialization of a development compound.
The sotatercept agreement may be terminated by us, at our sole discretion, at any time or by either party, among other things, upon a material breach by the other party. The luspatercept agreement may be terminated by us, at our sole discretion, or by either party, among other things, upon a material breach by the other party.
Agios Pharmaceuticals, Inc. (Agios): During 2010, we entered into a discovery and development collaboration and license agreement with Agios (2010 Collaboration Agreement) that focused on cancer metabolism targets and the discovery, development and commercialization of associated therapeutics.
With respect to each product that we choose to license, Agios could receive up to approximately $120.0 million upon achievement of certain milestones and other payments plus royalties on worldwide sales, and Agios may also participate in the development and commercialization of certain products in the United States.
In June 2014, we exercised our option to license AG-221 (enasidenib) from Agios on an exclusive worldwide basis, with Agios retaining the right to conduct a portion of commercialization activities for enasidenib in the United States. Enasidenib is currently in a phase III study in patients that present an isocitrate dehydrogenase-2 (IDH2) mutation in relapsed refractory acute myeloid leukemia (rrAML). A New Drug Application (NDA) was submitted to the U.S. Food and Drug Administration (FDA) in the fourth quarter of 2016 based on Phase I/II data generated in the rrAML population.
In January 2015, we exercised our option to an exclusive license from Agios to AG-120, an orally available, selective inhibitor of the mutated isocitrate dehydrogenase-1 (IDH1) protein for the treatment of patients with cancers that harbor an IDH1 mutation, outside the United States, with Agios retaining the right to conduct development and commercialization within the United States. In May 2016, we agreed to return to Agios the AG-120 lead development candidate. As a result, Agios obtained global rights to AG-120 and the IDH1 program. Neither Agios nor Celgene have any continuing financial obligation, including royalties or milestone payments, to the other concerning AG-120 or the IDH1 program.
In April 2015, we and Agios entered into a new joint worldwide development and profit share collaboration for AG-881. AG-881 is a small molecule that has shown in preclinical studies to fully penetrate the blood brain barrier and inhibit IDH1 and IDH2 mutant cancer cells. Under the terms of the AG-881 collaboration, Agios received an initial payment of $10.0 million and is eligible to receive contingent payments of up to $70.0 million based on the attainment of specified regulatory goals. The upfront payment to Agios was accounted for as $9.0 million of upfront research and development collaboration expense and $1.0 million of prepaid manufacturing rights recorded on the balance sheet. We and Agios will jointly collaborate on the worldwide development program for AG-881, sharing development costs equally. The two companies will share profits equally, with Celgene recording commercial sales worldwide. Agios will lead commercialization in the U.S. with both companies sharing equally in field-based commercial activities, and we will lead commercialization ex-U.S. with Agios providing one third of field-based commercial activities in the major European Union (EU) markets.
In May 2016, we and one of our subsidiaries entered into a new global collaboration agreement with Agios (2016 Collaboration Agreement), focused on the research and development of immunotherapies against certain metabolic targets that exert their antitumor efficacy primarily via the immune system. In addition to new programs identified under the 2016 Collaboration Agreement, we and Agios have also agreed that all future development and commercialization of two programs that were conducted under the 2010 Collaboration Agreement will now be governed by the 2016 Collaboration Agreement.
During the term of the 2016 Collaboration Agreement, Agios plans to conduct research programs focused on discovering compounds that are active against metabolic targets in the immuno-oncology (IO) field. The initial four-year term will expire in May 2020. We may extend the term for up to two additional one-year terms or in specified cases, up to four additional years.
Under the 2016 Collaboration Agreement, Agios has granted us exclusive options to obtain development and commercialization rights for each program that we have designated for further development. We may exercise each such option beginning on the designation of a development candidate for such program (or on the designation of such program as a continuation program) and ending on the earlier of the end of a specified period after Agios has furnished us with specified information for such program, or January 1, 2030. Programs that have applications in the inflammation or autoimmune (I&I) field that may result from the 2016 Collaboration Agreement will also be subject to the exclusive options described above.
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Under the terms of the 2016 Collaboration Agreement, following our exercise of an option with respect to a program, we and Agios (and, if applicable, one of its affiliates) will enter into either a co-development and co-commercialization agreement if such program is in the IO field, typically with a 50/50 profit and cost share, or a license agreement if such program is in the I&I field.
In connection with the 2016 Collaboration Agreement, we made an initial upfront payment to Agios in the amount of $200.0 million for the initial four-year term. We have specified rights to extend the term by paying a per-year extension fee. We will pay Agios a designation fee for each program that we designate for further development and for each continuation program. For each program as to which we exercise our option to develop and commercialize, we will pay Agios an option exercise fee of at least $30.0 million for any designated development program and for any continuation programs, plus up to $169.0 million (or up to $209.0 million for one program designated by Celgene which will have a profit and cost share of 65 percent for Celgene and 35 percent for Agios) in clinical and regulatory milestone payments (and in the case of licensed programs in the I&I field, up to $386.0 million in clinical, regulatory and commercial milestone payments, as well as double-digit tiered royalties on any net sales). Agios will remain responsible for the initial phase I dose escalation study for each program including associated costs.
The 2016 Collaboration Agreement may be terminated by us at our sole discretion on a program-by-program basis upon 90 days prior written notice, or by either party for material breach or bankruptcy by the other party.
Sutro Biopharma, Inc. (Sutro): In December 2012, we entered into a collaboration and license agreement with Sutro for the development of an antibody drug conjugate (ADC) and a bispecific antibody construct (BAC). Sutro controls and conducts initial development activities. We have the right to select one ADC among a number of different sequence-payload combinations and positional variants, and one BAC. Sutro is obligated to provide adequate quantities of any selected ADC and selected BAC to allow us to conduct all necessary preclinical studies, including toxicology and pharmacokinetics studies.
Under the terms of the 2012 agreement, Sutro received payments totaling $35.0 million, which included an equity investment and other rights. In addition, the 2012 agreement includes certain development and regulatory milestones that could total up to $204.0 million for a selected ADC if approved in multiple indications, and up to $279.0 million for a selected BAC if approved in multiple indications, as well as tiered royalties based on annual net sales of licensed products.
In September 2014, we entered into a second collaboration and license agreement with Sutro to jointly develop up to six prioritized anti-cancer BACs and/or ADCs directed primarily to immune-oncology targets. Sutro will control and conduct initial development activities. We have the right to advance any BAC and/or ADC to investigational new drug (IND)-enabling studies or to designate it as a development candidate, and in either case, we would then have the sole right and responsibility for development activities, although Sutro would still have certain limited manufacturing and supply obligations.
Under the terms of the 2014 agreement, Sutro received payments totaling $95.0 million, which included an equity investment that increased our ownership to approximately 15%, rights with respect to manufacturing and supply of BAC and ADC development candidates, and an option to acquire all of the outstanding equity of Sutro based on a pre-specified valuation procedure. The option is exercisable beginning September 2016 and expires upon the termination of the research term (as extended).
We have the right to obtain access to Sutro’s proprietary protein expression platform to use in conjunction with our intellectual property. Additionally, we have the right to have Sutro evaluate the performance of certain monospecific ADCs directed against up to five non-natural amino acid targets, and reengineer, express, and provide antibodies which incorporate a single non-natural amino acid sequence in a number of preferred locations.
The research term of the collaboration and license agreement is three years, with an extension available for an additional one-and-a-half years for a payment of an additional fee. We have worldwide commercialization rights for development candidates in which at least one binding domain is directed to a certain undisclosed target, plus the first development candidate which does not include at least one binding domain directed to that certain undisclosed target but which achieves IND clearance in the U.S. For all other development candidates, Sutro has U.S. rights, while we have all ex-U.S. rights.
Under the terms of the 2014 agreement, Sutro is eligible to receive research and manufacturing milestones of up to $75.0 million, clinical development and regulatory approval milestones of up to $275.0 million for each compound selected under the collaboration if approved in multiple indications, as well as tiered royalties based on annual net sales of licensed products.
The collaboration and license agreement may be terminated by us at our discretion on a program-by-program basis upon 120 days prior written notice, or by either party for material breach, intellectual property challenge, or bankruptcy by the other party. With certain exceptions, the collaboration and license agreement expires in its entirety upon the expiration of all applicable royalty terms under the Agreement.
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bluebird bio, Inc. (bluebird): In June 2015, we amended and restated the March 2013 collaboration agreement with bluebird. The amended and restated collaboration focuses on the discovery, development and commercialization of novel disease-altering gene therapy product candidates targeting BCMA. BCMA is a cell surface protein that is expressed in normal plasma cells and in most multiple myeloma cells, but is absent from other normal tissues. The collaboration applies gene therapy technology to modify a patient’s own T-cells, known as chimeric antigen receptor (CAR) T-cells, to target and destroy cancer cells that express BCMA. We have an option to license any anti-BCMA products resulting from the collaboration after the completion of a phase I clinical study by bluebird.
Under the amended and restated collaboration agreement we made an additional $25.0 million payment for bluebird to develop the lead anti-BCMA product candidate (bb2121) through a phase I clinical study and to develop next-generation anti-BCMA product candidates. The payment was recorded as prepaid research and development on the balance sheet and is being recognized as expense as development work is performed. Upon exercising our option to license a product and achievement of certain milestones, we may be obligated to pay up to $230.0 million per licensed product in aggregate potential option fees and clinical and regulatory milestone payments. bluebird also has the option to participate in the development and commercialization of any licensed products resulting from the collaboration through a 50/50 co-development and profit share in the United States in exchange for a reduction of milestone payments. Royalties would also be paid to bluebird in regions where there is no profit share, including in the United States, if bluebird declines to exercise their co-development and profit sharing rights. In February 2016, we exercised our option to license bb2121 and made a corresponding $10.0 million license payment to bluebird.
We have the ability to terminate the collaboration at our discretion upon 90 days written notice to bluebird. If a product is optioned, the parties will enter into a pre-negotiated license agreement and potentially a co-development agreement should bluebird exercise its option to participate in the development and commercialization in the United States. The license agreement, if not terminated sooner, would expire upon the expiration of all applicable royalty terms under the agreement with respect to the particular product, and the co-development agreement, if not terminated sooner, would expire when the product is no longer being developed or commercialized in the United States. Upon the expiration of a particular license agreement, we will have a fully paid-up, royalty-free license to use bluebird intellectual property to manufacture, market, use and sell such licensed product.
FORMA Therapeutics Holdings, LLC (FORMA): In April 2013, we entered into a collaboration agreement with FORMA to discover, develop and commercialize drug candidates to regulate protein homeostasis targets. Protein homeostasis, which is important in oncology, neurodegenerative and other disorders, involves a tightly regulated network of pathways controlling the biogenesis, folding, transport and degradation of proteins.
The collaboration was launched with an upfront payment that enables us to evaluate selected targets and lead assets in protein homeostasis pathways during the pre-clinical phase. Based on such evaluation, we have the right to obtain exclusive licenses with respect to the development and commercialization of multiple drug candidates outside of the United States, in exchange for research and early development payments of up to approximately $200.0 million to FORMA. Under the terms of the collaboration agreement, FORMA is incentivized to advance the full complement of drug candidates through phase I, while Celgene is responsible for all further global clinical development for each licensed candidate. FORMA is eligible to receive up to an additional $315.0 million in potential payments based upon development, regulatory and sales objectives for the first ex-U.S. license. FORMA is also eligible to receive potential payments for successive licenses, which escalate for productivity, increasing up to a maximum of an additional $430.0 million per program. In addition, FORMA will receive royalties on ex-U.S. sales and additional payments if multiple drug candidates reach defined cumulative sales objectives. The collaboration agreement includes provisions for Celgene to obtain rights with respect to development and commercialization of drug candidates inside the United States in exchange for additional payments.
Under the collaboration, the parties perform initial research and development for a term of four years. If, during such research term, a drug candidate meets certain criteria, then the parties enter into a pre-negotiated license agreement and the collaboration continues until all license agreements have expired and all applicable royalty terms under the collaboration with respect to the particular products have expired. Each license agreement, if not terminated sooner, expires upon the expiration of all applicable royalty terms under such agreement. Upon the expiration of each license agreement, we will have an exclusive, fully-paid, royalty-free license to use the applicable FORMA intellectual property to manufacture, market, use and sell the product developed under such agreement outside of the United States. As of December 31, 2016, we have entered into five such license agreements with FORMA and paid the applicable upfront payments under such license agreements totaling $118.0 million.
On March 21, 2014, we entered into a second collaboration arrangement with FORMA, pursuant to which FORMA granted us an option, for an additional fee, to license the rights to select current and future FORMA drug candidates during a term of three and one half years. We agreed to pay an upfront payment of $225.0 million. In addition, with respect to each subsequently licensed drug candidate, we have the obligation to pay designated amounts when certain development, regulatory and sales milestone events occur, with such amounts being variable and contingent on various factors. With respect to each licensed drug candidate, we
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assume responsibility for all global development activities and costs after completion of phase I clinical trials. FORMA retains U.S. rights to all such licensed assets, including responsibility for manufacturing and commercialization.
Under this collaboration arrangement, we also have an option to enter into up to two additional collaborations with successive terms of two years each for additional payments totaling approximately $375.0 million. If we exercise our option to enter into both of these additional collaborations, we will receive an exclusive option to acquire FORMA, including the U.S. rights to all licensed drug candidates, and worldwide rights to other wholly owned assets within FORMA at that time. As of December 31, 2016, we have entered into two such license agreements with FORMA under the second collaboration and paid the applicable upfront payments under such licenses totaling $41.0 million.
OncoMed Pharmaceuticals, Inc. (OncoMed): On December 2, 2013, we entered into a collaboration agreement to jointly develop and commercialize up to six anti-cancer stem cell (CSC) product candidates from OncoMed’s biologics pipeline, including demcizumab (OMP-21M18, Anti-DLL4). OncoMed will control and conduct initial clinical studies. We will have an option to license worldwide rights to up to six novel anti-CSC therapeutic candidates commencing upon the completion of enrollment of patients in a phase I trial (and with respect to demcizumab, a phase II trial) and ending 60 days after delivery by OncoMed of the applicable data package for each therapeutic candidate, subject to certain extensions. We will also have research, development and commercialization rights to small molecule compounds in another cancer stem cell pathway, with OncoMed eligible to receive milestones and royalties on any resulting products.
Demcizumab is currently in multiple phase Ib, phase Ib/II, and phase II clinical studies in combination with standard-of-care therapeutics, including a trial in patients with first-line advanced pancreatic cancer. Subsequent to the exercise of our option rights, the parties will co-develop demcizumab and share global development costs on a one-third OncoMed and two-thirds Celgene split. Outside the United States, we would lead development and commercialization efforts, with OncoMed eligible to receive milestones and tiered royalties on sales outside the United States. For sales in the United States, OncoMed and Celgene would share profits equally.
In addition to demcizumab, the collaboration includes up to five phase Ia, preclinical- or discovery-stage biologics programs: OncoMed’s anti-DLL4/VEGF bispecific antibody and up to four additional biologics programs targeting either the RSPO-LGR CSC pathway or another CSC pathway. We have exclusive options on these programs during or after completion of certain phase I clinical trials to be conducted by OncoMed, which if exercised, contain U.S. profit sharing and co-commercialization terms, plus one-third OncoMed and two-thirds Celgene global development cost-sharing and royalties outside the profit-sharing territory.
The collaboration agreement also includes option exercise payments and payments for achievement of development, regulatory and commercial milestones, paid on a per-program basis. For the demcizumab program, these contingent payments could total up to approximately $790.0 million, including a $70.0 million payment due as a result of predetermined safety criteria in phase II clinical trials achieved on December 31, 2015. For the anti-DLL4/VEGF bispecific antibody program, contingent payments could total up to $505.0 million. For the other four programs, each program is eligible for up to approximately $440.0 million of contingent payments. OncoMed could also receive more than $100.0 million in contingent payments for the small molecule program.
The collaboration agreement may be terminated by us on a program-by-program basis upon 120 days prior written notice before exercise of that program option, and after such program option exercise, by either party for material breach by the other party. With certain exceptions, the collaboration agreement expires upon the later of (a) the last-to-expire option term and (b) if one or more options are exercised, the termination or expiration of the last to expire agreement with respect to such exercised option.
NantBioScience, Inc. (NantBioScience): In January 2014, we entered into a collaboration agreement with NantBioScience, an entity controlled by Dr. Patrick Soon-Shiong in which Celgene contributed $75.0 million of cash, the rights to the future royalty stream based on net sales of certain products of Active Biomaterials, LLC, another entity controlled by Dr. Patrick Soon-Shiong, and licenses to two nab® product candidates. In return, Celgene received a 14 percent preferred equity ownership in NantBioScience, an option to license a certain number of product candidates developed by NantBioScience, including the two nab® product candidates that Celgene is licensing to NantBioScience, and the parent company of NantBioScience assumed, and agreed to pay and satisfy when due, our obligation to pay The Chan Soon-Shiong Institute for Advanced Health (CSS Institute) $50.0 million in contingent, matching contributions. The transaction became effective in March 2014. Unless Celgene terminates the collaboration earlier, in Celgene’s sole discretion upon 30 days written notice, the collaboration will continue until the earliest to occur of: (a) Celgene licensing four NantBioScience product candidates; (b) NantBioScience presenting data packages for ten product candidates; and (c) the date which is 10 years after the effective date. Regardless of any termination of the collaboration, the 14 percent preferred equity ownership in NantBioScience and the assumption of the $50.0 million in contingent, matching contributions by the parent company of NantBioScience remain in effect. We performed a valuation of the components of the transaction and allocated the consideration transferred as follows: $50.0 million for the collaboration agreement upfront expense; $25.0 million related to the settlement of contingent matching contributions, and; $90.0 million related to the equity ownership in NantBioScience.
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AstraZeneca PLC (AstraZeneca): In April 2015, we entered into a strategic collaboration agreement with MedImmune Limited (MedImmune), a subsidiary of AstraZeneca, to develop and commercialize durvalumab, a novel anti-PD-L1 monoclonal antibody, for hematologic malignancies. The agreement provides for a negotiation period to expand the agreement for other immuno-therapeutics. Under the terms of the agreement, we made an upfront payment of $450.0 million to MedImmune. We lead clinical development across all new clinical trials within the collaboration and are responsible for all costs associated with such trials until December 31, 2016, after which we will be responsible for 75 percent of those costs. We also will be responsible for the global commercialization of approved durvalumab indications in hematology, and will receive royalty rates starting at 70 percent of worldwide sales from all uses in hematology. Royalty rates will decrease gradually to 50 percent over a period of 4 years after the start of commercial sales. The agreement may be terminated at our discretion upon nine months’ prior written notice to MedImmune, and by either party upon material breach of the other party, subject to cure periods. The agreement, if not terminated sooner, expires upon the expiration of all applicable royalty terms under such agreement.
Lycera Corp. (Lycera): In June 2015, we entered into a collaboration and option agreement with Lycera. Under the agreement, the parties will support the development of Lycera’s portfolio of immune modulator assets, including (1) oral agonists that target RORy, a master control switch of immune system activation, for the potential treatment of a broad range of cancers, and (2) LYC-30937, an oral gut-directed ATPase modulator currently in phase II clinical studies. In addition, we have an exclusive right to acquire Lycera at a later date at a purchase price based upon future independent company valuations.
Lycera has developed orally bioavailable RORy agonists that have demonstrated single agent therapeutic activity in multiple animal models of cancer. Ex-vivo treatment with RORy agonist compounds has been shown to enhance the therapeutic benefit of adoptive T-cell therapy by improving both immune cell persistence and activation. Development of LYC-30937 is focused on the treatment of inflammatory bowel disease, with the goal of delivering significant disease improvement without global immune suppression. Under the collaboration, Lycera also will continue to advance its other programs, including a Rho-associated protein kinase 2 (ROCK2) inhibitor.
Under the terms of the agreement, we made an upfront payment of $82.5 million to Lycera. We received an exclusive option for an additional fee to license Lycera’s portfolio of ex-vivo RORy agonist compounds, an equity interest and an exclusive right to acquire Lycera. If we exercise the acquisition right, Lycera shareholders will be also eligible to receive future success-based milestone payments of up to $190.0 million. The upfront payment to Lycera was accounted for as $69.5 million of upfront collaboration payment included in research and development expense and $13.0 million as non-current assets consisting of $10.0 million for an equity investment and $3.0 million for an option to acquire the remaining shares outstanding.
The agreement has an initial term of three and may be terminated earlier at our discretion upon six months’ prior written notice to Lycera and by either party upon material breach of the other party, subject to cure periods. In December 2015, we entered into a license agreement with Lycera, under which Lycera granted to us an exclusive license for Lycera’s portfolio of novel ex vivo RORy agonist compounds and we made a $17.5 million upfront payment which is included in research and development expense.
Juno Therapeutics, Inc. (Juno): In June 2015, we announced a collaboration and investment agreement with Juno for the development and commercialization of immunotherapies for cancer and autoimmune diseases. The collaboration and investment agreement became effective on July 31, 2015. Under the terms of the agreement, we have the option to be the commercialization partner for Juno’s oncology and cell therapy auto-immune product candidates, including Juno’s CD19 and CD22 directed CAR T-cell product candidates. For Juno-originated programs co-developed under the collaboration, (a) Juno will be responsible for research and development in North America and will retain commercialization rights in those territories, (b) we will be responsible for development and commercialization in the rest of the world, and will pay Juno a royalty on sales in those territories, and (c) we have certain co-promotion options for global profit sharing arrangements under which the parties will share worldwide expenses and profits equally, except in China.
Juno will have the option to enter into co-development and co-commercialization arrangements on certain Celgene-originated development candidates that target T-cells. For any such Celgene-originated programs co-developed under the collaboration, (a) the parties will share global costs and profits, with 70 percent allocated to us and 30 percent allocated to Juno, and (b) we will lead global development and commercialization, subject to a Juno co-promote option in the US and certain EU territories.
Upon closing, we made a $1.000 billion payment to Juno, of which $575.1 million was recorded to research and development expense as a collaboration-related upfront expense and the balance of the payment was recorded as an equity investment in Available-for-sale marketable securities.
The collaboration agreement has an initial term of ten years. If the parties enter into any pre-negotiated license or co-commercialization agreement during the initial term, the collaboration agreement will continue until all such license and co-
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commercialization agreements have expired. The collaboration agreement may be terminated at our discretion upon 120 days prior written notice to Juno and by either party upon material breach of the other party, subject to cure periods.
In April 2016, we exercised our option to develop and commercialize Juno’s CD19 program outside North America and China and entered into a pre-negotiated license agreement with Juno with respect to such program by making a $50.0 million license payment.
Nurix, Inc. (Nurix): In September 2015, we entered into a strategic collaboration agreement with Nurix for the discovery, development and commercialization of novel small molecule therapeutics in oncology and inflammation and immunology. Nurix will work exclusively with us in these therapeutic areas to advance new therapies that function through the ubiquitin proteasome system (UPS) to modulate protein homeostasis, a fundamental cellular process controlling protein levels.
Under the terms of the collaboration, we made an upfront payment to Nurix of $149.8 million, plus an equity investment of $17.0 million, which amounted to approximately 11 percent of Nurix outstanding equity, for an option to license future programs. The option term for each of these programs is the earlier of either (a) 45 days after the delivery of a phase I data package, or (b) four years, which period we may extend twice for the payment of additional fees. During the term, Nurix may focus on investigating E3 ubiquitin ligases and E2 conjugating enzymes to identify the most promising drug discovery programs for use in oncology or inflammation and immunology therapeutic applications. Nurix will control and is responsible for all drug discovery and development activities through the end of phase I clinical trials.
We may opt to license global development and commercialization rights to a program in exchange for an option fee, potential clinical, regulatory and sales milestone payments totaling up to $405.0 million, as well as future tiered single-digit to low double-digit royalties on global sales. We would also have worldwide rights to collaboration products, with the exception of certain collaboration products for which Nurix would retain U.S. development and commercialization rights. These rights include the opportunity for the companies to co-develop and co-commercialize up to two programs in the U.S., sharing profits and losses equally, and we would retain ex-US rights, in exchange for an option fee, milestone payments and royalties on ex-U.S. sales on a program-by-program basis. For candidates not optioned by us under the collaboration, Nurix would retain worldwide rights.
Jounce Therapeutics, Inc. (Jounce): In July 2016, we entered into a collaboration agreement with Jounce for the development and commercialization of immunotherapies for cancer, including Jounce’s lead product candidate, JTX-2011, targeting ICOS (the Inducible T cell CO-Stimulator), up to four early stage programs to be selected from a defined pool of B cell, T regulatory cell and tumor-associated macrophage targets emerging from Jounce’s research platform, and a Jounce checkpoint immuno-oncology program. Under the terms of the collaboration agreement we made an upfront payment to Jounce in the amount of $237.6 million for the initial four year term. Jounce is also eligible to receive regulatory, development, and net sales milestone payments.
We have the right to opt into the collaboration programs at defined stages of development. Following opt-in, the parties will share U.S. profits and losses on the collaboration programs as follows: (a) Jounce will retain a 60 percent U.S. profit share of JTX-2011, with 40 percent allocated to us; (b) Jounce will retain a 25 percent U.S. profit share on the first additional program, with 75 percent allocated to us; and (c) the parties will equally share U.S. profits on up to three additional programs. Also, following opt-in to each of the foregoing programs, we will receive exclusive ex-U.S. commercialization rights with respect to such program, Jounce will be eligible to receive tiered royalties on sales outside the United States, and development costs will be shared by the parties in a manner that is commensurate with their respective product rights under such program. The parties will equally share global profits from the checkpoint program.
The collaboration agreement has an initial term of four years, which may be extended up to three additional years. If the parties enter into any pre-negotiated license or co-commercialization agreement during the initial term, the collaboration agreement will continue until all such license and co-commercialization agreements have expired. The collaboration agreement may be terminated at our discretion upon 120 days prior written notice to Jounce and by either party upon material breach of the other party, subject to cure periods.
Other Collaboration Arrangements in 2016: In addition to the collaboration arrangements described above, we entered into a number of collaborative arrangements during 2016 that include the potential for future milestone payments of up to an aggregate $95.0 million related to the attainment of specified developmental, regulatory and sales milestones over a period of several years. Our obligation to fund these efforts is contingent upon our continued involvement in the programs and/or the lack of any adverse events which could cause the discontinuance of the programs.
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Summarized financial information related to our collaboration agreements is presented below:
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1 Year-end balance and percentage of outstanding equity are presented for the current and prior year.
2 $25.0 million of expense related to the settlement of contingent matching contributions was also recognized in 2014 at the inception of the collaboration agreement with NantBioScience and included in Selling, General and Administrative expense.
3 See Note 6 for additional information relating to our equity investment balance in Juno.
18. Commitments and Contingencies
Contingent Value Rights: In connection with the acquisition of Abraxis in 2010, CVRs were issued under a Contingent Value Rights Agreement, or CVR Agreement, entered into between Celgene and American Stock Transfer & Trust Company, LLC, as trustee. The CVRs are registered for trading on the NASDAQ Global Market under the symbol "CELGZ." The fair value of the liability of the Company related to payments under the CVR Agreement are subject to fluctuation based on trading prices for the publicly traded CVRs. Subsequent to the Abraxis acquisition date, we measured the contingent consideration represented by the CVRs at fair value with changes in fair value recognized in operating earnings. The fair value of our liability related to the CVRs was $44.6 million at the end of 2016 compared to $51.9 million at the end of 2015.
For each full one-year period ending December 31 during the term of the CVR Agreement, which we refer to as a net sales measuring period, each holder of a CVR is entitled to receive a pro rata portion, based on the number of CVRs then outstanding, of net sales related payments, calculated as follows:
•
2.5% of the net sales of ABRAXANE® and the Abraxis pipeline products that exceed $1.000 billion but are less than or equal to $2.000 billion for such period, plus
•
an additional amount equal to 5% of the net sales of ABRAXANE® and the Abraxis pipeline products that exceed $2.000 billion but are less than or equal to $3.000 billion for such period, plus
•
an additional amount equal to 10% of the net sales of ABRAXANE® and the Abraxis pipeline products that exceed $3.000 billion for such period.
No payments will be due under the CVR Agreement with respect to net sales of ABRAXANE® and the Abraxis pipeline products after December 31, 2025, which we refer to as the net sales payment termination date, unless net sales for the net sales measuring period ending on December 31, 2025 are equal to or greater than $1.000 billion, in which case the net sales payment termination date will be extended until the last day of the first net sales measuring period subsequent to December 31, 2025 during which net sales of ABRAXANE® and the Abraxis pipeline products are less than $1.000 billion or, if earlier, December 31, 2030.
In addition to the above, each holder of a CVR was entitled to receive a pro rata portion of two potential contingent milestone payments. The first contingent milestone payment was not achieved, as the October 2012 FDA approval of ABRAXANE® for use in the treatment of NSCLC did not result in the use of a marketing label that included a progression-free survival claim. The second contingent milestone payment was achieved upon the FDA approval of ABRAXANE® for use in the treatment of pancreatic cancer
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permitting us to market with a label that included an overall survival claim. This approval resulted in a subsequent payment of $300.0 million to CVR holders in October 2013.
Leases: We lease offices and research facilities under various operating lease agreements in the United States and international markets. We also lease automobiles and certain equipment in these same markets. At December 31, 2016, the non-cancelable lease terms for the operating leases expire at various dates between 2017 and 2025 and include renewal options. In general, the Company is also required to reimburse the lessors for real estate taxes, insurance, utilities, maintenance and other operating costs associated with the leases.
Future minimum lease payments under non-cancelable operating leases as of December 31, 2016 are:
Total rental expense under operating leases was approximately $69.5 million in 2016, $66.2 million in 2015 and $62.2 million in 2014.
Lines of Credit: We maintain lines of credit with several banks to support our hedging programs and to facilitate the issuance of bank letters of credit and guarantees on behalf of our subsidiaries. Lines of credit supporting our hedging programs as of December 31, 2016 allowed us to enter into derivative contracts with settlement dates through 2020. As of December 31, 2016, we have entered into derivative contracts with net notional amounts totaling $9.170 billion. Lines of credit facilitating the issuance of bank letters of credit and guarantees as of December 31, 2016 allowed us to have letters of credit and guarantees issued on behalf of our subsidiaries totaling $132.7 million.
Other Commitments: Our obligations related to product supply contracts totaled $172.2 million at December 31, 2016. In addition, we have committed to invest an aggregate $66.0 million in investment funds, which are callable at any time.
Collaboration Arrangements: We have entered into certain research and development collaboration agreements, as identified in Note 17 above, with third parties that include the funding of certain development, manufacturing and commercialization efforts with the potential for future milestone and royalty payments 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 which could cause the discontinuance of the programs. Due to the nature of these arrangements, the future potential payments are inherently uncertain, and accordingly no amounts have been recorded for the potential future achievement of these targets in our accompanying Consolidated Balance Sheets at December 31, 2016 and 2015.
Contingencies: We believe we maintain insurance coverage adequate for our current needs. Our operations are subject to environmental laws and regulations, which impose limitations on the discharge of pollutants into the air and water and establish standards for the treatment, storage and disposal of solid and hazardous wastes. We review the effects of such laws and regulations on our operations and modify our operations as appropriate. We believe we are in substantial compliance with all applicable environmental laws and regulations.
We have ongoing customs, duties and VAT examinations in various countries that have yet to be settled. Based on our knowledge of the claims and facts and circumstances to date, none of these matters, individually or in the aggregate, are deemed to be material to our financial condition.
Legal Proceedings:
Like many companies in our industry, we have from time to time received inquiries and subpoenas and other types of information requests from government authorities and others and we have been subject to claims and other actions related to our business activities. While the ultimate outcome of investigations, inquiries, information requests and legal proceedings is difficult to predict,
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adverse resolutions or settlements of those matters may result in, among other things, modification of our business practices, product recalls, costs and significant payments, which may have a material adverse effect on our results of operations, cash flows or financial condition.
Pending patent proceedings include challenges to the scope, validity and/or enforceability of our patents relating to certain of our products, uses of products or processes. Further, we are subject to claims of third parties that we infringe their patents covering products or processes. Although we believe we have substantial defenses to these challenges and claims, there can be no assurance as to the outcome of these matters and an adverse decision in these proceedings could result in one or more of the following: (i) a loss of patent protection, which could lead to a significant reduction of sales that could materially affect our future results of operations, cash flows or financial condition (ii) our inability to continue to engage in certain activities, and (iii) significant liabilities, including payment of damages, royalties and/or license fees to any such third party.
Among the principal matters pending are the following:
Patent-Related Proceedings:
REVLIMID®: In 2012, our European patent EP 1 667 682 (the ’682 patent) relating to certain polymorphic forms of lenalidomide expiring in 2024 was opposed in a proceeding before the European Patent Office (EPO) by Generics (UK) Ltd. and Teva Pharmaceutical Industries Ltd. On July 21, 2015, the EPO determined that the ’682 patent was not valid. Celgene appealed the EPO ruling to the EPO Board of Appeal, which stays any revocation of the patent until the appeal is finally adjudicated. No appeal hearing date has been set. We do not anticipate a decision from the EPO Board of Appeal for several years and intend to vigorously defend all of our intellectual property rights.
In 2010, Celgene’s European patent EP 1 505 973 (the ’973 patent) relating to certain uses of lenalidomide expiring in 2023 was opposed in a proceeding before the EPO by Synthon B.V. and an anonymous party. On February 25, 2013, the EPO determined that the ’973 patent was not valid. Celgene appealed the EPO ruling to the EPO Board of Appeal, which stays any revocation of the patent until the appeal is finally adjudicated. No appeal hearing date has been set. We do not anticipate a decision from the EPO Board of Appeal for several years and intend to vigorously defend all of our intellectual property rights.
We believe that our patent portfolio for lenalidomide in Europe, including the composition of matter patent which expires in 2022, is strong and defensible. Although we believe that we will prevail in the EPO proceedings, in the event these patents are found not to be valid, we still expect that we will have patent protection in the EU for lenalidomide through at least 2022.
We received a Notice Letter dated September 9, 2016 from Dr. Reddy’s Laboratories (DRL) notifying us of DRL’s Abbreviated New Drug Application (ANDA) which contains Paragraph IV certifications against U.S. Patent Nos. 7,456,800, 7,855,217, 7,968,569, 8,530,498, 8,648,095, 9,101,621, and 9,101,622 that are listed in the Orange Book for REVLIMID®. DRL is seeking to manufacture and market a generic version of 2.5mg, 5mg, 10mg, 15mg, 20mg, and 25mg REVLIMID® (lenalidomide) capsules.
In response to the Notice Letter, we timely filed an infringement action against DRL in the United States District Court for the District of New Jersey on October 20, 2016. As a result of the filing of our action, the FDA cannot grant final approval of DRL's ANDA at least until the earlier of (i) a final decision that each of the patents is invalid, unenforceable, and/or not infringed; or (ii) March 9, 2019. On November 18, 2016, DRL filed an answer and counterclaims asserting that the patents-in-suit are invalid and/or not infringed. On December 27, 2016, we filed a reply to DRL’s counterclaims. The court has not yet entered a scheduling order.
POMALYST®: In 2015, our European patent EP 2 105 135 (the ’135 patent) relating to certain pharmaceutical compositions for treating cancer expiring in 2023 was opposed in a proceeding before the European Patent Office (EPO) by Generics (UK) Ltd., Accord Healthcare Ltd., Hexal AG, IPS Intellectual Property Services, Synthon B.V., and Actavis Group PTC EHF. On December 19, 2016 the EPO determined that the ’135 patent was not valid. Celgene plans to appeal the EPO ruling to the EPO Board of Appeal, which will have the effect of staying any revocation of the patent until the appeal is finally adjudicated. Upon the filing of an appeal, we would not anticipate a decision from the EPO Board of Appeal for several years. Regulatory exclusivity for POMALYST® will expire in Europe in 2023. We have applied for Supplementary Protection Certificates (SPC’s) in each member state in Europe, which if granted, will extend the patent term of the ‘135 patent by five years. The patent will then expire in 2028 in each member state that grants the SPC assuming the ‘135 patent is deemed to be valid.
OTEZLA® (Apremilast): In February 2015, Polypharma S.A., Teva Pharmaceuticals, Ltd., Zentiva k.s. and LEK Pharmaceutical d.d. opposed Celgene’s European patent EP 2 276 483 (the ‘483 patent), which is directed to certain crystalline forms of apremilast. An oral hearing is scheduled for March 21, 2017 at the EPO to determine the validity of the ‘483 patent. This patent will expire
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on March 27, 2028 and has been granted an SPC which extends the patent term to January 16, 2030. The regulatory exclusivity will expire on January 15, 2025.
THALOMID® (thalidomide): We received a Notice Letter dated December 18, 2014 from Lannett Holdings, Inc. (Lannett) notifying us of Lannett’s ANDA which contains Paragraph IV certifications against U.S. Patent Nos. 5,629,327; 6,045,501; 6,315,720; 6,561,976; 6,561,977; 6,755,784; 6,869,399; 6,908,432; 7,141,018; 7,230,012; 7,435,745; 7,874,984; 7,959,566; 8,204,763; 8,315,886; 8,589,188; and 8,626,531 that are listed in the Orange Book for THALOMID® (thalidomide). Lannett is seeking to market a generic version of 50mg, 100mg, 150mg and 200mg of THALOMID® capsules.
On January 30, 2015, we filed an infringement action against Lannett in the United States District Court for the District of New Jersey. As a result of the filing of our action, the FDA cannot grant final approval of Lannett’s ANDA until the earlier of (i) a final decision that each of the patents is invalid, unenforceable, and/or not infringed; or (ii) June 22, 2017. On March 27, 2015, Lannett filed a motion to dismiss our complaint for lack of personal jurisdiction and we filed a response to the motion on April 20, 2015. A hearing was held on July 27, 2015 and the Court decided to administratively terminate the motion to dismiss in order to allow us to conduct jurisdictional discovery. On November 17, 2015, Lannett withdrew its motion to dismiss.
On December 8, 2015, Lannett filed an answer and counterclaims asserting that the patents-in-suit are invalid, unenforceable, and/or not infringed and on January 19, 2016 we filed a reply to Lannett's counterclaims. On April 18, 2016, Lannett amended its answer to narrow the scope of its unenforceability counterclaims and we filed an amended reply on May 5, 2016. Fact discovery is currently set to close on April 6, 2017. The Court has not set dates for Markman briefing, hearing, close of expert discovery, or trial.
ABRAXANE® (paclitaxel protein-bound particles for injectable suspension) (albumin bound): We received a Notice Letter dated February 23, 2016 from Actavis LLC (Actavis) notifying us of Actavis’s ANDA which contains Paragraph IV certifications against U.S. Patent Nos. 7,820,788; 7,923,536; 8,138,229; and 8,853,260 that are listed in the Orange Book for ABRAXANE®. We then received a Notice Letter dated October 25, 2016 from Cipla Limited (Cipla) notifying us of Cipla’s ANDA, which contains Paragraph IV certifications against the same four patents for ABRAXANE®. Actavis and Cipla are seeking to manufacture and market a generic version of ABRAXANE® (paclitaxel protein-bound particles for injectable suspension) (albumin bound) 100 mg/vial.
On April 6, 2016, we filed an infringement action against Actavis in the United States District Court for the District of New Jersey. As a result of the filing of our action, the FDA cannot grant final approval of Actavis’s ANDA until the earlier of (i) a final decision that each of the patents is invalid, unenforceable, and/or not infringed; or (ii) August 24, 2018. On May 3, 2016, Actavis filed an answer and counterclaims asserting that the patents-in-suit are invalid and/or not infringed and we filed a reply to Actavis’s counterclaims on June 10, 2016. Fact discovery is currently set to close on May 15, 2017 and expert discovery is currently set to close on November 17, 2017. The Court has not yet set a date for a trial.
On December 8, 2016, we filed an infringement action against Cipla in the United States District Court for the District of New Jersey. As a result of the filing of our action, the FDA cannot grant final approval of Cipla’s ANDA until the earlier of (i) a final decision that each of the patents is invalid, unenforceable, and/or not infringed; or (ii) April 25, 2019. Cipla filed an answer and counterclaims on January 20, 2017 asserting that the patents are invalid and/or not infringed. Our reply is due on February 24, 2017. A scheduling conference will be held on February 23, 2017.
On January 13, 2017, the UK High Court of Justice handed down a ruling after a hearing held on December 20, 2016 in which Celgene argued that the UK Intellectual Property Office improperly rejected our request for an SPC to the ABRAXANE® patent UK No. 0 961 612 (the ‘612 patent). In that ruling, the High Court referred the matter to the Court of Justice for the EU (“CJEU”). No hearing date has been set at the CJEU. If the CJEU were to find in Celgene’s favor, the SPC would not only be granted in the UK, but in other jurisdictions that have previously rejected our initial request including Germany, Sweden and Ireland. The ‘612 patent will expire in Europe in September, 2017. However, if the SPC is granted, the patent will expire in 2022. Data exclusivity in Europe will expire in January 2019.
Proceedings involving the USPTO:
Under the America Invents Act (AIA), any person may seek to challenge an issued patent by petitioning the United States Patent and Trademark Office (USPTO) to institute a post grant review. On April 23, 2015, we were informed that the Coalition for Affordable Drugs VI LLC filed petitions for Inter Partes Review (IPRs) challenging the validity of Celgene’s patents U.S. 6,045,501 (the ‘501 patent) and U.S. 6,315,720 (the ‘720 patent) covering certain aspects of our REMS program. On October 27, 2015, the USPTO Patent Trial and Appeal Board (PTAB) instituted IPR proceedings relating to these patents. An oral hearing was held on
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July 21, 2016; the decisions, rendered on October 26, 2016, held that the ’501 and ’720 patents are invalid, primarily due to obviousness in view of certain publications. On November 25, 2016, we requested a rehearing with respect to these patents.
An appeal of the final written decisions of the PTAB can be made to the United States Court of Appeals for the Federal Circuit within 63 days of PTAB’s final action on our November 25, 2016 rehearing request. The ’501 and ’720 patents remain valid and enforceable pending rehearing and appeal. We retain other patents covering certain aspects of our REMS program, as well as other patents that cover our products that use our REMS system. We are evaluating the decisions, and we intend to continue to vigorously defend our intellectual property rights.
Other Proceedings:
In 2009, we received a Civil Investigative Demand (CID) from the U.S. Federal Trade Commission (FTC) seeking documents and other information relating to requests by manufacturers of generic drugs to purchase our patented REVLIMID® and THALOMID® brand drugs in order for the FTC to evaluate whether there may be reason to believe that we have engaged in unfair methods of competition. In 2010, the State of Connecticut issued a subpoena referring to the same issues raised by the 2009 CID. Also in 2010, we received a second CID from the FTC relating to this matter. We continue to cooperate with the FTC and State of Connecticut investigations.
On April 3, 2014, Mylan Pharmaceuticals Inc. (Mylan) filed a lawsuit against us in the United States District Court for the District of New Jersey alleging that we violated various federal and state antitrust and unfair competition laws by allegedly refusing to sell samples of our THALOMID® and REVLIMID® brand drugs so that Mylan can conduct the bioequivalence testing necessary for ANDAs to be submitted to the FDA for approval to market generic versions of these products. Mylan is seeking injunctive relief, damages and declaratory judgment. We filed a motion to dismiss Mylan’s complaint on May 25, 2014. Mylan filed its opposition to our motion to dismiss on June 16, 2014. The Federal Trade Commission filed an amicus curiae brief in opposition to our motion to dismiss on June 17, 2014. On December 22, 2014, the court granted Celgene’s motion to dismiss (i) Mylan’s claims based on Section 1 of the Sherman Act (without prejudice), and (ii) Mylan's related claims arising under the New Jersey Antitrust Act. The court denied our motion to dismiss the rest of the claims which primarily relate to Section 2 of the Sherman Act. On January 6, 2015 we filed a motion to certify for interlocutory appeal the order denying our motion to dismiss with respect to the claims relating to Section 2 of the Sherman Act, which appeal was denied by the United State Court of Appeals for the Third Circuit on March 5, 2015. On January 20, 2015, we filed an answer to Mylan’s complaint. Fact discovery closed in June 2016 and expert discovery closed in November 2016. On December 16, 2016, we moved for summary judgment, seeking a ruling that judgment be granted in our favor on all claims. No trial date has been set. We intend to vigorously defend against Mylan’s claims.
A civil qui tam action brought by a former Celgene employee is pending in the U.S. District Court for the Central District of California (the Brown Action). The complaint was unsealed in February 2014 when the United States Department of Justice (DOJ) declined to intervene in the action, reserving its right to intervene in the action at a later time. The complaint alleges off-label marketing and improper payments to physicians in connection with sales of THALOMID® and REVLIMID® and is brought on behalf of the federal and various state governments under the federal false claims act and similar state laws. On April 25, 2014, we filed a motion to dismiss the complaint, which was denied except with respect to certain state claims. The complaint in the Brown Action seeks, among other things, treble damages, civil penalties and attorneys’ fees and costs. We filed our answer to the complaint in August 2014. Fact discovery closed in September 2015 and expert discovery closed on June 30, 2016.
The relator (the person who brought the lawsuit on behalf of the government) submitted an expert report that, based on certain theories, purported to calculate damages and penalties. On July 25, 2016, we filed a motion to strike the relator’s expert report, and on August 23, 2016, the Magistrate Judge granted our motion striking substantial portions of the report, which significantly reduced the expert’s calculation of damages and penalties. The relator appealed this decision to the District Court judge.
The parties filed a Joint Stipulation regarding Defendant Celgene's Motion for Summary Judgment Or, In the Alternative, Partial Summary Judgment on August 29, 2016. On December 28, 2016, the court entered an order granting in part and denying in part Celgene’s motion for summary judgment. Specifically, the court dismissed plaintiff’s anti-kickback claims and all claims related to prescriptions submitted to TRICARE, the Veterans Administration and the Tennessee, Texas and Wisconsin Medicaid programs. The court denied Celgene’s motion as to all other issues and upheld the District Court’s decision to strike substantial portions of the relator’s expert report. On January 30, 2017, we filed a Motion for Reconsideration of The Order Partially Denying Summary Judgment Or For Certification For Immediate Appeal And Stay. This motion seeks to dispose of the remainder of the relator’s claims. No trial date has been set. While we believe that the relator's remaining claims and requested damages are unsubstantiated, we are unable at this time to predict the outcome of this matter or the ultimate legal and financial liability, if any, and cannot reasonably estimate the possible loss or range of loss, if any. We intend to vigorously defend against the claims in this action.
CELGENE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
In February 2014, we received a letter purportedly on behalf of a stockholder demanding access to certain books and records of the Company for the purpose of investigating matters pertaining to the Brown Action. The Company complied with the demand, as modified through negotiation with counsel for the purported stockholder. In July 2014, we received a letter purportedly on behalf of two stockholders (one of which was referenced in the February 2014 letter) demanding, primarily on the basis of the allegations in the Brown Action, that our board of directors take action on the Company’s behalf to correct alleged deficiencies in the Company’s internal controls and to recover from current and past directors and officers damages those stockholders allege to have resulted from breaches of fiduciary duties related to the matters alleged in the Brown Action (the Demand). Our Board formed a Demand Investigation Committee, and with the assistance of independent counsel retained by it, the Demand Investigation Committee considered the issues raised in the stockholders’ letter. In October 2015, the Demand Investigation Committee reported to the Board of Directors, and the Board of Directors accepted the Committee’s recommendation, that the Company take no action at this time, legal or otherwise, in response to the stockholders’ demands. In November 2015, we received another letter purportedly on behalf of the same two stockholders demanding access to certain books and records of the Company for the purpose of investigating whether the Demand was wrongfully refused, the independence, good faith and due care of the Demand Investigation Committee, and whether the Demand Investigation Committee conducted a reasonable investigation of the Demand. On February 22, 2016, the Company produced additional documents pursuant to the November 2015 letter.
In November 2014, we received another letter purportedly on behalf of a stockholder demanding access to certain books and records of the Company for the purpose of investigating matters pertaining to the Brown Action. The Company complied with the demand, as modified through negotiation with counsel for the purported stockholder, and in November 2015 the stockholder filed a complaint in Delaware Chancery Court asserting derivative claims on behalf of the Company against eight current, and four former members of the Board of Directors. On November 23, 2016, the court entered an order dismissing the amended complaint as a result of plaintiff’s withdrawal of the lawsuit.
On June 7, 2013, Children's Medical Center Corporation (CMCC) filed a lawsuit against us in the Superior Court of the Commonwealth of Massachusetts alleging that our obligation to pay a 1% royalty on REVLIMID® net sales and a 2.5% royalty on POMALYST®/IMNOVID® net sales under a license agreement entered into in December 2002 extended beyond February 28, 2013 and that our failure to make royalty payments to CMCC subsequent to February 28, 2013 breached the license agreement.
On July 8, 2014, CR Rev Holdings, LLC (CR Rev) filed a complaint against Celgene in the same action. CR Rev alleged that CMCC sold and assigned a substantial portion of the royalty payments owed by Celgene on the sale of REVLIMID® to CR Rev. CR Rev has alleged causes of action with respect to REVLIMID® identical to those alleged by CMCC, and sought unspecified damages and a declaration that the license agreement is still in effect.
On February 2, 2017, we entered into a Settlement Agreement with CMCC and CR Rev resolving the litigation, providing CMCC with a payment of $198.5 million (see Note 9) and providing us with an exclusive, worldwide, royalty free license to certain patent rights. The Settlement Agreement also provides for potential contingent royalty and other payments, which have not been accrued for as we do not believe such payments are probable.
On November 7, 2014, the International Union of Bricklayers and Allied Craft Workers Local 1 Health Fund (IUB) filed a putative class action lawsuit against us in the United States District Court for the District of New Jersey alleging that we violated various state antitrust, consumer protection, and unfair competition laws by (a) allegedly securing an exclusive supply contract with Seratec S.A.R.L. so that Barr Laboratories (Barr) allegedly could not secure its own supply of thalidomide active pharmaceutical ingredient; (b) allegedly refusing to sell samples of our THALOMID® and REVLIMID® brand drugs to various generic manufacturers for the alleged purpose of bioequivalence testing necessary for ANDAs to be submitted to the FDA for approval to market generic versions of these products; and (c) allegedly bringing unjustified patent infringement lawsuits against Barr and Natco Pharma Limited in order to allegedly delay those companies from obtaining approval for proposed generic versions of THALOMID® and REVLIMID®. IUB, on behalf of itself and a putative class of third party payers, is seeking injunctive relief and damages. On February 6, 2015, we filed a motion to dismiss IUB’s complaint. On March 3, 2015, the City of Providence (“Providence”) filed a similar putative class action making similar allegations. Both IUB and Providence, on behalf of themselves and a putative class of third party payers, are seeking injunctive relief and damages. Providence agreed that the decision in the motion to dismiss IUB’s complaint would apply to the identical claims in Providence’s complaint. A supplemental motion to dismiss Providence's state law claims was filed on April 20, 2015. On October 30, 2015, the court denied our motion to dismiss on all grounds.
Celgene filed its Answer to the IUB and Providence complaints on January 11, 2016. The completion of fact discovery and expert discovery is scheduled for February 1, 2018 and July 15, 2018, respectively. No trial date has been set. We intend to vigorously defend against IUB and Providence’s claims.
In December 2015, we received a subpoena from the U.S. Attorney’s Office for the District of Massachusetts, and in November 2016, we received a second subpoena related to the same inquiry. The materials requested primarily relate to patient assistance
CELGENE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
programs, including our support of 501(c)(3) organizations that provide financial assistance to eligible patients. We are cooperating with these requests.
19. Geographic and Product Information
Operations by Geographic Area: Revenues primarily consisted of sales of our primary commercial stage products including REVLIMID®, POMALYST®/IMNOVID®, OTEZLA®, ABRAXANE®, VIDAZA®, azacitidine for injection (generic version of VIDAZA®) and THALOMID® (sold as THALOMID® or Thalidomide Celgene® outside of the U.S.). In addition, we earn revenue from other product sales and licensing arrangements.
Long-lived assets consist of net property, plant and equipment.
Revenues by Product: Total revenues from external customers by product for the years ended December 31, 2016, 2015 and 2014 were as follows:
Major Customers: We sell our products primarily through wholesale distributors and specialty pharmacies in the United States, which account for a large portion of our total revenues. International sales are primarily made directly to hospitals, clinics and retail chains, many of which are government owned. During the three-year period of 2016, 2015 and 2014, customers that accounted for more than 10% of our total revenue in at least one of those years are summarized below. The percentage of amounts due from these customers compared to total net accounts receivable is also summarized below as of December 31, 2016 and 2015.
CELGENE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
20. Quarterly Results of Operations (Unaudited)
Gross profit is computed by subtracting cost of goods sold (excluding amortization of acquired intangible assets) from net product sales.
The sum of the quarters may not equal the full year due to rounding. In addition, quarterly and full year basic and diluted earnings per share are calculated separately.
The decrease in net income in the third quarter of 2016 was primarily due to a $623.3 million research and development asset acquisition expense associated with the purchase of EngMab.
Net income for 2015 was a loss in the third quarter primarily due to costs related to collaborations and the acquisition of Receptos.
21. Subsequent Event
In January 2017, we entered into an agreement to acquire Delinia, Inc. (Delinia), a privately held biotechnology company developing novel therapeutics for autoimmune diseases. The transaction will expand our Inflammation and Immunology pipeline primarily through the acquisition of Delinia's lead program, DEL106, as well as related second generation programs. DEL106 is a novel IL-2 mutein Fc fusion protein designed to preferentially upregulate regulatory T cells (Tregs), immune cells that are critical to maintaining natural self-tolerance and immune system homeostasis. Under the terms of the agreement, we will make an initial payment of $300 million. Delinia shareholders will be eligible to receive up to an additional $475 million in contingent payments upon achievement of certain development, regulatory and commercial milestones. The transaction is anticipated to close in the first quarter of 2017.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None.
ITEM 9A.
ITEM 9A. CONTROLS AND PROCEDURES
CONCLUSION REGARDING THE EFFECTIVENESS OF DISCLOSURE CONTROLS AND PROCEDURES
As of the end of the period covered by this Annual Report on Form 10-K, we carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in the Exchange Act Rules 13a-15(e) and 15d-15(e)) (the "Exchange Act"). Based on the foregoing evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures are effective to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the rules and forms of the Securities and Exchange Commission and that such information is accumulated and communicated to our management (including our Chief Executive Officer and Chief Financial Officer) to allow timely decisions regarding required disclosures.
CHANGES IN INTERNAL CONTROLS OVER FINANCIAL REPORTING
There were no changes in our internal control over financial reporting during the fiscal quarter ended December 31, 2016 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
MANAGEMENT'S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
Our management is responsible for establishing and maintaining adequate internal control over financial reporting and for the assessment of the effectiveness of internal control over financial reporting. As defined by the Securities and Exchange Commission, internal control over financial reporting is a process designed by, or under the supervision of, our principal executive and principal financial officers and effected by our Board of Directors, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of the consolidated financial statements in accordance with U.S. generally accepted accounting principles.
Our internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect our transactions and dispositions of our assets; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of the consolidated financial statements in accordance with generally accepted accounting principles, and that our receipts and expenditures are being made only in accordance with authorizations of our management and directors; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of our assets that could have a material effect on the consolidated financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In connection with the preparation of our annual consolidated financial statements, management has undertaken an assessment of the effectiveness of our internal control over financial reporting as of December 31, 2016, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission in 2013, or the COSO Framework. Management's assessment included an evaluation of the design of our internal control over financial reporting and testing of the operational effectiveness of those controls.
Based on this evaluation, management has concluded that our internal control over financial reporting was effective as of December 31, 2016.
KPMG LLP, the independent registered public accounting firm that audited our consolidated financial statements included in this report, has issued their report on the effectiveness of internal control over financial reporting as of December 31, 2016, a copy of which is included herein.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Stockholders
Celgene Corporation:
We have audited Celgene Corporation and subsidiaries' internal control over financial reporting as of December 31, 2016, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission in 2013, or COSO. Celgene Corporation and subsidiaries' management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management's Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the effectiveness of Celgene Corporation and subsidiaries' internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audit also included performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
A company's internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company's internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company's assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, Celgene Corporation and subsidiaries maintained, in all material respects, effective internal control over financial reporting as of December 31, 2016, based on criteria established in Internal Control-Integrated Framework issued by COSO in 2013.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of Celgene Corporation and subsidiaries as of December 31, 2016 and 2015, and the related consolidated statements of income, comprehensive income, cash flows, and stockholders' equity for each of the years in the three-year period ended December 31, 2016, and our report dated February 10, 2017 expressed an unqualified opinion on those consolidated financial statements.
/s/ KPMG LLP
Short Hills, New Jersey
February 10, 2017
ITEM 9B.
ITEM 9B. OTHER INFORMATION
None.
PART III
ITEM 10.
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
Pursuant to Paragraph G(3) of the General Instructions to Form 10-K, the information required by Part III (Items 10, 11, 12, 13 and 14) is being incorporated by reference herein from our definitive proxy statement (or an amendment to our Annual Report on Form 10-K) to be filed with the SEC within 120 days after the end of the fiscal year ended December 31, 2016 in connection with our 2017 Annual Meeting of Stockholders.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
See Item 10.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
See Item 10.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE
See Item 10.
ITEM 14.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
See Item 10.
PART IV
ITEM 15.
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES
*Filed herewith.
† Confidential treatment requested as to certain portions, which portions have been omitted and submitted separately to the Securities and Exchange Commission.
+ Constitutes a management contract or compensatory plan or arrangement.
ITEM 16. FORM 10-K SUMMARY
None.
SIGNATURES
Pursuant to the requirements of Section 13 or 15 (d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
CELGENE CORPORATION
By:
/s/ Mark J. Alles
Mark J. Alles
Chief Executive Officer
(principal executive officer)
________________________________________________________________________________________________________________________
Date: February 10, 2017
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
*By: /s/ Mark J. Alles
Mark J. Alles
Attorney-in-fact
Celgene Corporation and Subsidiaries
Schedule II - Valuation and Qualifying Accounts
(In Millions)
Amounts are a reduction from gross sales.