Item 1. Business
Our Company
We are a commercial biotechnology company leveraging our proven development and commercial capabilities as we seek to bring multiple medicines to patients. We are advancing innovative product opportunities in areas of large unmet need, based upon our target-to-disease approach to development and leveraging our core areas of expertise in gastrointestinal, or GI diseases and primary care, as well as in guanylate cyclase, or GC, pathways.
Our first commercial product, linaclotide, is available to adult men and women suffering from irritable bowel syndrome with constipation, or IBS-C, or chronic idiopathic constipation, or CIC, in certain countries around the world. Linaclotide is available under the trademarked name LINZESS® to adult men and women suffering from IBS-C or CIC in the United States, or the U.S., and Mexico, and to adult men and women suffering from IBS-C in Japan. Linaclotide is available under the trademarked name CONSTELLA® to adult men and women suffering from IBS-C or CIC in Canada, and to adult men and women suffering from IBS-C in certain European countries.
We and our U.S. linaclotide partner Allergan plc (together with its affiliates), or Allergan, plan to advance a linaclotide delayed release formulation for the potential treatment of abdominal pain in patients with all forms of IBS. We and Allergan are also continuing to explore ways to enhance the clinical profile of LINZESS by studying linaclotide in additional indications, populations and formulations to assess its potential to treat various conditions.
We are advancing another GI development program, IW-3718, a gastric retentive formulation of a bile acid sequestrant for the potential treatment of uncontrolled gastroesophageal reflux disease, or uncontrolled GERD. In July 2017, we reported positive top-line data from a Phase IIb clinical trial evaluating IW-3718 in patients with uncontrolled GERD that we believe support advancement of this program into Phase III development.
We are commercializing in the U.S. two products within our uncontrolled gout program, DUZALLO® (lesinurad and allopurinol) and ZURAMPIC® (lesinurad). DUZALLO is a fixed-dose combination product of lesinurad and allopurinol available for the treatment of hyperuricemia associated with gout in adults who have not achieved goal serum uric acid, or sUA, levels with a medically appropriate daily dose of allopurinol alone. ZURAMPIC is available for use in combination with a xanthine oxidase inhibitor, or XOI, for the treatment of hyperuricemia associated with uncontrolled gout in adults who have not achieved goal sUA levels with a medically appropriate daily dose of a XOI alone. In June 2016, we closed a transaction, or the Lesinurad Transaction, with AstraZeneca AB (together with its affiliates), or AstraZeneca, pursuant to which we received an exclusive license to develop, manufacture, and commercialize in the U.S. products containing lesinurad as an active ingredient, or the Lesinurad License, including DUZALLO and ZURAMPIC.
We are also leveraging our pharmacological expertise in GC pathways gained through the discovery and development of linaclotide, a GC-C agonist, to develop a pipeline of soluble guanylate cyclase, or sGC, stimulators, including praliciguat (IW-1973) and IW-1701. We are advancing praliciguat, our lead sGC stimulator, for the potential treatment of diabetic nephropathy and the potential treatment of heart failure with preserved ejection fraction, or HFpEF. Our second clinical sGC stimulator, IW-1701, is being developed for the potential treatment of sickle cell disease and achalasia.
The following table presents the status of selected key development programs in our pipeline:
The status of our development programs in the table above represents the ongoing phase of development and does not correspond to the initiation or completion of a particular phase. Drug development involves a high degree of risk and investment, and the status, timing and scope of our development programs are subject to change. Important factors that could adversely affect our drug development efforts are discussed in the “Risk Factors” section of this Annual Report on Form 10-K.
We were incorporated in Delaware on January 5, 1998 as Microbia, Inc. On April 7, 2008, we changed our name to Ironwood Pharmaceuticals, Inc. To date, we have dedicated a majority of our activities to the research, development and commercialization of linaclotide and the commercialization of lesinurad, as well as to the research and development of our other product candidates.
GI Programs
IBS-C / CIC
IBS-C and CIC are chronic, functional GI disorders that afflict millions of sufferers worldwide. As many as 13 million adults suffer from IBS-C and as many as 35 million adults suffer from CIC in the U.S. alone, according to our analysis of studies including P Pare, et al. (published in 2001 in the American Journal of Gastroenterology) and J.F. Johanson, et al. (published in 2007 in Alimentary Pharmacology and Therapeutics) and American College of Gastroenterology Chronic Constipation Task Force (2005), American Journal of Gastroenterology Vol. 100, No. S1, 2005. Symptoms of IBS-C include abdominal pain, discomfort or bloating and constipation symptoms (e.g., incomplete evacuation, infrequent bowel movements, hard/lumpy stools), while CIC is primarily characterized by constipation symptoms.
Linaclotide-U.S. In August 2012, the FDA approved LINZESS as a once-daily treatment for adult men and women suffering from IBS-C (290mcg dose) or CIC (145mcg dose). We and Allergan began commercializing LINZESS in the U.S. in December 2012. Linaclotide is the first product approved by the FDA in a class of GI medicines called guanylate cyclase type-C, or GC-C, agonists. We and Allergan continue to explore ways to enhance the clinical profile of LINZESS by studying linaclotide in additional indications, populations and formulations to assess its potential to treat various conditions.
72 mcg for CIC in Adult Men and Women. In January 2017, the FDA approved a 72 mcg dose of linaclotide for the treatment of adult men and women with CIC. Together with the currently approved 145 mcg dose, the availability of
the 72 mcg dose provides physicians with dosing flexibility based on individual presentation or tolerability in treating adult CIC patients in the U.S.
Pediatrics. We and Allergan have established a nonclinical and clinical post-marketing plan with the FDA to understand the safety and efficacy of LINZESS in pediatric patients. We and Allergan have initiated two Phase II clinical pediatric studies in IBS-C patients age seven to 17 and functional constipation patients age six to 17.
LINZESS is covered by a U.S. composition of matter patent that expires in 2026, including patent term extension, as well as multiple additional patents covering the commercial formulation of LINZESS and methods of using this formulation to treat patients with IBS C or CIC, all of which expire in the early 2030s. We and Allergan have received Paragraph IV certification notice letters, or Notice Letters, regarding Abbreviated New Drug Applications, or ANDAs, submitted to the FDA by generic drug manufacturers requesting approval to engage in commercial manufacture, use, sale and offer for sale of linaclotide capsules (72 mcg, 145 mcg and 290 mcg), proposed generic versions of LINZESS. In January 2018, we and Allergan entered into a settlement agreement with one such generic drug manufacturer. Pursuant to the terms of the settlement, we and Allergan will grant the manufacturer a license to market a generic version of LINZESS in the United States beginning on February 1, 2031 (subject to FDA approval), unless certain limited circumstances, customary for settlement agreements of this nature, occur. For additional information relating to such ANDAs and any resolution of related litigation, see Item 3, Legal Proceedings, elsewhere in this Annual Report on Form 10-K.
Linaclotide Life Cycle Management. In November 2017, we announced an updated linaclotide life cycle management strategy in the U.S. to further support the achievement of the key objectives of the life cycle management program, which include strengthening the clinical profile of linaclotide by obtaining additional abdominal symptom claims and expanding the clinical utility of linaclotide by demonstrating the pain-relieving effect of a delayed release formulation in all IBS subtypes. We and Allergan also continue to explore ways to enhance the clinical profile of LINZESS by studying linaclotide in additional indications, populations and formulations to assess its potential to treat various conditions.
Additional Abdominal Symptom Claims. We and Allergan identified a development path with LINZESS intended to obtain abdominal symptom claims including bloating and discomfort, two highly bothersome symptoms associated with IBS-C, through a single Phase III trial. Greater than 65% of IBS-C patients suffer from bloating and/or discomfort at least one time per week, according to the Lieberman GI Patient Landscape Survey performed in 2010.
Linaclotide Delayed Release. During 2017, we and Allergan were advancing two linaclotide delayed release formulations: delayed release-1 and delayed release-2. As part of the refined linaclotide life cycle strategy, we and Allergan plan to advance linaclotide delayed release-2 as a potential visceral, non-opioid, pain-relieving agent for patients suffering from all forms of IBS. There are an estimated 20 to 25 million Americans who suffer from symptoms of IBS with diarrhea and IBS-mixed, according to Irritable Bowel Syndrome in Women: The Unmet Needs, (published in Society for Women’s Health Research in 2002) and Hungin AP, et al. Irritable bowel syndrome in the United States: prevalence, symptom patterns and impact (published in Aliment Pharmacol Ther. in 2005). Linaclotide delayed release-1 was designed to potentially improve abdominal pain relief in adult IBS-C patients. With our updated strategy, we and Allergan no longer intend to pursue linaclotide delayed release-1.
Linaclotide Opioid Induced Constipation. We and Allergan no longer intend to pursue linaclotide as a potential treatment of the GI dysfunction associated with opioid induced constipation.
Linaclotide-Global. Allergan has rights to develop and commercialize linaclotide in all countries worldwide other than China, Hong Kong, Macau and Japan. In November 2012, the European Commission granted marketing authorization to CONSTELLA for the symptomatic treatment of moderate to severe IBS-C in adults. CONSTELLA is the first, and to date, only drug approved in the European Union, or E.U., for IBS-C. CONSTELLA first became commercially available in certain European countries beginning in the second quarter of 2013. Allergan is commercializing CONSTELLA in a number of European countries, including the United Kingdom, Italy and Spain.
In December 2013 and February 2014, linaclotide was approved in Canada and Mexico, respectively, as a treatment for adult men and women suffering from IBS-C or CIC. Allergan has exclusive rights to commercialize linaclotide in Canada as CONSTELLA and in Mexico as LINZESS. In May 2014, CONSTELLA became commercially available in Canada and in June 2014, LINZESS became commercially available in Mexico.
Astellas Pharma Inc., or Astellas, has rights to develop and commercialize linaclotide in Japan. In December 2016, the Japanese Ministry of Health, Labor and Welfare approved LINZESS for the treatment of adults with IBS-C in Japan. In March 2017, Astellas began commercializing LINZESS for the treatment of adults with IBS-C in Japan. In September 2017, Astellas submitted a supplemental new drug application for approval of LINZESS for the treatment of adult patients with chronic constipation in Japan.
We and AstraZeneca are co-developing linaclotide in China, Hong Kong and Macau, with AstraZeneca having primary responsibility for the local operational execution. In December 2015, we and AstraZeneca filed for approval of linaclotide for adult patients with IBS-C with the China Food and Drug Administration to market linaclotide in China.
CONSTELLA is covered by European composition of matter patents, which expire in 2024. LINZESS is covered by Japanese composition of matter patents and commercial formulation patents which expire between 2024 and 2032. In addition, we have Chinese composition of matter patents and commercial formulation patents which expire between 2024 and 2032.
Uncontrolled GERD
IW-3718. According to a study published in 2010 by H. El-Sarag in Alimentary Pharmacology & Therapeutics and 2015 U.S. census data, there are an estimated 10 million Americans who suffer regularly from symptoms of GERD, such as heartburn and regurgitation, despite receiving the current standard of care of treatment with a proton pump inhibitor to suppress stomach acid. Research suggests some uncontrolled GERD patients may experience reflux of bile from the intestine into the stomach and esophagus.
We are advancing IW-3718, a gastric retentive formulation of a bile acid sequestrant, for the potential treatment of uncontrolled GERD. Our clinical research has demonstrated that reflux of bile from the intestine into the stomach and esophagus plays a key role in the ongoing symptoms of uncontrolled GERD. IW-3718 is a novel formulation of a bile acid sequestrant designed to release in the stomach over an extended period of time, bind to bile that refluxes into the stomach, and potentially provide symptomatic relief in patients with uncontrolled GERD. In July 2017, we reported positive top-line data from a Phase IIb clinical trial evaluating IW-3718 that we believe support potential advancement of this program into Phase III development.
Uncontrolled Gout Programs
Gout is a highly symptomatic and painful form of inflammatory arthritis affecting more than nine million people in the U.S., according to a study published in 2011 by Y. Zhu in Arthritis & Rheumatology and an estimated 3% compound annual growth rate in gout incidence based on data reported in this same study and in a study published in 2002 by E. Arromdee in The Journal of Rheumatology. It is caused by an underlying metabolic disorder, hyperuricemia, high levels of uric acid in the blood, and can lead to painful flares characterized by excruciating pain, inflammation, swelling and tenderness in one or more joints. More than four million patients are treated with an XOI, either allopurinol or febuxostat, for gout in the U.S. Of these, an estimated two million patients are uncontrolled and are not achieving target sUA levels (<6 mg/dL as recommended by the American College of Rheumatology), despite treatment with an XOI according to Zhu Y, et al. Prevalence of Gout and Hyperuricemia in the US General Population. Arthritis Rheum. 2011;63:3136-41. These patients continue to suffer from flares and may face serious long-term consequences that can result from having uncontrolled sUA levels.
In June 2016, we closed the Lesinurad Transaction, pursuant to which we received an exclusive license to develop, manufacture, and commercialize in the U.S. products containing lesinurad as an active ingredient, including DUZALLO and ZURAMPIC.
DUZALLO. In August 2017, the FDA approved DUZALLO, a fixed-dose combination product of lesinurad and allopurinol, for the treatment of hyperuricemia associated with gout in patients who have not achieved goal serum uric acid levels with a medically appropriate daily dose of allopurinol alone. In October 2017, we began commercializing DUZALLO in the U.S.
ZURAMPIC. Lesinurad 200mg tablets were approved as ZURAMPIC by the FDA in December 2015, for use in combination with an XOI for the treatment of hyperuricemia associated with uncontrolled gout. In October 2016, we began commercializing ZURAMPIC in the U.S.
In January 2018, we commenced an initiative to evaluate the optimal mix of investments for our lesinurad franchise for uncontrolled gout, including DUZALLO and ZURAMPIC. As part of this effort, in 2018 we are re-allocating resources within our lesinurad franchise to systematically explore a more comprehensive marketing mix in select test markets (with paired controls), while continuing to build market presence for the lesinurad franchise across the country. We expect the data received in 2018 from these test markets to inform our future investment in the lesinurad franchise.
Diabetic Nephropathy and HFpEF Programs
Praliciguat (IW-1973). Our lead sGC stimulator, praliciguat, is in Phase II development for diabetic nephropathy and HFpEF.
Diabetic nephropathy affects an estimated eight million Americans and 20 to 40 percent of all diabetic patients worldwide according to deBoer IH et al, Temporal Trends in the Prevalence of Diabetic Kidney Disease in the US (published in JAMA in 2011) and Gheith et al, Diabetic kidney disease: world wide differences in prevalence and risk factors (published in 2016 in Journal of Nephropharmacology). It is the leading cause of end-stage renal disease. Based on non-clinical data, praliciguat has the potential to address the underlying causes of diabetic nephropathy by improving nitric oxide, or NO, signaling, which could help protect renal function through improving renal blood flow regulation, reducing vascular and tissue inflammation, and inhibiting fibrosis.
HFpEF affects an estimated three million Americans and 40 to 70 percent of heart failure patients worldwide, according to Heart Failure with Preserved Ejection Fraction: Persistent Diagnosis, Therapeutic Enigma, (published in Current Cardiovascular Risk Report in. 2011) October and Zaijan, et al Epidemiology and etiology of heart failure (published in 2016 in Nature). It is a highly symptomatic condition with high rates of morbidity and mortality that can cause insufficient delivery of oxygen to the tissues, fluid in the lungs and edema of the extremities, causing patients to be short of breath and have compromised exercise tolerance. Based on non-clinical data, praliciguat has the potential to address the underlying causes of HFpEF by improving NO signaling, which may increase blood flow to tissues and reduce vascular inflammation and fibrosis.
Specialty Disease Programs
IW-1701. Our second clinical sGC stimulator, IW-1701, is in Phase II development for the potential treatment of sickle cell disease and achalasia.
Sickle cell disease is a debilitating genetic disorder that causes red blood cells to become sickle-shaped, reducing normal red blood cell number, blood flow and oxygen delivery to organs. According to the Centers for Disease Control and Prevention, sickle cell disease affects approximately 100,000 Americans. Additionally, the World Health Organization, Genes and Human Disease maintains millions of people throughout the world suffer from sickle cell disease. Many of the symptoms of sickle cell disease are believed to be caused by a deficiency of NO. IW-1701 has been shown to improve NO signaling in non-clinical studies and is being investigated for its potential to treat multiple aspects of sickle cell disease pathophysiology, including red blood cell sickling, decreased blood flow and vascular inflammation.
Achalasia is a rare disease with a prevalence rate of 10/100,000 in which the lower esophagus does not relax normally. The cardinal symptoms of achalasia are dysphagia (swallowing problems), regurgitation, and chest pain. There are no FDA approved medicines for patients suffering from achalasia according to the Global Data Drugs Database. Several procedural treatment options are available (e.g., pneumatic dilation and surgical myotomy). Unfortunately, none can stop or reverse the underlying functional defect in the esophagus of patients with achalasia. Based on non-clinical data, IW-1701 has the potential to address the underlying causes of achalasia by improving NO signaling, which may induce vascular smooth-muscle relaxation in the esophagus and in the lower esophageal sphincter and promote swallowing.
LINZESS and the majority of our current product candidates have been discovered internally. We believe our discovery team has created a number of promising candidates over the past few years and has developed an extensive intellectual property estate in each of these areas. We have also accessed externally-discovered drug candidates that fit within our core strategy and intend to continue to access such drug candidates in the future. In evaluating these potential assets, we apply the same investment criteria as those used for investments in internally discovered assets. We have committed significant resources into the research and development of our product candidates and intend to continue to do so for the foreseeable future. For the years ended December 31, 2017, 2016, and 2015, research and development expenses were approximately $148.2 million, approximately $139.5 million, and approximately $108.7 million, respectively.
Collaborations and Partnerships
As part of our strategy, we have established development and commercial capabilities that we plan to leverage as we seek to bring multiple medicines to patients. We intend to play an active role in the development and commercialization of our products in the U.S., either independently or with partners that have strong capabilities. We also intend to establish strong global brands by out-licensing development and commercialization rights to our products in other key territories to high-performing partners. We believe in the long-term value of our drug candidates, so we seek collaborations that increase the value of our programs by providing meaningful economics and incentives for us and any potential partner. Furthermore, we seek partners who share our values, culture, processes and vision for our products, which we believe will enable us to work with those partners successfully for the entire potential patent life of our drugs. We intend to continue to access innovative externally developed products through strategic transactions and to leverage our existing capabilities to develop and commercialize these products in the U.S.
The following chart shows our revenue for the U.S. and territories outside of the U.S. as a percentage of our total revenue for each of the years ended December 31, 2017, 2016 and 2015.
Revenue attributable to our linaclotide partnerships comprised substantially all of our revenue for each of the years indicated. Further, we currently derive a significant portion of our revenue from our LINZESS collaboration with Allergan for the U.S. and believe that the revenues from this collaboration will continue to constitute a significant portion of our total revenue for the foreseeable future. In addition, our collaborative arrangements revenue and sale of API outside of the U.S. has fluctuated for the years ended December 31, 2017, 2016 and 2015, and may continue to fluctuate as a result of the timing and amount of sales of linaclotide API to certain of our partners, license fees and clinical and commercial milestones received and recognized under our current and future strategic partnerships outside of the U.S., as well as the timing and amount of royalties from the sales of linaclotide in the markets in which it is currently approved, or any other markets where linaclotide receives approval.
Linaclotide
We have pursued a partnering strategy for commercializing linaclotide that has enabled us to retain significant oversight over linaclotide’s development and commercialization worldwide, share the costs with collaborators whose capabilities complement ours, and retain a significant portion of linaclotide’s future long-term value. As of December 31, 2017, licensing fees, milestones, royalties and related equity investments from our linaclotide partners cumulatively totaled approximately $412.5 million. In addition, we and Allergan jointly fund the development and commercialization of LINZESS in the U.S., sharing equally in any net profits or losses, and we and AstraZeneca jointly fund the development and commercialization of linaclotide in China, Hong Kong and Macau, with AstraZeneca receiving 55% of the net profits or incurring 55% of the net losses until a certain specified commercial milestone is achieved, at which time profits or losses will be shared equally thereafter. Such reimbursements for our development and commercialization costs received from Allergan in the U.S. or AstraZeneca in China, Hong Kong, and Macau are excluded from the amount above.
Collaboration Agreement for North America with Allergan
In September 2007, we entered into a collaboration agreement with Allergan to develop and commercialize linaclotide for the treatment of IBS-C, CIC and other GI conditions in North America. Under the terms of the collaboration agreement, we and Allergan are jointly and equally funding the development and commercialization of LINZESS in the U.S., with equal share of any profits or losses. Additionally, we granted Allergan exclusive rights to develop and commercialize linaclotide in Canada and Mexico for which we receive royalties in the mid-teens percent on net sales in those countries. Allergan is solely responsible for the further development, regulatory approval and commercialization of linaclotide in those countries and funding any costs. Total licensing, milestone payments, and related equity investments under the Allergan collaboration agreement for North America could total up to $330.0 million, including the $205.0 million that Allergan has already paid to us in license fees and all six development-related milestones and the $25.0 million of our capital stock that Allergan has already purchased.
License Agreement with Allergan (All countries other than the countries and territories of North America, China, Hong Kong, Macau, and Japan)
In April 2009, we entered into a license agreement with Almirall, or the European License Agreement, to develop and commercialize linaclotide in Europe (including the Commonwealth of Independent States and Turkey) for the treatment of IBS-C, CIC and other GI conditions. In October 2015, Almirall transferred its exclusive license to develop and commercialize linaclotide in Europe to Allergan. Additionally, in October 2015, we and Allergan separately entered into an amendment to the European License Agreement relating to the development and commercialization of linaclotide in Europe. Pursuant to the terms of the amendment, (i) certain sales-based milestones payable to us under the European License Agreement were such that, when aggregated with the remaining commercial launch milestones, they could total up to $42.5 million, (ii) the royalties payable to us during the term of the European License Agreement were modified such that the royalties based on sales volume in Europe begin in the mid-single digit percent and escalate to the upper-teens percent by calendar year 2019, and (iii) Allergan assumed responsibility for the manufacturing of linaclotide API for Europe from us, as well as the associated costs.
In January 2017, we and Allergan entered into an amendment to the European License Agreement. The European License Agreement, as amended, extended the license to develop and commercialize linaclotide in all countries other than China, Hong Kong, Macau, Japan, and the countries and territories of North America. On a country-by-country and product-by-product basis in such additional territory, Allergan is obligated to pay us a royalty as a percentage of net sales of products containing linaclotide as an active ingredient in the upper-single digits for five years following the first commercial sale of a linaclotide product in a country, and in the low-double digits thereafter. The royalty rate for products in the expanded territory will decrease, on a country-by-country basis, to the lower-single digits, or cease entirely, following the occurrence of certain events. Allergan is also obligated to assume certain purchase commitments for quantities of linaclotide API under our agreements with third-party API suppliers. The amendment to the European License Agreement did not modify any of the milestones or royalty terms related to Europe.
License Agreement for Japan with Astellas
In November 2009, we entered into a license agreement with Astellas, as amended, to develop and commercialize linaclotide for the treatment of IBS-C, CIC and other GI conditions in Japan. Astellas is responsible for development, regulatory approval and commercialization in Japan, as well as funding the associated costs. Astellas has paid us all licensing and milestone payments under the license agreement totaling $75.0 million. These payments consisted of a $30.0 million up-front licensing fee and $45.0 million in development milestones. Astellas is obligated to pay us gross royalties which escalate based on sales volume in the Astellas territory, beginning in the low-twenties percent, less the transfer price paid by Astellas to us for the API included in the product actually sold in Japan and other contractual deductions.
Collaboration Agreement for China, Hong Kong and Macau with AstraZeneca
In October 2012, we entered into a collaboration agreement with AstraZeneca to co-develop and co-commercialize linaclotide in China, Hong Kong and Macau. Under the terms of the agreement, we and AstraZeneca are jointly funding the development and commercialization of linaclotide in the AstraZeneca territory, with AstraZeneca receiving 55% of the net profits or incurring 55% of the net losses until a certain specified commercial milestone is achieved, at which time profits or losses will be shared equally thereafter. If linaclotide is successfully developed and
commercialized in the AstraZeneca territory, total licensing and milestone payments to us under the collaboration agreement could total up to $150.0 million, including the $25.0 million that AstraZeneca has already paid to us.
Lesinurad
In June 2016, we closed the Lesinurad Transaction. Under the terms of the Lesinurad License, we made an up-front payment to AstraZeneca of $100.0 million. We will also pay AstraZeneca tiered single-digit royalties on product sales as well as sales-related and other milestones of up to $165.0 million. During the year ended December 31, 2017, we paid a $15.0 million milestone to AstraZeneca related to the approval of DUZALLO by the FDA. We and AstraZeneca also entered into a commercial supply agreement, or the Lesinurad CSA, pursuant to which we rely exclusively on AstraZeneca for the commercial manufacture and supply of DUZALLO and ZURAMPIC. We and AstraZeneca also entered into a transitional services agreement, or the Lesinurad TSA, where AstraZeneca, among other things, provided certain product support services to us through December 31, 2017.
Co-Promotion and Other Commercial Agreements
Commercial Agreement with Allergan
In January 2017, we and Allergan entered into a commercial agreement under which the adjustments to our or Allergan’s share of the net profits under the share adjustment provision of the collaboration agreement for linaclotide in North America relating to the contractually required calls on physicians in each year are eliminated, in full, in 2018 and all subsequent years. Pursuant to the commercial agreement, Allergan also appointed us, on a non-exclusive basis, to promote CANASA®, approved for the treatment of ulcerative proctitis, and DELZICOL®, approved for the treatment of ulcerative colitis, in the U.S. for approximately two years. The share adjustment relief will, in the case of Allergan’s termination for convenience and certain other specified circumstances, survive termination of the commercial agreement.
In August 2015, we and Allergan entered into a non-exclusive agreement for the co-promotion of VIBERZI® (eluxadoline) in the U.S., Allergan’s treatment for adults suffering from IBS-D or the VIBERZI Co-Promotion Agreement, which expired in December 2017. Under the terms of the VIBERZI Co-Promotion Agreement, our clinical sales specialists detailed VIBERZI to the same health care practitioners to whom they detailed LINZESS. Allergan was responsible for all costs and activities relating to the commercialization of VIBERZI outside of the co-promotion.
In December 2017, we agreed with Allergan to continue to promote VIBERZI through December 31, 2018 and to discontinue promoting DELZICOL effective January 1, 2018. We perform certain third position details and offer samples of CANASA to gastroenterology prescribers who are on the then-current call panel for LINZESS to which we provide first or second position details, and we purchase samples of CANASA from Allergan at the actual manufacturing cost. Allergan is obligated to pay us a royalty in the mid-teens on incremental sales of CANASA above a mutually agreed upon sales baseline. We commenced the promotion activities for CANASA on February 27, 2017. In addition, our clinical sales specialists detail VIBERZI to the same health care practitioners to whom they detail LINZESS. We have the potential to achieve milestone payments of up to $7.5 million based on the net sales of VIBERZI, provided we perform a minimum number of VIBERZI calls on physicians, and will also be compensated via reimbursements for medical education initiatives. Subject to our or Allergan’s rights of early termination, our promotion will cease on February 26, 2019 with respect to CANASA and on December 31, 2018 with respect to VIBERZI.
Co-Promotion Agreement with Exact Sciences Corp. for Cologuard
In March 2015, we and Exact Sciences Corp, or Exact Sciences, entered into an agreement to co-promote Exact Sciences’ Cologuard®, the first and only FDA-approved noninvasive stool DNA screening test for colorectal cancer, or the Exact Sciences Co-Promotion Agreement. The Exact Sciences Co-Promotion Agreement was terminated by the parties in August 2016. Under the terms of this agreement, our sales team promoted and educated health care practitioners regarding Cologuard through July 2016, with LINZESS remaining as our first position product. Exact Sciences maintained responsibility for all other aspects of the commercialization of Cologuard outside of the co-promotion. Under the terms of the Exact Sciences Co-Promotion Agreement, we were compensated primarily via royalties earned on the net sales of Cologuard generated from the healthcare practitioners on whom we called with such royalties being payable through July 2017.
Owner-related Business Principles
We encourage all current and potential stockholders to read the owner-related business principles below that guide our overall strategy and decision making.
1.Ironwood’s stockholders own the business; all of our employees work for them.
Each of our employees has equity in the business, aligning their interests with those of their fellow stockholders. As employees and co-owners of Ironwood, our management and employee team seek to effectively allocate scarce stockholder capital to maximize the average annual growth of per share value.
Through our policies and communication, we seek to attract like-minded owner-oriented stockholders. We strive to effectively communicate our views of the business opportunities and risks over time so that entering and exiting stockholders are doing so at a price that approximately reflects our intrinsic value.
2.We believe we can best maximize long-term stockholder value by building a great pharmaceutical franchise.
We believe that Ironwood has the potential to deliver outstanding long-term returns to stockholders who are sober to the risks inherent in the pharmaceutical product lifecycle and to the potential dramatic highs and lows along the way, and who focus on superior long-term, per share cash flows.
Since the pharmaceutical product lifecycle is lengthy and unpredictable, we believe it is critical to have a long-term strategic horizon. We work hard to embed our long-term focus into our policies and practices, which may give us a competitive advantage in attracting like-minded stockholders and the highest caliber employees. Our current and future employees may perceive both financial and qualitative advantages in having their inventions or hard work result in marketed drugs that they and their fellow stockholders continue to own. Some of our key policies and practices that are aligned with this imperative include:
a. Our dual class equity voting structure (which provides for super-voting rights of our pre-IPO stockholders only in the event of a change of control vote) is designed to concentrate change of control decisions in the hands of long-term focused owners who have a history of experience with us.
b. We grant each of our employees stock-based awards, and long-term equity is a significant component of their total compensation. We believe our emphasis on equity plays an important role in attracting and motivating the owner-oriented employees we seek and aligning their interests with those of their fellow stockholders.
c. We have adopted a change of control severance plan for all of our employees that is intended to encourage them to bring forward their best ideas by providing them with the comfort that if a change of control occurs and their employment is terminated, they will still have an opportunity to share in the economic value that they have helped create for stockholders.
d. All of the members of our board of directors are investors in the company. Furthermore, each director is required to hold all shares of stock acquired as payment for his or her service as a director throughout his or her term on the board.
e. Our linaclotide partnerships with Allergan, Astellas and AstraZeneca all include standstill agreements, which serve to protect us from an unwelcome acquisition attempt by one of our partners. In addition, we have change of control provisions in our linaclotide partnership agreements in order to protect the economic value of linaclotide should the acquirer of one of our partners be unable or unwilling to devote the time and resources required to maximize linaclotide’s benefit to patients in their respective territory.
3.We are and will remain careful stewards of our stockholders’ capital.
We work intensely to allocate capital carefully and prudently, continually reinforcing a lean, cost-conscious culture.
While we are mindful of the declining productivity and inherent challenges of pharmaceutical research and development, we intend to invest in discovery and development research for many years to come. Our singular passion is to create, develop and commercialize novel drug candidates, seeking to integrate the most successful drug making and marketing practices of the past and the best of today’s cutting-edge technologies and basic research, development and commercialization advances.
While we hope to improve the productivity and efficiency of our drug creation efforts over time, our discovery process revolves around small, highly interactive, cross-functional teams. We believe that this is one area where our relatively small size is a competitive advantage, so for the foreseeable future, we do not expect our drug discovery team to grow beyond 100-150 scientists. We will continue to prioritize constrained resources and maintain organizational discipline. Once internally or externally derived candidates advance into development, compounds follow careful stage-gated plans, with further advancement depending on clear data points. Since most pharmaceutical research and development projects fail, it is critical that our teams are rigorous in making early go/no go decisions, following the data, terminating unsuccessful programs, and allocating scarce dollars and talent to the most promising efforts, thus enhancing the likelihood of late phase development success.
We work with our partners to establish redundancy at each critical node of the supply chain in the U.S. for lesinurad and globally for linaclotide. This mitigates against a fundamental risk inherent with pharmaceuticals-unanticipated shortages of commercial product. Likewise, we have established a commercial organization dedicated to bringing innovative, highly-valued healthcare solutions to all of our customers. Our commercial organization, working closely and methodically with our global commercialization partners, strives to maximize our products’ commercial potential through focused efforts aimed at educating patients, payers and healthcare providers.
4.Our financial goal is to maximize long-term per share cash flows.
Our goal is to maximize long-term cash flows per share, and we will prioritize this even if it leads to uneven short-term financial results. If and when we become profitable, we expect and accept uneven earnings growth. Our underlying product development model is risky and unpredictable, and we have no intention to advance marginal development candidates or consummate suboptimal in-license transactions in an attempt to fill anticipated gaps in revenue growth. Successful drugs can be enormously beneficial to patients and highly profitable and rewarding to stockholders, and we believe strongly in our ability to occasionally (but not in regular or predictable fashion) create and commercialize great medicines that make a meaningful difference in patients’ lives.
If and when we reach profitability, we do not intend to issue quarterly or annual earnings guidance; however we plan to continue to be transparent about the key elements of our performance, including near-term operating plans and longer-term strategic goals.
Our Strategy
Our mission is to create medicines that make a difference for patients, build value for our fellow stockholders, and empower our passionate team. Our core strategy to achieve this mission is to leverage our development and commercial capabilities to bring multiple medicines to patients. Key elements of our strategy include:
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attracting and incentivizing a team with a singular passion for creating, developing and commercializing medicines that can make a significant difference in patients’ lives;
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successfully and profitably commercializing LINZESS in collaboration with Allergan in the U.S.;
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exploring development opportunities to enhance the clinical profile of LINZESS by studying linaclotide in additional indications, populations and formulations to assess its potential to treat various conditions;
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successfully and profitably commercializing ZURAMPIC and DUZALLO in the U.S.;
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investing in our pipeline of novel product candidates, including IW-3718, praliciguat, and IW-1701, among others;
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solidifying and expanding our position as the leader in the field of GC-C agonists and cGMP pharmacology;
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maximizing the commercial potential of our drugs and playing an active role in their development and commercialization in the U.S. and collaborating with out-licensing partners who share our vision, values, culture, and processes;
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supporting global partners to develop and commercialize linaclotide outside of the U.S.;
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leveraging our U.S.-focused commercial capabilities in marketing, reimbursement, patient engagement and sales;
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evaluating external candidates for in-licensing or acquisition opportunities; and
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executing our strategy with our stockholders’ long-term interests in mind by seeking to maximize long-term per share cash flows.
Competition
Linaclotide
Linaclotide competes globally with certain prescription therapies and over-the-counter, or OTC, products for the treatment of IBS-C and CIC, or their associated symptoms.
OTC and generic laxatives make up the majority of the IBS-C and CIC treatment market, according to the Lieberman GI Patient Landscape Survey performed in 2010 and the 2018 U.S. Census. Polyethylene glycol (such as MiraLAX®) and lactulose account for the majority of prescription laxative treatments, according to 2015 data from IQVIA Inc. National Prescription Audit. Given the low barriers to access, many IBS-C and CIC sufferers try OTC fiber and laxatives, but according to this same patient landscape survey, less than half of them are very satisfied with the ability of these OTC products to manage their symptoms. Two of the highest selling OTC laxatives in the U.S., based on 2017 U.S. sales volume data from IQVIA Inc. National Prescription Audit, are MiraLAX and Dulcolax®.
Until the launch of LINZESS, the only available branded prescription therapy for IBS-C and CIC in the U.S. was AMITIZA® (lubiprostone), which was approved for the treatment of CIC in 2006, for the treatment of IBS-C in 2008, and for the treatment of opioid-induced constipation in 2013. AMITIZA is being commercialized in the U.S. by Takeda Pharmaceuticals Limited. Synergy Pharmaceuticals, Inc., or Synergy, obtained approval of TRULANCE® (plecanatide) in the U.S. for the treatment of CIC in adults in January 2017 and for the treatment of IBS-C in adults in January 2018. Currently, there are additional compounds in late-stage development by other companies for the treatment of U.S. patients with IBS-C and CIC. AMITIZA is being commercialized for the treatment of adults with CIC in certain European countries, including the United Kingdom and Switzerland by Sucampo AG, and for the treatment of chronic constipation in Japan by Mylan N.V.
Lesinurad
More than four million patients are treated with an XOI, either allopurinol or febuxostat, for gout in the U.S. according to Zhu Y, et al. Prevalence of Gout and Hyperuricemia in the US General Population. Arthritis Rheum. 2011;63:3136-41, with the majority of patients taking allopurinol. For patients who are still not achieving target sUA levels on allopurinol alone, physicians typically prescribe an escalated dose of allopurinol or introduce ULORIC® (febuxostat), another XOI, into their treatment regimen. ULORIC was approved for the chronic management of hyperuricemia in patients with gout in 2009 and is being commercialized in the U.S. by Takeda Pharmaceuticals Americas, Inc.
Manufacturing and Supply
We currently manage our global supply and distribution of linaclotide and lesinurad through a combination of contract manufacturers and collaboration partners. It is our objective to produce safe and effective medicine on a worldwide basis, with redundancy built into critical steps of the supply chain. We believe that we have sufficient in-house expertise to manage our manufacturing and supply chain network to meet worldwide demand.
Linaclotide
Linaclotide production consists of three phases-manufacture of the API (sometimes referred to as drug substance), manufacture of drug product and manufacture of finished goods. We and certain of our partners have entered into commercial supply agreements with multiple third-party manufacturers for the production of linaclotide API. We believe our commercial suppliers have the capabilities to produce linaclotide API in accordance with current good manufacturing practices, or GMP, on a sufficient scale to meet our development and commercial needs. Our commercial suppliers are subject to routine inspections by regulatory agencies worldwide and also undergo periodic audit and certification by our quality department.
Each of Allergan and Astellas is responsible for drug product and finished goods manufacturing for its respective territories, and distributing the finished goods to wholesalers. We have an agreement with an independent third party to serve as a source of drug product manufacturing of linaclotide for our partnered territories and we have worked with our partners to achieve sufficient redundancy in this component of the linaclotide supply chain. Under our collaboration with AstraZeneca, we are accountable for drug product and finished goods manufacturing for China and Macau and for drug product manufacturing for Hong Kong, with AstraZeneca accountable for finished goods manufacturing for Hong Kong.
Prior to linaclotide, there was no precedent for long-term room temperature shelf storage formulation for an orally dosed peptide to be produced in millions of capsules per year. Our efforts to date have led to a formulation that is both cost effective and able to meet the stability requirements for commercial pharmaceutical products. Our work in this area has created an opportunity to seek additional intellectual property protection around the linaclotide program. In conjunction with Allergan and Astellas, we have filed patent applications in the U.S. and foreign jurisdictions and have been issued multiple U.S. patents to protect the current commercial formulation of linaclotide as well as related formulations. These issued U.S. patents expire in the early 2030s. If issued, the pending patent applications would expire in 2029 or later in the U.S. and foreign jurisdictions and would be eligible for potential patent term adjustments or patent term extensions in countries where such extensions may be available.
Lesinurad
Lesinurad production consists of three phases-manufacture of the API (sometimes referred to as drug substance), manufacture of drug product and manufacture of finished goods. We have a Lesinurad CSA with AstraZeneca to manufacture finished goods containing lesinurad for the U.S., including ZURAMPIC and DUZALLO. We believe our commercial supplier has the capabilities to produce lesinurad in accordance with current GMP, on a sufficient scale to meet our needs. Our commercial supplier is subject to routine inspections by regulatory agencies worldwide and also under goes periodic audit and certification by our quality department. We rely on a third-party logistics provider and various distributors to stock and distribute lesinurad.
Sales and Marketing
For the foreseeable future, we intend to develop and commercialize our drugs in the U.S. alone or with partners, and expect to rely on partners to commercialize our drugs in territories outside the U.S. In executing our strategy, our goal is to retain oversight over the worldwide development and commercialization of our products by playing an active role in their commercialization or finding partners who share our vision, values, culture and processes.
We built our commercial capabilities, including marketing, reimbursement, patient engagement and sales, with the intent to leverage these capabilities for future internally and externally developed products. To date, we have established a high-quality commercial organization dedicated to bringing innovative, highly-valued healthcare solutions to our customers, including patients, payers, and healthcare providers.
We are also coordinating efforts with our linaclotide partners to ensure that we launch and maintain an integrated, global linaclotide brand. By leveraging the knowledge base and expertise of our experienced commercial team and the insights of each of our linaclotide commercialization partners, we continually improve our collective marketing strategies.
Patents and Proprietary Rights
We actively seek to protect the proprietary technology that we consider important to our business, including pursuing patents that cover our products and compositions, their methods of use and the processes for their manufacture, as well as any other relevant inventions and improvements that are commercially important to the development of our business. We also rely on trade secrets that may be important to the development of our business.
Our success will depend significantly on our ability to obtain and maintain patent and other proprietary protection for the technology, inventions and improvements we consider important to our business; defend our patents; preserve the confidentiality of our trade secrets; and operate without infringing the patents and proprietary rights of third parties.
Linaclotide Patent Portfolio
Our linaclotide patent portfolio is currently composed of ten U.S. patents listed in the FDA publication, “Approved Drug Products with Therapeutic Equivalence Evaluations”, or the Orange Book, six granted European patents (three of which have been validated in each of 31 European countries, two of which have been validated in each of 20 European countries, and one of which has been validated in 16 European countries), eight granted Japanese patents, five granted Chinese patents, 37 issued patents in other foreign jurisdictions, and numerous pending U.S., foreign and PCT patent applications. We own or jointly own all of the issued patents and pending applications.
The issued U.S. patents, which will expire between 2024 and 2033, contain claims directed to the linaclotide molecule, pharmaceutical compositions thereof, methods of using linaclotide to treat GI disorders, processes for making the molecule, and room temperature stable formulations of linaclotide and methods of use thereof. The granted European patents, which will expire between 2024 and 2032, subject to potential patent term extension, contain claims directed to the linaclotide molecule, pharmaceutical compositions thereof, uses of linaclotide to prepare medicaments for treating GI disorders, room temperature stable formulations of linaclotide and uses thereof to treat GI disorders. The granted Chinese patents, which will expire between 2024 and 2032, the granted Japanese patents, which will expire between 2024 and 2032 (subject to potential patent term extension), and the granted patents in other foreign jurisdictions, which will expire between 2024 and 2032 (some of which may be subject to potential patent term extension), contain claims directed to the linaclotide molecule, pharmaceutical compositions of linaclotide for use in treating GI disorders, and room temperature stable formulations of linaclotide.
We have pending patent applications in certain countries worldwide that, if issued, will expire between 2024 and 2032 and which include claims covering the linaclotide molecule, methods of using linaclotide to treat GI disorders, the current commercial formulation of linaclotide and uses thereof to treat GI disorders.
We have pending applications directed to linaclotide products, including our delayed release formulation, that, if issued, will expire in 2037 or later. We also have pending U.S., foreign and PCT applications directed to linaclotide and related molecules, pharmaceutical formulations thereof, methods of using linaclotide to treat various diseases and disorders and processes for making the molecule. These additional patent applications, if issued, will expire between 2024 and 2037.
The patent term of a patent that covers an FDA-approved drug is also eligible for patent term extension, which permits patent term restoration as compensation for some of the patent term lost during the FDA regulatory review process. The Hatch-Waxman Act permits a patent term extension of a single patent applicable to an approved drug for up to five years beyond the expiration of the patent but the extension cannot extend the remaining term of a patent beyond a total of 14 years from the date of product approval by the FDA. The United States Patent and Trademark Office, or USPTO, has issued a Certificate of Patent Term Extension for U.S. Patent 7,304,036, which covers linaclotide and methods of use thereof. As a result, the patent term of this patent was extended to August 30, 2026, 14 years from the date of linaclotide’s approval by the FDA. Similar provisions are available in Europe and certain other foreign jurisdictions to extend the term of a patent that covers an approved drug.
Lesinurad Patent Portfolio
Our lesinurad patent portfolio is currently composed of seven U.S. patents listed in the Orange Book, three additional U.S. patents, and several pending U.S. patent applications. We have exclusively licensed these issued patents and pending applications from AstraZeneca for development and commercialization of products containing lesinurad in the U.S.
The issued U.S. patents, which will expire between 2025 and 2032, contain claims directed to the lesinurad molecule, pharmaceutical compositions thereof, formulations comprising lesinurad and an additional agent effective for treating gout, methods of using lesinurad to treat gout and related disorders, solid forms of lesinurad, and processes for making these solid forms. We also have licensed pending U.S. non-provisional applications directed to lesinurad and related molecules, pharmaceutical compositions thereof, methods of using lesinurad to treat gout and related disorders, and processes for making the molecule. These additional patent applications, if issued, will expire between 2025 and 2037.
The patent term of a patent that covers an FDA-approved drug is also eligible for patent term extension. Patent term extension applications have been filed with the USPTO on five of the issued patents covering lesinurad. If one of the patent term extension applications is approved by the USPTO, the patent term of one lesinurad patent would be extended to between April 22, 2028 and December 22, 2029, 14 years from the date of lesinurad’s approval by the FDA.
Pipeline Patent Portfolio
Our pipeline patent portfolio relating to our IW-3718, praliciguat and IW-1701 development programs is currently composed of six issued U.S. patents; sixteen issued patents in foreign jurisdictions, including two European patents that each have been validated in multiple European countries; and numerous pending provisional, U.S. non-provisional, foreign and Patent Cooperation Treaty, or PCT, patent applications. We own all of the issued patents and pending applications. The issued U.S. patents expire between 2028 and 2034. The foreign issued patents expire between 2027 and 2032. The pending patent applications, if issued, will expire between 2027 and 2037.
Additional Intellectual Property
In addition to the patents and patent applications related to linaclotide, lesinurad and our pipeline, we currently have 11 issued U.S. patents; 23 patents granted in foreign jurisdictions, including European and Eurasian patents that have each been validated in several countries; and a number of pending U.S. foreign and PCT applications directed to other GC-C agonist and sGC stimulator molecules and uses thereof. We also have other issued patents and pending patent applications relating to our other research and development programs.
The term of individual patents depends upon the legal term of the patents in the countries in which they are obtained. In most countries in which we file, the patent term is 20 years from the date of filing the non-provisional application. In the U.S., a patent’s term may be lengthened by patent term adjustment, which compensates a patentee for administrative delays by the U.S. Patent and Trademark Office in granting a patent, or may be shortened if a patent is terminally disclaimed over an earlier-filed patent. We also expect to apply for patent term extensions for some of our patents once issued, depending upon the length of clinical trials and other factors involved in the submission of a New Drug Application, or NDA.
Government Regulation
In the U.S., pharmaceutical products are subject to extensive regulation by the FDA. The Federal Food, Drug, and Cosmetic Act and other federal and state statutes and regulations, govern, among other things, the research, development, testing, manufacture, storage, recordkeeping, approval, labeling, promotion and marketing, distribution, FDA post-marketing requirements and assessments, post-approval monitoring and reporting, sampling, and import and export of pharmaceutical products. The FDA has very broad enforcement authority and failure to abide by applicable regulatory requirements can result in administrative or judicial sanctions being imposed on us, including warning letters, refusals of government contracts, clinical holds, civil penalties, injunctions, restitution, disgorgement of profits, recall or seizure of products, total or partial suspension of production or distribution, withdrawal of approval, refusal to approve pending applications, and civil or criminal prosecution.
FDA Approval Process
We believe that our product candidates will be regulated by the FDA as drugs. No company may market a new drug until it has submitted an NDA to the FDA, and the FDA has approved it. The steps required before the FDA may approve an NDA generally include:
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conducting nonclinical laboratory tests and animal tests in compliance with FDA’s good laboratory practice, or GLP, requirements;
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development, manufacture and testing of active pharmaceutical product and dosage forms suitable for human use in compliance with current GMP;
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conducting adequate and well-controlled human clinical trials that establish the safety and efficacy of the product for its specific intended use(s);
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in order to evaluate a drug in humans in the U.S., an investigational new drug application, or IND, must be submitted and come into effect before human clinical trials may begin;
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the submission to the FDA of an NDA;
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satisfactory completion of one or more FDA inspections of the manufacturing facility or facilities at which the product, or components thereof, are produced to assess compliance with current GMP requirements and to assure that the facilities, methods and controls are adequate to preserve the product’s identity, strength, quality and purity;
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inspections of other sources of data in the NDA, such as inspection of clinical trial sites to assess compliance with good clinical practice, or GCP, requirements are also generally required; and
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FDA review and approval of the NDA.
Nonclinical tests include laboratory evaluation of the product candidate, as well as animal studies to assess the potential safety and efficacy of the product candidate. The conduct of the nonclinical tests must comply with federal regulations and requirements including GLP. We must submit the results of the nonclinical tests, together with manufacturing information, analytical data and a proposed clinical trial protocol to the FDA as part of an Investigational New Drug Application, or IND, which must become effective before we may commence human clinical trials in the U.S. The IND will automatically become effective 30 days after its receipt by the FDA, unless the FDA raises concerns or questions before that time about the conduct of the proposed trial. In such a case, we must work with the FDA to resolve any outstanding concerns before the clinical trial can proceed. We cannot be sure that submission of an IND will result in the FDA allowing clinical trials to begin, or that, once begun, issues will not arise that will cause us or the FDA to modify, suspend or terminate such trials. The study protocol and informed consent information for patients in clinical trials must also be submitted to an institutional review board, or IRB, for approval. An IRB may also require the clinical trial at the site to be halted, either temporarily or permanently, for failure to comply with the IRB requirements or if the trial has been associated with unexpected serious harm to subjects. An IRB may also impose other conditions on the trial.
Clinical trials involve the administration of the product candidate to humans under the supervision of qualified investigators, generally physicians not employed by or under the trial sponsor’s control. Clinical trials are typically conducted in three sequential phases, though the phases may overlap or be combined. In Phase I, the initial introduction of the drug into healthy human subjects, the drug is usually tested for safety (adverse effects), dosage tolerance and pharmacologic action, as well as to understand how the drug is taken up by and distributed within the body. Phase II usually involves studies in a limited patient population (individuals with the disease under study) to:
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evaluate preliminarily the efficacy of the drug for specific, targeted conditions;
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determine dosage tolerance and appropriate dosage as well as other important information about how to design larger Phase III trials; and
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identify possible adverse effects and safety risks.
Phase III trials generally further evaluate clinical efficacy and test for safety within an expanded patient population. The conduct of clinical trials is subject to extensive regulation, including compliance with GCP regulations and guidance, and regulations designed to protect the rights and safety of subjects involved in investigations.
The FDA may order the temporary or permanent discontinuation of a clinical trial at any time or impose other sanctions if it believes that the clinical trial is not being conducted in accordance with FDA requirements or presents an unacceptable risk to the clinical trial patients. We may also suspend clinical trials at any time on various grounds.
The results of the nonclinical and clinical studies, together with other detailed information, including the manufacture and composition of the product candidate, are submitted to the FDA in the form of an NDA requesting approval to market the drug. The FDA approval of the NDA is required before marketing of the product may begin in the U.S. If the NDA contains all pertinent information and data, the FDA will “file” the application and begin review. The review process, however, may be extended by FDA requests for additional information, nonclinical or clinical studies, clarification regarding information already provided in the submission, or submission of a risk evaluation and mitigation strategy. The FDA may refer an application to an advisory committee for review, evaluation and recommendation as to whether the application should be approved. The FDA is not bound by the recommendations of an advisory committee, but it considers such recommendations carefully when making decisions. Before approving an NDA, the FDA will typically inspect the facilities at which the product candidate is manufactured and will not approve the product candidate unless current GMP compliance is satisfactory. The FDA also typically inspects facilities responsible for performing animal testing, as well as clinical investigators who participate in clinical trials. The FDA may refuse to approve an NDA if applicable regulatory criteria are not satisfied, or may require additional testing or information. The FDA may also limit the indications for use and/or require post-marketing testing and surveillance to monitor the safety or efficacy of a product. Once granted, product approvals may be withdrawn if compliance with regulatory standards is not maintained or problems are identified following initial marketing.
The testing and approval process requires substantial time, effort and financial resources, and our product candidates may not be approved on a timely basis, if at all. The time and expense required to perform the clinical testing necessary to obtain FDA approval for regulated products can frequently exceed the time and expense of the research and development initially required to create the product. The results of nonclinical studies and initial clinical trials of our product candidates are not necessarily predictive of the results from large-scale clinical trials, and clinical trials may be subject to additional costs, delays or modifications due to a number of factors, including difficulty in obtaining enough patients, investigators or product candidate supply. Failure by us or our collaborators, licensors or licensees, including Allergan, Astellas and AstraZeneca, to obtain, or any delay in obtaining, regulatory approvals or in complying with requirements could adversely affect commercialization and our ability to receive product or royalty revenues.
Hatch-Waxman Act
The Hatch-Waxman Act established abbreviated approval procedures for generic drugs. Approval to market and distribute these drugs is obtained by submitting an ANDA with the FDA. The application for a generic drug is “abbreviated” because it need not include nonclinical or clinical data to demonstrate safety and effectiveness and may instead rely on the FDA’s previous finding that the brand drug, or reference drug, is safe and effective. In order to obtain approval of an ANDA, an applicant must, among other things, establish that its product is bioequivalent to an existing approved drug and that it has the same active ingredient(s), strength, dosage form, and the same route of administration. A generic drug is considered bioequivalent to its reference drug if testing demonstrates that the rate and extent of absorption of the generic drug is not significantly different from the rate and extent of absorption of the reference drug when administered under similar experimental conditions.
The Hatch-Waxman Act also provides incentives by awarding, in certain circumstances, certain legal protections from generic competition. This protection comes in the form of a non-patent exclusivity period, during which the FDA may not accept, or approve, an application for a generic drug, whether the application for such drug is submitted through an ANDA or a through another form of application, known as a 505(b)(2) application.
The Hatch-Waxman Act grants five years of exclusivity when a company develops and gains NDA approval of a new chemical entity that has not been previously approved by the FDA. This exclusivity provides that the FDA may not accept an ANDA or 505(b)(2) application for five years after the date of approval of previously approved drug, or
four years in the case of an ANDA or 505(b)(2) application that challenges a patent claiming the reference drug (see discussion below regarding Paragraph IV Certifications). The Hatch-Waxman Act also provides three years of exclusivity for approved applications for drugs that are not new chemical entities, if the application contains the results of new clinical investigations (other than bioavailability studies) that were essential to approval of the application. Examples of such applications include applications for new indications, dosage forms (including new drug delivery systems), strengths, or conditions of use for an already approved product. This three-year exclusivity period only protects against FDA approval of ANDAs and 505(b)(2) applications for generic drugs that include the innovation that required new clinical investigations that were essential to approval; it does not prohibit the FDA from accepting or approving ANDAs or 505(b)(2) NDAs for generic drugs that do not include such an innovation.
Paragraph IV Certifications. Under the Hatch-Waxman Act, NDA applicants and NDA holders must provide information about certain patents claiming their drugs for listing in the Orange Book. When an ANDA or 505(b)(2) application is submitted, it must contain one of several possible certifications regarding each of the patents listed in the Orange Book for the reference drug. A certification that a listed patent is invalid, unenforceable or will not be infringed by the sale of the proposed product is called a “Paragraph IV” certification.
Within 20 days of the acceptance by the FDA of an ANDA or 505(b)(2) application containing a Paragraph IV certification, the applicant must notify the NDA holder and patent owner that the application has been submitted, and provide the factual and legal basis for the applicant’s opinion that the patent is invalid or not infringed. The NDA holder or patent holder may then initiate a patent infringement suit in response to the Paragraph IV notice. If this is done within 45 days of receiving notice of the Paragraph IV certification, a 30-month stay of the FDA’s ability to approve the ANDA or 505(b)(2) application is triggered. The FDA may approve the proposed product before the expiration of the 30-month stay only if a court finds the patent invalid or not infringed, and the court may shorten or lengthen the 30-month stay under certain limited circumstances.
Patent Term Restoration. Under the Hatch-Waxman Act, a portion of the patent term lost during product development and FDA review of an NDA or 505(b)(2) application is restored if approval of the application is the first permitted commercial marketing of a drug containing the active ingredient. The patent term restoration period is generally one-half the time between the effective date of the IND and the date of submission of the NDA, plus the time between the date of submission of the NDA and the date of FDA approval of the product. The maximum period of patent term extension is five years, and the patent cannot be extended to more than 14 years from the date of FDA approval of the product. Only one patent claiming each approved product is eligible for restoration and the patent holder must apply for restoration within 60 days of approval. The U.S. Patent and Trademark Office, in consultation with the FDA, reviews and approves the application for patent term restoration.
Other Regulatory Requirements
After approval, drug products are subject to extensive continuing regulation by the FDA, which include company obligations to manufacture products in accordance with current GMP, maintain and provide to the FDA updated safety and efficacy information, report adverse experiences with the product, keep certain records and submit periodic reports, obtain FDA approval of certain manufacturing or labeling changes, and comply with FDA promotion and advertising requirements and restrictions. Failure to meet these obligations can result in various adverse consequences, both voluntary and FDA-imposed, including product recalls, withdrawal of approval, restrictions on marketing, and the imposition of civil fines and criminal penalties against the NDA holder. In addition, later discovery of previously unknown safety or efficacy issues may result in restrictions on the product, manufacturer or NDA holder.
We and any manufacturers of our products are required to comply with applicable FDA manufacturing requirements contained in the FDA’s current GMP regulations. Current GMP regulations require, among other things, quality control and quality assurance as well as the corresponding maintenance of records and documentation. The manufacturing facilities for our products must meet current GMP requirements to the satisfaction of the FDA pursuant to a pre-approval inspection before we can use them to manufacture our products. We and any third-party manufacturers are also subject to periodic inspections of facilities by the FDA and other authorities, including procedures and operations used in the testing and manufacture of our products to assess our compliance with applicable regulations.
With respect to post-market product advertising and promotion, the FDA imposes a number of complex regulations on entities that advertise and promote pharmaceuticals, which include, among others, standards for direct-to-consumer advertising, prohibitions on promoting drugs for uses, conditions or diseases, or in patient
populations that are not described in the drug’s approved labeling (known as “off-label use”), and principles governing industry-sponsored scientific and educational activities. Failure to comply with FDA requirements can have negative consequences, including adverse publicity, warning or untitled letters from the FDA, mandated corrective advertising or communications with doctors or patients, and civil or criminal penalties. Although physicians may prescribe legally available drugs for off-label uses, manufacturers may not market or promote such off-label uses.
Changes to some of the conditions established in an approved application, including changes in indications, labeling, or manufacturing processes or facilities, require submission and FDA approval of a new NDA or NDA supplement before the change can be implemented. An NDA supplement for a new indication typically requires clinical data similar in type and quality to the clinical data supporting the original application for the original indication, and the FDA uses similar procedures and actions in reviewing such NDA supplements as it does in reviewing NDAs.
Adverse event reporting and submission of periodic reports is required following FDA approval of an NDA. The FDA also may require post-marketing testing, known as Phase IV testing, risk evaluation and mitigation strategies, and surveillance to monitor the effects of an approved product or to place conditions on an approval that restrict the distribution or use of the product.
Outside the U.S., our and our collaborators’ abilities to market a product are contingent upon receiving marketing authorization from the appropriate regulatory authorities. The requirements governing marketing authorization, pricing and reimbursement vary widely from jurisdiction to jurisdiction. At present, foreign marketing authorizations are applied for at a national level, although within the E.U. registration procedures are available to companies wishing to market a product in more than one E.U. member state.
Sales and Marketing
The marketing and sale of pharmaceutical products are subject to comprehensive governmental regulation both within and outside the U.S.
Within the U.S., numerous federal, state and local authorities have jurisdiction over, or enforce laws related to, such activities, including the FDA, U.S. Drug Enforcement Agency, Centers for Medicare & Medicaid Services, the U.S. Department of Health and Human Services Office of Inspector General, the U.S. Department of Justice, state Attorneys General, state departments of health and state pharmacy boards.
We are subject to the requirements of the FDC Act and accompanying regulations that prohibit pharmaceutical companies from promoting a drug prior to approval from the FDA and from promoting an approved drug in a manner inconsistent with the approved label.
We are also subject to various federal and state laws pertaining to health care “fraud and abuse,” including anti-kickback laws and false claims laws, for activities related to sales of any of our products or product candidates that may in the future receive marketing approval. Anti-kickback laws generally prohibit persons from soliciting, receiving or providing remuneration, directly or indirectly, to induce either the referral of an individual, for an item or service or the purchasing or ordering of a good or service, for which payment may be made under federal healthcare programs such as Medicare and Medicaid. Although the specific provisions of these laws vary, their scope is generally broad and there may not be regulations, guidance or court decisions that apply the laws to particular industry practices. False claims laws prohibit, among other things, individuals or entities from knowingly presenting, or causing to be presented, information or claims for payment from Medicare, Medicaid, or other third-party payers that are false or fraudulent. Violations of fraud and abuse laws may be punishable by criminal or civil sanctions, including fines and civil monetary penalties, and/or exclusion from federal health care programs (including Medicare and Medicaid).
Laws and regulations have been enacted by the federal government and various states to regulate the sales and marketing practices of pharmaceutical manufacturers with marketed products. The laws and regulations generally limit financial interactions between manufacturers and health care providers and/or require disclosure to the government and public of such interactions. Many of these laws and regulations contain ambiguous requirements or require administrative guidance for implementation.
Employees
As of December 31, 2017, we had 730 employees. Approximately 38 were scientists engaged in discovery research, 193 were in our drug development organization, 387 were in our sales and commercial team, and 112 were in general and administrative functions. None of our employees are represented by a labor union, and we consider our employee relations to be good. On January 30, 2018, we commenced an initiative to evaluate the optimal mix of investments for our lesinurad franchise. As part of this effort, we reduced our field-based workforce by approximately 60 employees, primarily consisting of field-based sales representatives that promote DUZALLO or ZURAMPIC in the first position, which we expect to complete during the first quarter of 2018.
Executive Officers of the Registrant
The following table sets forth the name, age and position of each of our executive officers as of February 22, 2018:
Peter M. Hecht has served as our chief executive officer and a director since our founding in 1998. Under his leadership, Ironwood has grown from nine Ph.D. scientists to a commercial biotechnology company. Prior to founding Ironwood, Dr. Hecht was a research fellow at Whitehead Institute for Biomedical Research. Dr. Hecht earned a B.S. in mathematics and an M.S. in biology from Stanford University, and holds a Ph.D. in molecular biology from the University of California at Berkeley.
Gina Consylman has served as our senior vice president, chief financial officer since November 2017. Ms. Consylman previously served as our interim Chief Financial Officer from September 2017 to November 2017, and as our Vice President of Finance and Chief Accounting Officer from August 2015 to November 2017. She also previously served as our Vice President, Corporate Controller and Chief Accounting Officer from June 2014 to July 2015. Prior to joining Ironwood, Ms. Consylman served as Vice President, Corporate Controller and Principal Accounting Officer of Analogic Corporation, a publicly held healthcare and security technology solutions company, from February 2012 to June 2014, where she oversaw Analogic’s global accounting team. Prior to joining Analogic, Ms. Consylman served in various corporate accounting roles at Biogen Inc., a publicly held global biotechnology company, from November 2009 to February 2012, culminating in her service as Senior Director, Corporate Accounting where she was responsible for the accounting teams for the corporate and U.S. commercial business units. Ms. Consylman has also served in various other finance and accounting roles, including Corporate Controller at Varian Semiconductor Equipment Associates, Inc. (subsequently acquired by Applied Materials, Inc.). Ms. Consylman, a Certified Public Accountant, began her career in public accounting at Ernst & Young LLP. She holds a B.S. in accounting from Johnson & Wales University and a M.S. in taxation from Bentley University.
Mark G. Currie serves as our senior vice president, chief scientific officer and president of research and development, and has led our research and development efforts since joining us in 2002. Prior to joining Ironwood, Dr. Currie directed cardiovascular and central nervous system disease research as vice president of discovery research at Sepracor Inc. Previously, Dr. Currie initiated, built and led discovery pharmacology and also served as director of arthritis and inflammation at Monsanto Company. Dr. Currie earned a B.S. in biology from the University of South Alabama and holds a Ph.D. in cell biology from the Bowman-Gray School of Medicine of Wake Forest University.
Halley E. Gilbert joined Ironwood in 2008 as the founding member of our legal department, providing leadership and oversight and establishing our company’s compliance function as Ironwood grew from a privately-held, research-based organization to a publicly-traded, fully-integrated commercial biotechnology company. Ms. Gilbert brings significant strategic leadership and two decades of experience navigating biopharmaceutical companies through transformational change, as well as expertise in corporate transactions, corporate governance, employment law and legal
and operational issues relevant to launching new medicines into specialty and primary care markets. Prior to joining Ironwood, Ms. Gilbert was Vice President, Deputy General Counsel at Cubist Pharmaceuticals, Inc. from 2002 to 2008, where she supported the launch of Cubist’s first acute care antibiotic, and she served as Corporate Counsel at Genzyme Corp. from 1999 to 2001. Ms. Gilbert began her career at Skadden, Arps, Slate, Meagher & Flom LLP, where she specialized in mergers and acquisitions and securities law. She serves on the board of directors of Achaogen, Inc., a clinical-stage biopharmaceutical company focused on the development of novel antibacterials, and holds a J.D. from Northwestern University School of Law and a B.A. from Tufts University.
William Huyett serves as our chief operating officer. Prior to joining Ironwood in December 2017, Mr. Huyett spent 30 years with McKinsey and Company, Inc., in its Washington D.C., Zurich, and Boston offices. During his tenure at McKinsey, Mr. Huyett served clients in the life sciences, industrial and other technology-intensive sectors. He has been a Senior Partner Emeritus at McKinsey since December 2015, and was previously a Senior Partner from July 1998 to December 2015. As a Senior Partner, Mr. Huyett was a leader in the firm’s pharmaceutical and medical products and its strategy and corporate finance practices. He also served on McKinsey’s Shareholder’s Council (its board of directors), serving as chair of its Finance Committee. Prior to joining McKinsey, Mr. Huyett held a variety of line management positions in the automation industry with Allen-Bradley (now Rockwell Automation, Inc.). Mr. Huyett serves on the board of directors of the London Stock Exchange-listed Georgia Healthcare Group PLC, as well as on a variety of not-for-profit boards, including The Rockefeller University, the Marine Biological Laboratory, the University of Virginia Darden School of Business and the YMCA of Greater Boston. He earned his B.S. in electronics engineering and his M.B.A. from the University of Virginia.
Thomas A. McCourt has served as our senior vice president of marketing and sales and chief commercial officer since joining Ironwood in 2009. Prior to joining Ironwood, Mr. McCourt led the U.S. brand team for denosumab at Amgen Inc. from April 2008 to August 2009. Prior to that, Mr. McCourt was with Novartis AG from 2001 to 2008, where he directed the launch and growth of Zelnorm for the treatment of patients with IBS-C and CIC and held a number of senior commercial roles, including vice president of strategic marketing and operations. Mr. McCourt was also part of the founding team at Astra Merck Inc., leading the development of the medical affairs and science liaison group and then serving as brand manager for Prilosec® and NEXIUM®. Mr. McCourt serves on the board of directors of Acceleron Pharma Inc. and has a degree in pharmacy from the University of Wisconsin.
Available Information
You may obtain free copies of our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q and Current Reports on Form 8-K, and amendments to those reports, as soon as reasonably practicable after they are electronically filed or furnished to the SEC, on the Investors section of our website at www.ironwoodpharma.com or by contacting our Investor Relations department at (617) 374-5082. The contents of our website are not incorporated by reference into this report and you should not consider information provided on our website to be part of this report.
Item 1A.
Item 1A. Risk Factors
In addition to the other information in this Annual Report on Form 10-K, any of the factors described below could significantly and negatively affect our business, financial condition, results of operations or prospects. The trading price of our Class A common stock may decline due to these risks.
Risks Related to Our Business and Industry
We are highly dependent on the commercial success of LINZESS in the U.S. for the foreseeable future and we are also dependent on the commercial success of ZURAMPIC and DUZALLO; we cannot guarantee when, or if, we will attain profitability or positive cash flows.
We and our partner, Allergan plc (together with its affiliates), or Allergan, began selling LINZESS in the U.S. during December 2012. In June 2016, we licensed exclusive rights to commercialize products containing lesinurad in the U.S. and we began selling ZURAMPIC and DUZALLO in October 2016 and October 2017, respectively. While we believe that the revenues from our LINZESS collaboration will continue to constitute a significant portion of our total revenue for the foreseeable future, revenue from sales of ZURAMPIC and DUZALLO is also important to our financial success. The commercial success of these products depends on a number of factors, including:
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the effectiveness of our products for their approved indications;
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the size of the treatable patient populations;
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the effectiveness of the sales, managed markets and marketing efforts for LINZESS by us and Allergan and for ZURAMPIC and DUZALLO by us;
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the adoption of our products by physicians, which depends on whether physicians view such products as safe and effective treatments for their approved patient populations and indications;
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our success in educating and activating potential patients to enable them to more effectively communicate their symptoms and treatment history to their physicians;
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our ability to both secure and maintain adequate reimbursement for, and optimize patient access to, our products and our ability to demonstrate that our products are safer, more efficacious and/or more cost-effective than alternative therapies;
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the effectiveness of Allergan’s distribution networks for LINZESS and the effectiveness of our distribution strategy and networks for ZURAMPIC and DUZALLO;
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the occurrence of any side effects, adverse reactions or misuse, or any unfavorable publicity in these areas, associated with our products; and
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the development or commercialization of competing products or therapies for the treatment of the approved indications for our products, or their associated symptoms.
Our revenues from the commercialization of LINZESS, ZURAMPIC and DUZALLO are subject to these factors, and therefore may be unpredictable from quarter-to-quarter. Ultimately, we may never generate sufficient revenues from such products to reach or maintain profitability for our company or to sustain our anticipated levels of operations.
Linaclotide and lesinurad may cause undesirable side effects or have other properties that could limit their commercial potential.
The most commonly reported adverse reaction since linaclotide became commercially available, as well as in the clinical trials for linaclotide in IBS-C and CIC, has been diarrhea. In the linaclotide Phase III IBS-C and CIC trials, severe diarrhea was reported in 2% or less of the linaclotide-treated patients and its incidence was similar between the IBS-C and CIC populations. Linaclotide has been prescribed to millions of patients since its launch in the U.S. and other territories beginning in December 2012, and, as a result, it has been used in wider populations and in less rigorously controlled environments than in the clinical studies supporting its approval.
The most commonly reported adverse reactions in the clinical trials for lesinurad (in combination with a xanthine oxidase inhibitor, or XOI) for the treatment of hyperuricemia associated with uncontrolled gout were headache, influenza, increased blood creatinine and gastroesophageal reflux disease. ZURAMPIC and DUZALLO were launched in October 2016 and October 2017, respectively. As a result, such products are being used in wider populations and in less rigorously controlled environments than in the clinical studies supporting their approval. Additionally, because such products are approved for use in combination with an XOI for the treatment of hyperuricemia associated with uncontrolled gout, and DUZALLO is a fixed-dose combination treatment of lesinurad and allopurinol (an XOI), our patients may experience side effects and adverse reactions associated with the use of XOIs. Notwithstanding ZURAMPIC’s U.S. Food and Drug Administration, or FDA, -approved label, if ZURAMPIC is taken without an XOI, patients may experience new or increased risk of adverse reactions, including the heightened risk of acute renal failure.
Further, as we and our partners (and, in the case of lesinurad, AstraZeneca’s other licensees) conduct clinical trials, including in new or existing territories, indications, populations or formulations, as well as explore potential
combination products, the number of patients treated with our products within and outside of such products’ currently approved indications and patient populations has grown and continues to do so.
As patient experience increases and expands, we and others may identify previously unknown side effects, known side effects may be found to be more frequent or severe than in the past, and we and others may detect unexpected safety signals for our products or any products perceived to be similar to our products. The foregoing, or the perception of the foregoing, may have the following effects, among others:
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sales of our products may be impaired;
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regulatory approvals for our products may be denied, restricted or withdrawn;
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we or our partners may decide to, or be required to, change the products’ label or send product warning letters or field alerts to physicians, pharmacists and hospitals;
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reformulation of the products, additional nonclinical or clinical studies, changes in labeling or changes to or re-approvals of manufacturing facilities may be required;
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we or our partners may be precluded from pursuing approval of linaclotide in new territories or from studying additional development opportunities to enhance our products’ clinical profiles, including within new or existing indications, populations and formulations, as well as in potential combination products;
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our or our products’ reputation in the marketplace may suffer; and
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government investigations or lawsuits, including class action suits, may be brought against us or our partners.
Any of the above occurrences would harm or prevent sales of our products, increase expenses and impair our and our partners’ ability to successfully commercialize linaclotide or our ability to successfully commercialize lesinurad.
In addition, LINZESS, ZURAMPIC and DUZALLO each contain a boxed warning about their use. The FDA-approved label for LINZESS contains a boxed warning about its use in pediatric patients. LINZESS is contraindicated in pediatric patients up to 6 years of age based on nonclinical data from studies in neonatal mice approximately equivalent to human pediatric patients less than 2 years of age. There is also a warning advising physicians to avoid the use of LINZESS in pediatric patients 6 to less than 18 years of age. This warning is based on data in young juvenile mice and the lack of clinical safety and efficacy data in pediatric patients of any age group. We and Allergan have established a nonclinical and clinical post-marketing plan with the FDA to understand the safety and efficacy of LINZESS in pediatric patients, which is discussed below.
The FDA-approved label for DUZALLO contains a boxed warning about the risk of acute renal failure with DUZALLO, and the FDA-approved label for ZURAMPIC contains a boxed warning about the risk of acute renal failure with ZURAMPIC, which is more common when ZURAMPIC is used without an XOI. ZURAMPIC and DUZALLO are both contraindicated in patients with severe renal impairment or end-stage renal diseases, kidney transplant recipients, patients on dialysis or patients with tumor lysis syndrome or Lesch-Nyhan syndrome. In addition, DUZALLO is contraindicated in patients with a known hypersensivity to allopurinol. The FDA has required that a post-marketing clinical study be conducted to further evaluate the renal and cardiovascular safety of lesinurad, which is discussed below.
We rely entirely on contract manufacturers, our partners and other third parties to manufacture and distribute linaclotide and lesinurad. If they are unable to comply with applicable regulatory requirements, unable to source sufficient raw materials, experience manufacturing or distribution difficulties, or are otherwise unable to manufacture and distribute sufficient quantities to meet demand, our commercialization efforts may be materially harmed.
We have no internal manufacturing or distribution capabilities. Instead, we rely on a combination of contract manufacturers and our partners to manufacture active pharmaceutical ingredient, or API, and final drug product. We rely on our partners, with respect to linaclotide, and a third-party logistics provider and various distributors, with respect to products containing lesinurad, to store and distribute that drug product to third party purchasers. With respect to
linaclotide, we and certain of our partners have commercial supply agreements with independent third parties to manufacture the linaclotide API used to support all of our partnered territories. Each of Allergan and Astellas is responsible for linaclotide drug product and finished goods manufacturing (including bottling and packaging) for its respective territories, and distributing the finished goods to wholesalers. Among our linaclotide drug product manufacturers, only Allergan has significant experience in manufacturing linaclotide on a commercial scale. We have an agreement with an independent third party to serve as an additional source of drug product manufacturing of linaclotide for our partnered territories and we have worked with our partners to achieve sufficient redundancy in this component of the linaclotide supply chain. Under our collaboration with AstraZeneca for linaclotide, we are accountable for drug product and finished goods manufacturing for China and Macau, and for drug product manufacturing for Hong Kong, with AstraZeneca accountable for finished goods manufacturing for Hong Kong.
With respect to lesinurad, we have a commercial supply agreement with AstraZeneca to manufacture finished drug product. We rely exclusively on AstraZeneca as our supplier of finished drug product for ZURAMPIC and DUZALLO. If, for any reason, AstraZeneca is unable or unwilling to perform under our commercial supply agreement or if AstraZeneca performs poorly, our ability to timely deliver ZURAMPIC and DUZALLO to our customers would be significantly impaired or we might not be able to supply such products to our customers at all. The sales of ZURAMPIC and DUZALLO would be adversely affected and such failure to deliver finished drug product to our customers would negatively impact our reputation. If such event occurs, we would need to identify alternate manufacturers and we would expend time and effort to validate and obtain necessary regulatory approvals for such alternative manufacturers and there is no assurance that we would be able to identify alternative manufacturers that would be available to us on acceptable terms, if at all. We also rely on a third-party logistics provider and various distributors to store and distribute lesinurad. This distribution network requires significant coordination with our sales and marketing and finance organizations, and failure to coordinate financial systems could negatively impact our ability to accurately report product revenue. Our lesinurad distribution network and commercialization efforts may be significantly impacted if our logistics provider’s warehouse is damaged or if there are disruptions in its, or one or more of our distributor’s, business, or if we are unable to effectively manage the distribution process. Distribution practices will also need to comply with the applicable regulatory requirements. If our distributors do not comply with the applicable regulatory requirements, we could be exposed to potential enforcement actions.
Each of our API and drug product manufacturers must comply with current good manufacturing practices, or GMP, and other stringent regulatory requirements enforced by the FDA and foreign regulatory authorities in other jurisdictions. These requirements include, among other things, quality control, quality assurance and the maintenance of records and documentation, which occur in addition to our own quality assurance releases. Manufacturers of our products may be unable to comply with these GMP requirements and with other regulatory requirements. We have little control over our manufacturers’ or partners’ compliance with these regulations and standards.
Our manufacturers may experience problems with their respective manufacturing and distribution operations and processes, including for example, quality issues, such as product specification and stability failures, procedural deviations, improper equipment installation or operation, utility failures, contamination and natural disasters. In addition, the raw materials necessary to make API for our products are acquired from a limited number of sources. Any delay or disruption in the availability of these raw materials or a change in raw material suppliers could result in production disruptions, delays or higher costs with consequent adverse effects on us.
The manufacture of pharmaceutical products requires significant expertise and capital investment, including the development of advanced manufacturing techniques and process controls. Manufacturers of pharmaceutical products often encounter difficulties in commercial production. These problems include difficulties with production costs and yields, quality control, including stability of the product and quality assurance testing, and shortages of qualified personnel, as well as compliance with federal, state and foreign regulations and the challenges associated with complex supply chain management. Even if our manufacturers or partners do not experience problems and commercial manufacturing is achieved, their maximum or available manufacturing capacities may be insufficient to meet commercial demand. Finding alternative manufacturers or adding additional manufacturers requires a significant amount of time and involves significant expense. New manufacturers would need to develop and implement the necessary production techniques and processes, which along with their facilities, would need to be inspected and approved by the regulatory authorities in each applicable territory.
If our API or drug product manufacturers fail to adhere to applicable GMP or other regulatory requirements, experience delays or disruptions in the availability of raw materials or experience manufacturing or distribution
problems, we will suffer significant consequences, including product seizures or recalls, loss of product approval, fines and sanctions, reputational damage, shipment delays, inventory shortages, inventory write-offs and other product-related charges and increased manufacturing costs. If we experience any of these results, or if our manufacturers’ maximum or available capacities are insufficient to meet demand, we may not be able to successfully commercialize our products.
Expanding and maintaining our commercial infrastructure for lesinurad is a significant undertaking that requires substantial financial and managerial resources, and we may encounter delays or may not be successful in our efforts.
While we are currently marketing and selling LINZESS in the U.S. with our partner Allergan, ZURAMPIC is our first solely marketed product in the U.S. and we have limited experience in acquiring and integrating additional products into our current commercial infrastructure. Unlike LINZESS, we are solely responsible for the commercialization of ZURAMPIC and DUZALLO, each of which are in the early stages of commercialization, and we do not have significant experience with all components of substantial commercial launches without a partner. Establishing, maintaining and/or expanding the necessary capabilities are competitive and time-consuming and the commercialization of ZURAMPIC and DUZALLO requires a significant expenditure of operating, financial and management resources. Even with those investments, we may not be able to maximize our sales of ZURAMPIC and DUZALLO or we may incur more expenditures than anticipated in order to maximize our sales. We cannot guarantee that we will be able to establish, maintain and/or expand our sales, marketing, distribution and market access capabilities, and enter into and maintain any agreements necessary for commercialization with payers and third-party providers on acceptable terms, if at all. If we are unable to establish, maintain and/or expand such capabilities, either on our own or by entering into agreements with others, or are unable to do so in an efficient manner or on a timely basis, we will not be able to maximize our sales of ZURAMPIC and DUZALLO, which would adversely affect our business, operating results and financial condition.
We also have no prior experience as a company developing or commercializing products in the field of uncontrolled gout. While we have significant experience, and have been successful, in marketing LINZESS to primary care physicians and other prescribers, our competitors in the field of uncontrolled gout have more experience marketing products in this indication and may more successfully market their products. Our competitors may also develop, manufacture and market products to treat hyperuricemia associated with uncontrolled gout that are more effective or less expensive than ours, or that have a more favorable safety profile.
We will incur additional expenses to successfully integrate ZURAMPIC and DUZALLO and, if developed, other lesinurad products with our business operations and such integration has been, and will be, a complex and time-consuming process. We refer to ZURAMPIC, DUZALLO and other potential lesinurad products as the Lesinurad Business. There may be substantial difficulties, costs and delays relating to establishing and maintaining certain capabilities necessary to commercialize ZURAMPIC and DUZALLO. Such integration may result in the distraction of management and key functional areas from day-to-day operations and the diversion of financial resources that would otherwise be available for the ongoing development or commercialization of our other programs.
Even if the commercialization of ZURAMPIC and DUZALLO and the integration of the Lesinurad Business are successful, we may fail to further our business strategy as anticipated or to achieve anticipated benefits and success. We have made assumptions relating to the impact of the Lesinurad Business on our financial results relating to numerous matters, including the amount of goodwill and intangible assets related to the Lesinurad Business, the cost of development and commercialization of such products and other potential lesinurad products, and the associated costs and impact and the other financial and strategic risks related to the acquisition of the Lesinurad Business. We may incur higher than expected operating, transaction and integration costs, and we may encounter general economic and business conditions that adversely affect the Lesinurad Business. If one or more of these assumptions are incorrect, it could have an adverse effect on our business and operating results, and the benefits from the acquisition of the Lesinurad Business may not be realized or be of the magnitude expected.
If any of our linaclotide partners undergoes a change in control or in management, this may adversely affect our collaborative relationship or the success of the commercialization of linaclotide in the U.S. or in the other countries where it is approved, or the ability to achieve regulatory approval, launch and commercialize linaclotide in other territories.
We work jointly and collaboratively with each of our partners on many aspects of the development, manufacturing and commercialization of linaclotide. In doing so, we have established relationships with several key
members of the management teams of our linaclotide partners in functional areas such as development, quality, regulatory, drug safety and pharmacovigilance, operations, marketing, sales, field operations and medical science. Further, the success of our collaborations is highly dependent on the resources, efforts and skills of our partners and their key employees. As we and our partners commercialize linaclotide in the U.S. and the other countries where it is approved, and develop, launch and commercialize linaclotide in other parts of the world, the drug’s success becomes more dependent on us maintaining highly collaborative and well aligned partnerships. If any of our linaclotide partners undergo a change of control or in management in the future, we would need to reestablish many relationships and confirm continued alignment on our development and commercialization strategy for linaclotide. Further, in connection with any change of control or in management, there is inherent uncertainty and disruption in operations, which could result in distraction, inefficiencies, and misalignment of priorities. As a result, in the event of a change of control or in management at one of our linaclotide partners, we cannot be sure that we will be able to successfully execute on our development and commercialization strategy for linaclotide in an effective and efficient manner and without disruption or reduced performance. Finally, any change of control or in management may result in a reprioritization of linaclotide within a partner’s portfolio, or such partner may fail to maintain the financial or other resources necessary to continue supporting its portion of the development, manufacturing or commercialization of linaclotide.
If any of our linaclotide partners undergoes a change of control and the acquirer either (i) is unable to perform such partner’s obligations under its collaboration or license agreement with us or (ii) does not comply with the divestiture or certain other provisions of the applicable agreement, we have the right to terminate the collaboration or license agreement and reacquire that partner’s rights with respect to linaclotide. If we elect to exercise these rights in such circumstances, we will need to either establish the capability to develop, manufacture and commercialize linaclotide in that partnered territory on our own or we will need to establish a relationship with a new partner. We have assembled a team of specialists in manufacturing, quality, sales, marketing, payer, pricing and field operations, and specialized medical scientists, who represent the functional areas necessary for a successful commercial launch of a high potential, gastrointestinal therapy and who support the commercialization of LINZESS in the U.S. If Allergan was subject to a change of control that allowed us to further commercialize LINZESS in the U.S. on our own, and we chose to do so, we would need to enhance each of these functional aspects to replace the capabilities that Allergan was previously providing to the collaboration. Any such transition might result in a period of reduced efficiency or performance by our operations and commercialization teams, which could adversely affect our ability to commercialize LINZESS.
Although many members of our global operations, commercial and medical affairs teams have strategic oversight of, and a certain level of involvement in, their functional areas globally, we do not have corresponding operational capabilities in these areas outside of the U.S. If Allergan, Astellas or AstraZeneca was subject to a change of control that allowed us to continue linaclotide’s development or commercialization anywhere outside of the U.S. on our own, and we chose to do so rather than establishing a relationship with a new partner, we would need to build operational capabilities in the relevant territory. In any of these situations, the timeline and likelihood of achieving regulatory approval and, ultimately, the commercialization of linaclotide could be negatively impacted.
We must work effectively and collaboratively with Allergan to market and sell LINZESS in the U.S. in order for it to achieve its maximum commercial potential.
We are working closely with Allergan to execute our joint commercialization plan for LINZESS. The commercialization plan includes an agreed upon marketing campaign that targets the physicians who see patients who could benefit from LINZESS treatment. Our marketing campaign also targets the adult men and women who suffer from IBS-C or CIC. Our commercialization plan also includes an integrated call plan for our sales forces to optimize the education of specific gastroenterologists and primary care physicians on whom our and Allergan’s sales representatives call, and the frequency with which the representatives meet with them.
In order to optimize the commercial potential of LINZESS, we and Allergan must execute upon this commercialization plan effectively and efficiently. In addition, we and Allergan must continually assess and modify our commercialization plan in a coordinated and integrated fashion in order to adapt to the promotional response. Further, we and Allergan must continue to focus and refine our marketing campaign to ensure a clear and understandable physician-patient dialogue around IBS-C, CIC and the potential for LINZESS as an appropriate therapy. In addition, we and Allergan must provide our sales forces with the highest quality support, guidance and oversight in order for them to continue to effectively promote LINZESS to gastroenterologists and primary care physicians. If we and Allergan fail to perform these commercial functions in the highest quality manner and in accordance with our joint commercialization
plan and related agreements, LINZESS will not achieve its maximum commercial potential and we may suffer financial harm. Our efforts to further target and engage adult patients with IBS-C or CIC may not effectively increase appropriate patient awareness or patient/physician dialogue, and may not increase the revenues that we generate from LINZESS.
We are subject to uncertainty relating to pricing and reimbursement policies in the U.S. which, if not favorable for our products, could hinder or prevent our products’ commercial success.
Our and Allergan’s ability to commercialize LINZESS and our ability to commercialize ZURAMPIC and DUZALLO in the U.S. successfully depend in part on the coverage and reimbursement levels set by governmental authorities, private health insurers and other third-party payers. In determining whether to approve reimbursement for our products and at what level, we expect that third-party payers will consider factors that include the efficacy, cost effectiveness and safety of our products, as well as the availability of other treatments including generic prescription drugs and over-the-counter alternatives. Further, in order to obtain and maintain acceptable reimbursement levels and access for patients at copay levels that are reasonable and customary, we may face increasing pressure to offer discounts or rebates from list prices or discounts to a greater number of third-party payers or other unfavorable pricing modifications. Obtaining and maintaining favorable reimbursement can be a time consuming and expensive process, and there is no guarantee that we or Allergan (with respect to LINZESS) will be able to negotiate or continue to negotiate pricing terms with third-party payers at levels that are profitable to us, or at all. Certain third-party payers also require prior authorization for, or even refuse to provide, reimbursement for LINZESS, ZURAMPIC and DUZALLO, and others may do so in the future. Our business would be materially adversely affected if we and Allergan are not able to receive approval for reimbursement of LINZESS and we are not able to receive approval for reimbursement of ZURAMPIC and DUZALLO, in each case, from third-party payers on a broad, timely or satisfactory basis; if reimbursement is subject to overly broad or restrictive prior authorization requirements; or if reimbursement is not maintained at satisfactory levels or becomes subject to prior authorization. In addition, our business could be adversely affected if private health insurers, including managed care organizations, the Medicare or Medicaid programs or other reimbursing bodies or payers limit or reduce the indications for or conditions under which our products may be reimbursed.
We expect to experience pricing pressures in connection with the sale of our current and future products due to the healthcare reforms discussed below, as well as the trend toward programs aimed at reducing healthcare costs, the increasing influence of managed care, the scrutiny of pharmaceutical pricing, the ongoing debates on reducing government spending and additional legislative proposals. These healthcare reform efforts or any future legislation or regulatory actions aimed at controlling and reducing healthcare costs, including through measures designed to limit reimbursement, restrict access or impose unfavorable pricing modifications on pharmaceutical products, could impact our and our partners’ ability to obtain or maintain reimbursement for our products at satisfactory levels, or at all, which could materially harm our business and financial results.
We and our linaclotide partners are subject to uncertainty relating to pricing and reimbursement policies outside the U.S., as well as risks relating to the improper importation of linaclotide and sale of counterfeit versions of linaclotide. If such policies are not favorable, or if linaclotide is improperly imported or is counterfeited, our business and financial results could be adversely affected.
In some foreign countries, particularly Canada, the countries of Europe and Japan, the pricing and payment of prescription pharmaceuticals is subject to governmental control. In these countries, pricing negotiations with governmental authorities can take six to 12 months or longer after the receipt of regulatory approval and product launch. Reimbursement sources are different in each country, and each country may include a combination of distinct potential payers, including private insurance and governmental payers. Some countries may restrict the range of medicinal products for which their national health insurance systems provide reimbursement and control the prices of medicinal products for human use. To obtain favorable reimbursement for the indications sought or pricing approval in some countries, we and our partners may be required to conduct a clinical trial that compares the cost and clinical effectiveness of our products, including linaclotide, to other available therapies. In addition, in countries in which linaclotide is the only approved therapy for a particular indication, such as CONSTELLA as the only prescription product approved for the symptomatic treatment of moderate to severe IBS-C in adults in Europe and LINZESS as the only prescription treatment approved for the treatment of adults with IBS-C in Japan, there may be disagreement as to what the most comparable product is, or if there even is one. Further, several countries have implemented government measures to either freeze or reduce pricing of pharmaceutical products. Many third-party payers and governmental authorities also consider the price for which the same product is being sold in other countries to determine their own pricing and reimbursement strategy, so if linaclotide is priced low or gets limited reimbursement in a particular country,
this could result in similarly low pricing and reimbursement in other countries. If reimbursement for linaclotide is unavailable in any country in which reimbursement is sought, limited in scope or amount, or if pricing is set at or reduced to unsatisfactory levels, our and our partners’ ability to successfully commercialize linaclotide in such country would be impacted negatively. Furthermore, if these measures prevent us or any of our partners from selling linaclotide on a profitable basis in a particular country, they could prevent the commercial launch or continued sale of linaclotide in that country.
CONSTELLA was first launched in certain European countries for the symptomatic treatment of moderate to severe IBS-C in adults in the second quarter of 2013 and our partner Allergan is currently commercializing CONSTELLA in a number of European countries, including the United Kingdom, Italy and Spain. LINZESS was first launched in Japan for the treatment of IBS-C in adults in the first quarter of 2017 and our partner Astellas is currently commercializing LINZESS in Japan. The pricing and reimbursement strategy is a key component of our partners’ commercialization plans for CONSTELLA in Europe and LINZESS in Japan. Our revenues may suffer if our partners are unable to successfully and timely conclude reimbursement, price approval or funding processes and market CONSTELLA in key member states of the E.U. or LINZESS in Japan, or if coverage and reimbursement for either CONSTELLA or LINZESS is limited or reduced. If our partners are not able to obtain coverage, pricing or reimbursement on acceptable terms or at all, or if such terms change in any countries in its territory, our partners may not be able to, or may decide not to, sell either CONSTELLA or LINZESS in such countries.
We and our partners also face the risk that linaclotide is imported or reimported into markets with relatively higher prices from markets with relatively lower prices, which would result in a decrease of sales and any payments we receive from the affected market. Additionally, third parties may illegally produce, distribute and/or sell counterfeit or otherwise unfit or adulterated versions of linaclotide. In either case, we and our partners may not be able to detect or, if detected, prevent or prohibit the sale of such products, which could result in dangerous health consequences for patients, loss of confidence in us, our partners and our products, and adverse regulatory or legal consequences. Any of the foregoing or other consequences could adversely impact our reputation, financial results and business.
Because we work with partners to develop, manufacture and commercialize our products, we are dependent upon third parties, and our relationships with those third parties, in our efforts to obtain regulatory approval for, and to commercialize, our products, as well as to comply with regulatory and other obligations with respect to such products.
Allergan played a significant role in the conduct of the clinical trials for linaclotide and in the subsequent collection and analysis of data, and Allergan holds the new drug application, or NDA, for LINZESS. In addition, we are commercializing LINZESS in the U.S. with Allergan. Allergan is also responsible for the development, regulatory approval and commercialization of linaclotide in countries worldwide other than Japan, China, Hong Kong and Macau. Allergan is commercializing LINZESS in Mexico and CONSTELLA in Canada, as well as commercializing CONSTELLA in certain countries in Europe. Astellas, our partner in Japan, is responsible for completing the clinical programs and obtaining regulatory approval of linaclotide in its territory. Astellas is commercializing LINZESS in Japan. Further, we are jointly overseeing the development, and will jointly oversee the commercialization, of linaclotide in China, Hong Kong and Macau through our collaboration with AstraZeneca, with AstraZeneca having primary responsibility for the local operational execution. Each of Astellas, AstraZeneca and Allergan is responsible for commercializing linaclotide in its respective territory, if approved. Each of our partners is responsible for reporting adverse event information from its territory to us. Finally, each of our partners, other than AstraZeneca, is responsible for drug product manufacturing of linaclotide and making it into finished goods (including bottling and packaging) for its respective territory, and AstraZeneca is responsible for finished goods manufacturing for Hong Kong only. The integration of our efforts with our partners’ efforts is subject to the uncertainty of the markets for pharmaceutical products in each partner’s respective territories, and accordingly, these relationships must evolve to meet any new challenges that arise in those regions.
These integrated functions may not be carried out effectively and efficiently if we fail to communicate and coordinate with our linaclotide partners, and vice versa. Our linaclotide partnering strategy imposes obligations, risks and operational requirements on us as the central node in our global network of partners. If we do not effectively communicate with each partner and ensure that the entire network is making integrated and cohesive decisions focused on the global brand for linaclotide, linaclotide will not achieve its maximum commercial potential. Further, we have limited ability to control the amount or timing of resources that our partners devote to linaclotide. If any of our partners fails to devote sufficient time and resources to linaclotide, or if its performance is substandard, it will delay the potential submission or approval of regulatory applications for linaclotide, as well as the manufacturing and commercialization of
linaclotide in the particular territory. A material breach by any of our partners of our collaboration or license agreement with such partner, or a significant disagreement between us and a partner, could also delay the regulatory approval and commercialization of linaclotide, potentially lead to costly litigation, and could have a material adverse impact on our financial condition. Moreover, although we have non-compete restrictions in place with each of our linaclotide partners, they may have competitive products or relationships with other commercial entities, some of which may compete with us. If any of our partners competes with us or assists our competitors, it could harm our competitive position.
With respect to lesinurad, as part of our acquisition of the Lesinurad Business, we rely on AstraZeneca to provide us with information about ZURAMPIC, DUZALLO and other potential lesinurad products that may be critical to the development and the commercial success of such products in the U.S. For example, AstraZeneca is responsible for notifying us of certain material intellectual property related to lesinurad that is developed by it or its other licensees of lesinurad. If AstraZeneca does not notify us of such intellectual property or AstraZeneca’s licensees fail to report such intellectual property to AstraZeneca, or, in each case, fail to provide such information on a timely basis, we may not be able to commercialize ZURAMPIC, DUZALLO and other potential lesinurad products as effectively or efficiently.
In addition, adverse event reporting requires significant coordination with our partners and third parties. We are the holder of the global safety database for linaclotide responsible for coordinating the safety surveillance and adverse event reporting efforts worldwide with respect to linaclotide, and an AstraZeneca partner is the holder of the global safety database for lesinurad responsible for coordinating the safety surveillance and adverse event reporting efforts worldwide with respect to lesinurad. If we or AstraZeneca’s partner fails to perform such activities and maintain each safety database or if our partners (or their licensees) do not report adverse events related to our products, or fail to do so in a timely manner, we may not receive the information that we are required to report to the FDA regarding such products. Furthermore, we or our partners (or their licensees) may fail to adequately monitor, identify or investigate adverse events, or to report adverse events to the FDA or foreign regulatory authority accurately and within the prescribed timeframe. If we or our partners (or their licensees) are unsuccessful in any of the foregoing due to poor process, execution, systems, oversight, communication, adjudication or otherwise, then we may suffer any number of consequences, including the imposition of additional restrictions on the use of our products, removal of our products from the market, criminal prosecution, the imposition of civil monetary penalties, seizure of our products, or delay in approval of future products.
Even though LINZESS, ZURAMPIC and DUZALLO are approved by the FDA, such products face post-approval development and regulatory requirements, which present additional challenges.
In August 2012, the FDA approved LINZESS as a once-daily treatment for adult men and women suffering from IBS-C or CIC. In December 2015, the FDA approved ZURAMPIC for use in combination with an XOI for the treatment of hyperuricemia associated with uncontrolled gout, and in August 2017, the FDA approved DUZALLO for the treatment of hyperuricemia associated with gout in patients who have not achieved target serum acid levels with a medically appropriate daily dose of allopurinol alone. Each of such products is subject to ongoing FDA requirements, including those governing the testing, manufacturing, labeling, packaging, storage, advertising, promotion, sale, distribution, recordkeeping and submission of safety and other post-market information.
LINZESS is contraindicated in pediatric patients up to 6 years of age based on nonclinical data from studies in neonatal mice approximately equivalent to human pediatric patients less than 2 years of age. There is also a boxed warning advising physicians to avoid the use of LINZESS in pediatric patients 6 to less than 18 years of age. This warning is based on data in young juvenile mice and the lack of clinical safety and efficacy data in pediatric patients of any age group. We and Allergan have established a nonclinical and clinical post-marketing plan with the FDA to understand the safety and efficacy of LINZESS in pediatric patients, and have initiated two Phase II clinical pediatric studies in IBS-C patients age seven to 17 and functional constipation patients age six to 17. Our ability to conduct clinical studies in younger pediatric patients will depend, in part, on the safety and efficacy data from our clinical studies in older pediatric patients. Our ability to ever expand the indication for LINZESS to pediatrics will depend on, among other things, our successful completion of pediatric clinical studies. We and Allergan have also committed to certain nonclinical and clinical studies aimed at understanding: (a) whether orally administered linaclotide can be detected in breast milk, (b) the potential for antibodies to be developed to linaclotide, and if so, (c) whether antibodies specific for linaclotide could have any therapeutic or safety implications. We expect to complete these studies over the next two to four years.
ZURAMPIC and DUZALLO are contraindicated in patients with severe renal impairment or end-stage renal diseases, kidney transplant recipients, patients on dialysis or patients with tumor lysis syndrome or Lesch-Nyhan syndrome. In addition, DUZALLO is contraindicated in patients with a known hypersensivity to allopurinol. DUZALLO is approved for the treatment of hyperuricemia associated with gout in patients who have not achieved target serum acid levels with a medically appropriate daily dose of allopurinol alone, and there is a boxed warning that acute renal failure has occurred with lesinurad, one of the components of DUZALLO. ZURAMPIC is approved for use in combination with an XOI for the treatment of hyperuricemia associated with uncontrolled gout, and there is a boxed warning about the risk of acute renal failure with ZURAMPIC, which is more common when ZURAMPIC is used without an XOI. The FDA has required a post-marketing clinical study to further evaluate the renal and cardiovascular safety of lesinurad, and has required that enrollment include patients with moderate renal impairment. We rely exclusively on AstraZeneca as our supplier of drug product for such study and other development activities pursuant to our clinical supply agreement. If, for any reason, AstraZeneca is unable or unwilling to perform under our clinical supply agreement or if AstraZeneca performs poorly, our ability to, among other things, complete the post-marketing clinical study for lesinurad could be delayed or we may not be able to complete it at all. Additionally, as the holder of the approved NDA for each of ZURAMPIC and DUZALLO, we are obligated to monitor and report adverse events and any failure of such products to meet the specifications in the applicable NDA, to submit new or supplemental applications and to obtain FDA approval for certain changes to such products, including changes to product labeling and manufacturing processes.
These post-approval requirements impose burdens and costs on us. Failure to effectively, appropriately and timely conduct and complete the required studies relating to our products, monitor and report adverse events and meet our other post-approval commitments would lead to negative regulatory action at the FDA, which could include withdrawal of regulatory approval of our products for their currently approved indications and patient populations.
Manufacturers of drug products and their facilities are subject to continual review and periodic inspections by the FDA and other regulatory authorities for compliance with GMP and other applicable regulations. If we or a regulatory agency discovers previously unknown problems with a product, such as adverse events of unanticipated severity or frequency, or problems with a facility where the product is manufactured, a regulatory agency may impose restrictions on that product or the manufacturer, including withdrawal of the product from the market or suspension of manufacturing. If we, our partners or the manufacturing facilities for our products fail to comply with applicable regulatory requirements, a regulatory agency may take the following actions, among others:
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issue warning letters or untitled letters;
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impose civil or criminal penalties;
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suspend or withdraw regulatory approval;
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suspend any ongoing clinical trials;
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refuse to approve pending applications or supplements to applications submitted by us or our partners;
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impose restrictions on operations, including costly new manufacturing requirements; or
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seize or detain products or require us to initiate a product recall.
If we fail to comply with our obligations under our license with AstraZeneca, we could lose rights to the Lesinurad Business.
We are a party to a license agreement with AstraZeneca for exclusive rights to ZURAMPIC, DUZALLO and any other products containing lesinurad in the U.S. Our license agreement with AstraZeneca imposes various milestone payment, royalty, insurance and other obligations on us. If we fail to comply with our obligations, AstraZeneca may have the right to terminate the license agreement, in which event we would not be able to continue commercializing ZURAMPIC and DUZALLO or developing any other lesinurad product that is covered by the license. Termination of the license agreement or reduction or elimination of our licensed rights may result in our having to negotiate new or
reinstated licenses with less favorable terms, and, if we lose rights to the Lesinurad Business, ceasing development and commercial activities related to lesinurad, adversely affecting our business.
Even though linaclotide is approved for marketing in the U.S. and in a number of other countries, we or our partners may never receive approval to commercialize linaclotide in additional parts of the world.
In order to market any products outside of the countries where linaclotide is approved, we or our partners must comply with numerous and varying regulatory requirements of other jurisdictions regarding safety and efficacy. Approval procedures vary among jurisdictions and can involve product testing and administrative review periods different from, and greater than, those in the U.S. and the other countries where linaclotide is approved. Potential risks include that the regulatory authorities:
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may not deem linaclotide safe and effective;
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may not find the data from nonclinical studies and clinical trials sufficient to support approval;
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may not approve of manufacturing processes and facilities;
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may not approve linaclotide for any or all indications or patient populations for which approval is sought;
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may require significant warnings or restrictions on use to the product label for linaclotide; or
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may change their approval policies or adopt new regulations.
If any of the foregoing were to occur, our receipt of regulatory approval in the applicable jurisdiction could be delayed or we may never receive approval at all. Further, regulatory approval in one jurisdiction does not ensure regulatory approval in another, but a failure or delay in obtaining regulatory approval in one jurisdiction may have a negative effect on the regulatory processes in others. If linaclotide is not approved for all indications or patient populations or with the label requested, this would limit the uses of linaclotide and have an adverse effect on its commercial potential or require costly post-marketing studies.
We face potential product liability exposure, and, if claims brought against us are successful, we could incur substantial liabilities.
The use of our product candidates in clinical trials and the sale of marketed products expose us to product liability claims. If we do not successfully defend ourselves against product liability claims, we could incur substantial liabilities. In addition, regardless of merit or eventual outcome, product liability claims may result in:
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decreased demand for approved products;
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impairment of our business reputation;
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withdrawal of clinical trial participants;
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initiation of investigations by regulators;
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litigation costs;
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distraction of management’s attention from our primary business;
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substantial monetary awards to patients or other claimants;
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loss of revenues; and
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the inability to commercialize our product candidates.
We currently have product liability insurance coverage for the commercial sale of linaclotide and lesinurad and for the clinical trials of our product candidates which is subject to industry-standard terms, conditions and exclusions. Our insurance coverage may not be sufficient to reimburse us for expenses or losses associated with claims. Moreover, insurance coverage is becoming increasingly expensive, and, in the future, we may not be able to maintain insurance coverage at a reasonable cost or in sufficient amounts to protect us against losses. On occasion, large judgments have been awarded in lawsuits based on drugs that had unanticipated side effects. A successful product liability claim or series of claims could cause our stock price to decline and, if judgments exceed our insurance coverage, could decrease our cash and adversely affect our business.
We face competition and new products may emerge that provide different or better alternatives for treatment of the conditions that our products are approved to treat.
The pharmaceutical industry and the markets in which we operate are intensely competitive. We compete in the marketing and sale of our products, the development of new products and the acquisition of rights to new products with commercial potential. Certain of our competitors have substantially greater financial, technical and human resources than us. Mergers and acquisitions in the pharmaceutical industry may result in even more resources being concentrated in our competitors. Competition may increase further as a result of advances made in the commercial applicability of technologies and greater availability of capital for investment in these fields. Additionally, new developments, including the development of other drug technologies and methods of preventing the incidence of disease, occur in the pharmaceutical and medical technology industries at a rapid pace. These developments may render our products obsolete or noncompetitive.
Our products compete with certain prescription therapies and over-the-counter products for the treatment of the indications for which they are approved, or their associated symptoms, and in many cases with products that have attained significant levels of market acceptance. The availability of prescription competitors and over-the-counter products for such conditions could limit the demand, and the price we are able to charge, for our products unless we are able to achieve market acceptance among the medical community and patients and differentiate our products on the basis of their cost and/or actual or perceived benefits. For example, Takeda Pharmaceuticals Limited’s AMITIZA (lubiprostone) is approved by the FDA for sale in the U.S. for the treatment of IBS-C, CIC and opioid-induced constipation and Synergy Pharmaceuticals, Inc.’s, or Synergy, TRULANCE (plecanatide) is approved by the FDA for sale in the U.S. for the treatment of adults with IBS-C and CIC. Additionally, we believe other companies are developing products which could compete with our products, should they be approved by the FDA or foreign regulatory authorities. Currently, there are other compounds in late stage development and other potential competitors are in earlier stages of development for the treatment of the indications for which our products are approved. If our current or potential competitors are successful in completing drug development for their drug candidates and obtain approval from the FDA or foreign regulatory authorities, they could limit the demand for our products.
We will incur significant liability if it is determined that we are promoting any “off-label” uses of our products.
Physicians are permitted to prescribe drug products and medical devices for uses that are not described in the product’s labeling and that differ from those approved by the FDA or other applicable regulatory agencies. Such “off-label” uses are common across medical specialties. Although the FDA and other regulatory agencies do not regulate a physician’s choice of treatments, the FDA and other regulatory agencies do restrict communications on the subject of off-label use. Companies are not permitted to promote drugs or medical devices for off-label uses. Accordingly, we do not permit promotion of any approved product that we develop, license, commercialize, promote, co-promote or otherwise partner for any indication, population or use not described in such product’s label. The FDA and other regulatory and enforcement authorities actively enforce laws and regulations prohibiting promotion of off-label uses and the promotion of products for which marketing approval has not been obtained. A company that is found to have promoted off-label uses will be subject to significant liability, including civil and administrative remedies as well as criminal sanctions.
Notwithstanding the regulatory restrictions on off-label promotion, the FDA and other regulatory authorities allow companies to engage in truthful, non-misleading, and non-promotional scientific exchange concerning their products. We intend to engage in medical education activities and communicate with healthcare providers in compliance with all applicable laws, regulatory guidance and industry best practices. Although we believe we have put in place a
robust compliance program, which is designed to ensure that all such activities are performed in a legal and compliant manner, we cannot be certain that our program will address all areas of potential exposure and the risks in this area cannot be entirely eliminated.
If we fail to comply with healthcare and other regulations, we could face substantial penalties and our business, operations and financial condition could be adversely affected.
The products that we promote are marketed in the U.S. and/or covered by federal healthcare programs, and, as a result, certain federal and state healthcare laws and regulations pertaining to product promotion and fraud and abuse are applicable to, and may affect, our business. These laws and regulations include:
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federal healthcare program anti-kickback laws, which prohibit, among other things, persons from offering, soliciting, receiving or providing remuneration, directly or indirectly, to induce either the referral of an individual, for an item or service or the purchasing or ordering of a good or service, for which payment may be made under federal healthcare programs such as Medicare and Medicaid;
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federal false claims laws which prohibit, among other things, individuals or entities from knowingly presenting, or causing to be presented, information or claims for payment from Medicare, Medicaid, or other third-party payers that are false or fraudulent, and which may apply to us for reasons including providing coding and billing advice to customers;
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the federal Health Insurance Portability and Accountability Act of 1996, which prohibits executing a scheme to defraud any healthcare benefit program or making false statements relating to healthcare matters and which also imposes certain requirements relating to the privacy, security and transmission of individually identifiable health information;
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the Federal Food, Drug, and Cosmetic Act, which among other things, strictly regulates drug product and medical device marketing, prohibits manufacturers from marketing such products prior to approval or for off-label use and regulates the distribution of samples;
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federal laws that require pharmaceutical manufacturers to report certain calculated product prices to the government or provide certain discounts or rebates to government authorities or private entities, often as a condition of reimbursement under government healthcare programs;
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the so-called “federal sunshine” law, which requires pharmaceutical and medical device companies to monitor and report certain financial interactions with physicians and other healthcare professionals and healthcare organizations to the federal government for re-disclosure to the public; and
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state law equivalents of the above federal laws, such as anti-kickback and false claims laws which may apply to items or services reimbursed by any third-party payer, including commercial insurers, state transparency laws, state laws limiting interactions between pharmaceutical manufacturers and members of the healthcare industry, and state laws governing the privacy and security of health information in certain circumstances, many of which differ from each other in significant ways and often are not preempted by federal laws, thus complicating compliance efforts.
Our global activities are subject to the U.S. Foreign Corrupt Practices Act which prohibits corporations and individuals from paying, offering to pay, or authorizing the payment of anything of value to any foreign government official, government staff member, political party, or political candidate in an attempt to obtain or retain business or to otherwise influence a person working in an official capacity. We are also subject to similar anti-bribery laws in the other countries in which we do business.
In addition, we may be subject to privacy and security laws in the various jurisdictions in which we operate, obtain or store personally identifiable information. For example, the processing of personal data in the European Economic Area, or the EEA, is subject to the 1995 Data Protection Directive, or the Directive, imposing strict obligations and restrictions on the ability to collect, analyze and transfer personal data. In May 2018, a new privacy regime, the General Data Protection Regulation, or the GDPR, will take effect, increasing our obligations with respect to
clinical trials conducted in the EEA and increasing the scrutiny applied by clinical trial sites located in the EEA to transfers of personal data from such sites to countries that are considered by the European Commission to lack an adequate level of data protection, such as the United States. The compliance obligations imposed by the GDPR may increase our cost of doing business. In addition, the GDPR imposes substantial fines for breaches of data protection requirements, and it confers a private right of action on data subjects for breaches of data protection requirements.
If our operations are found to be in violation of any of the laws described above or any other laws, rules or regulations that apply to us, we will be subject to penalties, including civil and criminal penalties, damages, fines and the curtailment or restructuring of our operations. Any penalties, damages, fines, curtailment or restructuring of our operations could adversely affect our ability to operate our business and our financial results. Although compliance programs can mitigate the risk of investigation and prosecution for violations of these laws, rules or regulations, we cannot be certain that our program will address all areas of potential exposure and the risks in this area cannot be entirely eliminated, particularly because the requirements and government interpretations of the requirements in this space are constantly evolving. Any action against us for violation of these laws, rules or regulations, even if we successfully defend against it, could cause us to incur significant legal expenses and divert our management’s attention from the operation of our business, as well as damage our business or reputation. Moreover, achieving and sustaining compliance with applicable federal and state privacy, security, fraud and reporting laws may prove costly.
Healthcare reform and other governmental and private payer initiatives may have an adverse effect upon, and could prevent, our products’ or product candidates’ commercial success.
The U.S. government and individual states have been aggressively pursuing healthcare reform designed to impact delivery of, and/or payment for, healthcare, which include initiatives intended to reduce the cost of healthcare. For example, in March 2010, the U.S. Congress enacted the Patient Protection and Affordable Care Act, as modified by the Health Care and Education Reconciliation Act, or the ACA, which, among other things, expanded healthcare coverage through Medicaid expansion and the implementation of the individual health insurance mandate; included changes to the coverage and reimbursement of drug products under government healthcare programs; imposed an annual fee on manufacturers of branded drugs; and expanded government enforcement authority. We face uncertainties because there have been, and may be additional, federal legislative and administrative efforts to repeal, substantially modify or invalidate some or all of the provisions of the ACA. Such efforts may lead to fewer Americans having more comprehensive health insurance compliant with the ACA, even in the absence of a legislative repeal. Adoption of new healthcare reform legislation at the federal or state level could affect demand for, or pricing of, our products or product candidates if approved for sale. However, we cannot predict the ultimate content, timing or effect of any healthcare reform legislation or action, or its impact on us, and healthcare reform could increase compliance costs and may adversely affect our future business and financial results.
In addition, other legislative changes have been adopted that could have an adverse effect upon, and could prevent, our products’ or product candidates’ commercial success. Tax reform legislation enacted in December 2017 includes provisions intended to affect healthcare insurance coverage and payment, such as the elimination of the individual mandate to have health insurance beginning in 2019. More broadly, the Budget Control Act of 2011, as amended, or the Budget Control Act, includes provisions intended to reduce the federal deficit, including reductions in Medicare payments to providers through 2025. Any significant spending reductions affecting Medicare, Medicaid or other publicly funded or subsidized health programs, or any significant taxes or fees imposed as part of any broader deficit reduction effort or legislative replacement to the Budget Control Act, or otherwise, could have an adverse impact on our anticipated product revenues.
In addition to governmental efforts in the U.S., foreign jurisdictions as well as private health insurers and managed care plans are likely to continue challenging manufacturers’ ability to obtain reimbursement, as well as the level of reimbursement, for pharmaceuticals and other healthcare-related products and services. These cost-control initiatives could significantly decrease the available coverage and the price we might establish for our products, which would have an adverse effect on our financial results.
The Food and Drug Administration Amendments Act of 2007 also provides the FDA enhanced post-marketing authority, including the authority to require post-marketing studies and clinical trials, labeling changes based on new safety information, and compliance with risk evaluations and mitigation strategies approved by the FDA. We and Allergan have established a nonclinical and clinical post-marketing plan with the FDA to understand the safety and efficacy of LINZESS in pediatrics and we have established a clinical post-marketing plan with the FDA to further evaluate the renal and cardiovascular safety of lesinurad, each of which is discussed above. The FDA’s exercise of this
authority has resulted (and is expected to continue to result) in increased development-related costs following the commercial launch of our products, and could result in potential restrictions on the sale and/or distribution of our products, even in such products’ approved indications and patient populations.
If we are unable to successfully partner with other companies to develop and commercialize our products and/or product candidates, our ability to grow would be impaired and our business would be adversely affected.
As part of our business strategy, we may partner with pharmaceutical, biotechnology or other companies to develop and commercialize our products or product candidates. Although we have entered into such arrangements with respect to the development and commercialization of linaclotide worldwide, there can be no assurance that we will be able to do so in the future with respect to other products or product candidates or that we will be able to gain the interest of potential partners; establish and maintain development, manufacturing, marketing, sales or distribution relationships on acceptable terms; that such relationships, if established, will be successful or on favorable terms; or that we will gain market acceptance for such products or product candidates. The process of proposing, negotiating and implementing a partnership arrangement is lengthy and complex. If we enter into any partnering arrangements with third parties, any revenues we receive will depend upon the efforts of such third parties. If we are unable to establish successful partnering arrangements, we may not gain access to the financial resources and industry experience necessary to develop, commercialize or successfully market our products or product candidates, may be forced to curtail, delay or stop a development program or one or more of our other development programs, delay commercialization, reduce the scope of our planned sales or marketing activities or undertake development or commercialization activities at our own expense, and therefore may be unable to generate revenue from our products or product candidates or do so to their full potential.
In pursuing our growth strategy, we will incur a variety of costs and may devote resources to potential opportunities that are never completed or for which we never receive the benefit. Our failure to successfully discover, acquire, develop and market additional product candidates or approved products would impair our ability to grow and adversely affect our business.
As part of our growth strategy, we intend to explore further linaclotide and lesinurad development opportunities. We and Allergan are exploring development opportunities to enhance the clinical profile of LINZESS by studying linaclotide in additional indications, populations and formulations to assess its potential to treat various conditions. Additionally, we have rights to develop products containing lesinurad as an active ingredient in all indications, populations and formulations in the U.S. and we are currently evaluating such development opportunities, as well as opportunities within its approved indications, populations and formulations. These development efforts may fail or may not increase the revenues that we generate from our products. Furthermore, they may result in adverse events, or perceived adverse events, in certain patient populations that are then attributed to the currently approved patient population, which may result in adverse regulatory action at the FDA or, with respect to linaclotide, in other countries or harm our products’ reputation in the marketplace, each of which could materially harm our revenues from our products.
We are also pursuing various other programs in our pipeline. We may spend several years and make significant investments in developing any current or future internal product candidate, and failure may occur at any point. Our product candidates are in various stages of development and must satisfy rigorous standards of safety and efficacy before they can be approved for sale by the FDA. To satisfy these standards, we must allocate resources among our various development programs and we must engage in costly and lengthy discovery and development efforts, which are subject to unanticipated delays and other significant uncertainties. Despite our efforts, our product candidates may not offer therapeutic or other improvement over existing competitive drugs, be proven safe and effective in clinical trials, or meet applicable regulatory standards. It is possible that none of the product candidates we are developing will be approved for commercial sale, which would impair our ability to grow.
We have ongoing or planned nonclinical and clinical trials for linaclotide, lesinurad and a number of our internal product candidates, and the strength of our company’s pipeline will depend in large part on the outcomes of these studies. Many companies in the pharmaceutical industry have suffered significant setbacks in clinical trials even after achieving promising results in earlier nonclinical or clinical trials. The findings from our completed nonclinical studies may not be replicated in later clinical trials, and our clinical trials may not be predictive of the results we may obtain in later-stage clinical trials or of the likelihood of regulatory approval. Results from our clinical trials and findings from our nonclinical studies could lead to abrupt changes in our development activities, including the possible limitation or cessation of development activities associated with a particular product candidate or program. Furthermore, our analysis of data obtained from nonclinical and clinical activities is subject to confirmation and interpretation by the FDA
and other applicable regulatory authorities, which could delay, limit or prevent regulatory approval. Satisfaction of FDA or other applicable regulatory requirements is costly, time-consuming, uncertain and subject to unanticipated delays.
In addition, because our internal research capabilities are limited, we may be dependent upon pharmaceutical and biotechnology companies, academic scientists and other researchers to sell or license products or technology to us. The success of this strategy depends partly upon our ability to identify, select, discover and acquire promising pharmaceutical product candidates and products. The process of proposing, negotiating and implementing a license or acquisition of a product candidate or approved product is lengthy and complex. Other companies, including some with substantially greater financial, marketing and sales resources, may compete with us for the license or acquisition of product candidates and approved products. We have limited resources to identify and execute the acquisition or in-licensing of third-party products, businesses and technologies and integrate them into our current infrastructure. Moreover, we may devote resources to potential acquisitions or in-licensing opportunities that are never completed, or we may fail to realize the anticipated benefits of such efforts. We may not be able to acquire the rights to additional products or product candidates on terms that we find acceptable, or at all.
In addition, such acquisitions may entail numerous operational and financial risks, including:
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exposure to unknown liabilities;
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disruption of our business and diversion of our management’s time and attention to develop acquired products, product candidates or technologies;
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incurrence of substantial debt, dilutive issuances of securities or depletion of cash to pay for acquisitions;
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higher than expected acquisition and integration costs;
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difficulty in combining the operations and personnel of any acquired businesses with our operations and personnel;
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increased amortization expenses;
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impairment of relationships with key suppliers or customers of any acquired businesses due to changes in management and ownership; and
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inability to motivate key employees of any acquired businesses.
Furthermore, we may have little or no insight or control over the development and commercialization of any product that we have in-licensed outside the licensed territory. If other licensees do not effectively develop or commercialize any such product outside the licensed territory, our reputation or the reputation of any such product may be impacted. Also, any product candidate that we acquire may require additional development efforts prior to commercial sale, including extensive clinical testing and approval by the FDA and applicable foreign regulatory authorities. All product candidates are prone to risks of failure typical of pharmaceutical product development, including the possibility that a product candidate will not be shown to be sufficiently safe and effective for approval by regulatory authorities.
Delays in the completion of clinical testing of any of our product candidates could result in increased costs and delay or limit our ability to generate revenues.
Delays in the completion of clinical testing could significantly affect our product development costs. We do not know whether planned clinical trials will be completed on schedule, if at all. The commencement and completion of clinical trials can be delayed for a number of reasons, including delays related to:
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obtaining regulatory approval to commence a clinical trial;
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reaching agreement on acceptable terms with prospective clinical research organizations, or CROs, and trial sites, the terms of which can be subject to extensive negotiation and may vary significantly among different CROs and trial sites;
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manufacturing sufficient quantities of a product candidate for use in clinical trials;
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obtaining institutional review board approval to conduct a clinical trial at a prospective site;
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recruiting and enrolling patients to participate in clinical trials for a variety of reasons, including competition from other clinical trial programs for the treatment of similar conditions; and
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maintaining patients who have initiated a clinical trial but may be prone to withdraw due to side effects from the therapy, lack of efficacy or personal issues, or who are lost to further follow-up.
Clinical trials may also be delayed as a result of ambiguous or negative interim results. In addition, a clinical trial may be suspended or terminated by us, an institutional review board overseeing the clinical trial at a clinical trial site (with respect to that site), the FDA, or other regulatory authorities due to a number of factors, including:
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failure to conduct the clinical trial in accordance with regulatory requirements or the study protocols;
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inspection of the clinical trial operations or trial sites by the FDA or other regulatory authorities resulting in the imposition of a clinical hold;
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unforeseen safety issues; or
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lack of adequate enrollment or funding to continue the clinical trial.
Additionally, changes in regulatory requirements and guidance may occur, and we may need to amend clinical trial protocols to reflect these changes. Each protocol amendment would require institutional review board review and approval, which may adversely impact the costs, timing or successful completion of the associated clinical trials. If we or our partners terminate or experience delays in the completion of any clinical trials, the commercial prospects for our product candidates may be harmed, and our ability to generate product revenues will be delayed. In addition, many of the factors that cause, or lead to, a delay in the commencement or completion of clinical trials may also ultimately lead to the denial of regulatory approval.
We may not be able to manage our business effectively if we lose any of our current management team or if we are unable to attract and motivate key personnel.
We may not be able to attract or motivate qualified management and scientific, clinical, operations and commercial personnel in the future due to the intense competition for qualified personnel among biotechnology, pharmaceutical and other businesses, particularly in the greater-Boston area. If we are not able to attract and motivate necessary personnel to accomplish our business objectives, we will experience constraints that will significantly impede the achievement of our objectives.
We are highly dependent on the drug discovery, development, regulatory, commercial, financial and other expertise of our management, particularly Peter M. Hecht, Ph.D., our chief executive officer; Gina Consylman, our senior vice president, chief financial officer, and treasurer; Mark G. Currie, Ph.D., our senior vice president, chief scientific officer and president of research and development; Halley E. Gilbert, our senior vice president, chief legal officer, and secretary; William Huyett, our chief operating officer; and Thomas A. McCourt, our senior vice president, marketing and sales and chief commercial officer. Transitions in our senior management team may result in operational disruptions, and our business may be harmed as a result. In addition to the competition for personnel, the Boston area in particular is characterized by a high cost of living. As such, we could have difficulty attracting experienced personnel to our company and may be required to expend significant financial resources in our employee recruitment efforts.
We also have scientific and clinical advisors who assist us in formulating our product development, clinical strategies and our global supply chain plans, as well as sales and marketing advisors who have assisted us in our commercialization strategy and brand plan for linaclotide and lesinurad. These advisors are not our employees and may have commitments to, or consulting or advisory contracts with, other entities that may limit their availability to us, or may have arrangements with other companies to assist in the development and commercialization of products that may compete with ours.
Security breaches and other disruptions to our information technology structure could compromise our information, disrupt our business and expose us to liability, which would cause our business and reputation to suffer.
In the ordinary course of our business, we collect, process and store sensitive data, including intellectual property, our proprietary business information and that of our suppliers and business partners, as well as personally identifiable information of our patients, clinical trial participants and employees. We also rely to a large extent on information technology systems to operate our business, including to deliver our products. We have outsourced elements of our confidential information processing and information technology structure, and as a result, we are managing independent vendor relationships with third parties who may or could have access to our confidential information. Similarly, our business partners and other third-party providers possess certain of our sensitive data. The secure maintenance of this information is critical to our operations and business strategy. Despite our security measures, our large and complex information technology and infrastructure (and those of our partners, vendors and third-party providers) may be vulnerable to attacks by hackers or breached due to employee error, malfeasance or other disruptions. We, our partners, vendors and other third-party providers could be susceptible to third party attacks on our, and their, information security systems, which attacks are of ever-increasing levels of sophistication and are made by groups and individuals with a wide range of motives and expertise, including organized criminal groups, hacktivists, nation states and others. While we have invested in information technology and security and the protection of confidential information, there can be no assurance that our efforts will prevent service interruptions or security breaches. Any such interruptions or breach would substantially impair our ability to operate our business and would compromise our, and their, networks and the information stored there could be accessed, publicly disclosed, lost or stolen. Any such access, disclosure or other loss of information could result in legal claims or proceedings, liability under laws that protect the privacy of personal information, disrupt our operations, and damage our reputation, any of which could adversely affect our business. While we maintain cyber liability insurance, this insurance may not be sufficient to cover the losses that may result from an interruption or breach of our (or our partners’, vendors’ and third-party providers’) systems.
Our business involves the use of hazardous materials, and we must comply with environmental laws and regulations, which can be expensive and restrict how we do business.
Our activities involve the controlled storage, use and disposal of hazardous materials. We are subject to federal, state, city and local laws and regulations governing the use, manufacture, storage, handling and disposal of these hazardous materials. Although we believe that the safety procedures we use for handling and disposing of these materials comply with the standards prescribed by these laws and regulations, we cannot eliminate the risk of accidental contamination or injury from these materials. In the event of an accident, local, city, state or federal authorities may curtail the use of these materials and interrupt our business operations. We do not currently maintain hazardous materials insurance coverage.
Risks Related to Intellectual Property
Limitations on the patent rights relating to our products and our product candidates may limit our ability to prevent third parties from competing against us.
Our success depends on our ability to obtain and maintain patent protection for our products and product candidates, preserve our trade secrets, prevent third parties from infringing upon our proprietary rights and operate without infringing upon the proprietary rights of others.
The strength of patents in the pharmaceutical industry involves complex legal and scientific questions and can be uncertain. Patent applications in the U.S. and most other countries are confidential for a period of time until they are published, and publication of discoveries in scientific or patent literature typically lags actual discoveries by several months or more. As a result, we cannot be certain that we or our licensors were the first to conceive inventions covered by our patents and pending patent applications or that we or our licensors were the first to file patent applications for such inventions. In addition, we cannot be certain that our patent applications will be granted, that any issued patents will adequately protect our intellectual property, or that such patents will not be challenged, narrowed, invalidated or circumvented.
We have several issued patents and pending applications in the U.S. related to LINZESS, including a LINZESS composition of matter and methods of use patent (U.S. Patent 7,304,036) expiring in 2026. Additional U.S. patents include multiple patents relating to our commercial, room temperature stable formulation of linaclotide and methods of using this formulation, which expire in the early 2030s, as well as other patents and pending patent applications covering
processes for making LINZESS, formulations and dosing regimens thereof, and molecules related to LINZESS. Although none of these issued patents currently is subject to a patent reexamination or review, we cannot guarantee that they will not be subject to reexamination or review by the U.S. Patent and Trademark Office, or the USPTO, in the future. We believe that each of the patents in our linaclotide patent portfolio was rightfully issued and the portfolio gives us sufficient freedom to operate; however, if any of our present or future patents is invalidated, this could have an adverse effect on our business and financial results. In March 2013, an opposition to one of our granted patents covering linaclotide was filed in Europe. In April 2015, the patent was upheld in its entirety by the European Patent Office, affirming the strength of our intellectual property and our belief that the opposition was without merit. In September 2017, an opposition to one of our granted patents covering a component of CONSTELLA, as well as formulations comprising linaclotide and this component, was filed in Europe. We believe that the patents that are the subject of these oppositions were appropriately granted but we cannot be certain of this until the opposition proceedings, including the associated appeals processes, are complete. While the oppositions are ongoing, we will incur additional expense and be required to focus additional efforts on the proceedings. Moreover, successful outcomes in the oppositions do not preclude later challenges to these or other of our patents in the courts. Even if these patents were ultimately found to be invalid, we have other linaclotide composition of matter-, use- and formulation-related patents that are granted and in force, and we believe these patents provide strong and sufficient patent protection in Europe.
We received an exclusive license from AstraZeneca for several issued patents and pending applications in the U.S. related to ZURAMPIC and DUZALLO, including a composition of matter patent for lesinurad covering both ZURAMPIC and DUZALLO (U.S. Patent 8,003,681), several patents directed to ZURAMPIC and DUZALLO pharmaceutical compositions and methods of use, and patents and applications relating to polymorphic forms of lesinurad and methods of manufacturing lesinurad. Although none of these issued patents currently is subject to a patent reexamination or review, we cannot guarantee that they will not be subject to reexamination or review by the USPTO in the future. If any or all of the ZURAMPIC- or DUZALLO-related patents were invalidated, we would still have at least five years of marketing exclusivity under the Hatch-Waxman Act from FDA approval of ZURAMPIC. We believe that each of the patents in AstraZeneca’s U.S. lesinurad patent portfolio was rightfully issued and the portfolio gives us sufficient freedom to operate; however, if any of AstraZeneca’s present or future lesinurad patents is invalidated, this could have an adverse effect on our business and financial results, particularly for the period beyond five years following marketing approval.
Furthermore, the America Invents Act, which was signed into law in 2011, has made several major changes in the U.S. patent statutes. These changes permit third parties to challenge our patents more easily and create uncertainty with respect to the interpretation and practice of U.S. patent law. Moreover, the U.S. Supreme Court has ruled on several patent cases in recent years, narrowing the scope of patent protection available and weakening the rights of patent owners in certain circumstances. Depending on the impact of these decisions and other actions by the U.S. Congress, the federal courts, the USPTO, and their foreign counterparts, the laws and regulations governing patents may change, or their interpretation or implementation may change, in unpredictable ways that could impact, potentially adversely, our ability to obtain new patents or to enforce and defend patents that we have already obtained or that we might obtain in the future. For example, such changes may increase the costs and complexity associated with obtaining, enforcing or defending our patents, including in abbreviated new drug application, or ANDA, litigation.
We also rely upon unpatented trade secrets, unpatented know-how and continuing technological innovation to develop and maintain our competitive position, which we seek to protect, in part, by confidentiality agreements with our employees and our partners and consultants. We also have agreements with our employees and selected consultants that obligate them to assign their inventions to us. It is possible, however, that technology relevant to our business will be independently developed by a person that is not a party to such an agreement. Furthermore, if the employees and consultants that are parties to these agreements breach or violate the terms of these agreements, we may not have adequate remedies, and we could lose our trade secrets through such breaches or violations. Additionally, our trade secrets could otherwise become known or be independently discovered by our competitors.
In addition, the laws of certain foreign countries do not protect proprietary rights to the same extent or in the same manner as the U.S., and, therefore, we may encounter problems in protecting and defending our intellectual property in certain foreign jurisdictions.
If we are sued for infringing intellectual property rights of third parties, it will be costly and time consuming, and an unfavorable outcome in such litigation could have a material adverse effect on our business.
Our commercial success depends on our ability, and the ability of our partners, to develop, manufacture, market and sell our products and use our proprietary technologies without infringing the proprietary rights of third parties. Numerous U.S. and foreign issued patents and pending patent applications, which are owned by third parties, exist in the fields in which we and our partners are developing products. As the biotechnology and pharmaceutical industry expands and more patents are issued, the risk increases that our potential products may give rise to claims of infringement of the patent rights of others. There may be issued patents of third parties of which we are currently unaware that may be infringed by linaclotide, lesinurad or our product candidates. Because patent applications can take many years to issue, there may be currently pending applications which may later result in issued patents that linaclotide, lesinurad or our product candidates may infringe.
We may be exposed to, or threatened with, litigation by third parties alleging that linaclotide, lesinurad or our product candidates infringe their intellectual property rights. If linaclotide, lesinurad or one of our product candidates is found to infringe the intellectual property rights of a third party, we or our partners could be enjoined by a court and required to pay damages and could be unable to develop or commercialize linaclotide, lesinurad or the applicable product candidate unless we obtain a license to the intellectual property rights. A license may not be available to us on acceptable terms, if at all. In addition, during litigation, the counter-party could obtain a preliminary injunction or other equitable relief which could prohibit us from making, using or selling our products, pending a trial on the merits, which may not occur for several years.
There is a substantial amount of litigation involving patent and other intellectual property rights in the biotechnology and pharmaceutical industries generally. If a third party claims that we or our partners infringe its intellectual property rights, we may face a number of issues, including, but not limited to:
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infringement and other intellectual property claims which, regardless of merit, may be expensive and time-consuming to litigate and may divert our management’s attention from our core business;
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substantial damages for infringement, which we may have to pay if a court decides that the product at issue infringes on or violates the third party’s rights, and, if the court finds that the infringement was willful, we could be ordered to pay treble damages and the patent owner’s attorneys’ fees;
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a court prohibiting us from selling our product unless the third party licenses its rights to us, which it is not required to do;
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if a license is available from a third party, we may have to pay substantial royalties, fees or grant cross-licenses to our intellectual property rights; and
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redesigning our products so they do not infringe, which may not be possible or may require substantial monetary expenditures and time.
We have received notices of Paragraph IV certifications related to linaclotide in conjunction with ANDAs filed by generic drug manufacturers, and may receive additional notices from others in the future. We have, and may continue to, become involved in legal proceedings to protect or enforce the patents relating to our products and our product candidates, which could be expensive and time consuming, and unfavorable outcomes in such proceedings could have a material adverse effect on our business.
Competitors may infringe the patents relating to our products and our product candidates or may assert that such patents are invalid. To counter ongoing or potential infringement or unauthorized use, we may be required to file infringement claims, which can be expensive and time-consuming. Litigation with generic manufacturers has become increasingly common in the biotechnology and pharmaceutical industries. In addition, in an infringement or invalidity proceeding, a court or patent administrative body may determine that a patent of ours is not valid or is unenforceable, or may refuse to stop the other party from using the technology at issue on the grounds that our patents do not cover the technology in question. Generic drug manufacturers were first able to file ANDAs for generic versions of LINZESS in August 2016 and will first be able to file ANDAs in December 2019 for ZURAMPIC and DUZALLO, but we may not become aware of these filings for several months after any such submission due to procedures specified under applicable FDA regulations. When filing an ANDA for one of our products, a generic drug manufacturer may choose to challenge
one or more of the patents that cover such product. As such, we may need to protect our intellectual property rights by bringing legal proceedings against the generic drug manufacturer.
We and Allergan have received Paragraph IV certification notice letters, or Notice Letters, regarding ANDAs submitted to the FDA by generic drug manufacturers requesting approval to engage in commercial manufacture, use, sale and offer for sale of linaclotide capsules (72 mcg, 145 mcg and 290 mcg), proposed generic versions of our FDA-approved drug LINZESS. For additional information relating to such ANDAs, see Item 3, Legal Proceedings, elsewhere in this Annual Report on Form 10-K. Frequently, innovators receive multiple ANDA filings. Consequently, we expect to receive additional notice letters regarding ANDAs submitted to the FDA, and may receive amendments to the Notice Letters.
After evaluation, we may file patent infringement lawsuits or take other action against the companies making ANDA filings. If a patent infringement suit has been filed within 45 days of receipt of a notice letter, the FDA is not permitted to approve any ANDA that is the subject of such lawsuit for 30 months from the date of the NDA holder’s and patent owner’s receipt of the ANDA filer’s notice letter, or until a court decides that the relevant patents are invalid, unenforceable and/or not infringed. In the case of suits filed before expiration of the new chemical entity, or NCE, exclusivity period for a particular drug, the 30-month stay would be calculated from the end of the applicable NCE exclusivity period. In addition to shortening the 30-month stay based on a decision that the relevant patents are invalid, unenforceable and/or not infringed, a court can also shorten or lengthen the 30-month stay under certain limited circumstances. The NCE exclusivity period for LINZESS expired on August 30, 2017, and the 30-month stay for any ANDA that is the subject of the patent infringement lawsuits filed by us before such expiration date ends on February 29, 2020 (absent any of the foregoing adjustments). We have filed patent infringement lawsuits against the companies making such ANDA filings, and have entered into a settlement agreement with one such company. For additional information relating to such lawsuits and settlement, see Item 3, Legal Proceedings, elsewhere in this Annual Report on Form 10-K.
Additionally, the validity of the patents relating to our products and our product candidates may be challenged by third parties pursuant to administrative procedures introduced by the America Invents Act, specifically inter partes review, or IPR, and/or post grant review, or PGR, before the USPTO. Generic drug manufacturers may challenge our patents through IPRs or PGRs instead of or in addition to ANDA legal proceedings.
Patent litigation (including any lawsuits that we file against generic drug manufacturers in connection with the receipt of a notice letter), IPRs and PGRs involve complex legal and factual questions and we may need to devote significant resources to such legal proceedings. We can provide no assurance concerning the duration or the outcome of any such patent-related lawsuits or administrative proceedings, including any settlements or other resolutions thereof which could, in addition to other risks, result in a shortening of exclusivity periods. An adverse result in any litigation or defense proceedings could put one or more of the patents relating to our products and our product candidates at risk of being invalidated or interpreted narrowly, or could otherwise result in a loss of patent protection for the product or product candidate at issue, and could put our patent applications at risk of not issuing, which would materially harm our business. Upon any loss of patent protection for one of our products, or upon an “at-risk” launch (despite pending patent infringement litigation, before any court decision or while an appeal of a lower court decision is pending) by a manufacturer of a generic version of one of our patented products, our revenues for that product could be significantly reduced in a short period of time, which would materially and adversely affect our business.
Interference or derivation proceedings brought by the USPTO may be necessary to determine the priority of inventions with respect to the patents relating to our products and our product candidates and patent applications or those of our partners. An unfavorable outcome could require us to cease using the technology or to attempt to license rights to it from the prevailing party. Our business could be harmed if a prevailing party does not offer us a license on terms that are acceptable to us. Litigation or interference proceedings may fail and, even if successful, may result in substantial costs and distraction of our management and other employees. In addition, we may not be able to prevent, alone or with our partners, misappropriation of our proprietary rights, particularly in countries where the laws may not protect those rights as fully as in the U.S.
Furthermore, because of the substantial amount of discovery required in connection with intellectual property litigation, as well as the potential for public announcements of the results of hearings, motions or other interim proceeding or developments, there is a risk that some of our confidential information could be compromised by disclosure during this type of litigation.
Risks Related to Our Finances and Capital Requirements
We have incurred significant losses since our inception and cannot guarantee when, if ever, we will become profitable or attain positive cash flows.
In recent years, we have focused primarily on developing, manufacturing and commercializing our products, as well as developing our other product candidates. We have financed our business to date primarily through the issuance of equity, our collaboration and license arrangements, our January 2013 issuance of our 11% PhaRMA Notes due 2024, or the PhaRMA Notes, related to the sales of LINZESS in the U.S. (which were redeemed, in full, in connection with the funding and issuance in January 2017 of our 8.375% Notes due 2026, or the 2026 Notes) and our June 2015 issuance of our 2.25% Convertible Senior Notes due June 15, 2022, or the 2022 Notes, and we have incurred losses in each year since our inception in 1998. We currently derive a significant portion of our revenue from our LINZESS collaboration with Allergan for the U.S. We believe that the revenues from the LINZESS collaboration will continue to constitute a significant portion of our total revenue for the foreseeable future. We incurred net losses of approximately $116.9 million, approximately $81.7 million and approximately $142.7 million in the years ended December 31, 2017, 2016 and 2015, respectively. As of December 31, 2017, we had an accumulated deficit of approximately $1.3 billion. We cannot be certain that sales of our products, and the revenue from our other commercial activities will not fall short of our projections or be delayed. Further, we expect to continue to incur substantial expenses in connection with our efforts to commercialize linaclotide and lesinurad, and research and develop our product candidates. Because of the numerous risks and uncertainties associated with developing and commercializing pharmaceutical products, as well as those related to our expectations for our products and our other commercial activities, we are unable to predict the extent of any future losses or guarantee when, or if, our company will become profitable or cash flow positive. If we never achieve profitability or positive cash flows, or achieve either later than we anticipate, this will have an adverse effect on our stockholders’ equity and working capital.
We may need additional funding and may be unable to raise capital when needed, which could cause us to delay, reduce or eliminate our product development programs or commercialization efforts.
In January 2017, in connection with the redemption of our PhaRMA Notes, we issued $150.0 million aggregate principal amount of our 2026 Notes bearing an annual interest rate of 8.375%. In June 2015, we issued approximately $335.7 million aggregate principal amount of our 2022 Notes and we have previously raised additional funds through other capital raising activities, including the sale of shares of our Class A common stock in public offerings and the issuance of our PhaRMA Notes in January 2013 (which were redeemed, in full, in connection with the issuance of our 2026 Notes). However, marketing and selling primary care drugs, purchasing commercial quantities of pharmaceutical products, developing product candidates, conducting clinical trials and accessing externally developed products are expensive and uncertain. Circumstances, our strategic imperatives, or opportunities to create or acquire new programs, as well as maturities, redemptions or repurchases of our outstanding debt securities, could require us to, or we may choose to, seek to raise additional funds. The amount and timing of our future funding requirements will depend on many factors, including, but not limited to:
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the level of underlying demand for our products by prescribers and patients in the countries in which they are approved;
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the costs associated with commercializing our products in the U.S.;
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the costs of establishing, maintaining and/or expanding sales, marketing, distribution, and market access capabilities for our products;
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the regulatory approval of linaclotide outside of the U.S. and the other countries where it is approved and the timing of commercial launches in those countries, and the regulatory approval of linaclotide within new indications, populations and formulations, as well as the associated development and commercial milestones and royalties;
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the rate of progress, the cost of our clinical trials and the other costs associated with our linaclotide product development programs, including our post-approval nonclinical and clinical studies of linaclotide in
pediatrics and our investment to enhance the clinical profile of LINZESS within IBS-C and CIC, as well as to study linaclotide in additional indications, populations and formulations to assess its potential to treat various conditions;
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the rate of progress and the costs associated with development of lesinurad, including costs related to the post-marketing clinical trial for lesinurad required by the FDA;
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the costs and timing of in-licensing additional products or product candidates or acquiring other complementary companies or assets;
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the achievement and timing of milestone payments and royalties due or payable under our collaboration and license agreements;
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the status, terms and timing of any collaboration, licensing, co-commercialization or other arrangements;
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the timing of any regulatory approvals of our product candidates;
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whether the holders of our 2022 Notes hold the notes to maturity without conversion into our Class A common stock and whether we are required to repurchase our 2022 Notes prior to maturity upon a fundamental change, as defined in the indenture governing the 2022 Notes; and
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whether we seek to redeem or repurchase all or part of our outstanding debt through cash purchases and/or exchanges, in open market purchases, privately negotiated transactions, by tender offer or otherwise.
Additional funding may not be available on acceptable terms or at all. If adequate funds are not available, we may be required to delay or reduce the scope of our commercialization efforts, delay, reduce or eliminate one or more of our development programs or delay or abandon potential strategic opportunities.
Our ability to pay principal of and interest on our outstanding debt securities will depend in part on the receipt of payments from Allergan under our collaboration agreement for North America.
In January 2017, we issued, in connection with the redemption of our PhaRMA Notes, $150.0 million aggregate principal amount of our 2026 Notes bearing an annual interest rate of 8.375% and in June 2015, we issued approximately $335.7 million aggregate principal amount of our 2022 Notes bearing an annual interest rate of 2.25%. Semi-annual payments on our 2022 Notes commenced on December 15, 2015. Quarterly interest payments on our 2026 Notes commenced on June 15, 2017 and, pursuant to the associated indenture, beginning in March 2019 we are obligated to make quarterly payments on our 2026 Notes equal to the greater of (i) 7.5% of net sales of linaclotide in the U.S. for the preceding quarter and (ii) the accrued and unpaid interest on the 2026 Notes. Principal on the 2026 Notes is to be repaid in an amount equal to the difference between (i) and (ii) above, when this is a positive number, until the principal has been paid in full. We expect that for the next few years, at a minimum, the net quarterly payments from Allergan will be a significant source of cash flow from operations. If the cash flows derived from the net quarterly payments that we receive from Allergan under the collaboration agreement for North America are insufficient on any particular payment date to fund the interest payment on our outstanding indebtedness, at a minimum, we will be obligated to pay the amounts of such shortfall out of our general funds. The determination of whether Allergan will be obligated to make a net quarterly payment to us in respect of a particular quarterly period is a function of the revenue generated by LINZESS in the U.S. as well as the development, manufacturing and commercialization expenses incurred by each of us and Allergan under the collaboration agreement for North America. Accordingly, since we cannot guarantee when, or if, our company will become profitable or cash flow positive, we cannot provide assurances that (i) we will have the available funds to fund the interest payment on our outstanding indebtedness, at a minimum, in the event that there is a deficiency in the net quarterly payment received from Allergan, (ii) there will be a net quarterly payment from Allergan at all or (iii) we will not also be required to make a true-up payment to Allergan under the collaboration agreement for North America, in each case, in respect of a particular quarterly period.
Our indebtedness could adversely affect our financial condition or restrict our future operations.
As of December 31, 2017, we had total indebtedness of approximately $485.7 million and available cash, cash equivalents and available for sale securities of approximately $221.4 million. We chose to issue our 2026 Notes (in connection with the redemption, in full, of our PhaRMA Notes) and our 2022 Notes based on the additional strategic
optionality that they create for us, and the limited restrictions that these debt securities place on our ability to run our business compared to other potential available financing transactions. However, our indebtedness, combined with our other financial obligations and contractual commitments, could have other important consequences on our business, including:
·
limiting our ability to obtain additional financing to fund future working capital, capital expenditures or other general corporate purposes, including product development, commercialization efforts, research and development activities, strategic arrangements, acquisitions and refinancing of our outstanding debt;
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requiring a substantial portion of our cash flow to be dedicated to debt service payments instead of other purposes, thereby reducing the amount of cash flow available for working capital, capital expenditures, corporate transactions and other general corporate purposes;
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increasing our vulnerability to adverse changes in general economic, industry and competitive conditions;
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limiting our flexibility in planning for and reacting to changes in the industry in which we compete;
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placing us at a disadvantage compared to other, less leveraged competitors or competitors with comparable debt at more favorable interest rates; and
·
increasing our cost of borrowing.
If we do not generate sufficient cash flow from operations or if future borrowings are not available to us in an amount sufficient to pay our indebtedness, including payments of principal when due on our outstanding indebtedness or, in the case of our 2022 Notes, in connection with a transaction involving us that constitutes a fundamental change under the indenture governing the 2022 Notes, or to fund our liquidity needs, we may be forced to refinance all or a portion of our indebtedness on or before the maturity dates thereof, sell assets, reduce or delay currently planned activities or curtail operations, seek to raise additional capital or take other actions. We may not be able to execute any of these actions on commercially reasonable terms or at all. This, together with any of the factors described above, could materially and adversely affect our business, financial condition and results of operations.
In addition, while our 2022 Notes do not include covenants restricting the operation of our business except in certain limited circumstances, in the event of a default under the 2022 Notes, the noteholders or the trustee under the indenture governing the 2022 Notes may accelerate our payment obligations under the 2022 Notes, which could have a material adverse effect on our business, financial condition and results of operations. We are also required to offer to repurchase the 2022 Notes upon the occurrence of a fundamental change, which could include, among other things, any acquisition of our company (other than an acquisition in which at least 90% of the consideration is common stock listed on The NASDAQ Global or Global Select Market or The New York Stock Exchange), subject to the terms of the 2022 Notes indenture. The repurchase price must be paid in cash, and this obligation may have the effect of discouraging, delaying or preventing an acquisition of our company that would otherwise be beneficial to our security holders.
Further, although we are not as restricted under our 2026 Notes as we might have been under a more traditional secured credit facility provided by a bank, the indenture governing our 2026 Notes contains a number of restrictive covenants that impose restrictions on us and may limit our ability to engage in certain acts, including restrictions on our ability to:
·
amend our collaboration agreement with Allergan for North America in a way that would have a material adverse effect on the noteholders’ rights, or terminate this collaboration agreement with respect to the U.S.;
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transfer our rights to commercialize the product under our collaboration agreement with Allergan for North America; and
·
incur certain liens.
Upon a breach of the covenants under our 2026 Notes indenture, or if certain other defaults thereunder occur, the holders of our 2026 Notes could elect to declare all amounts outstanding under our 2026 Notes to be immediately due and payable and we cannot be certain that we will have sufficient assets to repay them. If we are unable to repay
those amounts, the holders of our 2026 Notes could proceed against the collateral granted to them to secure the debt securities and we could be forced into bankruptcy or liquidation. If we breach our covenants under our 2026 Notes indenture and seek a waiver, we may not be able to obtain a waiver from the required noteholders. If this occurs, we would be in default under our 2026 Notes indenture and the holders of our 2026 Notes could exercise their rights, as described above.
Each of our 2026 Notes and 2022 Notes also include cross-default features providing that a default under the indenture governing either the 2026 Notes or the 2022 Notes would likely result in a default under the indenture governing the other indebtedness. In the event of such default, the trustee or noteholders could elect to declare all amounts outstanding to be immediately due and payable under the applicable indenture, which could have a material adverse effect on our business, financial condition and results of operations.
Convertible note hedge and warrant transactions entered into in connection with our 2022 Notes may affect the value of our Class A common stock.
In connection with our 2022 Notes, we entered into Convertible Note Hedges and separate Note Hedge Warrant transactions with certain financial institutions. These transactions are expected generally to reduce the potential dilution upon any conversion of our 2022 Notes or offset any cash payments we are required to make in excess of the principal amount of converted 2022 Notes, as the case may be.
In connection with these transactions, the financial institutions purchased our Class A common stock in secondary market transactions and entered into various over-the-counter derivative transactions with respect to our Class A common stock. These entities or their affiliates are likely to modify their hedge positions from time to time prior to conversion or maturity of the 2022 Notes by purchasing and selling shares of our Class A common stock or other instruments they may wish to use in connection with such hedging. Any of these activities could adversely affect the value of our Class A common stock and, as a result, the number of shares and the value of the Class A common stock noteholders will receive upon conversion of the 2022 Notes. In addition, under certain circumstances the counterparties have the right to terminate the Convertible Note Hedges and settle the Note Hedge Warrants at fair value (as defined in the applicable confirmations), which may result in us not receiving all or any portion of the anticipated benefit of the Convertible Note Hedges. If the price of our Class A common stock increases such that the hedge transactions settle in our favor, we could also be exposed to credit risk related to the counterparties to the Convertible Note Hedges, which would limit or eliminate the benefit of such transactions to us.
Our quarterly and annual operating results may fluctuate significantly.
We expect our operating results to be subject to frequent fluctuations. Our net loss and other operating results will be affected by numerous factors, including:
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the level of underlying demand for our products in the countries in which they are approved;
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wholesalers’ buying patterns with respect to our products;
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the costs associated with commercializing our products in the U.S.;
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the achievement and timing of milestone payments and royalties due or payable under our collaboration and license agreements;
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our execution of any collaboration, partnership, licensing or other strategic arrangements, and the timing of payments we may make or receive under these arrangements;
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any excess or obsolete inventory, and associated write-downs;
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any changes in the fair value of contingent consideration and the associated impact on our statement of operations;
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any variations in the level of expenses related to our development programs;
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addition or termination of clinical trials;
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regulatory developments affecting our products and product candidates; and
·
any material lawsuit in which we may become involved.
In addition, any impairments of goodwill or intangible assets and any associated write-downs would have a negative effect on our operating results. Determining whether an impairment exists and the amount of the potential impairment is subject to significant uncertainty and involves the use of estimates and assumptions. For example, our ZURAMPIC and DUZALLO intangible assets are significant. We have made a number of estimates and assumptions about these products that could change significantly, including with respect to their commercial performance. We expect the data received in 2018 from our systematic exploration of a more comprehensive marketing mix in select test markets to inform our future investment in the lesinurad franchise, any of which may impact our estimates and assumptions. If there is a change to our estimates or assumptions for these or other reasons, our ZURAMPIC and DUZALLO intangible assets may become impaired and we may be required to recognize a material write-down.
If our operating results fall below the expectations of investors or securities analysts for any of the foregoing reasons or otherwise, the price of our Class A common stock could decline substantially. Furthermore, any quarterly or annual fluctuations in our operating results may, in turn, cause the price of our stock to fluctuate substantially.
Our ability to use net operating loss and tax credit carryforwards and certain built-in losses to reduce future tax payments is limited by provisions of the Internal Revenue Code, and it is possible that our net operating loss and tax credit carryforwards may expire before we generate sufficient taxable income to use such carryforwards, or that certain transactions or a combination of certain transactions may result in material additional limitations on our ability to use our net operating loss and tax credit carryforwards.
We have incurred significant net losses since our inception and cannot guarantee when, if ever, we will become profitable. To the extent that we continue to generate federal and state taxable losses, unused net operating loss and tax credit carryforwards will carry forward to offset future taxable income, if any, until the date, if any, on which such unused carryforwards expire. Sections 382 and 383 of the Internal Revenue Code of 1986, as amended, contain rules that limit the ability of a company that undergoes an ownership change, which is generally any change in ownership of more than 50% of its stock over a three-year period, to utilize its net operating loss and tax credit carryforwards and certain built-in losses recognized in years after the ownership change. These rules generally operate by focusing on ownership changes involving stockholders owning directly or indirectly 5% or more of the stock of a company and any change in ownership arising from a new issuance of stock by the company. Generally, if an ownership change occurs, the yearly taxable income limitation on the use of net operating loss and tax credit carryforwards and certain built-in losses is equal to the product of the applicable long term tax exempt rate and the value of the company’s stock immediately before the ownership change.
If we do not generate sufficient taxable income prior to the expiration, if any, of the applicable carryforwards or if the carryforwards are subject to the limitations described above, we may be unable to offset our taxable income with losses, or our tax liability with credits, before such losses and credits expire and therefore would incur larger federal or state income tax liability. We have completed several financings since our inception which may have resulted in a change in control as defined by Section 382, or could result in a change in control in the future.
Risks Relating to Securities Markets and Investment in Our Stock
Anti-takeover provisions under our charter documents and Delaware law could delay or prevent a change of control which could negatively impact the market price of our Class A common stock.
Provisions in our certificate of incorporation and bylaws may have the effect of delaying or preventing a change of control. These provisions include the following:
·
Our certificate of incorporation provides for a dual class common stock structure. As a result of this structure, holders of our Class B common stock have significant influence over certain matters requiring stockholder approval, including a merger involving Ironwood, a sale of substantially all Ironwood assets and a dissolution or liquidation of Ironwood. This concentrated control could discourage others from initiating a change of control transaction that other stockholders may view as beneficial.
·
Our board of directors is divided into three classes serving staggered three-year terms, such that not all members of the board are elected at one time. This staggered board structure prevents stockholders from replacing the entire board at a single stockholders’ meeting.
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Our board of directors has the right to elect directors to fill a vacancy created by the expansion of the board of directors or the resignation, death or removal of a director, which prevents stockholders from being able to fill vacancies on our board of directors.
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Our board of directors may issue, without stockholder approval, shares of preferred stock. The ability to authorize preferred stock makes it possible for our board of directors to issue preferred stock with voting or other rights or preferences that could impede the success of any attempt to acquire us.
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Stockholders must provide advance notice to nominate individuals for election to the board of directors or to propose matters that can be acted upon at a stockholders’ meeting. Furthermore, stockholders may only remove a member of our board of directors for cause. These provisions may discourage or deter a potential acquirer from conducting a solicitation of proxies to elect such acquirer’s own slate of directors or otherwise attempting to obtain control of our company.
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Our stockholders may not act by written consent. As a result, a holder, or holders, controlling a majority of our capital stock are not able to take certain actions outside of a stockholders’ meeting.
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Special meetings of stockholders may be called only by the chairman of our board of directors, our chief executive officer or a majority of our board of directors. As a result, a holder, or holders, controlling a majority of our capital stock are not able to call a special meeting.
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A majority of the outstanding shares of Class B common stock are required to amend our certificate of incorporation and a super-majority (80%) of the outstanding shares of common stock are required to amend our bylaws, which make it more difficult to change the provisions described above.
In addition, we are governed by the provisions of Section 203 of the Delaware General Corporation Law, which may prohibit certain business combinations with stockholders owning 15% or more of our outstanding voting stock. These and other provisions in our certificate of incorporation and our bylaws and in the Delaware General Corporation Law could make it more difficult for stockholders or potential acquirers to obtain control of our board of directors or initiate actions that are opposed by the then-current board of directors.
The concentration of voting control on certain corporate matters with our pre-IPO stockholders will limit the ability of the holders of our Class A common stock to influence such matters.
Because of our dual class common stock structure, the holders of our Class B common stock, who consist of our pre-IPO investors (and their affiliates), founders, directors, executives and certain of our employees, are able to control certain corporate matters listed below if any such matter is submitted to our stockholders for approval even though such stockholders own less than 50% of the outstanding shares of our common stock. As of December 31, 2017, there were 136,465,526 and 13,983,762 shares of our Class A common stock and Class B common stock issued and outstanding, respectively, and an aggregate of 19,549,828 and 1,536,470 outstanding stock options (vested and unvested) and 2,277,165 and no unvested restricted stock units for shares of our Class A common stock and Class B common stock, respectively. As of December 31, 2017, the holders of our Class A common stock own approximately 91% and the holders of our Class B common stock own approximately 9% of the outstanding shares of Class A common stock and Class B common stock, combined. However, because of our dual class common stock structure these holders of our Class A common stock have approximately 49% and holders of our Class B common stock have approximately 51% of the total votes on each of the matters identified in the list below. This concentrated control of our Class B common stockholders limits the ability of the Class A common stockholders to influence those corporate matters and, as a result, we may take actions that many of our stockholders do not view as beneficial, which could adversely affect the market price of our Class A common stock.
Each share of Class A common stock and each share of Class B common stock has one vote per share on all matters except for the following matters, for which each share of our Class B common stock has ten votes per share and each share of our Class A common stock has one vote per share:
·
adoption of a merger or consolidation agreement involving Ironwood;
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a sale of all or substantially all of Ironwood’s assets;
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a dissolution or liquidation of Ironwood; and
·
every matter, if and when any individual, entity or “group” (as that term is used in Regulation 13D of the Exchange Act) has, or has publicly disclosed (through a press release or a filing with the SEC) an intent to have, beneficial ownership of 30% or more of the number of outstanding shares of Class A common stock and Class B common stock, combined.
We expect that, in accordance with the terms of our certificate of incorporation, each outstanding share of Class B common stock will automatically convert into one share of Class A common stock on December 31, 2018.
If we identify a material weakness in our internal control over financial reporting, it could have an adverse effect on our business and financial results and our ability to meet our reporting obligations could be negatively affected, each of which could negatively affect the trading price of our Class A common stock.
A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of our annual or interim financial statements will not be prevented or detected on a timely basis. Accordingly, a material weakness increases the risk that the financial information we report contains material errors.
We regularly review and update our internal controls, disclosure controls and procedures, and corporate governance policies. In addition, we are required under the Sarbanes-Oxley Act of 2002 to report annually on our internal control over financial reporting. Our system of internal controls, however well-designed and operated, is based in part on certain assumptions and includes elements that rely on information from third parties, including our partners. Our system can provide only reasonable, not absolute, assurances that the objectives of the system are met. If we, or our independent registered public accounting firm, determine that our internal controls over financial reporting are not effective, or we discover areas that need improvement in the future, these shortcomings could have an adverse effect on our business and financial results, and the price of our Class A common stock could be negatively affected.
Further, we are dependent on our partners for information related to our results of operations. Our net profit or net loss generated from the sales of LINZESS in the U.S. is partially determined based on amounts provided by Allergan and involves the use of estimates and judgments, which could be modified in the future. We are highly dependent on our linaclotide partners for timely and accurate information regarding any revenues realized from sales of linaclotide in their respective territories, and in the case of Allergan for the U.S. and AstraZeneca for China, Hong Kong and Macau, the costs incurred in developing and commercializing it in order to accurately report our results of operations. Our results of operations are also dependent on the timeliness and accuracy of information from any other licensing, collaboration or other partners we may have, as well as our and our partners’ use of estimates and judgments. If we do not receive timely and accurate information or if estimated activity levels associated with the relevant collaboration or partnership at a given point in time are incorrect, whether the result of a material weakness or not, we could be required to record adjustments in future periods. Such adjustments, if significant, could have an adverse effect on our financial results, which could lead to a decline in our Class A common stock price.
If we cannot conclude that we have effective internal control over our financial reporting, or if our independent registered public accounting firm is unable to provide an unqualified opinion regarding the effectiveness of our internal control over financial reporting, investors could lose confidence in the reliability of our financial statements, which could lead to a decline in our stock price. Failure to comply with reporting requirements could also subject us to sanctions and/or investigations by the SEC, The NASDAQ Stock Market or other regulatory authorities.
We expect that the price of our Class A common stock will fluctuate substantially.
The market price of our Class A common stock may be highly volatile due to many factors, including:
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the commercial performance of our products in the countries in which they are approved, as well as the costs associated with such activities;
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any third-party coverage and reimbursement policies for our products;
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market conditions in the pharmaceutical and biotechnology sectors;
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developments, litigation or public concern about the safety of our products or our potential products;
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announcements of the introduction of new products by us or our competitors;
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announcements concerning product development results, including clinical trial results, or intellectual property rights of us or others;
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actual and anticipated fluctuations in our quarterly and annual operating results;
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deviations in our operating results from any guidance we may provide or the estimates of securities analysts;
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sales of additional shares of our common stock or sales of securities convertible into common stock or the perception that these sales might occur;
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additions or departures of key personnel;
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developments concerning current or future collaboration, partnership, licensing or other strategic arrangements; and
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discussion of us or our stock price in the financial or scientific press or in online investor communities.
The realization of any of the risks described in these “Risk Factors” could have a dramatic and material adverse impact on the market price of our Class A common stock. In addition, class action litigation has often been instituted against companies whose securities have experienced periods of volatility. Any such litigation brought against us could result in substantial costs and a diversion of management attention, which could hurt our business, operating results and financial condition.
Item 1B.
Item 1B. Unresolved Staff Comments
None.
Item 2.
Item 2. Properties
Our corporate headquarters and operations are located in Cambridge, Massachusetts, where, as of December 31, 2017, we occupied approximately 223,000 square feet of office and laboratory space under our lease expiring in January 2025. We believe that our facilities are suitable and adequate for our needs for the foreseeable future.
Item 3.
Item 3. Legal Proceedings
Actions in which we are the Plaintiff
LINZESS
We and Allergan have received Paragraph IV certification notice letters, or Notice Letters, regarding Abbreviated New Drug Applications, or ANDAs, submitted to the FDA by generic drug manufacturers requesting approval to engage in commercial manufacture, use, sale and offer for sale of (i) 145 mcg and 290 mcg linaclotide capsules, or the Potential Generic Products, and/or (ii) 72 mcg linaclotide capsules, or the Potential 72mcg Generic Products, each proposed generic versions of our FDA-approved drug LINZESS.
(145 mcg and 290 mcg)
In October 2016, we received a Notice Letter relating to an ANDA that was submitted to the FDA by Teva Pharmaceuticals USA, Inc., or Teva. Teva’s Notice Letter contends that United States patents for LINZESS (U.S. Patent Nos. 7,371,727, 7,704,947, 7,745,409, 8,080,526, and 8,110,553 (expiring 2024); 7,304,036 (expiring 2026); and 8,748,573, 8,802,628, and 8,933,030 (expiring 2031), or the Challenged Patents) listed in the FDA’s list of Approved Drug Products with Therapeutic Equivalence Evaluations, commonly referred to as the Orange Book, are invalid,
unenforceable and/or would not be infringed by Teva’s manufacture, use, sale or offer for sale of the Potential Generic Products. In September 2017, we received a second Notice Letter relating to the ANDA submitted to the FDA by Teva contending that U.S. Patent No. 9,708,371 (expiring 2033) listed in the Orange Book is invalid and/or would not be infringed by Teva’s manufacture, use, sale or offer for sale of the Potential Generic Products.
In October 2016, we received a Notice Letter relating to an ANDA that was submitted to the FDA by Aurobindo Pharma Ltd., or Aurobindo, contending that certain of the Challenged Patents (U.S. Patent Nos. 8,748,573, 8,802,628, and 8,933,030) are invalid and/or would not be infringed by Aurobindo’s manufacture, use, sale or offer for sale of the Potential Generic Products. In July 2017, we received a second Notice Letter relating to the ANDA submitted to the FDA by Aurobindo contending that the other Challenged Patents (U.S. Patent Nos. 7,371,727, 7,704,947, 7,745,409, 8,080,526, 8,110,553, and 7,304,036) are invalid and/or would not be infringed by Aurobindo’s manufacture, use, sale or offer for sale of the Potential Generic Products.
In November 2016, we received a Notice Letter relating to an ANDA that was submitted to the FDA by Sandoz Inc., or Sandoz, contending that all of the Challenged Patents are invalid, unenforceable and/or would not be infringed by Sandoz’s manufacture, use, sale or offer for sale of the Potential Generic Products. In January 2018, we received a second Notice Letter relating to the ANDA submitted to the FDA by Sandoz contending that U.S. Patent No. 9,708,371 is invalid and/or would not be infringed by Sandoz’s manufacture, use, sale or offer for sale of the Potential Generic Products.
In November 2016, we received a Notice Letter relating to an ANDA that was submitted to the FDA by Mylan Pharmaceuticals Inc., or Mylan, contending that all of the Challenged Patents are invalid, unenforceable and/or would not be infringed by Mylan’s manufacture, use, sale or offer for sale of the Potential Generic Products. In October 2017, we received a second Notice Letter relating to the ANDA submitted to the FDA by Mylan contending that U.S. Patent No. 9,708,371 is invalid and/or would not be infringed by Mylan’s manufacture, use, sale or offer for sale of the Potential Generic Products.
In May 2017, we received a Notice Letter relating to an ANDA that was submitted to the FDA by Sun Pharma Global FZE, or Sun, contending that certain of the Challenged Patents (U.S. Patent Nos. 8,748,573, 8,802,628, and 8,933,030) are invalid and/or would not be infringed by Sun’s manufacture, use, sale or offer for sale of the Potential Generic Products.
In response to the four ANDAs for which we received Notice Letters in 2016, we and Allergan filed a lawsuit against these generic drug manufacturers in Delaware District Court in November 2016. We asserted that the Challenged Patents are valid and infringed by Teva, Sandoz and Mylan, and that U.S. Patent No. 8,933,030 is valid and infringed by Aurobindo and an affiliate of Aurobindo. In June 2017, we and Allergan filed a lawsuit against Sun and an affiliate of Sun in Delaware District Court. We asserted that U.S. Patent No. 8,933,030 is valid and infringed by Sun and its affiliate. In August 2017, we and Allergan filed a lawsuit against Aurobindo and its affiliate in Delaware District Court, related to Aurobindo’s second Notice Letter. We asserted that U.S. Patent Nos. 7,371,727, 7,704,947, 7,745,409, 8,080,526, 8,110,553, and 7,304,036 are valid and infringed by Aurobindo and its affiliate. This lawsuit has been consolidated with the lawsuit filed in November 2016. In accordance with the Hatch-Waxman Act, the timely filing of the lawsuits against the ANDA filers with respect to the Challenged Patents triggered an automatic stay of the FDA’s approval of the five ANDAs until February 29, 2020 (unless there is a final court decision adverse to us and Allergan sooner). In October 2017, November 2017, and January 2018, we and Allergan filed lawsuits against Teva, Mylan, and Sandoz, respectively, each in Delaware District Court, related to each of their respective second Notice Letters. We asserted that U.S. Patent No. 9,708,371 is valid and infringed by each of Teva, Mylan and Sandoz. The lawsuits filed in October 2017, November 2017, and January 2018 against Teva, Mylan and Sandoz, respectively, have been consolidated with the lawsuit filed in November 2016.
Mylan responded to our lawsuit in December 2016, asserting defenses of, among other things, lack of subject matter and personal jurisdiction and improper venue. In January 2017, each of Teva and Sandoz filed an answer and counterclaims seeking declaratory judgment of invalidity and non-infringement of the Challenged Patents. In April 2017, Aurobindo and its affiliate filed an answer and counterclaims seeking declaratory judgment of invalidity and non-infringement of U.S. Patent No. 8,933,030. On July 13, 2017, Mylan filed a motion to dismiss for improper venue. In September 2017, Aurobindo and its affiliate filed an answer and counterclaims seeking declaratory judgment of invalidity and non-infringement of U.S. Patent Nos. 7,371,727, 7,704,947, 7,745,409, 8,080,526, 8,110,553, and 7,304,036. In November 2017, Teva filed an answer and counterclaims seeking declaratory judgment of invalidity and
non-infringement of U.S. Patent No. 9,708,371. In December 2017, Mylan filed an answer to the lawsuit that we and Allergan filed in November 2017.
In January 2018, we and Allergan entered into a settlement agreement with Sun and its affiliate. Pursuant to the terms of the settlement, we and Allergan will grant Sun and its affiliate a license to market a generic version of LINZESS in the United States beginning on February 1, 2031 (subject to FDA approval), unless certain limited circumstances, customary for settlement agreements of this nature, occur. As a result of the settlement, all Hatch-Waxman litigation between the companies and Sun regarding LINZESS patents has been dismissed.
Trial is scheduled in June 2019 for the action involving Teva, Sandoz, Mylan and Aurobindo.
(72 mcg)
In December 2017 and February 2018, we received Notice Letters relating to ANDAs that were submitted to the FDA by Teva and Mylan, respectively. Teva’s and Mylan’s Notice Letters each contend that U.S. Patent Nos. 7,371,727, 7,704,947, 7,745,409, 8,080,526, and 8,110,553; 7,304,036; 8,933,030; and 9,708,371, or the 72mcg Challenged Patents, are invalid, unenforceable and/or would not be infringed by Teva’s or Mylan’s respective manufacture, use, sale or offer for sale of the Potential 72 mcg Generic Product.
In February 2018, we and Allergan filed a lawsuit against Teva in Delaware District Court. We asserted that the 72mcg Challenged Patents are valid and infringed by Teva.
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
Shares of our Class A common stock are traded on the Nasdaq Global Select Market under the symbol “IRWD.” Our shares have been publicly traded since February 3, 2010. The following table furnishes the high and low sales prices for our Class A common stock as reported by The Nasdaq Global Select Market for each quarter in the years ended December 31, 2017 and 2016:
As of February 12, 2018, there were 44 stockholders of record of our Class A common stock and 59 stockholders of record of our Class B common stock. The number of record holders is based upon the actual number of holders registered on the books of the company at such date and does not include holders of shares in “street names” or persons, partnerships, associations, corporations or other entities identified in security position listings maintained by depositories.
Subject to preferences that may apply to any shares of preferred stock outstanding at the time, the holders of Class A common stock and Class B common stock are entitled to share equally in any dividends that our board of directors may determine to issue from time to time. In the event a dividend is paid in the form of shares of common stock or rights to acquire shares of common stock, the holders of Class A common stock will receive Class A common stock, or rights to acquire Class A common stock, as the case may be, and the holders of Class B common stock will receive Class B common stock, or rights to acquire Class B common stock, as the case may be.
We have never declared or paid any cash dividends on our capital stock, and we do not currently anticipate declaring or paying cash dividends on our capital stock in the foreseeable future. We currently intend to retain all of our future earnings, if any, to finance operations. Any future determination relating to our dividend policy will be made at the discretion of our board of directors and will depend on a number of factors, including future earnings, capital requirements, financial conditions, future prospects, contractual restrictions and covenants and other factors that our board of directors may deem relevant.
The information required to be disclosed by Item 201(d) of Regulation S-K, “Securities Authorized for Issuance Under Equity Compensation Plans,” is referenced under Item 12 of Part III of this Annual Report on Form 10-K.
Corporate Performance Graph
The following performance graph and related information shall not be deemed to be “soliciting material” or to be “filed” with the SEC, nor shall such information be incorporated by reference into any future filing under the Securities Act of 1933, as amended, or the Securities Act, except to the extent that we specifically incorporate it by reference into such filing.
The following graph compares the performance of our Class A common stock to the Nasdaq Benchmark TR Index (U.S.) and to the Nasdaq Pharmaceutical Benchmark TR Index (U.S.) from December 31, 2012 through December 29, 2017. The comparison assumes $100 was invested after the market closed on December 31, 2012 in our Class A common stock and in each of the presented indices, and it assumes reinvestment of dividends, if any.
COMPARISON OF QUARTERLY CUMULATIVE TOTAL RETURN
Among The Nasdaq Benchmark TR Index (U.S.),
the Nasdaq Pharmaceutical Benchmark TR Index (U.S.)
and Ironwood Pharmaceuticals, Inc.
Item 6.
Item 6. Selected Financial Data
You should read the following selected financial data together with our consolidated financial statements and the related notes appearing elsewhere in this Annual Report on Form 10-K. We have derived the consolidated statements of operations data for the years ended December 31, 2017, 2016 and 2015 and the consolidated balance sheet data as of December 31, 2017 and 2016 from our audited financial statements included elsewhere in this Annual Report on Form 10-K. We have derived the consolidated statements of operations data for the years ended December 31, 2014 and 2013 and the consolidated balance sheet data as of December 31, 2015, 2014 and 2013 from our audited financial statements not included in this Annual Report on Form 10-K. Our historical results for any prior period are not necessarily indicative of results to be expected in any future period.
(1)
Collaborative arrangements revenue for the year ended December 31, 2017 included approximately $256.2 million related to our share of sales of LINZESS in the U.S.
Collaborative arrangements revenue for the year ended December 31, 2016 included approximately $217.7 million related to our share of sales of LINZESS in the U.S. and $30.0 million related to the receipt of milestone payments under our license agreement with Astellas for the filing and approval of a new drug application for LINZESS with the Japanese Ministry of Health, Labor and Welfare.
Collaborative arrangements revenue for the year ended December 31, 2014 includes approximately $10.2 million related to the receipt of a milestone payment under our license agreement with Astellas for the enrollment of the first study subject in a Phase III study for linaclotide in Japan, which was achieved in
November 2014, and also includes approximately $1.9 million in payments from Almirall related to the achievement of two commercial milestones under the license agreement with Almirall.
Collaborative arrangements revenue for the year ended December 31, 2013 includes approximately $1.9 million in payments from Almirall related to the achievement of two milestones under the license agreement with Almirall.
(2)
Cost of revenues for the year ended December 31, 2017 included approximately $2.6 million related to ZURAMPIC and DUZALLO product sales.
(3)
During the year ended December 31, 2017, we wrote down approximately $0.3 million of prepaid ZURAMPIC commercial supply as a result of revised demand forecasts.
During the year ended December 31, 2016, we wrote down approximately $0.4 million of prepaid ZURAMPIC commercial supply as a result of revised demand forecasts.
During the year ended December 31, 2015, we recorded expenses of approximately $17.6 million for the write-down of inventory and an accrual for excess non-cancelable inventory purchase commitments related to linaclotide API. These charges primarily related to a reduction in the near term demand forecast for CONSTELLA in the European territory by Almirall, our former European partner; regulatory changes made by the China Food and Drug Administration to the marketing approval process in China; and the amendment to the license agreement with Allergan pertaining to the development and commercialization of linaclotide for Europe executed in October 2015. Pursuant to the terms of the amendment, Allergan assumed responsibility for the manufacturing of linaclotide API for Europe, as well as the associated costs, which resulted in accruing for a loss on non-cancelable inventory purchase commitments under one of our API supply agreements covering the commercial supply of linaclotide API for the European market.
During the year ended December 31, 2014, we recorded approximately $20.3 million as a write-down of inventory to an estimated net realizable value of approximately $5.0 million. This write-down was primarily attributable to Almirall’s reduced inventory demand forecasts for the European territory, mainly due to the suspension of commercialization of CONSTELLA in Germany and a challenging commercial environment throughout Europe.
These charges are more fully described in Note 9, Inventory, to our consolidated financial statements appearing elsewhere in this Annual Report on Form 10-K.
(4)
During the year ended December 31, 2014, we recorded approximately $4.2 million of costs related to a reduction in workforce in the three months ended March 31, 2014, including employee severance, benefits and related costs and adjustments. These costs are reflected in our consolidated statement of operations for the year ended December 31, 2014 as approximately $3.0 million in research and development expenses and approximately $1.2 million in selling, general and administrative expenses.
(5)
Amortization of acquired intangible asset is based on the economic consumption of intangible assets. Our amortization is related to the ZURAMPIC and DUZALLO intangible assets, which are amortized on a straight-line basis over the estimated useful life.
(6)
Gain (loss) on fair value remeasurement of contingent consideration is related to our contingent consideration liability pursuant to our exclusive license to develop, manufacture, and commercialize products containing lesinurad as an active ingredient, including ZURAMPIC and DUZALLO, in the U.S. The contingent consideration liability is revalued at each reporting period and changes in the fair value, other than changes due to payments, are recognized as a gain (loss) on fair value remeasurement of contingent consideration in our statement of operations. Adjustments are recorded when there are changes in significant assumptions, including net sales projections, probability weighted net cash outflow projections, the discount rate, passage of time, and the yield curve equivalent to our credit risk, which is based on the estimated cost of debt for market participants. During the year ended December 31, 2017, we decreased our ZURAMPIC and DUZALLO
revenue projections. Accordingly, the expected estimated future royalty and milestone payments to AstraZeneca decreased, resulting in an approximately $31.3 million decrease to the contingent consideration liability.
(7)
Gain (loss) on derivatives consists of the change in fair value of our Convertible Note Hedges and Note Hedge Warrants, which are recorded as derivative assets and liabilities. The Convertible Note Hedges and the Note Hedge Warrants are recorded at fair value at each reporting period and changes in fair value are recorded in our consolidated statements of operations. The Convertible Note Hedges and Note Hedge Warrants are more fully described in Note 7, Fair Value of Financial Instruments, and Note 12, Notes Payable, to our consolidated financial statements appearing elsewhere in this Annual Report on Form 10-K.
(8)
Loss on extinguishment of debt was due to the write-off of remaining unamortized debt issuance costs on the 11% PhaRMA Notes due 2024, or the PhaRMA Notes, as part of the redemption in January 2017.
(1)
Debt financing and convertible notes, including current portion, as of December 31, 2016 includes approximately $132.2 relating to the PhaRMA Notes, which were redeemed, in full, in connection with the funding and issuance in January 2017 of $150.0 million in aggregate principal amount of 8.375% notes due 2026, or the 2026 Notes, and approximately $234.2 relating to the convertible notes.
Item 7.
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Forward-Looking Information
The following discussion of our financial condition and results of operations should be read in conjunction with our consolidated financial statements and the notes to those financial statements appearing elsewhere in this Annual Report on Form 10-K. This discussion contains forward-looking statements that involve significant risks and uncertainties. As a result of many factors, such as those set forth under “Risk Factors” in Item 1A of this Annual Report on Form 10-K, our actual results may differ materially from those anticipated in these forward-looking statements.
Overview
We are a commercial biotechnology company leveraging our proven development and commercial capabilities as we seek to bring multiple medicines to patients. We are advancing innovative product opportunities in areas of large unmet need, based upon our target-to-disease approach to development and leveraging our core areas of expertise in gastrointestinal, or GI diseases and primary care, as well as in guanylate cyclase, or GC, pathways.
Our first commercial product, linaclotide, is available to adult men and women suffering from irritable bowel syndrome with constipation, or IBS-C, or chronic idiopathic constipation, or CIC, in certain countries around the world. Linaclotide is available under the trademarked name LINZESS® to adult men and women suffering from IBS-C or CIC in the United States, or the U.S., and Mexico, and to adult men and women suffering from IBS-C in Japan. Linaclotide is available under the trademarked name CONSTELLA® to adult men and women suffering from IBS-C or CIC in Canada, and to adult men and women suffering from IBS-C in certain European countries.
We and our partner Allergan plc (together with its affiliates), or Allergan, began commercializing LINZESS in the U.S. in December 2012. Under our collaboration with Allergan for North America, total net sales of LINZESS in the U.S., as recorded by Allergan, are reduced by commercial costs incurred by each party, and the resulting amount is shared equally between us and Allergan. Allergan has an exclusive license from us to develop and commercialize linaclotide in all countries other than China, Hong Kong, Macau, Japan, and the countries and territories of North America, or the Allergan License Territory. On a country-by-country and product-by-product basis in the Allergan License Territory, Allergan pays us royalties as a percentage of net sales of products containing linaclotide as an active ingredient. In addition, Allergan has exclusive rights to commercialize linaclotide in Canada as CONSTELLA and in Mexico as LINZESS.
Astellas Pharma Inc., or Astellas, our partner in Japan, has an exclusive license to develop and commercialize linaclotide in Japan. In March 2017, Astellas began commercializing LINZESS for the treatment of adults with IBS-C in Japan, and in September 2017, Astellas submitted a supplemental new drug application for approval of LINZESS for the treatment of adult patients with chronic constipation in Japan. In October 2012, we entered into a collaboration agreement with AstraZeneca AB (together with its affiliates), or AstraZeneca, to co-develop and co-commercialize linaclotide in China, Hong Kong and Macau, with AstraZeneca having primary responsibility for the local operational execution. In December 2015, we and AstraZeneca filed for approval with the China Food and Drug Administration, or CFDA, to market linaclotide in China.
During 2017, we and Allergan were advancing two delayed release formulations, linaclotide delayed release-1 and linaclotide delayed release-2. In November 2017, we announced an updated linaclotide life cycle management strategy in the U.S. to further support the achievement of the key objectives of the program, which include strengthening the clinical profile of linaclotide by obtaining additional abdominal symptom claims and expanding the clinical utility of linaclotide by demonstrating the pain-relieving effect of a delayed release formulation, through the advancement of linaclotide delayed release-2, in all forms of IBS. We and Allergan are also continuing to explore ways to enhance the clinical profile of LINZESS by studying linaclotide in additional indications, populations and formulations to assess its potential to treat various conditions. With this updated strategy, we and Allergan no longer intend to pursue linaclotide delayed release-1.
We are also advancing another GI development program, IW-3718, a gastric retentive formulation of a bile acid sequestrant, for the potential treatment of uncontrolled gastroesophageal reflux disease, or uncontrolled GERD. Our clinical research has demonstrated that reflux of bile from the intestine to the stomach and esophagus plays a key role in the ongoing symptoms of uncontrolled GERD. IW-3718 is a novel formulation of a bile acid sequestrant designed to release in the stomach over an extended period of time, bind to bile that refluxes into the stomach, and potentially provide symptomatic relief in patients with uncontrolled GERD. In July 2017, we reported positive top-line data from a Phase IIb clinical trial evaluating IW-3718 that we believe support advancement of this program into Phase III development.
In June 2016, we closed a transaction with AstraZeneca, or the Lesinurad Transaction, pursuant to which we received an exclusive license to develop, manufacture, and commercialize in the U.S. products containing lesinurad as an active ingredient, or the Lesinurad License, including ZURAMPIC® and DUZALLO®. Lesinurad 200mg tablets were approved as ZURAMPIC by the U.S. Food and Drug Administration, or FDA, in December 2015 for use in combination with a xanthine oxidase inhibitor, or XOI, for the treatment of hyperuricemia associated with uncontrolled gout. In October 2016, we began commercializing ZURAMPIC in the U.S. The FDA approved DUZALLO, a fixed-dose combination product of lesinurad and allopurinol, in August 2017 for the treatment of hyperuricemia associated with gout in adults who have not achieved goal serum uric acid levels with a medically appropriate daily dose of allopurinol alone. In October 2017, we began commercializing DUZALLO in the U.S. We have accounted for the Lesinurad Transaction in accordance with Accounting Standards Codification, or ASC, Topic 805, Business Combination, or ASC 805, as the Lesinurad Transaction meets the requirements of a business combination. The transaction is more fully described in Note 4, Business Combinations, to our consolidated financial statements appearing elsewhere in this Annual Report on Form 10-K. In January 2018, we commenced an initiative to evaluate the optimal mix of investments for our lesinurad franchise for uncontrolled gout, including DUZALLO and ZURAMPIC. As part of this effort, in 2018 we are re-allocating resources within our lesinurad franchise to systematically explore a more comprehensive marketing mix in select test markets (with paired controls), while continuing to build market presence for the lesinurad franchise across the country. We expect the data received in 2018 from these test markets to inform our future investment in the lesinurad franchise.
We are also leveraging our pharmacological expertise in GC pathways gained through the discovery and development of linaclotide, a GC-C agonist, to develop a pipeline of soluble guanylate cyclase, or sGC, stimulators, including praliciguat (IW-1973) and IW-1701. We are advancing praliciguat, our lead clinical sGC stimulator, for the potential treatment of diabetic nephropathy and for the potential treatment of heart failure with preserved ejection fraction, or HFpEF. Data supported the continued advancement of praliciguat for evaluation as a potential treatment for patients with diabetic nephropathy and patients with HFpEF. Our second clinical sGC stimulator, IW-1701, is being evaluated for the potential treatment of achalasia and sickle cell disease.
As part of our strategy, we have also established development and commercial capabilities that we plan to leverage as we seek to bring multiple medicines to patients. We intend to play an active role in the development and commercialization of our products in the U.S., and to establish a strong global brand by out-licensing commercialization rights in other territories to high-performing partners.
In August 2015, we and Allergan entered into an agreement for the co-promotion of VIBERZI® (eluxadoline) in the U.S., Allergan’s treatment for adults suffering from IBS with diarrhea, or IBS-D, which expired in December 2017. In January 2017, we and Allergan entered into a commercial agreement under which the adjustments to our or Allergan’s share of the net profits under the share adjustment provision of the collaboration agreement for linaclotide in North America are eliminated, in full, in 2018 and all subsequent years. In addition, Allergan appointed us, on a non-exclusive basis, to promote CANASA® (mesalamine), approved for the treatment of ulcerative proctitis, and DELZICOL® (mesalamine), approved for the treatment of ulcerative colitis, in the U.S. for approximately two years. In December 2017, this agreement was amended to include the promotion of VIBERZI through December 31, 2018 and to discontinue the promotion of DELZICOL effective January 1, 2018. These agreements are more fully described in Note 5, Collaboration, License, Co-Promotion and Other Commercial Agreements, to our consolidated financial statements appearing elsewhere in this Annual Report on Form 10-K.
In June 2015, we issued approximately $335.7 million in aggregate principal amount of 2.25% Convertible Senior Notes due 2022, or the 2022 Notes. In September 2016, we closed a direct private placement, pursuant to which we subsequently issued $150.0 million in aggregate principal amount of 8.375% notes due 2026, or the 2026 Notes, on January 5, 2017, or the Funding Date. The proceeds from the issuance of the 2026 Notes were used to redeem the outstanding principal balance of the 11% PhaRMA Notes due 2024, or the PhaRMA Notes, on the Funding Date. The net proceeds from these financings are being used to support the commercialization of LINZESS, ZURAMPIC and DUZALLO in the U.S. and to fund linaclotide, lesinurad and other development opportunities to advance our strategy to grow a leading commercial biotechnology company, in addition to other general corporate purposes. These transactions are more fully described in Note 12, Notes Payable, to our consolidated financial statements appearing elsewhere in this Annual Report on Form 10-K.
We were incorporated in Delaware on January 5, 1998 as Microbia, Inc. On April 7, 2008, we changed our name to Ironwood Pharmaceuticals, Inc. We operate in one reportable business segment-human therapeutics.
To date, we have dedicated a majority of our activities to the research, development and commercialization of linaclotide and the commercialization of lesinurad, as well as to the research and development of our other product candidates. We have incurred significant operating losses since our inception in 1998. As of December 31, 2017, we had an accumulated deficit of approximately $1.3 billion. We are unable to predict the extent of any future losses or guarantee when, or if, our company will become cash flow positive.
On January 30, 2018, we commenced an initiative to evaluate the optimal mix of investments for our lesinurad franchise. As part of this effort, we reduced our field-based workforce by approximately 60 employees, primarily consisting of field-based sales representatives that promote DUZALLO or ZURAMPIC in the first position, that we expect to be completed during the first quarter of 2018. We estimate that we will incur aggregate charges in connection with the reduction in its field-based workforce of approximately $2.3 million to $2.8 million for one-time employee severance and benefit costs, which will be recorded in the first quarter of 2018, of which approximately 92% are expected to result in cash expenditures.
Key Performance Indicators
(dollars in thousands, per share amounts in dollars)
The following charts summarize key metrics of revenue, earnings (losses), and operating cash use:
These metrics are more fully described in the Results of Operations and Liquidity and Capital Resources sections below.
Financial Overview
Revenues. Our revenues generated primarily through collaborative arrangements and license agreements related to the research and development and commercialization of linaclotide, as well as co-promotion arrangements in the U.S. and product revenue related to the commercial sale of ZURAMPIC and DUZALLO in the U.S. The terms of the collaborative research and development, license and co-promotion agreements contain multiple deliverables which may include (i) licenses, (ii) research and development activities, (iii) the manufacture of finished drug product, active pharmaceutical ingredient, or API, or development materials for a partner which are reimbursed at a contractually determined rate, and (iv) co-promotion activities by our clinical sales specialists. Payments to us may include (i) up-front license fees, (ii) payments for research and development activities, (iii) payments for the manufacture of finished drug product, API or development materials, (iv) payments based upon the achievement of certain milestones, (v) payments for sales detailing, promotional support services and medical education initiatives and (vi) royalties on product sales. Additionally, we receive our share of the net profits or bear our share of the net losses from the sale of linaclotide in the U.S. and China.
We record our share of the net profits and losses from the sales of LINZESS in the U.S. on a net basis and present the settlement payments to and from Allergan as collaboration expense or collaborative arrangements revenue, as applicable. Net profits or losses consist of net sales to third-party customers and sublicense income in the U.S. less the cost of goods sold as well as selling, general and administrative expenses. Although we expect net sales to increase over time, the settlement payments between Allergan and us, resulting in collaborative arrangements revenue or collaboration expense, are subject to fluctuation based on the ratio of selling, general and administrative expenses incurred by each party. In addition, our collaborative arrangements revenue may fluctuate as a result of the timing and amount of license fees and clinical and commercial milestones received and recognized under our current and future strategic partnerships as well as timing and amount of royalties from the sales of linaclotide in the European, Canadian or Mexican markets or any other markets where linaclotide receives approval.
We record product revenue related to the sales of ZURAMPIC and DUZALLO, or the Lesinurad Products, in the U.S. in accordance with ASC 605, Revenue Recognition, or ASC 605, when persuasive evidence of an arrangement exists, delivery has occurred and title of the product and associated risk of loss has passed to the customer, the price is fixed or determinable and collection from the customer has been reasonably assured. ZURAMPIC product revenue, and our recognition thereof, is more fully described in Note 2, Summary of Significant Accounting Policies.
Cost of Revenues. Cost of revenues includes cost related to the sales of linaclotide API and drug product, as well as the cost of product revenue related to sales of the Lesinurad Products in the U.S. Cost related to the sales of linaclotide API and drug product are recognized upon shipment of linaclotide API and drug product to certain of our partners outside of the U.S. Our cost of revenue for linaclotide consists of the internal and external costs of producing such API and drug product. Cost of product revenue related to the sales of the Lesinurad Products in the U.S. includes the cost of producing finished goods that correspond with product revenue for the reporting period, such as third-party supply and overhead costs, as well as certain period costs related to freight, packaging, stability and quality testing, and customer acquisition.
Write-down of Inventory to Net Realizable Value and Loss on Non-cancelable Inventory and Commercial Supply Purchase Commitments. During the year ended December 31, 2017, we wrote-down an insignificant amount of prepaid ZURAMPIC commercial supply as a result of revised demand forecasts. During the year ended December 31, 2016, we wrote-down approximately $0.4 million of prepaid ZURAMPIC commercial supply as result of revised demand forecasts. Additionally, during the year ended December 31, 2017, we recorded an expense of approximately $0.2 million for excess non-cancelable ZURAMPIC commercial supply purchase commitments, pursuant to our forecasts, as a result of a reduction in near-term forecasted demand.
During the year ended December 31, 2015, we recorded expenses of approximately $17.6 million for the write-down of inventory and an accrual for excess non-cancelable inventory purchase commitments related to linaclotide API. These charges primarily related to a reduction in the near term demand forecast for CONSTELLA in the European territory by Almirall; regulatory changes made by the CFDA to the marketing approval process in China; and the amendment to the license agreement with Allergan pertaining to the development and commercialization of linaclotide for Europe executed in October 2015. Pursuant to the terms of the amendment, Allergan assumed responsibility for the
manufacturing of linaclotide API for Europe, as well as the associated costs, which resulted in accruing for a loss on non-cancelable inventory purchase commitments during the three months ended September 30, 2015, under one of our API supply agreements covering the commercial supply of linaclotide API for the European market. We have evaluated all remaining minimum purchase commitments under our linaclotide API supply agreements through 2023 and concluded that the approximately $17.8 million of purchase commitments from the second API supply agreement covering the Japan, China, Hong Kong and Macau markets are realizable based on the current forecasts received from our partners in these territories and our internal forecasts, as well as purchase orders received from our partners for the coming year.
These charges are more fully described in Note 9, Inventory, and Note 13, Commitments and Contingencies to our consolidated financial statements appearing elsewhere in this Annual Report on Form 10-K.
Research and Development Expense. Research and development expense consists of expenses incurred in connection with the discovery and development of our product candidates. These expenses consist primarily of compensation, benefits and other employee-related expenses, research and development related facility costs, third-party contract costs relating to nonclinical study and clinical trial activities, development of manufacturing processes, regulatory registration of third-party manufacturing facilities, as well as licensing fees for our product candidates. We charge all research and development expenses to operations as incurred. Under our linaclotide collaboration agreements with Allergan for the U.S. and AstraZeneca for China, Hong Kong and Macau, we are reimbursed for certain research and development expenses, and we net these reimbursements against our research and development expenses as incurred. Amounts owed to Allergan or AstraZeneca for such linaclotide territories are recorded as incremental research and development expense.
The core of our research and development strategy is to leverage our development capabilities, as well as our pharmacologic expertise, to bring multiple medicines to patients. We are advancing innovative product opportunities in areas of large unmet need, including IBS-C and CIC, abdominal pain associated with lower GI disorders, hyperuricemia associated with uncontrolled gout, uncontrolled GERD, diabetic nephropathy, HFpEF and specialty diseases, including sickle cell disease and achalasia.
Linaclotide. Linaclotide is the first FDA-approved guanylate cyclase type-C, or GC-C, agonist. Linaclotide is approved and commercially available in the U.S., Japan and in a number of E.U. and other countries.
We and Allergan are exploring development opportunities in the U.S. to enhance the clinical profile of LINZESS by studying linaclotide in additional indications, populations and formulations to assess its potential to treat various conditions. In January 2017, the FDA approved a 72 mcg dose of LINZESS for adults with CIC, which became available in the U.S. in March 2017. The 72 mcg dose provides a broader range of treatment options to physicians and adult CIC patients in the U.S.
We and Allergan plan to advance linaclotide delayed release-2 as a visceral, non-opioid, pain-relieving agent for patients suffering from all IBS subtypes. and have established a plan with the FDA for clinical pediatric studies with linaclotide, as described below. We and Allergan no longer intend to pursue linaclotide as a potential treatment of the GI dysfunction associated with opioid induced constipation.
Lesinurad. Lesinurad 200mg tablets were approved as ZURAMPIC by the FDA in December 2015. In October 2016, we began commercializing ZURAMPIC in the U.S. The FDA approved DUZALLO, the fixed-dose combination product of lesinurad and allopurinol in August 2017 for the treatment of hyperuricemia associated with gout in patients who have not achieved goal serum uric acid levels with a medically appropriate daily dose of allopurinol alone. In October 2017, we began commercializing DUZALLO in the U.S.
The FDA has required a post-marketing clinical study to further evaluate the renal and cardiovascular safety of lesinurad, and has required that enrollment include patients with moderate renal impairment. Subject to the terms of the Lesinurad License, AstraZeneca was obligated to conduct certain activities related to this post-marketing clinical study and we were obligated to reimburse AstraZeneca for such activities. Pursuant to the Lesinurad License, during the year ended December 31, 2017, we and AstraZeneca transitioned the obligation for post-marketing activities required by the FDA from AstraZeneca to us. The post-marketing requirements for lesinurad are estimated to be less than $100.0 million over up to ten years from June 2, 2016, or the Acquisition Date.
Development Candidates. We are advancing our uncontrolled GERD program through the development of IW-3718, a gastric retentive formulation of a bile acid sequestrant. IW-3718 is designed to release in the stomach over an extended period of time, bind to bile that refluxes into the stomach, and potentially provide symptomatic relief in patients with uncontrolled GERD. In July 2017, we reported positive top-line data from a Phase IIb clinical trial evaluating IW-3718 in adult patients with uncontrolled GERD.
We are currently progressing our first two sGC candidates in clinical development, praliciguat and IW-1701, which have distinct pharmacologic profiles that we believe may be differentiating and enable opportunities in multiple indications. Praliciguat is being evaluated as a potential treatment for HFpEF. IW-1701 is being evaluated as a potential treatment for sickle cell disease and achalasia.
We have additional assets in early development that we continue to advance, and we are exploring strategic options for further development of these assets.
Discovery Research. Our discovery efforts are primarily focused on identifying novel clinical candidates that draw on our proprietary and expanding expertise in GI disorders and GC pathways.
The following table sets forth our research and development expenses related to our product pipeline for the years ended December 31, 2017, 2016 and 2015. These expenses relate primarily to internal compensation, benefits and other employee-related expenses and external costs associated with nonclinical studies and clinical trial costs for our product candidates. We allocate costs related to facilities, depreciation, share-based compensation, research and development support services, laboratory supplies and certain other costs directly to programs.
(1)
Includes linaclotide in all indications, populations and formulations.
(2)
Includes lesinurad in all indications, populations and formulations.
(3)
Number of compounds includes clinical-stage development candidates for the year ended December 31, 2017.
Since 2004, the date we began tracking costs by program, we have incurred approximately $428.9 million of research and development expenses related to linaclotide. The expenses for linaclotide include both our portion of the research and development costs incurred by Allergan for the U.S. and AstraZeneca for China, Hong Kong and Macau and invoiced to us under the cost-sharing provisions of our collaboration agreements, as well as the unreimbursed portion of research and development costs incurred by us under such cost-sharing provisions.
The lengthy process of securing regulatory approvals for new drugs requires the expenditure of substantial resources. Any failure by us to obtain, or any delay in obtaining, regulatory approvals would materially adversely affect our product development efforts and our business overall.
In connection with the FDA approval of LINZESS, we are required to conduct certain nonclinical and clinical studies, including those aimed at understanding: (a) whether orally administered linaclotide can be detected in breast milk, (b) the potential for antibodies to be developed to linaclotide, and if so, (c) whether antibodies specific for linaclotide could have any therapeutic or safety implications. In addition, we and Allergan established a nonclinical and clinical post-marketing plan with the FDA to understand the efficacy and safety of LINZESS in pediatric patients. We and Allergan have initiated two Phase II clinical pediatric studies in IBS-C patients age seven to 17 and functional constipation patients age six to 17. We and Allergan are also exploring development opportunities to enhance the clinical
profile of LINZESS by studying linaclotide in additional indications, populations and formulations to assess its potential to treat various conditions. In October 2012, we entered into a collaboration agreement with AstraZeneca to co-develop and co-commercialize linaclotide in China, Hong Kong and Macau, with AstraZeneca having primary responsibility for the local operational execution. We cannot currently estimate with any degree of certainty the amount of time or money that we will be required to expend in the future on linaclotide for other geographic markets within IBS-C and CIC, or in additional indications, populations or formulations.
In December 2015, the FDA approved ZURAMPIC for use in conjunction with an XOI for the treatment of hyperuricemia associated with uncontrolled gout. In connection with the FDA approval, the FDA has required a post-marketing clinical study to further evaluate the renal and cardiovascular safety of lesinurad, and has required that enrollment include patients with moderate renal impairment. Pursuant to the Lesinurad License, during the year ended December 31, 2017, we and AstraZeneca transitioned the obligation for post-marketing activities required by the FDA from AstraZeneca to us. These post-marketing requirements are estimated to be less than $100.0 million over up to ten years from the Acquisition Date. The FDA approved DUZALLO, the fixed-dose combination product containing lesinurad and allopurinol, in August 2017 for the treatment of hyperuricemia associated with gout in patients who have not achieved goal serum uric acid levels with a medically appropriate daily dose of allopurinol alone.
We are also advancing other development programs such as IW-3718, targeting uncontrolled GERD, praliciguat targeting diabetic nephropathy and HFpEF and IW-1701 targeting sickle cell disease and achalasia.
Given the inherent uncertainties that come with the development of pharmaceutical products, we cannot estimate with any degree of certainty how our programs will evolve, and therefore the amount of time or money that would be required to obtain regulatory approval to market them.
As a result of these uncertainties surrounding the timing and outcome of any approvals, we are currently unable to estimate precisely when, if ever, linaclotide or lesinurad’s utility will be expanded within their currently approved indications, if or when linaclotide or lesinurad will be developed outside of their current markets, indications, populations or formulations, or when, if ever, any of our other product candidates will generate revenues and cash flows.
We invest carefully in our pipeline, and the commitment of funding for each subsequent stage of our development programs is dependent upon the receipt of clear, supportive data. In addition, we intend to access externally discovered drug candidates that fit within our core strategy. In evaluating these potential assets, we apply the same investment criteria as those used for investments in internally discovered assets.
The successful development of our product candidates is highly uncertain and subject to a number of risks including, but not limited to:
·
The duration of clinical trials may vary substantially according to the type, complexity and novelty of the product candidate.
·
The FDA and comparable agencies in foreign countries impose substantial and varying requirements on the introduction of therapeutic pharmaceutical products, typically requiring lengthy and detailed laboratory and clinical testing procedures, sampling activities and other costly and time-consuming procedures.
·
Data obtained from nonclinical and clinical activities at any step in the testing process may be adverse and lead to discontinuation or redirection of development activity. Data obtained from these activities also are susceptible to varying interpretations, which could delay, limit or prevent regulatory approval.
·
The duration and cost of discovery, nonclinical studies and clinical trials may vary significantly over the life of a product candidate and are difficult to predict.
·
The costs, timing and outcome of regulatory review of a product candidate may not be favorable, and, even if approved, a product may face post-approval development and regulatory requirements.
·
There may be substantial costs, delays and difficulties in successfully integrating externally developed product candidates into our business operations.
·
The emergence of competing technologies and products and other adverse market developments may negatively impact us.
As a result of the factors discussed above, including the factors discussed under “Risk Factors” in Item 1A of this Annual Report on Form 10-K, we are unable to determine the duration and costs to complete current or future nonclinical and clinical stages of our product candidates or when, or to what extent, we will generate revenues from the commercialization and sale of our product candidates. Development timelines, probability of success and development costs vary widely. We anticipate that we will make determinations as to which additional programs to pursue and how much funding to direct to each program on an ongoing basis in response to the data of each product candidate, the competitive landscape and ongoing assessments of such product candidate’s commercial potential.
We expect our research and development costs will be substantial for the foreseeable future. We will continue to invest in linaclotide and lesinurad, including the investigation of ways to enhance the clinical profile within their currently approved indications, and the exploration of their potential utility in other indications, populations and formulations. We will also invest in our other product candidates as we advance them through nonclinical studies and clinical trials, in addition to funding full-time equivalents for research and development activities under our external collaboration and license agreements.
Selling, General and Administrative Expense. Selling, general and administrative expense consists primarily of compensation, benefits and other employee-related expenses for personnel in our administrative, finance, legal, information technology, business development, commercial, sales, marketing, communications and human resource functions. Other costs include the legal costs of pursuing patent protection of our intellectual property, general and administrative related facility costs, insurance costs and professional fees for accounting and legal services. As we continue to invest in the commercialization of LINZESS, ZURAMPIC and DUZALLO, we expect our selling, general and administrative expenses will be substantial for the foreseeable future. We record all selling, general and administrative expenses as incurred.
Under our AstraZeneca collaboration agreement for linaclotide, we are reimbursed for certain selling, general and administrative expenses and we net these reimbursements against our selling, general and administrative expenses as incurred. We include Allergan’s selling, general and administrative cost-sharing payments in the calculation of the net profits and net losses from the sale of LINZESS in the U.S. and present the net payment to or from Allergan as collaboration expense or collaborative arrangements revenue, respectively.
Amortization of Acquired Intangible Assets. Amortization expense is based on the economic consumption of intangible assets. Our amortization is related to the ZURAMPIC and DUZALLO intangible assets, which are amortized on a straight-line basis over the estimated useful life of the assets. We believe that the straight-line method of amortization represents the pattern in which the economic benefits of the intangible assets are consumed.
(Gain)/Loss on Fair Value Remeasurement of Contingent Consideration. Our contingent consideration obligation related to the Lesinurad Transaction consists of the fair value of estimated future milestone and royalty payments. This liability is revalued at each reporting period. Changes in the fair value of our contingent consideration, other than changes due to payments, are recognized as a (gain)/loss on fair value remeasurement of contingent consideration in our consolidated statement of operations. Adjustments are recorded when there are changes in significant assumptions, including net sales projections, probability weighted net cash outflow projections, the discount rate, passage of time, and the yield curve equivalent to our credit risk, which is based on the estimated cost of debt for market participants. During the year ended December 31, 2017, we decreased our ZURAMPIC and DUZALLO revenue projections. Accordingly, the expected estimated future royalty and milestone payments to AstraZeneca decreased, resulting in an approximately $31.3 million decrease to the contingent consideration liability.
Other (Expense) Income. Interest expense consists primarily of cash and non-cash interest costs related to the 2022 Notes and the 2026 Notes. Non-cash interest expense consists of amortization of the debt discount and associated debt issuance costs associated with the 2022 Notes and 2026 Notes. We amortize these costs using the effective interest rate method over the life of the respective note agreements as interest expense in our consolidated statements of operations.
Interest income consists of interest earned on our cash, cash equivalents and marketable securities.
In June 2015, in connection with the issuance of the 2022 Notes, we entered into convertible note hedge transactions, or the Convertible Note Hedges. Concurrently with entering into the Convertible Note Hedges, we also entered into certain warrant transactions in which we sold note hedge warrants, or the Note Hedge Warrants, to the Convertible Note Hedge counterparties to acquire 20,249,665 shares of our Class A common stock, subject to customary anti-dilution adjustments. Loss on derivatives consists of the change in fair value of the Convertible Note Hedges and Note Hedge Warrants, which are recorded as derivative assets and liabilities. The Convertible Note Hedges and the Note Hedge Warrants are recorded at fair value at each reporting period and changes in fair value are recorded in our consolidated statements of operations.
In September 2016, we closed a direct private placement, pursuant to which we issued $150.0 million in aggregate principal amount of 8.375% notes due 2026 on January 5, 2017, or the Funding Date. The proceeds from the issuance of the 2026 Notes were used to redeem the outstanding principal balance of the PhaRMA Notes on the Funding Date. This transaction is more fully described in Note 12, Notes Payable, to our consolidated financial statements appearing elsewhere in this Annual Report on Form 10-K.
Critical Accounting Policies and Estimates
Our discussion and analysis of our financial condition and results of operations is based upon our consolidated financial statements prepared in accordance with U.S. generally accepted accounting principles. The preparation of these financial statements requires us to make certain estimates and assumptions that may affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements, and the amounts of revenues and expenses during the reported periods. Significant estimates and assumptions in our consolidated financial statements include those related to revenue recognition, including returns, rebates, and other pricing adjustments; available-for-sale securities; inventory valuation, and related reserves; impairment of long-lived assets, including its acquired intangible assets and goodwill; initial valuation procedures for the issuance of convertible notes; fair value of derivatives; balance sheet classification of notes payable and convertible notes; income taxes, including the valuation allowance for deferred tax assets; research and development expenses; contingent consideration; contingencies and share-based compensation. We base our estimates on our historical experience and on various other assumptions that are believed to be reasonable, the results of which form the basis for making judgments about the carrying values of assets and liabilities. Actual results may differ materially from our estimates under different assumptions or conditions. Changes in estimates are reflected in reported results in the period in which they become known.
We believe that our application of the following accounting policies, each of which require significant judgments and estimates on the part of management, are the most critical to aid in fully understanding and evaluating our reported financial results. Our significant accounting policies are more fully described in Note 2, Summary of Significant Accounting Policies, to our consolidated financial statements appearing elsewhere in this Annual Report on Form 10-K.
Fair Value Measurements
We have certain assets and liabilities that are measured at fair value on a recurring basis, and which have been classified as Level 1, 2 or 3 within the fair value hierarchy as described in the accounting standards for fair value measurements. In general, fair values determined by Level 1 inputs utilize observable inputs such as quoted prices in active markets for identical assets or liabilities. Fair values determined by Level 2 inputs utilize data points that are either directly or indirectly observable, such as quoted prices for similar instruments in active markets, interest rates and yield curves. Fair values determined by Level 3 inputs utilize unobservable data points in which there is little or no market data, which require us to develop our own assumptions for the asset or liability.
Our investment portfolio includes mainly fixed income securities that do not always trade on a daily basis. As a result, the pricing services we use apply other available information as applicable through processes such as benchmark yields, benchmarking of like securities, sector groupings and matrix pricing to prepare valuations. In addition, model processes are used to assess interest rate impact and develop prepayment scenarios. These models take into consideration relevant credit information, perceived market movements, sector news and economic events. The inputs into these models may include benchmark yields, reported trades, broker-dealer quotes, issuer spreads and other relevant data. We validate the prices provided by our third party pricing services by obtaining market values from other pricing sources and analyzing pricing data in certain instances.
We classify our derivative financial instruments and contingent consideration as Level 3 under the fair value hierarchy. The derivatives are not actively traded and are valued using the Black-Scholes option pricing model which requires the use of subjective assumptions, primarily the expected stock price volatility assumption. The contingent consideration is not actively traded and is valued using the Monte-Carlo simulation which requires the use of subjective assumptions, including probability weighted net cash outflow projections, discounted using a yield curve equivalent to our credit risk, which was the estimated cost of debt financing for market participants. Adjustments are recorded when there are changes in significant assumptions, including net sales projections, probability weighted net cash outflow projections, the discount rate, passage of time, and the yield curve equivalent to our credit risk, which is based on the estimated cost of debt for market participants.
Inventory Valuation
Inventory is stated at the lower of cost or net realizable value with cost determined under the first-in, first-out basis in accordance with Accounting Standards Update, or ASU, No. 2015-11, Inventory (Topic 330): Simplifying the Measurement of Inventory.
We evaluate inventory levels quarterly and any inventory that has a cost basis in excess of its expected net realizable value, inventory that becomes obsolete, inventory in excess of expected sales requirements, inventory that fails to meet commercial sale specifications or is otherwise impaired is written down with a corresponding charge to the statement of operations in the period that the impairment is first identified. We also assess, on a quarterly basis, whether we have any excess non-cancelable purchase commitments resulting from minimum supply agreements with our suppliers. We rely on data from several sources to estimate the net realizable value of inventory and non-cancelable purchase commitments, including partner forecasts of projected inventory purchases that are received quarterly, our internal forecasts and related process, historical sales by geographic region, and the status of and progress toward commercialization of linaclotide in partnered territories.
We capitalize inventories manufactured in preparation for initiating sales of a product candidate when the related product candidate is considered to have a high likelihood of regulatory approval and the related costs are expected to be recoverable through sales of the inventories. In determining whether or not to capitalize such inventories, we evaluate, among other factors, information regarding the product candidate’s safety and efficacy, the status of regulatory submissions and communications with regulatory authorities and the outlook for commercial sales, including the existence of current or anticipated competitive drugs and the availability of reimbursement. In addition, we evaluate risks associated with manufacturing the product candidate, including the ability of our third-party suppliers to complete the validation batches, and the remaining shelf life of the inventories.
Costs associated with developmental products prior to satisfying the inventory capitalization criteria are charged to research and development expense as incurred.
There is a risk inherent in these judgments and any changes in these judgments may have a material impact on our financial results in future periods.
Finite-Lived and Indefinite-Lived Intangible Assets
We record the fair value of purchased intangible assets with finite useful lives as of the transaction date of a business combination. Purchased intangible assets with finite useful lives are amortized to their estimated residual values over their estimated useful lives. We amortize intangible assets that have finite lives using either the straight-line method, or if reliably determinable, based on the pattern in which the economic benefit of the asset is expected to be utilized. We evaluate the finite-lived intangible assets for impairment whenever events or changes in circumstances indicate the reduction in the fair value below their respective carrying amounts. In addition, the remaining estimated useful life of the finite-lived intangible asset would be reassessed.
The value of our finite-lived intangible assets are based on the future expected net cash flows related to ZURAMPIC and DUZALLO, or the Lesinurad Products, which include significant assumptions around future net sales and the respective investment to support these products.
In accordance with Accounting Standards Codification, or ASC, Topic 350, Intangibles - Goodwill and Other, or ASC 350, during the period that an asset is considered indefinite-lived, such as in-process research and development,
or IPR&D, it will not be amortized. Acquired IPR&D represents the fair value assigned to research and development assets that have not reached technological feasibility. The value assigned to acquired IPR&D is determined by estimating the costs to develop the acquired technology into commercially viable products, estimating the resulting revenue from the projects, and discounting the net cash flows to present value. The revenue and costs projections used to value acquired IPR&D are, as applicable, reduced based on the probability of success of developing a new drug. Additionally, the projections consider the relevant market sizes and growth factors, expected trends in technology, and the nature and expected timing of new product introductions by us and our competitors. The rates utilized to discount the net cash flows to their present value are commensurate with the stage of development of the projects and uncertainties in the economic estimates used in the projections. Upon the acquisition of IPR&D, we complete an assessment of whether our acquisition constitutes the purchase of a single asset or a group of assets. Multiple factors are considered in this assessment, including the nature of the technology acquired, the presence or absence of separate cash flows, the development process and stage of completion, quantitative significance and the rationale for entering into the transaction. Indefinite-lived assets are maintained on our consolidated balance sheet until either the project underlying it is completed or the asset becomes impaired. When development of an IPR&D asset is complete, the associated asset is deemed finite-lived and is then amortized based on its respective estimated useful life at that point.
We test indefinite-lived intangible assets for impairment annually as of October 1st, or more frequently if events or changes in circumstances indicate an impairment may have occurred. Additionally, we evaluate our finite-lived intangible assets for impairment whenever events or changes in circumstances indicate the reduction in the fair value below their respective carrying amounts. In connection with each annual impairment assessment and any interim impairment assessment in which indicators of impairment have been identified, we compare the fair value of the asset as of the date of the assessment with the carrying value of the asset on our consolidated balance sheet. If an indicator of impairment exists, we compare the carrying value of the intangible asset or asset group to the undiscounted cash flows expected from that asset or asset group. If impairment is indicated by this test, the intangible asset is written down by the amount by which the discounted cash flows expected from the intangible asset exceeds its carrying value. To estimate the fair value of the assets, we use market participant assumptions pursuant to ASC 820, Fair Value. We believe that the following factors, among others, could trigger an impairment review: significant underperformance relative to historical or projected future operating results, significant changes in the manner of our use of the acquired assets or the strategy for our overall business, approval of competitive products, significant negative industry or economic trends, and our ability to establish, maintain and/or expand the sales, marketing, distribution and market-access capabilities, or enter into and maintain agreements necessary for commercialization with payers and third-party providers on acceptable terms. If the estimates and assumptions about these products change significantly, including with respect to their commercial performance (such as any results of our systematic exploration of a more comprehensive marketing mix in select test markets), the finite-lived intangible assets may become impaired and we may be required to recognize a material write-down in the period in which the impairment occurs.
Goodwill
Goodwill represents the difference between the purchase price and the fair value of the identifiable tangible and intangible net assets when accounted for using the purchase method of accounting. Goodwill is not amortized, but is reviewed for impairment. We test goodwill for impairment annually as of October 1st, or more frequently if events or changes in circumstances indicate that would more likely than not reduce the fair value of the reporting unit below its carrying value. Impairment may result from, among other things, deterioration in the performance of the acquired asset, adverse market conditions, adverse changes in applicable laws or regulations and a variety of other circumstances. If we determine that an impairment has occurred, a write-down of the carrying value and an impairment charge to operating expenses in the period the determination is made is recorded. In evaluating the carrying value of goodwill, we must make assumptions regarding estimated future cash flows and other factors. Changes in strategy or market conditions could significantly impact those judgments in the future and require an adjustment to the recorded balances.
Derivative Assets and Liabilities
In June 2015, in connection with the issuance of the 2022 Notes, we entered into the Convertible Note Hedges. Concurrently with entering into the Convertible Note Hedges, we also entered into certain warrant transactions in which we sold Note Hedge Warrants to the Convertible Note Hedge counterparties to acquire 20,249,665 shares of our Class A common stock, subject to customary anti-dilution adjustments. These instruments are derivative financial instruments under ASC Topic 815, Derivatives and Hedging.
These derivatives are recorded as assets or liabilities at fair value each reporting period and the fair value is determined using the Black-Scholes option-pricing model. The changes in fair value are recorded as a component of other (expense) income in the consolidated statements of operations. Significant inputs used to determine the fair value include the price per share of our Class A common stock on the date of valuation, time to maturity of the derivative instruments, the strike prices of the derivative instruments, the risk-free interest rate, and the volatility of our Class A common stock. Changes to these inputs could materially affect the valuation of the Convertible Note Hedges and Note Hedge Warrants in future periods.
Revenue Recognition
Our revenues are generated primarily through collaborative arrangements and license agreements related to the research and development and commercialization of linaclotide, as well as co-promotion arrangements in the U.S. and product revenue related to the commercial sale of ZURAMPIC and DUZALLO in the U.S. The terms of the collaborative research and development, license, and co-promotion agreements contain multiple deliverables which may include (i) licenses, (ii) research and development activities, including participation on joint steering committees, (iii) the manufacture of finished drug product, API or development materials for a partner, which are reimbursed at a contractually determined rate, and (iv) co-promotion activities by our clinical sales specialists. Non-refundable payments to us under these agreements may include (i) up-front license fees, (ii) payments for research and development activities, (iii) payments for the manufacture of finished drug product, API or development materials, (iv) payments based upon the achievement of certain milestones, (v) payments for sales detailing, promotional support services and medical education initiatives, and (vi) royalties on product sales. Additionally, we may receive our share of the net profits or bear our share of the net losses from the sale of linaclotide in the U.S. and China through our collaborations with Allergan and AstraZeneca, respectively.
We evaluate revenue from new agreements that have multiple elements under the guidance of ASU No. 2009-13, Multiple-Deliverable Revenue Arrangements, or ASU 2009-13. We also evaluate whether amendments to our multiple element arrangements are considered material modifications that are subject to the application of ASU 2009-13. This evaluation requires us to assess all relevant facts and circumstances and to make subjective determinations and judgments. As part of this assessment, we consider whether the modification results in a material change to the arrangement, including whether there is a change in total arrangement consideration that is more than insignificant, whether there are changes in the deliverables included in the arrangement, whether there is a change in the term of the arrangement and whether there is a significant modification to the delivery schedule for contracted deliverables.
We identify the deliverables included within multiple element agreements and evaluate which deliverables represent separate units of accounting. We account for those components as separate elements when the following criteria are met:
·
the delivered items have value to the customer on a stand-alone basis; and
·
if there is a general right of return relative to the delivered items, delivery or performance of the undelivered items is considered probable and within our control.
This evaluation requires subjective determinations and requires us to make judgments about the individual deliverables and whether such deliverables are separable from the other aspects of the contractual relationship. In determining the units of accounting, we evaluate certain criteria, including whether the deliverables have standalone value, based on consideration of the relevant facts and circumstances for each arrangement. Factors considered in this determination include the research, manufacturing and commercialization capabilities of the partner and the availability of peptide research and manufacturing expertise in the general marketplace. In addition, we consider whether the collaborator can use the license or other deliverables for their intended purpose without the receipt of the remaining elements, and whether the value of the deliverable is dependent on the undelivered items and whether there are other vendors that can provide the undelivered items.
The consideration received is allocated among the separate units of accounting using the relative selling price method, and the applicable revenue recognition criteria are applied to each of the separate units.
We determine the estimated selling price for deliverables using vendor-specific objective evidence, or VSOE, of selling price, if available, third-party evidence, or TPE, of selling price if VSOE is not available, or best estimate of
selling price, or BESP, if neither VSOE nor TPE is available. Determining the BESP for a deliverable requires significant judgment. We use BESP to estimate the selling price for licenses to our proprietary technology, since we often do not have VSOE or TPE of selling price for these deliverables. In those circumstances where we utilize BESP to determine the estimated selling price of a license to our proprietary technology, we consider market conditions as well as entity-specific factors, including those factors contemplated in negotiating the agreements as well as internally developed models that include assumptions related to the market opportunity, estimated development costs, probability of success and the time needed to commercialize a product candidate pursuant to the license. In validating our BESP, we evaluate whether changes in the key assumptions used to determine the BESP will have a significant effect on the allocation of arrangement consideration between multiple deliverables.
We recognize revenue when there is persuasive evidence that an arrangement exists, services have been rendered or delivery has occurred, the price is fixed or determinable, and collection is reasonably assured.
For certain of our arrangements, particularly our linaclotide license agreement with Allergan for all countries worldwide other than China, Hong Kong, Macau, Japan, and the countries and territories of North America, it is required that taxes be withheld on payments to us. We have adopted a policy to recognize revenue net of these tax withholdings.
Net Profit or Net Loss Sharing
The determination of whether we should recognize revenue on a gross or net basis involves judgment based on the relevant facts and circumstances. In accordance with ASC Topic 808, Collaborative Arrangements, and ASC 605-45, Principal Agent Considerations, we consider the nature and contractual terms of the arrangement and the nature of our business operations to determine the classification of the transactions under our collaboration agreements. We record revenue transactions gross in the consolidated statements of operations if we are deemed the principal in the transaction, which includes being the primary obligor and having the risks and rewards of ownership.
We recognize our share of the pre-tax commercial net profit or net loss generated from the sales of LINZESS in the U.S. in the period the product sales are reported by Allergan and related cost of goods sold and selling, general and administrative expenses are incurred by us and our collaboration partner. These amounts are partially determined based on amounts provided by Allergan and involve the use of estimates and judgments, such as product sales allowances and accruals related to prompt payment discounts, chargebacks, governmental and contractual rebates, wholesaler fees, product returns, and co-payment assistance costs, which could be adjusted based on actual results in the future. We are highly dependent on Allergan for timely and accurate information regarding any net revenues realized from sales of LINZESS in the U.S. and the costs incurred in selling it, in order to accurately report our results of operations. For the periods covered in the consolidated financial statements presented, there have been no material changes to prior period estimates of revenues, cost of goods sold or selling, general and administrative expenses associated with the sales of LINZESS in the U.S. However, if we do not receive timely and accurate information or incorrectly estimate activity levels associated with the collaboration at a given point in time, we could be required to record adjustments in future periods.
We record our share of the net profits or net losses from the sales of LINZESS in the U.S. on a net basis and present the settlement payments to and from Allergan as collaboration expense or collaborative arrangements revenue, as applicable, as we are not the primary obligor and do not have the risks and rewards of ownership in the collaboration agreement with Allergan for North America. We and Allergan settle the cost sharing quarterly, such that our statement of operations reflects 50% of the pre-tax net profit or loss generated from sales of LINZESS in the U.S.
Up-Front License Fees
For nonrefundable up-front license fees related to arrangements entered into prior to the adoption of ASU 2009-13, we recognized revenues on a straight-line basis over the contracted or estimated period of performance since the license deliverables were not deemed to have value on a standalone basis under pre ASU 2009-13 guidance and we could not determine the fair value of the undelivered elements.
For nonrefundable up-front license fees related to arrangements entered into or materially modified after the adoption ASU 2009-13, we recognize revenue allocated to the license upon delivery, when we believe the license to our intellectual property has stand-alone value. This includes the amounts allocated to the license under the AstraZeneca collaboration agreement for linaclotide entered into in October 2012. When we recognize revenue allocated to the
license upon delivery under any of our collaborations, we may experience significant fluctuations in our collaborative arrangements revenues from quarter to quarter and year to year depending on the timing of transactions. When we believe the license to our intellectual property does not have stand-alone value from the other deliverables to be provided in the arrangement, it is combined with other deliverables and the revenue of the combined unit of accounting is recorded based on the method appropriate for the last delivered item.
Milestones
At the inception of each arrangement that includes pre-commercial milestone payments, we evaluate whether each pre-commercial milestone is substantive, in accordance with ASU No. 2010-17, Revenue Recognition-Milestone Method, or ASU 2010-17. This evaluation includes an assessment of whether (a) the consideration is commensurate with either (1) the entity’s performance to achieve the milestone, or (2) the enhancement of the value of the delivered item(s) as a result of a specific outcome resulting from the entity’s performance to achieve the milestone, (b) the consideration relates solely to past performance and (c) the consideration is reasonable relative to all of the deliverables and payment terms within the arrangement. We evaluate factors such as the scientific, clinical, regulatory, commercial and other risks that must be overcome to achieve the respective milestone, the level of effort and investment required and whether the milestone consideration is reasonable relative to all deliverables and payment terms in the arrangement in making this assessment. At December 31, 2017, we had no pre-commercial milestones that were deemed substantive. If a substantive pre-commercial milestone were achieved and collection of the related receivable was reasonably assured, we would recognize revenue related to the milestone in its entirety in the period in which the milestone was achieved. If we achieve milestones that we consider substantive under any of our collaborations, we may experience significant fluctuations in our collaborative arrangements revenue from quarter to quarter and year to year depending on the timing of achieving such substantive milestones. In those circumstances where a pre-commercial milestone is not substantive, we recognize as revenue on the date the milestone is achieved an amount equal to the applicable percentage of the performance period that had elapsed as of the date the milestone was achieved, with the balance being deferred and recognized over the remaining period of performance.
Commercial milestones are accounted for as royalties and are recorded as revenue upon achievement of the milestone, assuming all other revenue recognition criteria are met.
Royalties on Product Sales
We receive, or expect to receive in the future, royalty revenues under certain of our license or collaboration agreements. If we do not have any future performance obligations under these license or collaborations agreements, we record these revenues as earned. To the extent we do not have access to the royalty reports from our partners or the ability to accurately estimate the royalty revenue in the period earned, we record such royalty revenues one quarter in arrears.
Product Revenue, Net
Net product revenue is derived from sales of the Lesinurad Products, in the U.S. We sell ZURAMPIC and DUZALLO principally to a limited number of national wholesalers and selected regional wholesalers, or the Distributors. The Distributors subsequently resell the Lesinurad Products to patients and healthcare providers.
We recognize net product revenue from sales of the Lesinurad Products in accordance with ASC 605, Revenue Recognition, or ASC 605, when persuasive evidence of an arrangement exists, delivery has occurred and title of the product and associated risk of loss has passed to the customer, the price is fixed or determinable, and collection from the customer has been reasonably assured. ASC 605 requires, among other criteria, that future returns can be reasonably estimated in order to recognize revenue. We recognize revenue on a gross basis as we have concluded that we are the principal in the product revenue transactions for the Lesinurad Products, as we hold the general inventory risk, latitude in establishing price, physical loss inventory risk and credit risk.
We began commercializing ZURAMPIC in October 2016 and DUZALLO in October 2017 in the U.S. Initially, upon the product launch of each of the Lesinurad Products, we determined that we were not able to reliably make certain estimates, including returns, necessary to recognize product revenue upon shipment to Distributors. As a result, we had recorded net product revenue for the Lesinurad Products using a deferred revenue recognition model (sell-through). Under the deferred revenue model, we did not recognize revenue until the respective product was prescribed to an end-
user. Accordingly, we recognized net product revenue when the Lesinurad Products were prescribed to the end-user, on a first-in, first-out basis using estimated prescription demand and pharmacy demand from third party sources and our analysis of third party market research data, as well as other third party information through September 30, 2017.
During the three months ended December 31, 2017, we concluded we had sufficient volume of historical activity and visibility into the distribution channel, in order to reasonably make all estimates required under ASC 605 to recognize product revenue of the Lesinurad Products upon delivery to the Distributors. Accordingly, we recorded a cumulative adjustment of approximately $0.9 million to net product revenue and an insignificant amount to cost of revenues as a result of the transition to the sell-in revenue recognition model. During the three months and year ended December 31, 2017, product revenue is recognized upon delivery of the Lesinurad Products to the Distributors. We evaluate the creditworthiness of each of our Distributors to determine whether revenue can be recognized upon delivery, subject to satisfaction of the other requirements, or whether recognition is required to be delayed until receipt of payment. In order to conclude that the price is fixed or determinable, we must be able to (i) calculate our gross product revenue from the sales to Distributors and (ii) reasonably estimate our net product revenue. We calculate gross product revenue based on the wholesale acquisition cost that we charge our Distributors for ZURAMPIC and DUZALLO. We estimate our net product revenue by deducting from our gross product revenue (i) trade discounts and allowances, such as invoice discounts for prompt payment and distributor fees, (ii) estimated government and private payor rebates, chargebacks and discounts, such as Medicaid reimbursements, (iii) reserves for expected product returns and (iv) estimated costs of incentives offered to certain indirect customers including patients. These estimates could be adjusted based on actual results in the period such variances become known.
Trade Discounts and Allowances: We generally provide invoice discounts on sales of Lesinurad Products to our Distributors for prompt payment and pay fees for distribution services, such as fees for certain data that Distributors provide to us. Consistent with historical industry practice, we expect our Distributors to earn these discounts and fees, and accordingly deducts the full amount of these discounts and fees from our gross product revenues at the time such revenues are recognized.
Rebates, Chargebacks and Discounts: We contract with Medicaid, other government agencies and various private organizations, or Third-party Payors, to allow for eligible purchases of the Lesinurad Products at partial or full reimbursement from such Third-party Payors. We estimate the rebates, chargebacks and discounts we will be obligated to provide to Third-party Payors and deduct these estimated amounts from our gross product revenue at the time the revenue is recognized. Based upon (i) our contracts with these Third-party Payors, (ii) the government-mandated discounts applicable to government-funded programs, (iii) information obtained from our Distributors and third-parties regarding the payor mix for Lesinurad Products and (iv) historical industry information regarding the payor mix for analog products, we estimate the rebates, chargebacks and discounts that we will be obligated to provide to Third-party Payors.
Product Returns: We estimate the amount of Lesinurad Products that will be returned and deduct these estimated amounts from its gross revenue at the time the revenue is recognized. Our Distributors have the right to return unopened, unprescribed Lesinurad Products beginning six months prior to the labeled expiration date and ending twelve months after the labeled expiration date. The expiration date for the Lesinurad Products is up to 36 months after it has been converted into tablet form, which is the last step in the manufacturing process for Lesinurad Products and generally occurs within a few months before Lesinurad Products is delivered to Distributors. Reporting from the Distributors includes Distributor sales and inventory held by Distributors, which provides us with visibility into the distribution channel in order to determine which products, if any, were eligible to be returned.
Other Incentives: Incentives that we offer include voluntary patient assistance programs, such as co-pay assistance programs which are intended to provide financial assistance to qualified commercially insured patients with prescription drug co-payments required by payors. The calculation of the accrual for co-pay assistance is based on an estimate of claims and the cost per claim that we expect to receive associated with product that has been recognized as revenue, but remains in the distribution channel inventories at the end of each reporting period.
Product revenue is recorded net of the trade discounts, allowances, rebates, chargebacks, discounts, product returns, and other incentives. Certain of these adjustments are recorded as an accounts receivable reserve. As of December 31, 2017, the accounts receivable reserve related to product sales was approximately $0.4 million.
Other
We produce finished linaclotide drug product, API and development materials for certain of our partners.
We recognize revenue on linaclotide finished drug product, API and development materials when the material has passed all quality testing required for collaborator acceptance, delivery has occurred, title and risk of loss have transferred to the partner, the price is fixed or determinable, and collection is reasonably assured. As it relates to development materials and API produced for Astellas, we are reimbursed at a contracted rate. Such reimbursements are considered as part of revenue generated pursuant to the Astellas license agreement and are presented as sale of API. Any linaclotide finished drug product, API and development materials currently produced for Allergan for the U.S. or AstraZeneca for China, Hong Kong and Macau are recognized in accordance with the cost-sharing provisions of the Allergan and AstraZeneca collaboration agreements, respectively. In October 2015, Almirall transferred its exclusive license to develop and commercialize linaclotide in Europe to Allergan, and we separately entered into an amendment to the license agreement with Allergan relating to the development and commercialization of linaclotide in Europe. Pursuant to the terms of the amendment, Allergan assumed responsibility for the manufacturing of linaclotide API for Europe from us, as well as the associated costs. We may experience fluctuations in our collaborative arrangements revenue from quarter to quarter and year to year depending on the timing of such transactions.
The agreements above are more fully described in Note 5, Collaboration, License, Co-promotion and Other Commercial Agreements, in the accompanying notes to our consolidated financial statements appearing elsewhere in this Annual Report on Form 10-K.
Research and Development Expense
All research and development expenses are expensed as incurred. We defer and capitalize nonrefundable advance payments we make for research and development activities until the related goods are received or the related services are performed.
Research and development expenses are comprised of costs incurred in performing research and development activities, including salary, benefits and other employee-related expenses; share-based compensation expense; laboratory supplies and other direct expenses; facilities expenses; overhead expenses; third-party contractual costs relating to nonclinical studies and clinical trial activities and related contract manufacturing expenses, development of manufacturing processes and regulatory registration of third-party manufacturing facilities; licensing fees for our product candidates; and other outside expenses.
Clinical trial expenses include expenses associated with contract research organizations, or CROs. The invoicing from CROs for services rendered can lag several months. We accrue the cost of services rendered in connection with CRO activities based on our estimate of site management, monitoring costs, project management costs, and investigator fees. We maintain regular communication with our CRO vendors to gauge the reasonableness of our estimates. Differences between actual clinical trial expenses and estimated clinical trial expenses recorded have not been material and are adjusted for in the period in which they become known. However, if we incorrectly estimate activity levels associated with the CRO services at a given point in time, we could be required to record material adjustments in future periods. Under our Allergan and AstraZeneca linaclotide collaboration agreements for the U.S. and China, Hong Kong and Macau, respectively, we are reimbursed for certain research and development expenses and we net these reimbursements against our research and development expenses as incurred. Amounts owed to Allergan or AstraZeneca for such territories are recorded as incremental research and development expense. Nonrefundable advance payments for research and development activities are capitalized and expensed over the related service period or as goods are received. We have committed significant resources into the research and development of our product candidates and intend to continue to do so for the foreseeable future.
Share-Based Compensation Expense
We make certain assumptions in order to value and record expense associated with awards made under our share-based compensation arrangements. We estimate the fair value of the stock option awards for employees and non-employees using the Black-Scholes option-pricing model. The fair value of our restricted stock unit, or RSU, awards is based on the market value of our Class A common stock on the date of grant. Determining the fair value of share-based awards requires the use of highly subjective assumptions, including expected term of the award and
expected stock price volatility. For certain of these awards, we determine the appropriate amount to expense based on the anticipated achievement of performance targets, which requires judgment, including forecasting the achievement of future specified targets. Changes in these assumptions may lead to variability with respect to the amount of expense we recognize in connection with share-based payments.
We recognize compensation expense on a straight-line basis over the requisite service period based upon stock options that are ultimately expected to vest, and accordingly, such compensation expense is adjusted by the amount of estimated forfeitures. We estimate forfeitures over the requisite service period when recognizing share-based compensation expense based on historical rates and forward-looking factors; these estimates are adjusted to the extent that actual forfeitures differ, or are expected to materially differ, from our estimates.
We have also granted time-accelerated stock options with terms that allow the acceleration in vesting of the stock options upon the achievement of performance-based milestones specified in the grants. Share-based compensation expense associated with these time-accelerated stock options is recognized over the requisite service period of the awards or the implied service period, if shorter.
While the assumptions used to calculate and account for share-based compensation awards represent management’s best estimates, these estimates involve inherent uncertainties and the application of management’s judgment. As a result, if revisions are made to our underlying assumptions and estimates, our share-based compensation expense could vary significantly from period to period.
Business Combinations
We evaluate acquisitions of assets and other similar transactions to assess whether or not the transaction should be accounted for as a business combination by assessing whether or not we have acquired inputs and processes that have the ability to create outputs. If determined to be a business combination, we account for business acquisitions under the acquisition method of accounting as indicated in the Financial Accounting Standards Board, or FASB, issued ASC 805, which requires the acquiring entity in a business combination to recognize the fair value of all assets acquired, liabilities assumed, and any non-controlling interest in the acquiree and establishes the acquisition date as the fair value measurement point. Accordingly, we recognize assets acquired and liabilities assumed in business combinations, including contingent liabilities and non-controlling interest in the acquiree based on the fair value estimates as of the date of acquisition. In accordance with ASC 805, we recognize and measure goodwill as of the acquisition date, as the excess of the fair value of the consideration paid over the fair value of the identified net assets acquired.
The consideration for our business acquisitions include future payments that are contingent upon the occurrence of a particular event or events. The obligations for such contingent consideration payments are recorded at fair value on the acquisition date. The contingent consideration obligations are then evaluated each reporting period. Changes in the fair value of contingent consideration obligations, other than changes due to payments, are recognized as a (gain) loss on fair value remeasurement of contingent consideration in our consolidated statements of operations. Adjustments are recorded when there are changes in significant assumptions, including net sales projections, probability weighted net cash outflow projections, the discount rate, passage of time, and the yield curve equivalent to our credit risk, which is based on the estimated cost of debt for market participants. During the year ended December 31, 2017, we decreased certain of our net cash outflow projections associated with estimated future royalty and milestone payments, which resulted in an approximately $31.3 million decrease to the contingent consideration liability.
Results of Operations
The following discussion summarizes the key factors our management believes are necessary for an understanding of our consolidated financial statements.
Year Ended December 31, 2017 Compared to Year Ended December 31, 2016
Revenues
Collaborative Arrangements Revenue. The increase in revenue from collaborative arrangements of approximately $1.6 million for the year ended December 31, 2017 compared to the year ended December 31, 2016 was primarily related to an approximately $40.2 million increase in our share of the net profits from the sale of LINZESS in the U.S.; an approximately $1.8 million increase in royalty revenue based on sales of linaclotide in our partnered territories and other related royalties; and an approximately $0.2 million increase in drug product sales related to our collaboration agreement with AstraZeneca. The increases were partially offset by an approximately $39.0 million decrease attributable to the recognition of up-front payments and development milestones achieved in 2016 under our agreement with Astellas; an approximately $1.0 million decrease in revenue related to the Cologuard Co-Promotion Agreement which was terminated in 2017; an approximately $0.4 million decrease in revenue related to our license and co-promotion collaboration agreement with AstraZeneca for linaclotide; and an approximately $0.2 million decrease from our co-promotion agreement with Allergan for VIBERZI in the U.S.
Product revenue, net. The increase in net product revenue of approximately $3.0 million for the year ended December 31, 2017 compared to the year ended December 31, 2016 was primarily related to an approximately $2.4 million increase in net product sales of ZURAMPIC in the U.S.; and an approximately $0.6 million increase from commercializing DUZALLO in the U.S. in October 2017.
Sale of active pharmaceutical ingredient. The increase in revenue from sale of API of approximately $19.8 million for the year ended December 31, 2017 compared to the year ended December 31, 2016 was primarily related to an increase of approximately $24.2 million from shipments of linaclotide API to Astellas for Japan, and was partially offset by an approximately $4.5 million decrease in shipments of linaclotide API to Allergan for ex-US territories compared to 2016.
Cost and Expenses
Cost of Revenues, excluding amortization of acquired intangible assets. The increase in cost of revenue of approximately $17.2 million for the year ended December 31, 2017 compared to the year ended December 31, 2016 was primarily related to an increase of approximately $15.2 million due to higher sales of linaclotide API to our partners, and approximately $2.0 in costs associated with ZURAMPIC and DUZALLO product sales and lesinurad period costs related to freight, packaging, stability and quality testing, and customer acquisition. In October 2016, we began commercializing ZURAMPIC in the U.S. and in October 2017, we began commercializing DUZALLO in the U.S.
Write-down of commercial supply and inventory to net realizable value and loss on non-cancelable purchase commitments. The insignificant decrease in write-down of commercial supply and inventory for the year ended December 31, 2017 compared to the year ended December 31, 2016, was related to the write-down of lesinurad commercial supply. For the year ended December 31, 2016, we recorded a write-down of $0.4 million related to ZURAMPIC prepaid commercial supply as a result of revised demand forecasts. For the year ended December 31, 2017, we recorded a write-down of $0.3 million related to ZURAMPIC prepaid commercial supply and excess non-cancelable ZURAMPIC commercial supply purchase commitments as a result of revised demand forecasts.
Research and Development Expense. The increase in research and development expense of approximately $8.7 million for the year ended December 31, 2017 compared to the year ended December 31, 2016 was primarily related to an increase of approximately $8.9 million in research costs related to our early stage pipeline candidates; an increase of approximately $6.0 million in compensation, benefits and other employee related expenses primarily associated with increased headcount; and an increase of approximately $2.2 million in professional services, including consulting and search firm fees. The increases were partially offset by a decrease of approximately $3.6 million in costs related to lesinurad development and TSA expenses with AstraZeneca; a decrease of approximately $2.6 million in external costs related to the development of linaclotide, net of reimbursements, related to our linaclotide collaboration with Allergan for North America; and a decrease of approximately $2.2 million in facility and operating costs, such as rent and amortization of leasehold improvements.
Selling, General and Administrative Expense. Selling, general and administrative expenses increased approximately $59.8 million for the year ended December 31, 2017 compared to the year ended December 31, 2016 primarily as a result of an increase in our workforce and infrastructure expenses due to the launch and commercialization of the lesinurad products in the U.S. This increase includes an approximately $25.8 million increase in compensation, benefits and other employee-related expenses associated with the increased headcount primarily in our field sales force; an approximately $11.7 million increase in costs associated with selling expenses and marketing programs; an approximately $9.6 million increase in external consulting and contractor costs, legal services, and other professional
service costs; an approximately $7.8 million increase in costs for post-marketing requirements for lesinurad; an approximately $2.2 million increase in costs associated with transitional support services related to the Lesinurad Transaction; an approximately $1.3 million increase in expenses related to the write-off of excess non-cancelable lesinurad sample purchase commitments pursuant to our forecasts, as a result of a reduction in near-term forecasted demand; an approximately $0.6 million increase related to a loss on disposal of assets; and an approximately $0.4 million increase in expenses related to the write-off of excess prepaid lesinurad samples.
Amortization of Acquired Intangible Assets. The increase in amortization of acquired intangible asset expense of approximately $5.2 million for the year ended December 31, 2017 compared to the year ended December 31, 2016 was due to the Lesinurad Transaction that closed in June 2016, in which we acquired an exclusive license in the U.S. to, among other things, the approved product ZURAMPIC. In addition, the intangible asset related to DUZALLO began amortizing upon approval by the FDA in August 2017.
(Gain) on Fair Value remeasurement of contingent consideration. The decrease in the fair value of the contingent consideration liability of approximately $41.1 million for the year ended December 31, 2017 compared to the year ended December 31, 2016 was due to a change in assumptions. Adjustments are recorded when there are changes in significant assumptions, including net sales projections, probability weighted net cash outflow projections, the discount rate, passage of time, and the yield curve equivalent to our credit risk, which is based on the estimated cost of debt for market participants. During the year ended December 31, 2017, we decreased our ZURAMPIC and DUZALLO revenue projections. Accordingly, the expected estimated future royalty and milestone payments to AstraZeneca decreased, resulting in an approximately $31.3 million decrease to the contingent consideration liability. In addition, the remaining change in the contingent consideration liability decrease was primarily due to the passage of time.
Other (Expense) Income, Net
Interest Expense. Interest expense decreased approximately $2.8 million for the year ended December 31, 2017 compared to the year ended December 31, 2016, mainly driven by a decrease of approximately $17.7 million in interest expense associated with the redemption of the PhaRMA Notes, partially offset by an increase of approximately $13.6 million and $1.3 million in interest expense associated with the 2026 Notes and 2022 Notes, respectively.
Interest and investment income. Interest and investment income increased approximately $0.9 million for the year ended December 31, 2017 compared to the year ended December 31, 2016, mainly due to an increase in the higher yield return on investment securities in 2017.
(Loss) gain on derivatives. For the year ended December 31, 2017 we recorded a loss on derivatives of approximately $3.3 million resulting from an approximately $24.3 million decrease in fair value of the Convertible Note Hedges and an approximately $21.0 million increase in the fair value of the Note Hedge Warrants. For the year ended December 31, 2016 we recorded a gain on derivatives of approximately $8.1 million resulting from an approximately $46.1 million increase in fair value of the Convertible Note Hedges and an approximately $38.0 million decrease in the fair value of the Note Hedge Warrants.
Loss on extinguishment of debt. Loss on extinguishment of debt was approximately $2.0 million for the year ended December 31, 2017 due to the write-off of the remaining unamortized debt issuance costs on the PhaRMA Notes as part of the redemption in January 2017.
Year Ended December 31, 2016 Compared to Year Ended December 31, 2015
Revenue
Collaborative Arrangements Revenue. The increase in revenue from collaborative arrangements of approximately $114.9 million for the year ended December 31, 2016 compared to the year ended December 31, 2015 was primarily related to an approximately $84.3 million increase in our share of the net profits from the sale of LINZESS in the U.S.; an approximately $30.0 million increase due to the achievement of two development milestones under our license agreement with Astellas in 2016; an approximately $1.8 million increase attributable to the recognition of upfront payments and development milestones achieved before 2016 under our agreement with Astellas resulting from a revision of the estimated development period for linaclotide in Japan in September 2016; an approximately $1.6 million increase due to revenue from our co-promotion agreement with Allergan for VIBERZI in the U.S.; and an insignificant increase in royalty revenue based on sales of linaclotide in our partnered territories. The increases were partially offset by an approximately $2.0 million decrease in connection with our collaboration agreement with AstraZeneca for linaclotide, an approximately $0.9 million decrease in revenue from the Cologuard Co-Promotion Agreement.
Product revenue, net. The increase in revenue from product revenue of approximately $0.1 million for the year ended December 31 ,2016 compared to the year ended December 31, 2015 was primarily related to the recognition of net product sales of ZURAMPIC in the U.S. in 2016.
Sale of active pharmaceutical ingredient. The increase in revenue from sale of API of approximately $9.4 million for the year ended December 31, 2016 compared to the year ended December 31, 2015 was an approximately $4.9 million increase from shipments of linaclotide to Astellas, and an approximately $4.5 million increase from shipments of linaclotide to Allergan.
Cost and Expenses
Cost of Revenues, excluding amortization of acquired intangible asset. The increase in cost of revenue of approximately $1.9 million for the year ended December 31, 2016 compared to the year ended December 31, 2015 was primarily attributable to higher sales of linaclotide API to our partners and the launch of ZURAMPIC.
Write-down of commercial supply and inventory to net realizable value and loss on non-cancelable purchase commitments. The decrease in write-down of inventory and loss on non-cancelable purchase commitments of approximately $17.3 million for the year ended December 31, 2016 compared to the year ended December 31, 2015, was primarily related to the write-down of inventory and an accrual for a loss on excess non-cancelable inventory purchase commitments related to linaclotide API recorded during the year ended December 31, 2015, partially offset by a write-down of approximately $0.4 million related to lesinurad prepaid inventory.
Research and Development Expense. The increase in research and development expense of approximately $30.7 million for the year ended December 31, 2016 compared to the year ended December 31, 2015 was primarily related to an increase of approximately $14.5 million in the costs associated with development activities and transitional support services related to lesinurad; an increase of approximately $13.8 million in research costs related to our early stage pipeline candidates; an increase of approximately $9.6 million in net costs related to the collaboration with Allergan for North America; an increase of approximately $5.2 million in compensation, benefits and other employee-related expenses primarily associated with increased headcount; and an increase of approximately $4.2 million in operating costs, including facility costs such as rent and amortization of leasehold improvements allocated to research and development, and an increase of approximately $0.2 million related to the development of manufacturing processes and costs associated with linaclotide API prior to meeting our inventory capitalization policy. The increases were partially offset by an approximately $14.1 million decrease in external costs related to the development of linaclotide; a decrease of approximately $2.1 million decrease due to a reallocation of resources relating to quality testing and set-up cost related to the launch and commercialization of ZURAMPIC recorded as selling, general administrative expenses; and an approximately $0.6 million decrease in costs associated with the collaboration agreement with AstraZeneca for China.
Selling, General and Administrative Expense. Selling, general and administrative expenses increased approximately $48.0 million for the year ended December 31, 2016 compared to the year ended December 31, 2015 primarily as a result of an increase in our workforce and infrastructure expenses due to the launch and commercialization of ZURAMPIC in the U.S. This increase includes an approximately $17.0 million increase in compensation, benefits and other employee-related expenses associated with the increased headcount primarily in our field sales force; an approximately $12.4 million increase in costs associated with selling expenses, marketing programs, and speaker programs; an approximately $8.1 million increase in external consulting costs, recruiting costs and other professional service costs; an approximately $5.3 million increase in costs associated with other infrastructure costs related to lesinurad; an approximately $3.5 million increase in costs related to facilities and information technology infrastructure, including rent; and an approximately $1.7 million increase due to the internal costs relating to quality testing and set-up costs related to the launch and commercialization of ZURAMPIC.
Amortization of Acquired Intangible Asset. The increase in amortization of acquired intangible asset expense of approximately $1.0 million for the year ended December 31, 2016 compared to the year ended December 31, 2015 was due to the Lesinurad Transaction that closed in June 2016, in which we acquired an exclusive license in the U.S. to, among other things, the approved product ZURAMPIC. The amount allocated to the ZURAMPIC intangible asset will be amortized on a straight-line basis over its estimated useful life of 13 years, the period of estimated future cash flows.
Loss on Fair Value remeasurement of contingent consideration. The increase in the fair value of the contingent consideration obligation of approximately $9.8 million for the year ended December 31, 2016 compared to the year ended December 31, 2015 was due to the Lesinurad Transaction. The change in the fair value remeasurement of contingent consideration from the date the Lesinurad Transaction closed, on June 2, 2016, to December 31, 2016 was primarily due to the passage of time and changes in the yield curve equivalent to our credit risk, which was the estimated cost of debt financing for similar market participants used in the valuation.
Other (Expense) Income, Net
Interest Expense. Interest expense increased approximately $8.1 million for the year ended December 31, 2016 compared to the year ended December 31, 2015, mainly due to an increase in interest expense of approximately $10.2 million associated with our 2022 Notes as we began incurring interest in June 2015. This increase was partially offset by a decrease of approximately $2.1 million in interest expense associated with the PhaRMA Notes for the year ended December 31, 2016 associated with the decreased principal balance, and a decrease of an insignificant amount due to interest associated with capital leases for the automobiles for our field-based sales force and medical science liaisons.
Interest and investment income. Interest and investment income increased approximately $0.7 million for the year ended December 31, 2016 compared to the year ended December 31, 2015, mainly due to an increase of approximately $0.7 million in investment income. This increase is partially offset by an insignificant decrease in interest income on certificate deposits.
Gain (loss) on derivatives. For the year ended December 31, 2016 we recorded a gain on derivatives of approximately $8.1 million resulting from an approximately $46.0 million increase in fair value of the Convertible Note Hedges and an approximately $37.9 million increase in the fair value of the Note Hedge Warrants. For the year ended December 31, 2015 we recorded a loss on derivatives of approximately $9.9 million resulting from an approximately $5.4 million decrease in fair value of the Convertible Note Hedges and an approximately $4.5 million decrease in the fair value of the Note Hedge Warrants.
Liquidity and Capital Resources
We have incurred losses since our inception in 1998 and, as of December 31, 2017, we had an accumulated deficit of approximately $1.3 billion. We have financed our operations to date primarily through both the private sale of our preferred stock and the public sale of our common stock, including approximately $203.2 million of net proceeds from our initial public offering, or IPO, in February 2010, and approximately $413.4 million of net proceeds from our follow on public offerings; payments received under our strategic collaborative arrangements, including up-front and milestone payments, royalties and our share of net profits, as well as reimbursement of certain expenses; and debt financings, including approximately $11.2 million of net proceeds from the private placement of our 2026 Notes, approximately $167.3 million of net proceeds from the private placement of our PhaRMA Notes in January 2013 (which we redeemed, in full, in connection with the funding in January 2017 of the 2026 Notes), and approximately $324.0 million of net proceeds from the private placement of our 2022 Notes in June 2015. At December 31, 2017, we had approximately $221.4 million of unrestricted cash, cash equivalents and available for sale securities. Our cash equivalents include amounts held in money market funds, U.S. government sponsored securities, and repurchase agreements. Our available for sale securities include amounts held in U.S. Treasury securities and U.S. government sponsored securities. We invest cash in excess of immediate requirements in accordance with our investment policy, which limits the amounts we may invest in certain types of investments and requires all investments held by us to be at least A- rated, with a remaining maturity when purchased of less than twenty-four months, so as to primarily achieve liquidity and capital preservation.
During the year ended December 31, 2017, our balances of cash, cash equivalents and available-for-sale securities decreased approximately $83.8 million. This decrease is primarily due to approximately $134.3 million paid to redeem our outstanding PhaRMA Notes, a $15.0 million milestone payment to AstraZeneca related to the FDA approval of DUZALLO, as well as the approximately $99.6 million of cash used to operate our business, including payments related to, among other things, research and development and selling, general and administrative expenses as we continued to invest in our research pipeline and support the continued commercialization of LINZESS, ZURAMPIC and the launch of DUZALLO in the U.S. We also invested approximately $4.2 million in capital expenditures and made
payments of approximately $3.2 million on capital lease obligations. These cash outflows were partially offset by approximately $146.3 million in proceeds from the issuance of the 2026 Notes, and approximately $26.4 million in proceeds from the exercise of stock options and the issuance of shares pursuant to our employee stock purchase plan.
Cash Flows From Operating Activities
Net cash used in operating activities totaled approximately $99.6 million for the year ended December 31, 2017. The primary uses of cash were our net loss of approximately $116.9 million and changes in assets and liabilities of approximately $21.8 million resulting primarily from an decrease in related party accounts receivable, an increase in restricted cash associated with the release of the line of credit related to our lease amendment in 2017, a decrease in accounts payable, related party accounts payable, and accrued expenses, an increase in prepaid expenses and other assets, an increase in inventory and other assets, a decrease in deferred rent and an increase in accrued research and development costs. These uses of cash were primarily offset by non-cash items of approximately $39.2 million, including approximately $33.8 million in share-based compensation expense, approximately $16.1 million in non-cash interest expense, approximately $8.4 million in depreciation and amortization expense of property and equipment, approximately $6.2 million in amortization of acquired intangible assets, an approximately $3.3 million increase due to the change in fair value of the Convertible Note Hedges and Note Hedge Warrants, approximately $2.0 million loss on extinguishment of debt, approximately $1.3 million in write-down of excess non-cancelable product sample purchase commitment, and approximately $0.7 million in loss on disposal of property and equipment; partially offset by an approximately $31.3 million due to the non-cash change in fair value of contingent consideration, and approximately $1.6 million due to the gain on facility subleases.
Net cash used in operating activities totaled approximately $25.4 million for the year ended December 31, 2016. The primary uses of cash were our net loss of approximately $81.7 million and changes in assets and liabilities of approximately $5.0 million resulting primarily from an increase in related party accounts receivable principally attributable to higher amounts due from Allergan as a result of increased profits on the sale of LINZESS in the U.S., a decrease in restricted cash associated with our salesforce vehicle fleet, an increase in accounts payable, related party accounts payable and accrued expenses, an increase in prepaid expenses and other assets, a decrease in deferred revenue, a decrease in deferred rent and an increase in accrued research and development costs. These uses of cash were primarily offset by non-cash items of approximately $61.3 million, including approximately $29.2 million in share-based compensation expense, approximately $14.8 million in non-cash interest expense, approximately $10.3 million in depreciation and amortization expense of property and equipment, approximately $9.8 million due to the non-cash change in fair value of contingent consideration, approximately $3.5 million due to the loss on facility subleases, approximately $1.0 million in amortization of acquired assets, approximately $0.7 million in accretion of discounts and premiums on available-for-sale securities, and approximately $0.4 million in write-down of prepaid inventory; partially offset by an approximately $8.1 million due to the change in fair value of the Convertible Note Hedges and Note Hedge Warrants, and approximately $0.2 million in gain on disposal of property and equipment.
Net cash used in operating activities totaled approximately $106.9 million for the year ended December 31, 2015. The primary uses of cash were our net loss of approximately $142.7 million and changes in assets and liabilities of approximately $38.2 million resulting primarily from an increase in related party accounts receivable principally attributable to higher amounts due from Allergan as a result of increased profits on the sale of LINZESS in the U.S., an increase in restricted cash associated with our salesforce vehicle fleet, a decrease in accounts payable, related party accounts payable and accrued expenses, a decrease in prepaid expenses and other assets, a decrease in deferred revenue, a decrease in deferred rent and an increase in accrued research and development costs. These uses of cash were primarily offset by non-cash items of approximately $74.0 million, including approximately $25.5 million in share-based compensation expense, approximately $17.6 million due to the write-down of inventory to net realizable value and loss on non-cancelable purchase commitments, approximately $11.6 million in depreciation and amortization expense of property and equipment, approximately $8.1 million in non-cash interest expense, approximately $9.9 million due to the change in fair value of the Convertible Note Hedges and Note Hedge Warrants, and approximately $1.1 million in accretion of discounts and premiums on available-for-sale securities.
Cash Flows From Investing Activities
Cash provided by investing activities for the year ended December 31, 2017 totaled approximately $151.5 million and resulted primarily from the sales and maturities of approximately $346.9 million of available-for-sale securities, and an insignificant amount of proceeds from the sale of property and equipment. This was partially offset by
the purchase of approximately $191.4 million of available-for-sale securities and the purchase of approximately $4.2 million of property and equipment, primarily laboratory equipment as well as hardware and software related to our information technology infrastructure.
Cash used in investing activities for the year ended December 31, 2016 totaled approximately $177.7 million and resulted primarily from the costs associated with the Lesinurad License consisting of an up-front payment of $100.0 million, the purchase of approximately $311.1 million of available-for-sale securities and the purchase of approximately $4.2 million of property and equipment, primarily laboratory equipment as well as hardware and software related to our information technology infrastructure. This was partially offset by the sales and maturities of approximately $237.4 million of available-for-sale securities, and approximately $0.2 million of proceeds from the sale of property and equipment.
Cash used in investing activities for the year ended December 31, 2015 totaled approximately $9.2 million and resulted primarily from the purchase of approximately $282.0 million of available-for-sale securities and the purchase of approximately $4.0 million of property and equipment, primarily leasehold improvements and laboratory equipment. This was partially offset by the sales and maturities of approximately $276.7 million of available-for-sale securities and an insignificant amount of proceeds from the sale of property and equipment.
Cash Flows From Financing Activities
Cash provided by financing activities for the year ended December 31, 2017 totaled approximately $19.8 million and resulted primarily from approximately $146.3 in proceeds from issuance of the 2026 Notes, and approximately $26.4 million in cash provided by stock option exercises and the issuance of shares under our employee stock purchase plan, partially offset by approximately $134.3 million in cash paid to redeem our outstanding PhaRMA Notes, approximately $15.1 million in cash used for payments on contingent purchase consideration, including a milestone payment to AstraZeneca for the approval of DUZALLO, approximately $3.2 million in cash used for payments on our capital leases, and approximately $0.2 million in costs associated with the issuance of the 2026 Notes.
Cash used in financing activities for the year ended December 31, 2016 totaled approximately $4.2 million and resulted primarily from approximately $26.9 million in cash used for principal payments on our outstanding PhaRMA Notes, approximately $1.9 million in cash used for payments on our capital leases, and approximately $0.2 million in costs associated with the issuance of the 2026 Notes, partially offset by approximately $24.8 million in cash provided by stock option exercises and the issuance of shares under our employee stock purchase plan.
Cash provided by financing activities for the year ended December 31, 2015 totaled approximately $303.1 million and resulted primarily from approximately $324.0 million in net proceeds from the issuance of our 2022 Notes in June 2015, approximately $70.8 million in gross proceeds from the issuance of the Note Hedge Warrants in connection with the 2022 Notes, approximately $14.2 million in cash provided by stock option exercises and the issuance of shares under our employee stock purchase plan, partially offset by approximately $91.9 million related to the purchase of the Convertible Note Hedges in connection with our 2022 Notes, approximately $12.7 million in cash used for principal payments on our outstanding PhaRMA Notes, and approximately $1.3 million in cash used for payments on our capital leases.
Funding Requirements
We began commercializing LINZESS in the U.S. with our collaboration partner, Allergan, in the fourth quarter of 2012, and we currently derive substantially all of our revenue from this collaboration. Additionally, we began commercializing ZURAMPIC and DUZALLO in the U.S. for the treatment of uncontrolled gout in the fourth quarter of 2016, and the fourth quarter of 2017, respectively. We are also deploying significant resources to advance product opportunities in IBS-C/CIC, abdominal pain associated with lower GI disorders, uncontrolled GERD, diabetic nephropathy, HFpEF and specialty diseases, including sickle cell disease and achalasia, as well as to fulfill FDA requirements for linaclotide and lesinurad. Our goal is to become cash flow positive, driven by increased revenue generated through sales of LINZESS, the Lesinurad Products, and financial discipline. However, we have not achieved positive cash flows from operations to date.
Under our collaboration with Allergan for North America, total net sales of LINZESS in the U.S., as recorded by Allergan, are reduced by commercial costs incurred by each party, and the resulting amount is shared equally
between us and Allergan. Additionally, we receive royalties from Allergan based on sales of linaclotide in its licensed territories outside of the U.S. We believe revenues from our LINZESS partnership for the U.S. with Allergan will continue to constitute a significant portion of our total revenue for the foreseeable future and we cannot be certain that such revenues, as well as the revenues from our other commercial activities including sales of ZURAMPIC, DUZALLO and any other product, will enable us to become cash flow positive, or to do so in the timeframes we expect. We also anticipate that we will continue to incur substantial expenses for the next several years as we further develop and commercialize linaclotide in the U.S., China and other markets, develop and commercialize lesinurad in the U.S., and continue to invest in our pipeline and potentially other external opportunities. We believe that our cash on hand as of December 31, 2017 will be sufficient to meet our projected operating needs at least through the next twelve months from the issuance of these financial statements.
Our forecast of the period of time through which our financial resources will be adequate to support our operations, including the underlying estimates regarding the costs to develop our product candidates and obtain regulatory approvals and the costs to commercialize linaclotide in the U.S., China and other markets, and develop and commercialize lesinurad in the U.S., as well as our goal to become cash flow positive, are forward-looking statements that involve risks and uncertainties. Our actual results could vary materially and negatively from these and other forward-looking statements as a result of a number of factors, including the factors discussed in the “Risk Factors” section of this Annual Report on Form 10-K. We have based our estimates on assumptions that may prove to be wrong, and we could utilize our available capital resources sooner than we currently expect.
Due to the numerous risks and uncertainties associated with the development and commercialization of our product candidates, we are unable to estimate precisely the amounts of capital outlays and operating expenditures necessary to develop, obtain regulatory approval for, and commercialize linaclotide, lesinurad and our other product candidates, in each case, for all of the markets, indications, populations and formulations for which we believe each is suited. Our funding requirements will depend on many factors, including, but not limited to, the following:
·
the revenue generated by sales of LINZESS, CONSTELLA, ZURAMPIC, DUZALLO and any other products;
·
the rate of progress and cost of our commercialization activities, including the expense we incur in marketing and selling LINZESS, ZURAMPIC, DUZALLO and any other products;
·
the success of our third-party manufacturing activities;
·
the time and costs involved in developing, and obtaining regulatory approvals for, our product candidates, as well as the timing and cost of any post-approval development and regulatory requirements;
·
the success of our research and development efforts;
·
the emergence of competing or complementary products;
·
the costs of filing, prosecuting, defending and enforcing any patent claims and other intellectual property rights;
·
the terms and timing of any additional collaborative, licensing or other arrangements that we may establish, including royalties or other payments due or payable under such agreements; and
·
the acquisition of businesses, products and technologies and the impact of other strategic transactions, as well as the cost and timing of integrating any such assets into our business operations.
Financing Strategy
We may, from time to time, consider additional funding through a combination of new collaborative arrangements, strategic alliances, and additional equity and debt financings or from other sources. We will continue to manage our capital structure and to consider all financing opportunities, whenever they may occur, that could strengthen our long-term liquidity profile. Any such capital transactions may or may not be similar to transactions in which we have engaged in the past. There can be no assurance that any such financing opportunities will also be available on acceptable terms, if at all.
Contractual Commitments and Obligations
Lease and Commercial Supply Obligations
The following table summarizes our lease and commercial supply obligations at December 31, 2017 (excluding interest, except as otherwise noted):
(1)
We have multiple commercial supply agreements with contract manufacturing organizations for the purchase of linaclotide finished drug product and API. Two of our API supply agreements for supplying linaclotide API to our collaboration partners outside of North America contain minimum purchase commitments, which are reflected in the table above. As of December 31, 2017, we had approximately $3.4 million recorded as an accrual for excess purchases commitments, of which approximately $2.5 million relates to the 2018 commitment, and approximately $5.1 million recorded as other liabilities related to linaclotide API supply included in the table above. These commitments are more fully described in Note 9, Inventory and Note 13, Commitments and Contingencies, to our consolidated financial statements appearing elsewhere in this Annual Report on Form 10-K. In addition, we and Allergan are jointly obligated to make minimum purchases of linaclotide API for the territories covered by our collaboration with Allergan for North America. Currently, Allergan fulfills all such minimum purchase commitments and, as a result, they are excluded from the table above.
Additionally, the Lesinurad CSA with AstraZeneca provides for finished goods, inventory and samples of ZURAMPIC and DUZALLO. The Lesinurad CSA includes certain purchase obligations based on our forecasted demand for commercial product and samples. As of December 31, 2017, we had approximately $5.6 million of such commitments related to lesinurad commercial supply and samples for 2018 and none thereafter. As of December 31, 2017, approximately $1.5 million of the lesinurad commitments included in the table above are recorded as an accrual for excess purchase commitments in our consolidated balance sheet. These commitments are more fully described in Note 9, Inventory and Note 13, Commitments and Contingencies, to our consolidated financial statements appearing elsewhere in this Annual Report on Form 10-K.
(2)
Our commitment for capital lease obligations principally relates to leased automobiles for our field-based sales force and medical science liaisons, and computer and office equipment.
(3)
Our commitments for operating leases relate to our lease of office and laboratory space in Cambridge, Massachusetts and our data storage space in Boston, Massachusetts.
Notes Payable
In June 2015, we issued approximately $335.7 million of 2.25% Convertible Senior Notes due June 15, 2022. The 2022 Notes are governed by an indenture between us and U.S. Bank National Association, as the trustee, or the Indenture. The 2022 Notes are senior unsecured obligations and bear interest at a rate of 2.25% per year, payable on June 15 and December 15 of each year, which began on December 15, 2015. The 2022 Notes will mature on June 15, 2022, unless earlier converted or repurchased. The initial conversion rate for the 2022 Notes is 60.3209 shares of Class A common stock (subject to adjustment as provided for in the Indenture) per $1,000 principal amount of the 2022 Notes, which is equal to an initial conversion price of approximately $16.58 per share. In addition, to minimize the impact of potential dilution to our common stock upon conversion of the 2022 Notes, we entered into the Convertible Note Hedges covering 20,249,665 shares of our Class A common stock in connection with the 2022 Notes. Concurrently with entering into the Convertible Note Hedges, we sold Note Hedge Warrants to acquire 20,249,665 shares of our
Class A common stock at an initial strike price of approximately $21.50 per share, subject to customary anti-dilution adjustments. The following table summarizes our 2022 Notes obligations at December 31, 2017:
The 2022 Notes, Convertible Note Hedges and Note Hedge Warrants are more fully described in Note 12, Notes Payable, in the accompanying notes to our consolidated financial statements appearing elsewhere in this Annual Report on Form 10-K.
In September 2016, we closed a direct private placement, pursuant to which we subsequently issued $150.0 million in aggregate principal amount of 8.375% notes due 2026 on the Funding Date, January 5, 2017. The proceeds from the issuance of the 2026 Notes were used to redeem the outstanding principal balance of the PhaRMA Notes. The 2026 Notes bear an annual interest rate of 8.375%, with interest payable March 15, June 15, September 15 and December 15 of each year, each an 8.375% Payment Date, which began on June 15, 2017. Beginning March 15, 2019, we will began making quarterly payments on the 2026 Notes equal to the greater of (i) 7.5% of net sales of linaclotide in the U.S. for the preceding quarter, or the 8.375% Synthetic Royalty Amount, and (ii) accrued and unpaid interest on the notes, or the 8.375% Required Interest Amount. Principal on the 2026 Notes will be repaid in an amount equal to the 8.375% Synthetic Royalty Amount minus the 8.375% Required Interest Amount, when this is a positive number, until the principal has been paid in full. Given the principal payments on the 2026 Notes are based on the net sales of linaclotide in the U.S., which will vary from quarter to quarter, the 2026 Notes may be repaid prior to September 15, 2026, the final legal maturity date. Since we are unable to reliably estimate the exact timing and amounts of the principal payments, as discussed under “Risk Factors” in Item 1A of this Annual Report on Form 10-K, the related commitments are not included in the table above. This transaction is more fully described in Note 12, Notes Payable, to our consolidated financial statements appearing elsewhere in this Annual Report on Form 10-K.
Commitments Related to Our Collaboration and License Agreements
Under our collaborative agreements with Allergan for North America and AstraZeneca for China, Hong Kong and Macau, we share with Allergan and AstraZeneca all development and commercialization costs related to linaclotide in the U.S. and for China, Hong Kong and Macau, respectively. The actual amounts that we pay our partners or that partners pay to us will depend on numerous factors outside of our control, including the success of our clinical development efforts with respect to linaclotide, the content and timing of decisions made by the regulators, the reimbursement and competitive landscape around linaclotide and our other product candidates, and other factors described under “Risk Factors” in Item 1A of this Annual Report on Form 10-K.
Under our Lesinurad License, we are undertaking the development and commercialization of lesinurad in the U.S. Pursuant to the terms of the Lesinurad License, we will pay a tiered royalty to AstraZeneca in the single-digits as a percentage of net sales of ZURAMPIC and DUZALLO, in the U.S., as well as commercial and other milestones of up to $165.0 million over the duration of the agreement, of which a $15.0 million milestone payment was made during 2017 related to the FDA approval of DUZALLO.
In addition, we have other collaboration and license agreements that are not individually significant to our business. Under one such license and collaboration arrangement, we have commitments to make potential future milestone payments totaling $23.0 million, which includes $5.0 million for development milestones and $18.0 million for regulatory milestones. We are also committed to make potential future milestone payments of up to $114.5 million per product to one of our collaboration partners, including $21.5 million for development milestones, $58.0 million for regulatory milestones and $35.0 million for sales-based milestones. These milestones primarily include the commencement and results of clinical trials, obtaining regulatory approval in various jurisdictions and the future commercial success of development programs, the outcome and timing of which are difficult to predict and subject to significant uncertainty. In addition to the milestones discussed above, we are obligated to pay royalties on future sales, which are contingent on generating levels of sales of future products that have not been achieved and may never be achieved. Since we are unable to reliably estimate the timing and amounts of such milestone and royalty payments, or whether they will occur at all, these contingent payments have been excluded from the table above. Our license and
collaboration agreements are more fully described in Note 5, Collaboration, License, Co-promotion and Other Commercial Agreements, in the accompanying notes to our consolidated financial statements appearing elsewhere in this Annual Report on Form 10-K.
Tax-related Obligations
We exclude liabilities or obligations pertaining to uncertain tax positions from our summary of contractual commitments and obligations as we cannot make a reliable estimate of the period of cash settlement with the respective taxing authorities. As of December 31, 2017, we have approximately $24.1 million of uncertain tax positions, and we cannot reasonably estimate the potential adjustment to our net operating loss carryforward. These uncertain tax positions are more fully described in Note 16, Income Taxes, in the accompanying notes to our consolidated financial statements appearing elsewhere in this Annual Report on Form 10-K.
Other Funding Commitments
As of December 31, 2017, we have several ongoing studies in various clinical trial stages. Our most significant clinical trial expenditures are to CROs. The contracts with CROs generally are cancellable, with notice, at our option and do not have any significant cancellation penalties. These items are not included in the table above.
Off-Balance Sheet Arrangements
We do not have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, that would have been established for the purpose of facilitating off-balance sheet arrangements (as that term is defined in Item 303(a)(4)(ii) of Regulation S-K) or other contractually narrow or limited purposes. As such, we are not exposed to any financing, liquidity, market or credit risk that could arise if we had engaged in those types of relationships. We enter into guarantees in the ordinary course of business related to the guarantee of our own performance and the performance of our subsidiaries.
New Accounting Pronouncements
For a discussion of new accounting pronouncements refer to Note 2, Summary of Significant Accounting Policies, to our consolidated financial statements appearing elsewhere in this Annual Report on Form 10-K.
Item 7A.
Item 7A. Quantitative and Qualitative Disclosures about Market Risk
Interest Rate Risk
We are exposed to market risk related to changes in interest rates. We invest our cash in a variety of financial instruments, principally securities issued by the U.S. government and its agencies and money market instruments. The goals of our investment policy are preservation of capital, fulfillment of liquidity needs and fiduciary control of cash and investments. We also seek to maximize income from our investments without assuming significant risk.
Our primary exposure to market risk is interest income sensitivity, which is affected by changes in the general level of interest rates, particularly because our investments are in short-term marketable securities. Due to the primarily short-term duration of our investment portfolio and the low risk profile of our investments, an immediate 1% change in interest rates would not have a material effect on the fair market value of our portfolio. Accordingly, we would not expect our operating results or cash flows to be affected to any significant degree by the effect of a sudden change in market interest rates on our investment portfolio.
We do not believe our cash, cash equivalents and available-for-sale securities have significant risk of default or illiquidity. While we believe our cash, cash equivalents and available-for-sale securities do not contain excessive risk, we cannot provide absolute assurance that in the future our investments will not be subject to adverse changes in market value. In addition, we maintain significant amounts of cash, cash equivalents and available-for-sale securities at one or more financial institutions that are in excess of federally insured limits. Given the potential instability of financial institutions, we cannot provide assurance that we will not experience losses on these deposits.
Our capital lease obligations, 2026 Notes and 2022 Notes bear interest at a fixed rate and therefore have minimal exposure to changes in interest rates; however, because these interest rates are fixed, we may be paying a higher interest rate, relative to market, in the future if our credit rating improves or other circumstances change.
Equity Price Risk
2022 Notes
Our 2022 Notes include conversion and settlement provisions that are based on the price of our Class A common stock at conversion or at maturity of the 2022 Notes. The amount of cash we may be required to pay is determined by the price of our Class A common stock. The fair value of our 2022 Notes is dependent on the price and volatility of our Class A common stock and will generally increase or decrease as the market price of our Class A common stock changes.
The 2022 Notes are convertible into Class A common stock at an initial conversion rate of 60.3209 shares of Class A common stock (subject to adjustment as provided for in the Indenture) per $1,000 principal amount of the 2022 Notes, which is equal to an initial conversion price of approximately $16.58 per share. The 2022 Notes will mature on June 15, 2022 unless earlier converted or repurchased. The 2022 Notes bear cash interest at an annual rate of 2.25%, payable on June 15 and December 15 of each year, which began on December 15, 2015. As of December 31, 2017, the fair value of the 2022 Notes was estimated by us to be $392.8 million. The 2022 Notes are more fully described in Note 7, Fair Value of Financial Instruments, and Note 12, Notes Payable, in the accompanying notes to our consolidated financial statements appearing elsewhere in this Annual Report on Form 10-K.
Convertible Note Hedge and Warrant Transactions with Respect to 2022 Notes
To minimize the impact of potential dilution to our common stock upon conversion of the 2022 Notes, we entered into Convertible Note Hedges. Concurrently with entering into the Convertible Note Hedges, we entered into warrant transactions whereby we sold Note Hedge Warrants to acquire, subject to customary adjustments, 20,249,665 shares of our Class A common stock at an initial strike price of approximately $21.50 per share, subject to adjustment. The Convertible Note Hedges and Note Hedge Warrants are more fully described in Note 12, Notes Payable, in the accompanying notes to our consolidated financial statements appearing elsewhere in this Annual Report on Form 10-K.
Foreign Currency Risk
We have no significant operations outside the U.S. and we do not expect to be impacted significantly by foreign currency fluctuations.
Effects of Inflation
We do not believe that inflation and changing prices over the years ended December 31, 2017, 2016 and 2015 had a significant impact on our results of operations.
Item 8.
Item 8. Financial Statements and Supplementary Data
Our consolidated financial statements, together with the independent registered public accounting firm report thereon, appear at pages through, of this Annual Report on Form 10-K.
Item 9.
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None.
Item 9A.
Item 9A. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
As required by Rule 13a-15(b) of the Exchange Act, our management, including our principal executive officer and our principal financial officer, conducted an evaluation as of the end of the period covered by this Annual Report on
Form 10-K of the effectiveness of the design and operation of our disclosure controls and procedures. Based on that evaluation, our principal executive officer and principal financial officer concluded that our disclosure controls and procedures are effective at the reasonable assurance level in ensuring 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 SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by us in the reports we file under the Exchange Act is accumulated and communicated to our management, including our principal executive officer and principal financial officer, as appropriate to allow timely decisions regarding required disclosure.
Management’s Report on Internal Control Over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over our financial reporting. Internal control over financial reporting is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act as the process designed by, or under the supervision of, our Chief Executive Officer and Chief Financial Officer, and effected by our board of directors, management and other personnel, to provide reasonable assurance regarding the reliability of our financial reporting and the preparation of our financial statements for external purposes in accordance with generally accepted accounting principles, and 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 assets;
(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 are being made only in accordance with the authorizations of management and directors; and
(3)
provide reasonable assurance regarding the prevention or timely detection of unauthorized acquisition, use or disposition of assets that could have a material effect on our financial statements.
Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we conducted an evaluation of the effectiveness of our internal control over financial reporting based on the framework provided in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework). Based on this evaluation, our management concluded that our internal control over financial reporting was effective as of December 31, 2017.
The effectiveness of our internal control over financial reporting as of December 31, 2017 has been audited by Ernst and Young LLP, an independent registered public accounting firm, as stated in their report, which is included herein.
Changes in Internal Control
As required by Rule 13a-15(d) of the Exchange Act, our management, including our principal executive officer and our principal financial officer, conducted an evaluation of the internal control over financial reporting to determine whether any changes occurred during the quarter ended December 31, 2017 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. Based on that evaluation, our principal executive officer and principal financial officer concluded no such changes during the quarter ended December 31, 2017 materially affected, or were reasonably likely to materially affect, our internal control over financial reporting.
Report of Independent Registered Public Accounting Firm
To the Shareholders and the Board of Directors of Ironwood Pharmaceuticals, Inc.
Opinion on Internal Control over Financial Reporting
We have audited Ironwood Pharmaceuticals, Inc.’s internal control over financial reporting as of December 31, 2017, based on criteria established in Internal Control- Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework), (the COSO criteria). In our opinion, Ironwood Pharmaceuticals, Inc. (the Company) maintained, in all material respects, effective internal control over financial reporting as of December 31, 2017, based on the COSO criteria.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the consolidated balance sheets of Ironwood Pharmaceuticals, Inc. as of December 31, 2017 and 2016, and the related consolidated statements of operations, comprehensive loss, stockholders’ equity and cash flows for each of the three years in the period ended December 31, 2017, and the related notes of the Company and our report dated February 22, 2018 expressed an unqualified opinion thereon.
Basis for Opinion
The Company’s 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 Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audit in accordance with the standards of the PCAOB. 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, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
Definition and Limitations of Internal Control Over Financial Reporting
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.
/s/ Ernst & Young LLP
Boston, Massachusetts
February 22, 2018
Item 9B.
Item 9B. Other Information
None.
PART III
Item 10.
Item 10. Directors, Executive Officers and Corporate Governance
We have adopted a code of business conduct and ethics applicable to our directors, executive officers and all other employees. A copy of that code is available on our corporate website at http://www.ironwoodpharma.com. Any amendments to the code of business conduct and ethics, and any waivers thereto involving our executive officers, also will be available on our corporate website. A printed copy of these documents will be made available upon request. The content on our website is not incorporated by reference into this Annual Report on Form 10-K.
Certain information regarding our executive officers is set forth at the end of Part I, Item 1 of this Form 10-K under the heading, “Executive Officers of the Registrant.” The other information required by this item is incorporated by reference from our proxy statement for our 2018 Annual Meeting of Stockholders.
Item 11.
Item 11. Executive Compensation
The information required by this item is incorporated by reference from our proxy statement for our 2018 Annual Meeting of Stockholders.
Item 12.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
The information relating to security ownership of certain beneficial owners of our common stock and information relating to the security ownership of our management required by this item is incorporated by reference from our proxy statement for our 2018 Annual Meeting of Stockholders.
The table below sets forth information with regard to securities authorized for issuance under our equity compensation plans as of December 31, 2017. As of December 31, 2017, we had three active equity compensation plans, each of which was approved by our stockholders:
•Our Amended and Restated 2005 Stock Incentive Plan;
•Our Amended and Restated 2010 Employee, Director and Consultant Equity Incentive Plan; and
•Our Amended and Restated 2010 Employee Stock Purchase Plan.
(1)
Amount includes the number of shares subject to issuance upon exercise of 21,086,298 outstanding stock options and vesting of 2,277,165 restricted stock units.
(2)
Amount includes all outstanding stock options but does not include restricted stock units, which do not have an exercise price.
Item 13.
Item 13. Certain Relationships and Related Transactions, and Director Independence
The information required by this item is incorporated by reference from our proxy statement for our 2018 Annual Meeting of Stockholders.
Item 14.
Item 14. Principal Accountant Fees and Services
The information required by this item is incorporated by reference from our proxy statement for our 2018 Annual Meeting of Stockholders.
PART IV
Item 15.
Item 15. Exhibits and Financial Statement Schedules
1.
List of documents filed as part of this report
1.
Consolidated Financial Statements listed under Part II, Item 8 and included herein by reference.
2.
Consolidated Financial Statement Schedules
No schedules are submitted because they are not applicable, not required or because the information is included in the Consolidated Financial Statements or Notes to Consolidated Financial Statements.
3.
Exhibits
*Filed herewith.
‡Furnished herewith.
+Confidential treatment granted under 17 C.F.R. §§200.80(b)(4) and 230.406. The confidential portions of this exhibit have been omitted and are marked accordingly. The confidential portions have been provided separately to the SEC pursuant to the confidential treatment request.
#Management contract or compensatory plan, contract, or arrangement.
(b) Exhibits.
The exhibits required by this Item are listed under Item 15(a)(3).
(c) Financial Statement Schedules.
The financial statement schedules required by this Item are listed under Item 15(a)(2).
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, in the City of Cambridge, Commonwealth of Massachusetts, on the 22nd day of February 2018.
Pursuant to the requirements of Section 13 or 15(d) 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 date indicated.
Signature
Title
Date
/s/ Peter M. Hecht
Chief Executive Officer and Director (Principal Executive Officer)
February 22, 2018
Peter M. Hecht
/s/ gina consylman
Chief Financial Officer (Principal Financial Officer and Principal Accounting Officer)
February 22, 2018
Gina Consylman
/s/ Terrance G. McGuire
Chairman of the Board
February 22, 2018
Terrance G. McGuire
/s/ Andrew Dreyfus
Director
February 22, 2018
Andrew Dreyfus
/s/ Marsha H. Fanucci
Director
February 22, 2018
Marsha H. Fanucci
/s/ Julie H. McHugh
Director
February 22, 2018
Julie H. McHugh
/s/ Lawrence S. Olanoff
Director
February 22, 2018
Lawrence S. Olanoff
/s/ Edward P. Owens
Director
February 22, 2018
Edward P. Owens
/s/ Amy W. Schulman
Director
February 22, 2018
Amy W. Schulman
/s/ Douglas E. Williams
Director
February 22, 2018
Douglas E. Williams
			 		
Index to Consolidated Financial Statements of
Ironwood Pharmaceuticals, Inc.
Page
Report of Independent Registered Public Accounting Firm
Consolidated Balance Sheets as of December 31, 2017 and 2016
Consolidated Statements of Operations for the Years Ended December 31, 2017, 2016, and 2015
Consolidated Statements of Comprehensive Loss for the Years Ended December 31, 2017, 2016, and 2015
Consolidated Statements of Stockholders’ Equity for the Years Ended December 31, 2017, 2016, and 2015
Consolidated Statements of Cash Flows for the Years Ended December 31, 2017, 2016, and 2015
Notes to Consolidated Financial Statements
Report of Independent Registered Public Accounting Firm
To the Shareholders and the Board of Directors of Ironwood Pharmaceuticals, Inc.
Opinion on the Financial Statements
We have audited the accompanying consolidated balance sheets of Ironwood Pharmaceuticals, Inc. (the Company) as of December 31, 2017 and 2016, and the related consolidated statements of operations, comprehensive loss, stockholders' equity and cash flows for each of the three years in the period ended December 31, 2017, and the related notes (collectively referred to as the “financial statements”). In our opinion, the financial statements present fairly, in all material respects, the consolidated financial position of the Company at December 31, 2017 and 2016, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2017, in conformity with U.S. generally accepted accounting principles.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the Company's internal control over financial reporting as of December 31, 2017, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework), and our report dated February 22, 2018 expressed an unqualified opinion thereon.
Basis for Opinion
These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.
/s/ Ernst & Young LLP
We have served as the Company’s auditor since 1998.
Boston, Massachusetts
February 22, 2018
Ironwood Pharmaceuticals, Inc.
Consolidated Balance Sheets
(In thousands, except share and per share amounts)
The accompanying notes are an integral part of these consolidated financial statements.
Ironwood Pharmaceuticals, Inc.
Consolidated Statements of Operations
(In thousands, except per share amounts)
The accompanying notes are an integral part of these consolidated financial statements.
Ironwood Pharmaceuticals, Inc.
Consolidated Statements of Comprehensive Loss
(In thousands)
The accompanying notes are an integral part of these consolidated financial statements.
			 		
Ironwood Pharmaceuticals, Inc.
Consolidated Statements of Stockholders’ Equity
(In thousands, except share amounts)
The accompanying notes are an integral part of these consolidated financial statements.
			 		
Ironwood Pharmaceuticals, Inc.
Consolidated Statements of Cash Flows
(In thousands)
The accompanying notes are an integral part of these consolidated financial statements.
			 		
Ironwood Pharmaceuticals, Inc.
Notes to Consolidated Financial Statements
1. Nature of Business
Ironwood Pharmaceuticals, Inc. (the “Company”) is a commercial biotechnology company leveraging its proven development and commercial capabilities as it seeks to bring multiple medicines to patients. The Company is advancing innovative product opportunities in areas of large unmet need, based upon the Company’s target-to-disease approach to development and leveraging the Company’s core areas of expertise in gastrointestinal (“GI”) and primary care, as well as in guanylate cyclase (“GC”) pathways.
The Company’s first commercial product, linaclotide, is available to adult men and women suffering from irritable bowel syndrome with constipation (“IBS-C”), or chronic idiopathic constipation (“CIC”), in certain countries around the world. Linaclotide is available under the trademarked name LINZESS® to adult men and women suffering from IBS-C or CIC in the United States (the “U.S.”) and Mexico and to adult men and women suffering from IBS-C in Japan. Linaclotide is available, under the trademarked name CONSTELLA® to adult men and women suffering from IBS-C or CIC in Canada, and to adult men and women suffering from IBS-C in certain European countries.
The Company and its partner Allergan plc (together with its affiliates, “Allergan”), began commercializing LINZESS in the U.S. in December 2012. Under the Company’s collaboration with Allergan for North America, total net sales of LINZESS in the U.S., as recorded by Allergan, are reduced by commercial costs incurred by each party, and the resulting amount is shared equally between the Company and Allergan. Allergan also has an exclusive license from the Company to develop and commercialize linaclotide in all countries other than China, Hong Kong, Macau, Japan and the countries and territories of North America (the “Allergan License Territory”). On a country-by-country and product-by-product basis in the Allergan License Territory, Allergan pays the Company a royalty as a percentage of net sales of products containing linaclotide as an active ingredient. In addition, Allergan has exclusive rights to commercialize linaclotide in Canada as CONSTELLA and in Mexico as LINZESS.
Astellas Pharma Inc. (“Astellas”), the Company’s partner in Japan, has an exclusive license to develop and commercialize linaclotide in Japan. In March 2017, Astellas began commercializing LINZESS for the treatment of adults with IBS-C in Japan, and in September 2017, Astellas submitted a supplemental new drug application for approval of LINZESS for the treatment of adults with chronic constipation in Japan. The Company has a collaboration agreement with AstraZeneca AB (together with its affiliates, “AstraZeneca”), to co-develop and co-commercialize linaclotide in China, Hong Kong and Macau, with AstraZeneca having primary responsibility for the local operational execution. In December 2015, the Company and AstraZeneca filed for approval with the China Food and Drug Administration (“CFDA”), to market linaclotide in China.
During 2017, the Company and Allergan were advancing two delayed release formulations, linaclotide delayed release-1 and linaclotide delayed release-2. In November 2017, the Company announced an updated linaclotide life cycle management strategy in the U.S. to further support the key objectives of the program, which include strengthening the clinical profile of linaclotide by obtaining additional abdominal symptom claims and expanding the clinical utility of linaclotide by demonstrating the pain-relieving effect of a delayed release formulation, through the advancement of linaclotide delayed release-2, in all forms of IBS. The Company and Allergan are also continuing to explore ways to enhance the clinical profile of LINZESS by studying linaclotide in additional indications, populations and formulations to assess its potential to treat various conditions. With this updated strategy, the Company and Allergan no longer intend to pursue linaclotide delayed release-1.
The Company is advancing another GI development program, IW-3718, a gastric retentive formulation of a bile acid sequestrant, for the potential treatment of uncontrolled gastroesophageal reflux disease (“uncontrolled GERD”). The Company’s clinical research has demonstrated that reflux of bile from the intestine into the stomach and esophagus plays a key role in the ongoing symptoms of uncontrolled GERD. IW-3718 is a novel formulation of a bile acid sequestrant designed to release in the stomach over an extended period of time, bind to bile that refluxes into the stomach, and potentially provide symptomatic relief in patients with uncontrolled GERD. In July 2017, the Company reported positive top-line data from a Phase IIb clinical trial evaluating IW-3718 that the Company believes supports potential advancement of this progarm into Phase III development.
In June 2016, the Company closed a transaction with AstraZeneca (the “Lesinurad Transaction”) pursuant to which the Company received an exclusive license to develop, manufacture, and commercialize in the U.S. products containing lesinurad as an active ingredient (the “Lesinurad License”), including ZURAMPIC® and DUZALLO®. Lesinurad 200mg tablets were approved as ZURAMPIC by the U.S. Food and Drug Administration (“FDA”) in December 2015 for use in combination with a xanthine oxidase inhibitor for the treatment of hyperuricemia associated with uncontrolled gout (“uncontrolled gout”). In October 2016, the Company began commercializing ZURAMPIC in the U.S. The FDA approved DUZALLO, a fixed-dose combination product of lesinurad and allopurinol, in August 2017, for the treatment of hyperuricemia associated with gout in patients who have not achieved goal serum uric acid levels with a medically appropriate daily dose of allopurinol alone. In October 2017, the Company began commercializing DUZALLO in the U.S. In January 2018, the Company commenced an initiative to evaluate the optimal mix of investments for the lesinurad franchise for uncontrolled gout, including DUZALLO and ZURAMPIC. As part of this effort, in 2018 the Company is re-allocating resources within the lesinurad franchise to systematically explore a more comprehensive marketing mix in select test markets (with paired controls), while continuing to build market presence for the lesinurad franchise across the country. The Company expects the data received in 2018 from these test markets to inform the Company’s future investment in the lesinurad franchise.
The Company is also leveraging its pharmacological expertise in GC pathways gained through the discovery and development of linaclotide, a GC-C agonist, to develop and advance a pipeline of soluble guanylate cyclase (“sGC”) stimulators, including praliciguat (IW-1973) and IW-1701. The Company is advancing praliciguat, its lead clinical sGC stimulator, for the potential treatment of diabetic nephropathy and the potential treatment of heart failure with preserved ejection fraction (“HFpEF”). The Company believes this data supports the continued advancement of praliciguat for evaluation as a potential treatment for patients with diabetic nephropathy and for patients with HFpEF. The Company’s second clinical sGC stimulator, IW-1701, is being developed for the potential treatment of achalasia and sickle cell disease.
The Company has periodically entered into co-promotion agreements to maximize its salesforce productivity. As part of this strategy, in August 2015, the Company and Allergan entered into an agreement for the co-promotion of VIBERZI® (eluxadoline) in the U.S., Allergan’s treatment for adults suffering from IBS with diarrhea (“IBS-D”). In January 2017, the Company and Allergan entered into a commercial agreement under which adjustments to the Company’s or Allergan’s share of the net profits under the share adjustment provision of the collaboration agreement for linaclotide in North America are eliminated, in full, in 2018 and all subsequent years. As part of this agreement, Allergan appointed the Company, on a non-exclusive basis, to promote CANASA® (mesalamine), approved for the treatment of ulcerative proctitis, and DELZICOL® (mesalamine), approved for the treatment of ulcerative colitis, in the U.S. for approximately two years. In December 2017, this agreement was amended to include and extend the promotion of VIBERZI through December 31, 2018 and discontinue the promotion of DELZICOL effective January 1, 2018.
These agreements are more fully described in Note 4, Business Combination, and Note 5, Collaboration, License, Co-Promotion and Other Commercial Agreements, to these consolidated financial statements.
In June 2015, the Company issued approximately $335.7 million in aggregate principal amount of 2.25% Convertible Senior Notes due 2022 (the “2022 Notes”). In September 2016, the Company closed a direct private placement, pursuant to which the Company subsequently issued $150.0 million in aggregate principal amount of 8.375% notes due 2026 (the “2026 Notes”) on January 5, 2017 (the “Funding Date”). The Company received net proceeds of approximately $11.2 million from the 2026 Notes, after redemption of the PhaRMA Notes outstanding balance and accrued interest of approximately $135.1 million and deducting fees and expenses of approximately $3.7 million. The proceeds from the issuance of the 2026 Notes were used to redeem the outstanding principal balance of the 11% PhaRMA Notes due 2024 (the “PhaRMA Notes”), on the Funding Date. These transactions are more fully described in Note 12, Notes Payable, to these consolidated financial statements.
The Company was incorporated in Delaware on January 5, 1998 as Microbia, Inc. On April 7, 2008, the Company changed its name to Ironwood Pharmaceuticals, Inc. To date, the Company has dedicated a majority of its activities to the research, development and commercialization of linaclotide and commercialization of lesinurad, as well as to the research and development of its other product candidates. The Company has incurred significant operating losses since its inception in 1998. As of December 31, 2017, the Company had an accumulated deficit of approximately $1.3 billion.
2. Summary of Significant Accounting Policies
Principles of Consolidation
The accompanying consolidated financial statements include the accounts of Ironwood Pharmaceuticals, Inc. and its wholly owned subsidiaries, Ironwood Pharmaceuticals Securities Corporation and Ironwood Pharmaceuticals GmbH. All intercompany transactions and balances are eliminated in consolidation.
Segment Information
Operating segments are components of an enterprise for which separate financial information is available and is evaluated regularly by the Company’s chief operating decision-maker in deciding how to allocate resources and in assessing performance. The Company currently operates in one reportable business segment-human therapeutics.
Reclassifications and Revisions to Prior Period Financial Statements
Certain prior period financial statement items, such as Product Revenue and Sale of Active Pharmaceutical Ingredient, have been reclassified to conform to the current period presentation.
Use of Estimates
The preparation of consolidated financial statements in accordance with U.S. generally accepted accounting principles requires the Company’s management to make estimates and judgments that may affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements, and the amounts of revenues and expenses during the reported periods. On an on-going basis, the Company’s management evaluates its estimates, judgments and methodologies. Significant estimates and assumptions in the consolidated financial statements include those related to revenue recognition, including returns, rebates, and other pricing adjustments; available-for-sale securities; inventory valuation, and related reserves; impairment of long-lived assets including its acquired intangible assets and goodwill; initial valuation procedures for the issuance of convertible notes; fair value of derivatives; balance sheet classification of notes payable and convertible notes; income taxes, including the valuation allowance for deferred tax assets; research and development expenses; contingent consideration; contingencies and share-based compensation. The Company bases its estimates on historical experience and on various other assumptions that are believed to be reasonable, the results of which form the basis for making judgments about the carrying values of assets and liabilities. Actual results may differ materially from these estimates under different assumptions or conditions. Changes in estimates are reflected in reported results in the period in which they become known.
Cash and Cash Equivalents
The Company considers all highly liquid investment instruments with a remaining maturity when purchased of three months or less to be cash equivalents. Investments qualifying as cash equivalents primarily consist of money market funds, U.S. government-sponsored securities, and repurchase agreements. The carrying amount of cash equivalents approximates fair value. The amount of cash equivalents included in cash and cash equivalents was approximately $126.3 million and approximately $32.5 million at December 31, 2017 and 2016, respectively.
Restricted Cash
The Company is contingently liable under unused letters of credit with a bank, related to the Company’s facility lease and automobile lease agreements, in the amount of approximately $7.1 million and approximately $8.2 million as of December 31, 2017 and 2016, respectively, which the Company records as restricted cash to secure these letters of credit. The cash will be restricted until the termination or modification of the lease arrangements.
Available-for-Sale Securities
The Company classifies all short-term investments with a remaining maturity when purchased of greater than three months as available-for-sale. Available-for-sale securities are recorded at fair value, with the unrealized gains and
losses reported in other comprehensive income (loss). The amortized cost of debt securities in this category is adjusted for the amortization of premiums and accretion of discounts to maturity. Such amortization is included in interest and investment income. Realized gains and losses, interest, dividends, and declines in value judged to be other than temporary on available-for-sale securities are included in interest and investment income.
The cost of securities sold is based on the specific identification method for purposes of recording realized gains and losses. To determine whether an other-than-temporary impairment exists, the Company considers whether it has the ability and intent to hold the investment until a market price recovery, and whether evidence indicating the recoverability of the cost of the investment outweighs evidence to the contrary. There were no other-than-temporary impairments for the years ended December 31, 2017, 2016 or 2015.
Inventory
Inventory is stated at the lower of cost or net realizable value with cost determined under the first-in, first-out basis in accordance with Accounting Standards Update (“ASU”) No. 2015-11, Inventory (Topic 330): Simplifying the Measurement of Inventory (“ASU 2015-11”).
The Company evaluates inventory levels quarterly and any inventory that has a cost basis in excess of its expected net realizable value, inventory that becomes obsolete, inventory in excess of expected sales requirements, inventory that fails to meet commercial sale specifications or is otherwise impaired is written down with a corresponding charge to the statement of operations in the period that the impairment is first identified. The Company also assesses, on a quarterly basis, whether it has any excess non-cancelable purchase commitments resulting from its minimum supply agreements with its suppliers. The Company relies on data from several sources to estimate the net realizable value of inventory and non-cancelable purchase commitments, including partner forecasts of projected inventory purchases that are received quarterly, the Company’s internal forecasts and related process, historical sales by geographic region, and the status of and progress toward commercialization of linaclotide in partnered territories.
The Company capitalizes inventories manufactured in preparation for initiating sales of a product candidate when the related product candidate is considered to have a high likelihood of regulatory approval and the related costs are expected to be recoverable through sales of the inventories. In determining whether or not to capitalize such inventories, the Company evaluates, among other factors, information regarding the product candidate’s safety and efficacy, the status of regulatory submissions and communications with regulatory authorities and the outlook for commercial sales, including the existence of current or anticipated competitive drugs and the availability of reimbursement. In addition, the Company evaluates risks associated with manufacturing the product candidate, including the ability of the Company’s third-party suppliers to complete the validation batches, and the remaining shelf life of the inventories.
Costs associated with developmental products prior to satisfying the inventory capitalization criteria are charged to research and development expense as incurred.
Concentrations of Suppliers
The Company relies on third-party manufacturers and its collaboration partners to manufacture the linaclotide active pharmaceutical ingredient (“API”), linaclotide drug product and lesinurad finished goods.
Currently, there are two third-party manufacturers approved for the production of the linaclotide API in three facilities. Each of Allergan and Astellas is responsible for drug product manufacturing of linaclotide into finished product for its respective territory. Under the collaboration with AstraZeneca, the Company is accountable for drug product and finished goods manufacturing for China and Macau and for drug product manufacturing for Hong Kong, with AstraZeneca accountable for finished goods manufacturing for Hong Kong. The Company also has an agreement with another independent third party to serve as a second source of API manufacturing of linaclotide for its partnered territories.
In connection with the Lesinurad License with AstraZeneca, the Company and AstraZeneca entered into a commercial supply agreement (the “Lesinurad CSA”), pursuant to which the Company relies exclusively on AstraZeneca for the commercial manufacture and supply of ZURAMPIC and DUZALLO.
If any of the Company’s suppliers were to limit or terminate production or otherwise fail to meet the quality or delivery requirements needed to satisfy the supply commitments, the process of locating and qualifying alternate sources could require up to several months, during which time the Company’s production could be delayed. Such delays could have a material adverse effect on the Company’s business, financial position and results of operations.
Accounts Receivable and Related Valuation Account
The Company makes judgments as to its ability to collect outstanding receivables and provides an allowance for receivables when collection becomes doubtful. Provisions are made based upon a specific review of all significant outstanding invoices and the overall quality and age of those invoices not specifically reviewed. The Company’s receivables relate to amounts reimbursed under its collaboration, license and co-promotion agreements, as well as amounts due from product sales to wholesalers. The Company believes that credit risks associated with these partners and wholesalers are not significant. To date, the Company has not had any write-offs of bad debt, and the Company did not have an allowance for doubtful accounts as of December 31, 2017 and 2016.
Concentrations of Credit Risk
Financial instruments that subject the Company to credit risk primarily consist of cash and cash equivalents, restricted cash, available-for-sale securities, and accounts receivable. The Company maintains its cash and cash equivalent balances with high-quality financial institutions and, consequently, the Company believes that such funds are subject to minimal credit risk. The Company’s available-for-sale investments primarily consist of U.S. Treasury securities and certain U.S. government-sponsored securities and potentially subject the Company to concentrations of credit risk. The Company has adopted an investment policy which limits the amounts the Company may invest in certain types of investments, and requires all investments held by the Company to be at least A- rated, thereby reducing credit risk exposure.
Accounts receivable, including related party accounts receivable, primarily consist of amounts due under the linaclotide collaboration agreement with Allergan for North America and the linaclotide license agreement with Astellas for Japan (Note 5), and also from wholesalers, for which the Company does not obtain collateral. Accounts receivable or payable to or from Allergan are presented as related party transactions on the consolidated balance sheets as Allergan owns common stock of the Company.
The percentages of revenue recognized from significant customers of the Company in the years ended December 31, 2017, 2016 and 2015 as well as the account receivable balances, net of any payables due, at December 31, 2017 and 2016 are included in the following table:
(1)
In October 2015, Almirall, S.A. (“Almirall”) transferred its exclusive license to develop and commercialize linaclotide in Europe to Allergan.
For the years ended December 31, 2017, 2016 and 2015, no additional customers accounted for more than 10% of the Company’s revenue.
Property and Equipment
Property and equipment, including leasehold improvements, are recorded at cost, and are depreciated when placed into service using the straight-line method based on their estimated useful lives as follows:
Included in property and equipment are certain costs of software obtained for internal use. Costs incurred during the preliminary project stage are expensed as incurred, while costs incurred during the application development stage are capitalized and amortized over the estimated useful life of the software. The Company also capitalizes costs related to specific upgrades and enhancements when it is probable the expenditures will result in additional functionality. Maintenance and training costs related to software obtained for internal use are expensed as incurred.
Leasehold improvements are amortized over the shorter of the estimated useful life of the asset or the lease term. Capital lease assets are amortized over the lease term. However, if ownership was transferred by the end of the capital lease, or there was a bargain purchase option, such capital lease assets would be amortized over the useful life that would be assigned if such assets were owned.
Costs for capital assets not yet placed into service have been capitalized as construction in progress, and will be depreciated in accordance with the above guidelines once placed into service. Maintenance and repair costs are expensed as incurred.
Finite and Indefinite-Lived Intangible Assets
The Company records the fair value of purchased intangible assets with finite useful lives as of the transaction date of a business combination. Purchased intangible assets with finite useful lives are amortized to their estimated residual values over their estimated useful lives. The Company amortizes intangible assets that have finite lives using either the straight-line method, or if reliably determinable, based on the pattern in which the economic benefit of the asset is expected to be utilized. The Company evaluates the finite-lived intangible assets for impairment whenever events or changes in circumstances indicate the reduction in the fair value below their respective carrying amounts. In addition, the remaining estimated useful life of the finite-lived intangible asset would be reassessed.
The value of the Company’s finite-lived intangible assets are based on the future expected net cash flows related to ZURAMPIC and DUZALLO (the “Lesinurad Products”), which include significant assumptions around future net sales and the respective investment to support these products.
In accordance with Accounting Standards Codification (“ASC”) Topic 350, Intangibles - Goodwill and Other (“ASC 350”), during the period that an asset is considered indefinite-lived, such as in-process research and development (“IPR&D”), it will not be amortized. Acquired IPR&D represents the fair value assigned to research and development assets that have not reached technological feasibility. The value assigned to acquired IPR&D is determined by estimating the costs to develop the acquired technology into commercially viable products, estimating the resulting revenue from the projects, and discounting the net cash flows to present value. The revenue and costs projections used to value acquired IPR&D are, as applicable, reduced based on the probability of success of developing a new drug. Additionally, the projections consider the relevant market sizes and growth factors, expected trends in technology, and the nature and expected timing of new product introductions by the Company and its competitors. The rates utilized to discount the net cash flows to their present value are commensurate with the stage of development of the projects and uncertainties in the economic estimates used in the projections. Upon the acquisition of IPR&D, the Company completes an assessment of whether its acquisition constitutes the purchase of a single asset or a group of assets. Multiple factors are considered in this assessment, including the nature of the technology acquired, the presence or absence of separate cash flows, the development process and stage of completion, quantitative significance and the rationale for entering into the transaction. Indefinite-lived assets are maintained on the Company’s consolidated balance sheet until either the project
underlying it is completed or the asset becomes impaired. When development of an IPR&D asset is complete the associated asset is deemed finite-lived and is then amortized based on its respective estimated useful life at that point.
The Company tests its indefinite-lived intangible assets for impairment annually as of October 1st, or more frequently if events or changes in circumstances indicate an impairment may have occurred. Additionally, the Company evaluates its finite-lived intangible assets for impairment whenever events or changes in circumstances indicate the reduction in the fair value below their respective carrying amounts. In connection with each annual impairment assessment and any interim impairment assessment in which indicators of impairment have been identified, the Company compares the fair value of the asset as of the date of the assessment with the carrying value of the asset on the Company’s consolidated balance sheet. If an indicator of impairment exists, the Company compares the carrying value of the intangible asset or asset group to the undiscounted cash flows expected from that asset or asset group. If impairment is indicated by this test, the intangible asset is written down by the amount by which the discounted cash flows expected from the intangible asset exceeds its carrying value. To estimate the cash flows expected for the assets, the Company uses market participant assumptions pursuant to ASC 820, Fair Value. For the lesinurad finite-lived intangible assets, the Company makes significant assumptions as part of this assessment including but not limited to future net product sales, respective cost of product sales, and operating expenses. The Company believes that the following factors, among others, could trigger an impairment review: significant underperformance relative to historical or projected future operating results; significant changes in the manner of the Company’s use of the acquired assets or the strategy for the Company’s overall business; approval of competitive products; and significant negative industry or economic trends. If the Company determines that an impairment has occurred, a write-down of the carrying value and an impairment charge to operating expenses in the period the determination is made is recorded. There were no impairments of intangible assets for the years ended December 31, 2017 or 2016.
Goodwill
Goodwill represents the difference between the purchase price and the fair value of the identifiable tangible and intangible net assets when accounted for using the purchase method of accounting. Goodwill is not amortized, but is reviewed for impairment. The Company tests its goodwill for impairment annually as of October 1st, or more frequently if events or changes in circumstances indicate that would more likely than not reduce the fair value of the reporting unit below its carrying value. Impairment may result from, among other things, deterioration in the performance of the acquired asset, adverse market conditions, adverse changes in applicable laws or regulations and a variety of other circumstances. If the Company determines that an impairment has occurred, a write-down of the carrying value and an impairment charge to operating expenses in the period the determination is made is recorded. In evaluating the carrying value of goodwill, the Company must make assumptions regarding estimated future cash flows and other factors. Changes in strategy or market conditions could significantly impact those judgments in the future and require an adjustment to the recorded balances. There were no impairments of goodwill for the years ended December 31, 2017 or 2016.
Impairment of Long-Lived Assets
The Company regularly reviews the carrying amount of its long-lived assets to determine whether indicators of impairment may exist, which warrant adjustments to carrying values or estimated useful lives. If indications of impairment exist, projected future undiscounted cash flows associated with the asset are compared to the carrying amount to determine whether the asset’s value is recoverable. If the carrying value of the asset exceeds such projected undiscounted cash flows, the asset will be written down to its estimated fair value. There were no significant impairments of long-lived assets for the years ended December 31, 2017, 2016, or 2015.
Income Taxes
The Company provides for income taxes under the liability method. Deferred tax assets and liabilities are determined based on differences between financial reporting and tax bases of assets and liabilities and are measured using the enacted tax rates in effect when the differences are expected to reverse. Deferred tax assets are reduced by a valuation allowance to reflect the uncertainty associated with their ultimate realization.
The Company accounts for uncertain tax positions recognized in the consolidated financial statements in accordance with the provisions of ASC Topic 740, Income Taxes, by prescribing a more-likely-than-not threshold for financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. When
uncertain tax positions exist, the Company recognizes the tax benefit of tax positions to the extent that the benefit will more likely than not be realized. The determination as to whether the tax benefit will more likely than not be realized is based upon the technical merits of the tax position as well as consideration of the available facts and circumstances. The Company evaluates uncertain tax positions on a quarterly basis and adjusts the level of the liability to reflect any subsequent changes in the relevant facts surrounding the uncertain positions. Any changes to these estimates, based on the actual results obtained and/or a change in assumptions, could impact the Company’s income tax provision in future periods. Interest and penalty charges, if any, related to unrecognized tax benefits would be classified as a provision for income tax in the Company’s consolidated statement of operations.
Deferred Financing Costs
Deferred financing costs include costs directly attributable to the Company’s offerings of its equity securities and its debt financings. Costs attributable to equity offerings are charged against the proceeds of the offering once the offering is completed. Costs attributable to debt financings are deferred and amortized over the term of the debt using the effective interest rate method. A portion of the deferred financing cost incurred in connection with the 2022 Notes was deemed to relate to the equity component and was allocated to additional paid in capital. In accordance with ASU No. 2015-03, Simplifying the Presentation of Debt Issuance Costs ("ASU 2015-03"), the Company presents debt issuance costs on the balance sheet as a direct deduction from the associated debt liability. The 2026 Notes, 2022 Notes and PhaRMA Notes are more fully described in Note 12, Notes Payable, to these consolidated financial statements.
Derivative Assets and Liabilities
In June 2015, in connection with the issuance of the 2022 Notes, the Company entered into convertible note hedge transactions (the “Convertible Note Hedges”). Concurrently with entering into the Convertible Note Hedges, the Company also entered into certain warrant transactions in which it sold note hedge warrants (the “Note Hedge Warrants”) to the Convertible Note Hedge counterparties to acquire 20,249,665 shares of the Company’s Class A common stock, subject to customary anti-dilution adjustments (Note 12). These instruments are derivative financial instruments under ASC Topic 815, Derivatives and Hedging (“ASC 815”).
These derivatives are recorded as assets or liabilities at fair value each reporting period and the fair value is determined using the Black-Scholes option-pricing model. The changes in fair value are recorded as a component of other (expense) income in the consolidated statements of operations. Significant inputs used to determine the fair value include the price per share of the Company’s Class A common stock on the date of valuation, time to maturity of the derivative instruments, the strike prices of the derivative instruments, the risk-free interest rate, and the volatility of the Company’s Class A common stock. Changes to these inputs could materially affect the valuation of the Convertible Note Hedges and Note Hedge Warrants in future periods.
Revenue Recognition
The Company’s revenues are generated primarily through collaborative arrangements and license agreements related to the research and development and commercialization of linaclotide, as well as co-promotion arrangements in the U.S. and product revenue related to the commercial sale of ZURAMPIC and DUZALLO in the U.S. The terms of the collaborative research and development, license and co-promotion agreements contain multiple deliverables which may include (i) licenses, (ii) research and development activities, including participation on joint steering committees, (iii) the manufacture of finished drug product, API, or development materials for a partner which are reimbursed at a contractually determined rate, and (iv) co-promotion activities by the Company’s clinical sales specialists. Non-refundable payments to the Company under these agreements may include (i) up-front license fees, (ii) payments for research and development activities, (iii) payments for the manufacture of finished drug product, API, or development materials, (iv) payments based upon the achievement of certain milestones, (v) payments for sales detailing, promotional support services and medical education initiatives, and (vi) royalties on product sales. Additionally, the Company may receive its share of the net profits or bear its share of the net losses from the sale of linaclotide in the U.S. and for China, Hong Kong and Macau through its collaborations with Allergan and AstraZeneca, respectively.
At December 31, 2017, the Company had collaboration agreements with Allergan (North America) and AstraZeneca (China, Hong Kong and Macau), as well as license agreements with Allergan (Europe) and Astellas (Japan) to develop and commercialize linaclotide. The Company also had an exclusive license agreement with AstraZeneca to
develop, manufacture, and commercialize products containing lesinurad as an active agreement in the U.S., including ZURAMPIC and DUZALLO.
The Company recognizes revenue when there is persuasive evidence that an arrangement exists, services have been rendered or delivery has occurred, the price is fixed or determinable, and collection is reasonably assured.
For certain of the Company’s arrangements, particularly the linaclotide license agreement with Allergan for all countries worldwide other than China, Hong Kong, Macau, Japan, and the countries and territories of North America, it is required that taxes be withheld on payments to the Company. The Company has adopted a policy to recognize revenue net of these tax withholdings.
Agreements Entered into Prior to January 1, 2011
For arrangements that include multiple deliverables and were entered into prior to January 1, 2011, the Company follows the provisions of ASC Topic 605-25, Revenue Recognition-Multiple-Element Arrangements (‘‘ASC 605-25’’), in accounting for these agreements. Under ASC 605-25, the Company was required to identify the deliverables included within the agreement and evaluate which deliverables represent separate units of accounting. Collaborative research and development and licensing agreements that contained multiple deliverables were divided into separate units of accounting when the following criteria were met:
·
Delivered element(s) had value to the collaborator on a standalone basis,
·
There was objective and reliable evidence of the fair value of the undelivered obligation(s), and
·
If the arrangement included a general right of return relative to the delivered item(s), delivery or performance of the undelivered item(s) was considered probable and substantially within the Company’s control.
The Company allocated arrangement consideration among the separate units of accounting either on the basis of each unit’s respective fair value or using the residual method, and applied the applicable revenue recognition criteria to each of the separate units. If the separation criteria were not met, revenue of the combined unit of accounting was recorded based on the method appropriate for the last delivered item.
Up-Front License Fees
Prior to the adoption of ASU 2009-13, the Company recognized revenue from nonrefundable, up-front license fees on a straight-line basis over the contracted or estimated period of performance, which is typically the period over which the research and development is expected to occur or manufacturing services are expected to be provided (Note 5).
Agreements Entered into or Materially Modified on or after January 1, 2011
The Company evaluates revenue from new multiple element agreements entered into on or after January 1, 2011 under ASU No. 2009-13, Multiple-Deliverable Revenue Arrangements (“ASU 2009-13”). The Company also evaluates whether amendments to its multiple element arrangements are considered material modifications that are subject to the application of ASU 2009-13. This evaluation requires management to assess all relevant facts and circumstances and to make subjective determinations and judgments. As part of this assessment, the Company considers whether the modification results in a material change to the arrangement, including whether there is a change in total arrangement consideration that is more than insignificant, whether there are changes in the deliverables included in the arrangement, whether there is a change in the term of the arrangement and whether there is a significant modification to the delivery schedule for contracted deliverables.
When evaluating multiple element arrangements under ASU 2009-13, the Company considers whether the deliverables under the arrangement represent separate units of accounting. This evaluation requires subjective determinations and requires management to make judgments about the individual deliverables and whether such deliverables are separable from the other aspects of the contractual relationship. In determining the units of accounting, management evaluates certain criteria, including whether the deliverables have standalone value, based on the
consideration of the relevant facts and circumstances for each arrangement. Factors considered in this determination include the research, manufacturing and commercialization capabilities of the partner and the availability of relevant research and manufacturing expertise in the general marketplace. In addition, the Company considers whether the collaborator can use the license or other deliverables for their intended purpose without the receipt of the remaining elements, and whether the value of the deliverable is dependent on the undelivered items and whether there are other vendors that can provide the undelivered items.
The consideration received is allocated among the separate units of accounting using the relative selling price method, and the applicable revenue recognition criteria are applied to each of the separate units.
The Company determines the estimated selling price for deliverables using vendor-specific objective evidence (“VSOE”) of selling price, if available, third-party evidence (“TPE”) of selling price if VSOE is not available, or best estimate of selling price (“BESP”) if neither VSOE nor TPE is available. Determining the BESP for a deliverable requires significant judgment. The Company uses BESP to estimate the selling price for licenses to the Company’s proprietary technology, since the Company often does not have VSOE or TPE of selling price for these deliverables. In those circumstances where the Company utilizes BESP to determine the estimated selling price of a license to the Company’s proprietary technology, the Company considers market conditions as well as entity-specific factors, including those factors contemplated in negotiating the agreements as well as internally developed models that include assumptions related to the market opportunity, estimated development costs, probability of success and the time needed to commercialize a product candidate pursuant to the license. In validating the Company’s BESP, the Company evaluates whether changes in the key assumptions used to determine the BESP will have a significant effect on the allocation of arrangement consideration between multiple deliverables.
Up-Front License Fees
When management believes the license to its intellectual property has stand-alone value, the Company generally recognizes revenue attributed to the license upon delivery. When management believes the license to its intellectual property does not have stand-alone value from the other deliverables to be provided in the arrangement, it is combined with other deliverables and the revenue of the combined unit of accounting is recorded based on the method appropriate for the last delivered item.
Milestones
At the inception of each arrangement that includes pre-commercial milestone payments, the Company evaluates whether each pre-commercial milestone is substantive, in accordance with ASU No. 2010-17, Revenue Recognition-Milestone Method (“ASU 2010-17”), adopted on January 1, 2011. This evaluation includes an assessment of whether (a) the consideration is commensurate with either (1) the entity’s performance to achieve the milestone, or (2) the enhancement of the value of the delivered item(s) as a result of a specific outcome resulting from the entity’s performance to achieve the milestone, (b) the consideration relates solely to past performance and (c) the consideration is reasonable relative to all of the deliverables and payment terms within the arrangement. The Company evaluates factors such as the scientific, clinical, regulatory, commercial and other risks that must be overcome to achieve the respective milestone, the level of effort and investment required and whether the milestone consideration is reasonable relative to all deliverables and payment terms in the arrangement in making this assessment. At December 31, 2017, the Company had no pre-commercial milestones that were deemed substantive. If a substantive pre-commercial milestone were achieved and collection of the related receivable was reasonably assured, the Company would recognize revenue related to the milestone in its entirety in the period in which the milestone was achieved. If the Company were to achieve milestones that are considered substantive under any of the Company’s collaborations, the Company may experience significant fluctuations in collaborative arrangements revenue from quarter to quarter and year to year depending on the timing of achieving such substantive milestones. In those circumstances where a pre-commercial milestone is not substantive, the Company recognizes as revenue on the date the milestone is achieved an amount equal to the applicable percentage of the performance period that had elapsed as of the date the milestone was achieved, with the balance being deferred and recognized over the remaining period of performance.
Commercial milestones are accounted for as royalties and are recorded as revenue upon achievement of the milestone, assuming all other revenue recognition criteria are met.
Net Profit or Net Loss Sharing
In accordance with ASC 808 Topic, Collaborative Arrangements, and ASC 605-45, Principal Agent Considerations, the Company considers the nature and contractual terms of the arrangement and the nature of the Company’s business operations to determine the classification of the transactions under the Company’s collaboration agreements. The Company records revenue transactions gross in the consolidated statements of operations if it is deemed the principal in the transaction, which includes being the primary obligor and having the risks and rewards of ownership.
The Company recognizes its share of the pre-tax commercial net profit or net loss generated from the sales of LINZESS in the U.S. in the period the product sales are reported by Allergan and related cost of goods sold and selling, general and administrative expenses are incurred by the Company and its collaboration partner. These amounts are partially determined based on amounts provided by Allergan and involve the use of estimates and judgments, such as product sales allowances and accruals related to prompt payment discounts, chargebacks, governmental and contractual rebates, wholesaler fees, product returns, and co-payment assistance costs, which could be adjusted based on actual results in the future. The Company is highly dependent on Allergan for timely and accurate information regarding any net revenues realized from sales of LINZESS in the U.S. and the costs incurred in selling it, in order to accurately report its results of operations. For the periods covered in the consolidated financial statements presented, there have been no material changes to prior period estimates of revenues, cost of goods sold or selling, general and administrative expenses associated with the sales of LINZESS in the U.S. However, if the Company does not receive timely and accurate information or incorrectly estimates activity levels associated with the collaboration at a given point in time, the Company could be required to record adjustments in future periods.
The Company records its share of the net profits or net losses from the sales of LINZESS in the U.S. on a net basis and presents the settlement payments to and from Allergan as collaboration expense or collaborative arrangements revenue, as applicable, as the Company is not the primary obligor and does not have the risks and rewards of ownership in the collaboration agreement with Allergan for North America. The Company and Allergan settle the cost sharing quarterly, such that the Company’s statement of operations reflects 50% of the pre-tax net profit or loss generated from sales of LINZESS in the U.S.
Royalties on Product Sales
The Company receives, or expects to receive in the future, royalty revenues under certain of the Company’s license or collaboration agreements. If the Company does not have any future performance obligations under these license or collaboration agreements, the Company records these revenues as earned. To the extent the Company relies on royalty reports from the Company’s partners, the Company estimates royalty revenue in the period earned based on its forecast and historical data.
Product Revenue, Net
Net product revenue is derived from sales of the Lesinurad Products in the U.S. The Company sells the Lesinurad Products principally to a limited number of national wholesalers and selected regional wholesalers (the “Distributors”). The Distributors subsequently resell the Lesinurad Products to patients and healthcare providers.
The Company recognizes net product revenue from sales of the Lesinurad Products in accordance with ASC 605, Revenue Recognition (“ASC 605”), when persuasive evidence of an arrangement exists, delivery has occurred and title of the product and associated risk of loss has passed to the customer, the price is fixed or determinable, and collection from the customer has been reasonably assured. ASC 605 requires, among other criteria, that future returns can be reasonably estimated in order to recognize revenue. The Company recognizes revenue on a gross basis as it has concluded that it is the principal in the product revenue transactions for the Lesinurad Products, as it holds the general inventory risk, latitude in establishing price, physical loss inventory risk and credit risk.
The Company began commercializing ZURAMPIC in October 2016 and DUZALLO in October 2017 in the U.S. Initially, upon the product launch of each of the Lesinurad Products, the Company determined that it was not able to reliably make certain estimates, including returns, necessary to recognize product revenue upon shipment to Distributors. As a result, through September 30, 2017, the Company recorded net product revenue for the Lesinurad Products using a deferred revenue recognition model (sell-through). Under the deferred revenue model, the Company did not recognize revenue until the respective product was prescribed to an end-user. Accordingly, the Company recognized
net product revenue when the Lesinurad Products were prescribed to the end-user, on a first-in, first-out basis using estimated prescription demand and pharmacy demand from third party sources and the Company’s analysis of third party market research data, as well as other third-party information through September 30, 2017.
During the three months ended December 31, 2017, the Company concluded it had sufficient volume of historical activity and visibility into the distribution channel, in order to reasonably make all estimates required under ASC 605 to recognize product revenue upon delivery to the Distributor (Note 5). Accordingly, the Company recorded a cumulative adjustment of approximately $0.9 million to net product revenue and an insignificant amount to cost of revenues as a result of the transition to the sell-in revenue recognition model. During the three months and year ended December 31, 2017, product revenue is recognized upon delivery of the Lesinurad Products to the Distributors. The Company evaluates the creditworthiness of each of its Distributors to determine whether revenue can be recognized upon delivery, subject to satisfaction of the other requirements, or whether recognition is required to be delayed until receipt of payment. In order to conclude that the price is fixed or determinable, the Company must be able to (i) calculate its gross product revenue from the sales to Distributors and (ii) reasonably estimate its net product revenue. The Company calculates gross product revenue based on the wholesale acquisition cost that the Company charges its Distributors for ZURAMPIC and DUZALLO. The Company estimates its net product revenue by deducting from its gross product revenue (i) trade discounts and allowances, such as invoice discounts for prompt payment and distributor fees, (ii) estimated government and private payor rebates, chargebacks and discounts, such as Medicaid reimbursements, (iii) reserves for expected product returns and (iv) estimated costs of incentives offered to certain indirect customers including patients. These estimates could be adjusted based on actual results in the period such variances become known.
Trade Discounts and Allowances: The Company generally provides invoice discounts on sales of Lesinurad Products to its Distributors for prompt payment and pays fees for distribution services, such as fees for certain data that Distributors provide to the Company. Consistent with historical industry practice, the Company expects its Distributors to earn these discounts and fees, and accordingly deducts the full amount of these discounts and fees from its gross product revenues at the time such revenues are recognized.
Rebates, Chargebacks and Discounts: The Company contracts with Medicaid, other government agencies and various private organizations ("Third-party Payors") to allow for eligible purchases of the Lesinurad Products at partial or full reimbursement from such Third-party Payors. The Company estimates the rebates, chargebacks and discounts it will be obligated to provide to Third-party Payors and deducts these estimated amounts from its gross product revenue at the time the revenue is recognized. Based upon (i) the Company's contracts with these Third-party Payors, (ii) the government-mandated discounts applicable to government-funded programs, (iii) information obtained from the Company's Distributors and third-parties regarding the payor mix for Lesinurad Products and (iv) historical industry information regarding the payor mix for analog products, the Company estimates the rebates, chargebacks and discounts that it will be obligated to provide to Third-party Payors.
Product Returns: The Company estimates the amount of Lesinurad Products that will be returned and deducts these estimated amounts from its gross revenue at the time the revenue is recognized. The Company's Distributors have the right to return unopened, unprescribed Lesinurad Products beginning six months prior to the labeled expiration date and ending twelve months after the labeled expiration date. The expiration date for the Lesinurad Products is up to 36 months after it has been converted into tablet form, which is the last step in the manufacturing process for Lesinurad Products and generally occurs within a few months before Lesinurad Products is delivered to Distributors. Reporting from the Distributors includes Distributor sales and inventory held by Distributors, which provides the Company with visibility into the distribution channel in order to determine which products, if any, were eligible to be returned.
Other Incentives: Incentives that the Company offers include voluntary patient assistance programs, such as co-pay assistance programs which are intended to provide financial assistance to qualified commercially insured patients with prescription drug co-payments required by payors. The calculation of the accrual for co-pay assistance is based on an estimate of claims and the cost per claim that the Company expects to receive associated with product that has been recognized as revenue, but remains in the distribution channel inventories at the end of each reporting period.
Product revenue is recorded net of the trade discounts, allowances, rebates, chargebacks, discounts, product returns, and other incentives. Certain of these adjustments are recorded as an accounts receivable reserve. As of December 31, 2017, the accounts receivable reserve related to product sales was approximately $0.4 million.
Other
The Company produces linaclotide finished drug product, API and development materials for certain of its partners.
The Company recognizes revenue on linaclotide finished drug product, API and development materials when the material has passed all quality testing required for collaborator acceptance, delivery has occurred, title and risk of loss have transferred to the partner, the price is fixed or determinable, and collection is reasonably assured. As it relates to development materials and API produced for Astellas, the Company is reimbursed at a contracted rate. Such reimbursements are considered as part of revenue generated pursuant to the Astellas license agreement and are presented as sale of API. Any linaclotide finished drug product, API and development materials currently produced for Allergan for the U.S. or AstraZeneca for China, Hong Kong and Macau are recognized in accordance with the cost-sharing provisions of the Allergan and AstraZeneca collaboration agreements, respectively. In October 2015, Almirall transferred its exclusive license to develop and commercialize linaclotide in Europe to Allergan, and the Company separately entered into an amendment to the license agreement with Allergan relating to the development and commercialization of linaclotide in Europe. Pursuant to the terms of the amendment, Allergan assumed responsibility for the manufacturing of linaclotide API for Europe from the Company, as well as the associated costs (Note 5).
Cost of Revenues
Cost of revenues includes cost related to the sales of linaclotide API and drug product, as well as the cost of product revenue related to sales of the Lesinurad Products in the U.S. Cost related to the sales of linaclotide API and drug product are recognized upon shipment of linaclotide API and drug product to certain of the Company’s partners outside of the U.S. The Company’s cost of revenue for linaclotide consists of the internal and external costs of producing such API and drug product. Cost of product revenue related to the sales of the Lesinurad Products in the U.S. includes the cost of producing finished goods that correspond with product revenue for the reporting period, such as third-party supply and overhead costs, as well as certain period costs related to freight, packaging, stability and quality testing, and customer acquisition.
Research and Development Costs
The Company expenses research and development costs to operations as incurred. The Company defers and capitalizes nonrefundable advance payments made by the Company for research and development activities until the related goods are received or the related services are performed.
Research and development expenses are comprised of costs incurred in performing research and development activities, including salary, benefits and other employee-related expenses; share-based compensation expense; laboratory supplies and other direct expenses; facilities expenses; overhead expenses; third-party contractual costs relating to nonclinical studies and clinical trial activities and related contract manufacturing expenses, development of manufacturing processes and regulatory registration of third-party manufacturing facilities; licensing fees for the Company’s product candidates; and other outside expenses.
The Company has collaboration agreements with Allergan for the U.S. and AstraZeneca for China, Hong Kong and Macau pursuant to which it shares research and development expenses related to linaclotide. The Company records expenses incurred under the linaclotide collaboration arrangements for such work as research and development expense. Because the collaboration arrangements are cost sharing arrangements, the Company concluded that when there is a period during the collaboration arrangements during which the Company is owed payment from Allergan or AstraZeneca for such territories, the Company records the reimbursement by Allergan or AstraZeneca for their share of the development effort as a reduction of research and development expense. Amounts owed to Allergan or AstraZeneca for such territories are recorded as incremental research and development expense.
Selling, General and Administrative Expenses
The Company expenses selling, general and administrative costs to operations as incurred. Selling, general and administrative expense consists primarily of compensation, benefits and other employee-related expenses for personnel in the Company’s administrative, finance, legal, information technology, business development, commercial, sales, marketing, communications and human resource functions. Other costs include the legal costs of pursuing patent
protection of the Company’s intellectual property, general and administrative related facility costs, insurance costs and professional fees for accounting and legal services.
Under the Company’s AstraZeneca collaboration agreement for linaclotide, the Company is reimbursed for certain selling, general and administrative expenses and the Company nets these reimbursements against the Company’s selling, general and administrative expenses as incurred. The Company includes Allergan’s selling, general and administrative cost-sharing payments in the calculation of the net profits and net losses from the sale of LINZESS in the U.S. and present the net payment to or from Allergan as collaboration expense or collaborative arrangements revenue, respectively.
Share-Based Compensation
The Company’s share-based compensation programs grant awards which have included stock awards, restricted stock awards (“RSAs”), restricted stock units (“RSUs”), and stock options. Share-based compensation is recognized as an expense in the financial statements based on the grant date fair value over the requisite service period. For awards that vest based on service conditions, the Company uses the straight-line method to allocate compensation expense to reporting periods. The grant date fair value of options granted is calculated using the Black-Scholes option-pricing model, which requires the use of subjective assumptions including volatility, expected term, and expected forfeitures, among others. The fair value of the Company’s RSUs is based on the market value of the Company’s Class A common stock on the date of grant. Compensation expense for RSUs is recognized on a straight-line basis over the applicable service period.
The Company records the expense for stock option grants subject to performance-based milestone vesting using the accelerated attribution method over the remaining service period when management determines that achievement of the milestone is probable. Management evaluates when the achievement of a performance-based milestone is probable based on the relative satisfaction of the performance conditions as of the reporting date.
The Company records the expense of stock options granted for services rendered by non-employees based on the estimated fair value of the stock option using the Black-Scholes option-pricing model. The fair value of unvested non-employee stock option awards is remeasured at each reporting period and expensed over the vesting term of the underlying stock options.
While the assumptions used to calculate and account for share-based compensation awards represent management’s best estimates, these estimates involve inherent uncertainties and the application of management’s judgment. As a result, if revisions are made to the Company’s underlying assumptions and estimates, the Company’s share-based compensation expense could vary significantly from period to period.
Patent Costs
The Company incurred and recorded as operating expense legal and other fees related to patents of approximately $4.2 million, approximately $2.3 million, and approximately $2.2 million for the years ended December 31, 2017, 2016 and 2015, respectively. These costs were charged to selling, general and administrative expenses as incurred.
Business Combination
The Company evaluates acquisitions of assets and other similar transactions to assess whether or not the transaction should be accounted for as a business combination by assessing whether or not the Company has acquired inputs and processes that have the ability to create outputs. If determined to be a business combination, the Company accounts for business acquisitions under the acquisition method of accounting as indicated in the Financial Accounting Standards Board (“FASB”) issued ASC Topic 805, Business Combination, (“ASC 805”) which requires the acquiring entity in a business combination to recognize the fair value of all assets acquired, liabilities assumed, and any non-controlling interest in the acquiree and establishes the acquisition date as the fair value measurement point. Accordingly, the Company recognizes assets acquired and liabilities assumed in business combinations, including contingent liabilities and non-controlling interest in the acquiree based on the fair value estimates as of the date of acquisition. In accordance with ASC 805, the Company recognizes and measures goodwill as of the acquisition date, as the excess of the fair value of the consideration paid over the fair value of the identified net assets acquired.
The consideration for the Company’s business acquisitions includes future payments that are contingent upon the occurrence of a particular event or events. Contingent consideration at December 31, 2017 and 2016 relates to future royalty and milestone payments based on the estimated future sales of the Lesinurad Products. The obligations for such contingent consideration payments are recorded at fair value on the acquisition date. The contingent consideration obligations are then evaluated each reporting period. Changes in the fair value of contingent consideration obligations, other than changes due to payments, are recognized as a (gain) loss on fair value remeasurement of contingent consideration in the consolidated statements of operations. Adjustments are recorded when there are changes in significant assumptions, including net sales projections, probability weighted net cash outflow projections, the discount rate, passage of time, and the yield curve equivalent to the Company’s credit risk, which is based on the estimated cost of debt for market participants. During the year ended December 31, 2017, the Company decreased certain of its net cash outflow projections associated with estimated future royalty and milestone payments, which resulted in an approximately $31.3 million decrease to the contingent consideration liability. (Note 4 and Note 7).
Net Income (Loss) Per Share
The Company calculates basic net income (loss) per common share and diluted net income (loss) per common share by dividing the net income (loss) by the weighted average number of common shares outstanding during the period. Diluted net income (loss) per common share is computed by dividing net income (loss) by the diluted number of shares outstanding during the period. Except where the result would be antidilutive to net income (loss), diluted net income (loss) per common share is computed assuming the conversion of the 2022 Notes, the exercise of outstanding common stock options and the vesting of RSUs and restricted stock (using the treasury stock method), as well as their related income tax effects. The Company allocates undistributed earnings between the classes of common stock on a one-to-one basis when computing net income (loss) per share. As a result, basic and diluted net income (loss) per Class A and Class B shares are equivalent.
Comprehensive Income (Loss)
Comprehensive income (loss) is defined as the change in equity of a business enterprise during a period from transactions, and other events and circumstances from non-owner sources and currently consists of net loss and changes in unrealized gains and losses on available-for-sale securities.
Subsequent Events
The Company considers events or transactions that have occurred after the balance sheet date of December 31, 2017, but prior to the filing of the financial statements with the Securities and Exchange Commission to provide additional evidence relative to certain estimates or to identify matters that require additional recognition or disclosure. Subsequent events have been evaluated through the filing of the financial statements accompanying this Annual Report on Form 10-K.
New Accounting Pronouncements
From time to time, new accounting pronouncements are issued by the FASB or other standard setting bodies that are adopted by the Company as of the specified effective date. Except as set forth below, the Company did not adopt any new accounting pronouncements during the year ended December 31, 2017 that had a material effect on its consolidated financial statements.
In May 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers (“ASU 2014-09”), which supersedes the revenue recognition requirements in ASC 605, and most industry-specific guidance. The new standard requires that an entity recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the Company expects to be entitled in exchange for those goods or services. The update also requires additional disclosure about the nature, amount, timing and uncertainty of revenue and cash flows arising from customer contracts, including significant judgments and changes in judgments and assets recognized from costs incurred to obtain or fulfill a contract. ASU 2014-09 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2017 and should be applied retrospectively to each prior reporting period presented or retrospectively with the cumulative effect of initially applying this update recognized at the date of initial application. Early adoption is permitted beginning after December 15, 2016, including interim reporting
periods within those years. In April 2016, the FASB issued ASU No. 2016-10, Revenue from Contracts with Customers: Identifying Performance Obligations and Licensing (“ASU 2016-10”), which clarifies certain aspects of identifying performance obligations and licensing implementation guidance. In May 2016, the FASB issued ASU No. 2016-12, Revenue from Contracts with Customers: Narrow-Scope Improvements and Practical Expedients (“ASU 2016-12”), related to disclosures of remaining performance obligations, as well as other amendments to guidance on collectability, non-cash consideration and the presentation of sales and other similar taxes collected from customers. These standards have the same effective date and transition date as ASU 2014-09. These standards allow for either a full retrospective or a modified retrospective transition approach. The Company has concluded these ASUs will be adopted using the modified retrospective transition approach effective January 1, 2018. The adoption of ASU 2014-09, ASU 2016-10 and ASU 2016-12 will not have a material impact on the Company’s financial position and results of operations as a result of the cumulative adjustment prescribed by the modified retrospective method of adoption; however, the Company anticipates significant changes to its financial statement disclosures.
In February 2016, the FASB issued ASU No. 2016-02, Leases (“ASU 2016-02”), which supersedes the lease accounting requirements in ASC Topic 840, Leases, and most industry-specific guidance. ASU 2016-02 requires the identification of arrangements that should be accounted for as leases by lessees. In general, for lease arrangements exceeding a 12-month term, these arrangements must now be recognized as assets and liabilities on the balance sheet of the lessee. Under ASU 2016-02, a right-of-use asset and lease obligation will be recorded for all leases, whether operating or financing, while the income statement will reflect lease expense for operating leases and amortization and interest expense for financing leases. The balance sheet amount recorded for existing leases at the date of adoption of ASU 2016-02 must be calculated using the applicable incremental borrowing rate at the date of adoption. In addition, ASU 2016-02 requires the use of modified retrospective method, which will require adjustment to all comparative periods presented in the consolidated financial statements. ASU 2016-02 is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Early adoption is permitted. The Company is evaluating the potential impact that the adoption of ASU 2016-02 may have on the Company’s financial position and results of operations. The Company’s analysis includes, but is not limited to, reviewing existing leases, reviewing other service agreements for embedded leases, evaluating potential system implementations, assessing potential disclosures and evaluating the impact of adoption on the Company’s consolidated financial statements.
In October 2016, the FASB issued ASU No. 2016-16, Accounting for Income Taxes: Intra-Entity Asset Transfers of Assets Other than Inventory (“ASU 2016-16”). ASU 2016-16 eliminates the ability to defer the tax expense related to intra-entity asset transfers other than Inventory. Under the new standard, entities should recognize the income tax consequences on an intra-entity transfer of an asset other than inventory when the transfer occurs. ASU 2016-16 is effective for fiscal periods beginning after December 15, 2018. Early adoption is permitted. The Company is evaluating the potential impact that the adoption of ASU 2016-16 will have on the Company’s financial position or results of operations. The standard does not have a material impact on the Company’s financial position or results of operations for the year ended and as of December 31, 2017.
In October 2016, the FASB issued ASU 2016-18, Statement of Cash Flows (Topic 230) Restricted Cash (“ASU 2016-18”), which requires that a statement of cash flows explain the change during the period in the total of cash, cash equivalents, and restricted cash or restricted cash equivalents. Therefore, amounts described as restricted cash and restricted cash equivalents should be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statement of cash flows. ASU 2016-18 is effective for fiscal years beginning after December 15, 2017, and interim periods within those years. Early adoption is permitted. The Company is evaluating the potential impact that the adoption of ASU 2016-18 may have on the Company’s financial position or results of operations.
In January 2017, the FASB issued ASU No. 2017-01, Business Combinations (Topic 805): Clarifying the Definition of a Business (“ASU 2017-01”), to clarify the definition of a business by adding guidance to assist entities with evaluating whether transactions should be accounted for as acquisitions or disposals of assets versus businesses. ASU 2017-01 is effective for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years. Early adoption is permitted. The Company will evaluate the potential impact that the adoption of ASU 2017-01 will have on the Company’s financial position or results of operations for all future transactions that are within the scope of Topic 805.
In January 2017, the FASB issued ASU No. 2017-04, Intangibles-Goodwill and Other (Topic 350) (“ASU 2017-04”) to simplify the accounting for goodwill impairment by removing Step 2 of the goodwill impairment test. ASU
2017-04 is effective for fiscal years beginning after December 15, 2019. Early adoption is permitted. The Company is evaluating the potential impact that the adoption of ASU 2017-04 may have on the Company’s financial position and results of operations.
In May 2017, the FASB issued ASU No. 2017-09, Compensation-Stock Compensation (Topic 708) Scope of Modification Accounting (“ASU 2017-09”) which provides guidance that clarifies when changes to the terms or conditions of a share-based payment award require an entity to apply modification accounting in Topic 718. Adoption of ASU 2017-09 is required for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. Early adoption is permitted. The Company does not expect the adoption of ASU 2017-09 to have a material impact on the Company’s financial position and results of operations.
No other accounting standards known by the Company to be applicable to it that have been issued by the FASB or other standard-setting bodies and that do not require adoption until a future date are expected to have a material impact on the Company’s consolidated financial statements upon adoption.
3. Net Loss Per Share
The following table sets forth the computation of basic and diluted net loss per common share (in thousands, except per share amounts):
In June 2015, in connection with the issuance of approximately $335.7 million in aggregate principal amount of the 2022 Notes, the Company entered into convertible note hedge transactions. The Convertible Note Hedges are generally expected to reduce the potential dilution to the Company’s Class A common stockholders upon a conversion of the 2022 Notes and/or offset any cash payments the Company is required to make in excess of the principal amount of converted 2022 Notes in the event that the market price per share of the Company’s Class A common stock, as measured under the terms of the Convertible Note Hedges, is greater than the conversion price of the 2022 Notes (Note 12). The Convertible Note Hedges are not considered for purposes of calculating the number of diluted weighted average shares outstanding, as their effect would be antidilutive.
Concurrently with entering into the Convertible Note Hedges, the Company also entered into certain warrant transactions in which it sold note hedge warrants to the Convertible Note Hedge counterparties to acquire 20,249,665 shares of the Company’s Class A common stock, subject to customary anti-dilution adjustments. The Note Hedge Warrants could have a dilutive effect on the Company’s Class A common stock to the extent that the market price per share of the Class A common stock exceeds the applicable strike price of such warrants (Note 12). The Note Hedge Warrants are not considered for purposes of calculating the number of diluted weighted averages shares outstanding, as their effect would be antidilutive.
The following potentially dilutive securities have been excluded from the computation of diluted weighted average shares outstanding as their effect would be anti-dilutive (in thousands):
An insignificant number of shares issuable under the Company’s employee stock purchase plan were excluded from the calculation of diluted weighted average shares outstanding because their effects would be anti-dilutive.
4. Business Combination
The Company closed the Lesinurad Transaction on June 2, 2016 (the “Acquisition Date”) with AstraZeneca pursuant to which the Company received an exclusive license to develop, manufacture and commercialize in the U.S. products containing lesinurad as an active ingredient, including ZURAMPIC (the “Products”). Subject to the terms of the Lesinurad License, AstraZeneca was obligated to conduct certain development activities through September 30, 2017 on the Company’s behalf for which the Company was obligated to reimburse AstraZeneca. Pursuant to the Lesinurad License, during the three months ended September 30, 2017, the Company and AstraZeneca transitioned the obligation for post-marketing activities required by the FDA from AstraZeneca to the Company. These post-marketing requirements for lesinurad are estimated to be less than $100.0 million over up to ten years from the Acquisition Date. In connection with the Lesinurad License, the Company and AstraZeneca entered into a commercial supply agreement (the “Lesinurad CSA”), pursuant to which the Company relies exclusively on AstraZeneca for the commercial manufacture and supply of ZURAMPIC and DUZALLO, and the lesinurad transitional services agreement (“the Lesinurad TSA”), pursuant to which AstraZeneca provided certain support services, including development, regulatory and commercial services, to the Company for ZURAMPIC until such activities under the Lesinurad TSA are transferred to the Company. As of December 31, 2017, all activities under the Lesinurad TSA had been transferred to the Company. The Company may obtain production techniques from AstraZeneca via a manufacturing technology transfer available under the Lesinurad CSA upon provision of six-months’ notice. The Company is responsible for commercialization of the Products in the U.S., and any additional development of the Products for commercialization in the U.S. In addition, under the terms of the Lesinurad License, the Company has the right of first negotiation and right of last refusal with AstraZeneca for the right to commercialize, develop and manufacture for commercialization in the U.S., products for the prevention or treatment of gout that include verinurad as at least one of its active ingredients.
The Company concluded that the Lesinurad Transaction included inputs and processes that have the ability to create outputs and accordingly accounted for the transaction as a business combination in accordance with ASC 805. As such, the assets acquired and liabilities assumed have been recorded at fair value, with the remaining purchase price recorded as goodwill.
The purchase price consisted of the up-front payment to AstraZeneca of $100.0 million, which was made in June 2016, and the fair value of contingent consideration of approximately $67.9 million. In addition to the up-front payment, the Company will also pay a tiered royalty to AstraZeneca in the single-digits as a percentage of net sales of the Products in the U.S., as well as commercial and other milestones of up to $165.0 million over the duration of the Lesinurad License. During the year ended December 31, 2017, the Company paid a $15.0 million milestone to AstraZeneca related to the approval of DUZALLO by the FDA.
As of the Acquisition Date, the contingent consideration fair value of approximately $67.9 million was calculated using a discounted cash flow estimate of expected future milestone and royalty payments to AstraZeneca based on the Company’s internally forecasted net product revenue of ZURAMPIC and DUZALLO. The fair value of contingent consideration in the purchase price includes initial measurement period adjustments further described below, as of the Acquisition Date. The Company also paid approximately $1.6 million in transaction-related costs, including
external consulting fees, which were expensed as incurred as selling, general and administrative expenses during the year ended December 31, 2016.
The Company preliminarily valued the acquired assets and liabilities based on their estimated fair value as of the Acquisition Date upon closing the Lesinurad Transaction. Certain of these estimates were adjusted during the year ended December 31, 2016 as additional information became available related to conditions that existed as of the Acquisition Date.
During the three months ended June 30, 2017, the Company finalized its allocation of the purchase price for the Lesinurad Transaction as of the Acquisition Date, and the goodwill balance included insignificant measurement period adjustments made in prior quarters.
The final allocation of the purchase price for the Lesinurad Transaction as of the Acquisition Date, including the contingent consideration, is summarized in the following tables (in thousands):
The fair value of the IPR&D - DUZALLO was determined using a probability adjusted discounted cash flow approach, including assumptions of projected revenues, operating expenses and a discount rate of 14.0% applied to the projected cash flows. The remaining cost of development for this asset was approximately $13.9 million as of the Acquisition Date. In August 2017, DUZALLO was approved by the FDA for commercialization in the U.S. As a result, the Company reclassified the IPR&D - DUZALLO asset from indefinite-lived to finite-lived as development activities were completed. The amount allocated to the finite-lived intangible asset, developed technology - DUZALLO, totaled approximately $145.1 million. Developed technology - DUZALLO is being amortized on a straight-line basis to amortization of acquired intangible assets within the Company’s consolidated statement of operations over its estimated useful life of approximately 12 years, the period of estimated future cash flows, from the approval date. The Company believes that the straight-line method of amortization represents the pattern in which the economic benefits of the asset are consumed. As of December 31, 2017, the Company recognized accumulated amortization of approximately $4.5 million with respect to the developed technology - DUZALLO intangible asset.
The fair value of the developed technology - ZURAMPIC intangible asset was determined using a probability adjusted discounted cash flow approach, including assumptions of projected revenues, operating expenses and a discount rate of 12.5% applied to the projected cash flows. The Company considers the developed technology - ZURAMPIC intangible asset acquired to be developed technology, as it was approved by the FDA for commercialization as of the Acquisition Date. The Company believes the assumptions are representative of those a market participant would use in estimating fair value. The developed technology - ZURAMPIC intangible asset is finite lived. The amount allocated to the developed technology - ZURAMPIC intangible asset is being amortized on a straight-line basis to amortization of acquired intangible assets within the Company’s consolidated statements of operations over its estimated useful life of approximately 13 years, the period of estimated future cash flows from the Acquisition Date. The Company believes that the straight-line method of amortization represents the pattern in which the economic benefits of the intangible asset are
consumed. As of December 31, 2017, the Company recognized accumulated amortization of approximately $2.7 million with respect to the developed technology - ZURAMPIC intangible asset.
The estimated future amortization of developed technology - ZURAMPIC and developed technology - DUZALLO intangible assets are expected to be as follows (in thousands):
The Company tests its goodwill for impairment annually as of October 1st, or more frequently if events or changes in circumstances indicate an impairment may have occurred (Note 2). As of December 31, 2017, there was no impairment of goodwill.
The Company evaluates its finite-lived intangible assets for impairment whenever events or changes in circumstances indicate the reduction in the fair value below their respective carrying amounts. In connection with each impairment assessment in which indicators of impairment have been identified, the Company compares the fair value of the asset or asset group as of the date of the assessment with the carrying value of the asset or asset group on the Company’s consolidated balance sheet. The value of the Company’s finite-lived intangible assets are based on the future expected net cash flows related to the Lesinurad Products, which include significant assumptions around future net sales and the respective investment to support these products. The Company believes that the following factors, among others, could trigger an impairment review: significant underperformance relative to historical or projected future operating results, significant changes in the manner of the Company’s use of the acquired assets or the strategy for the Company’s overall business, approval of competitive products, significant negative industry or economic trends, the Company’s ability to establish, maintain and/or expand the sales, marketing, distribution and market-access capabilities, or enter into and maintain agreements necessary for commercialization with payers and third-party providers on acceptable terms. The Company expects the data received in 2018 from the systematic exploration of a more comprehensive marketing mix in select test markets to inform the future investment in the lesinurad franchise. If the estimates and assumptions about these products change significantly, including with respect to their commercial performance, the finite-lived intangible assets may become impaired and the Company may be required to recognize a material write-down in the period in which the impairment occurs. As of December 31, 2017, there was no impairment of intangible assets.
The Company allocated the excess of the purchase price over the identifiable intangible assets to goodwill. Such goodwill is not deductible for tax purposes and represents the value placed on entering new markets, expanding market share and operating synergies. All goodwill has been assigned to the Company’s single reporting unit, which is the single operating segment human therapeutics.
As of December 31, 2017, the estimated fair value of the Company’s contingent consideration liability was approximately $31.3 million. This fair value measurement was based on significant inputs not observable in the market and thus represent Level 3 fair value measurements (Note 7).
5. Collaboration, License, Co-Promotion and Other Commercial Agreements
For the year ended December 31, 2017, the Company had linaclotide collaboration agreements with Allergan for North America and AstraZeneca for China, Hong Kong and Macau, as well as linaclotide license agreements with Astellas for Japan and with Allergan for the Allergan License Territory. The Company also had agreements with Allergan to co-promote VIBERZI in the U.S. and to promote CANASA and DELZICOL in the U.S. The following table
provides amounts included in the Company’s consolidated statements of operations as collaborative arrangements revenue and sale of API attributable to transactions from these arrangements (in thousands):
(1)
In October 2015, Almirall transferred its exclusive license to develop and commercialize linaclotide in Europe to Allergan. In January 2017, the Company and Allergan expanded the license to cover the Allergan License Territory. For the year ended December 31, 2016, collaborative arrangements revenue includes an insignificant amount of revenue from Almirall.
(2)
In August 2016, the Company terminated the Exact Sciences Co-Promotion Agreement for Cologuard. Under the terms of the agreement, the Company continued to receive royalty payments through July 2017.
Linaclotide Agreements
Collaboration Agreement for North America with Allergan
In September 2007, the Company entered into a collaboration agreement with Allergan to develop and commercialize linaclotide for the treatment of IBS-C, CIC and other GI conditions in North America. Under the terms of this collaboration agreement, the Company shares equally with Allergan all development costs as well as net profits or losses from the development and sale of linaclotide in the U.S. The Company receives royalties in the mid-teens percent based on net sales in Canada and Mexico. Allergan is solely responsible for the further development, regulatory approval and commercialization of linaclotide in those countries and funding any costs. The collaboration agreement for North America also includes contingent milestone payments, as well as a contingent equity investment, based on the achievement of specific development and commercial milestones. At December 31, 2017, $205.0 million in license fees and all six development milestone payments had been received by the Company, as well as a $25.0 million equity investment in the Company’s capital stock (Note 18). The Company can also achieve up to $100.0 million in a sales-related milestone if certain conditions are met, which will be recognized as collaborative arrangements revenue as earned.
As a result of the research and development cost-sharing provisions of the linaclotide collaboration for North America, the Company recognized approximately $0.6 million in incremental research and development costs during the year ended December 31, 2017, and offset approximately $7.3 million, and approximately $16.9 million against research and development costs during the years ended December 31, 2016, and 2015, respectively, to reflect the obligations of each party under the collaboration to bear half of the development costs incurred. In addition, in March 2015, the Company and Allergan agreed to share certain costs relating to the manufacturing of linaclotide API and certain other manufacturing activities for the North American territory. This arrangement resulted in net amounts received from
Allergan of approximately $4.3 million for costs incurred in prior periods, which were recorded by the Company as a reduction in research and development expenses during the year ended December 31, 2015.
The Company and Allergan began commercializing LINZESS in the U.S. in December 2012. The Company receives 50% of the net profits and bears 50% of the net losses from the commercial sale of LINZESS in the U.S.; provided, however, that if either party provides fewer calls on physicians in a particular year than it is contractually required to provide, such party’s share of the net profits will be adjusted as set forth in the collaboration agreement for North America. During the years ended December 31, 2016 and 2015, these adjustments to the share of the net profits were reduced or eliminated in connection with the co-promotion activities under the Company’s agreement with Allergan to co-promote VIBERZI in the U.S., as described below in Co-Promotion Agreement with Allergan for VIBERZI. Additionally, these adjustments to the share of the net profits are eliminated, in full, in 2018 and all subsequent years under the terms of the Company’s commercial agreement with Allergan entered into in January 2017 under which the Company promotes Allergan’s CANASA product and promoted its DELZICOL product as described below in Commercial Agreement with Allergan. Net profits or net losses consist of net sales of LINZESS to third-party customers and sublicense income in the U.S. less the cost of goods sold as well as selling, general and administrative expenses. LINZESS net sales are calculated and recorded by Allergan and may include gross sales net of discounts, rebates, allowances, sales taxes, freight and insurance charges, and other applicable deductions. The Company records its share of the net profits or net losses from the sale of LINZESS on a net basis and presents the settlement payments to and from Allergan as collaboration expense or collaborative arrangements revenue, as applicable.
The Company recognized collaborative arrangements revenue from the Allergan collaboration agreement for North America during the years ended December 31, 2017, 2016 and 2015 as follows (in thousands):
(1)
Includes net profit share adjustments of approximately $1.7 million recorded during the year ended December 31, 2017 related to a change in estimated selling expenses previously recorded.
The collaborative arrangements revenue recognized in the years ended December 31, 2017, 2016 and 2015 primarily represents the Company’s share of the net profits on the sale of LINZESS in the U.S.
In addition, during the years ended December 31, 2017, 2016 and 2015, the Company recorded no revenue, approximately $4.5 million, and no revenue, respectively, related to the sale of API to Allergan under the terms of the linaclotide collaboration for North America.
The following table presents the amounts recorded by the Company for commercial efforts related to LINZESS in the U.S. in the years ended December 31, 2017, 2016 and 2015 (in thousands):
(1)
Includes only collaborative arrangement revenue or selling, general and administrative costs attributable to the cost-sharing arrangement with Allergan.
(2)
Certain of the unfavorable adjustments to the Company’s share of the LINZESS net profits were reduced or eliminated in connection with the co-promotion activities under the Company’s agreement with Allergan to co-promote VIBERZI in the U.S., as described below in Co-Promotion Agreement with Allergan for VIBERZI.
In May 2014, CONSTELLA became commercially available in Canada and in June 2014, LINZESS became commercially available in Mexico. In October 2015, Almirall and Allergan terminated the sublicense arrangement with respect to Mexico, returning the exclusive rights to commercialize CONSTELLA in Mexico to Allergan. CONSTELLA continues to be available to adult IBS-C patients in Mexico. The Company records royalties on sales of CONSTELLA in Canada and LINZESS in Mexico in the period earned. The Company recognized approximately $2.3 million, approximately $1.2 million, and approximately $0.9 million, in royalty revenues from Canada and Mexico during the years ended December 31, 2017, 2016, and 2015 respectively.
License Agreement with Allergan (All countries other than the countries and territories of North America, China, Hong Kong, Macau, and Japan)
In April 2009, the Company entered into a license agreement with Almirall (the “European License Agreement”) to develop and commercialize linaclotide in Europe (including the Commonwealth of Independent States and Turkey) for the treatment of IBS-C, CIC and other GI conditions. In October 2015, Almirall transferred its exclusive license to develop and commercialize linaclotide in Europe to Allergan. In accordance with the European License Agreement, the Company was required to participate on a joint development committee during linaclotide’s development period and is required to participate in a joint commercialization committee while linaclotide is commercially available.
Additionally, in October 2015, the Company and Allergan separately entered into an amendment to the European License Agreement relating to the development and commercialization of linaclotide in Europe. Pursuant to the terms of the amendment, (i) certain sales-based milestones payable to the Company under the European License Agreement were modified to increase the total milestone payments such that, when aggregated with certain commercial launch milestones, they could total up to $42.5 million, (ii) the royalties payable to the Company during the term of the European License Agreement were modified such that the royalties based on sales volume in Europe begin in the mid-single digit percent and escalate to the upper-teens percent by calendar year 2019, and (iii) Allergan assumed responsibility for the manufacturing of linaclotide API for Europe from the Company, as well as the associated costs. The Company concluded that the 2015 amendment to the European License Agreement was not a modification to the linaclotide collaboration agreement with Allergan for North America.
The commercial launch and sales based milestones under the European License Agreement are recognized as revenue as earned. The Company records royalties on sales of CONSTELLA in the period earned. The Company recognized approximately $0.6 million, approximately $0.4 million and approximately $0.5 million in royalty revenue during the years ended December 31, 2017, 2016 and 2015, respectively.
In January 2017, concurrently with entering into the commercial agreement as described below in Commercial Agreement with Allergan, the Company and Allergan entered into an amendment to the European License Agreement. The European License Agreement, as amended (the “Allergan License Agreement”), extended the license to develop and commercialize linaclotide in all countries other than China, Hong Kong, Macau, Japan, and the countries and territories of North America. On a country-by-country and product-by-product basis in such additional territory, Allergan is obligated to pay the Company a royalty as a percentage of net sales of products containing linaclotide as an active ingredient in the upper-single digits for five years following the first commercial sale of a linaclotide product in a country, and in the low-double digits thereafter. The royalty rate for products in the expanded territory will decrease, on a country-by-country basis, to the lower-single digits, or cease entirely, following the occurrence of certain events. Allergan is also obligated to assume certain purchase commitments for quantities of linaclotide API under the Company’s agreements with third-party API suppliers. The amendment to the European License Agreement did not modify any of the milestones or royalty terms related to Europe.
The Company concluded that the 2017 amendment was a material modification to the European License Agreement; however, this modification did not have a material impact on the Company's consolidated financial statements as there was no deferred revenue associated with the European License Agreement. The Company also concluded that the 2017 amendment to the European License Agreement was not a material modification to the linaclotide collaboration agreement with Allergan for North America. The Company’s conclusions on deliverables under ASC Topic 605-25, Revenue Recognition-Multiple-Element Arrangements (“ASC 605-25”) are described below in Commercial Agreement with Allergan.
License Agreement for Japan with Astellas
In November 2009, the Company entered into a license agreement with Astellas, as amended, to develop and commercialize linaclotide for the treatment of IBS-C, CIC and other GI conditions in Japan. Astellas is responsible for all activities relating to development, regulatory approval and commercialization in Japan as well as funding the associated costs and the Company is required to participate on a joint development committee over linaclotide’s development period. During the year ended December 31, 2017, the Company and Astellas entered into a commercial API supply agreement (the “Astellas Commercial Supply Agreement”). Pursuant to the Astellas Commercial Supply Agreement, the Company sells linaclotide API supply to Astellas at a contractually defined rate and recognizes related revenue as sale of API in accordance with ASC 605. Under the license agreement, the Company receives royalties which escalate based on sales volume, beginning in the low-twenties percent, less the transfer price paid for the API included in the product actually sold and other contractual deductions.
In 2009, Astellas paid the Company a non-refundable, up-front licensing fee of $30.0 million, which was recognized as collaborative arrangements revenue on a straight-line basis over the Company’s estimate of the period over which linaclotide was developed under the license agreement. The development period was completed in December 2016 upon approval of LINZESS by the Japanese Ministry of Health, Labor and Welfare at which point all previously deferred revenue under the agreement was recognized. During the year ended December 31, 2016, the Company recognized approximately $6.3 million of revenue related to the up-front licensing fee. During the year ended December 31, 2015, the Company recognized approximately $5.1 million of revenue related to the up-front licensing fee.
The agreement also includes three development milestone payments that totaled up to $45.0 million, all of which were achieved and recognized as revenue through December 31, 2016. The first milestone payment, consisting of $15.0 million upon enrollment of the first study subject in a Phase III study for linaclotide in Japan, was achieved in November 2014. The second milestone payment, consisting of $15.0 million upon filing of a New Drug Application (“NDA”) for linaclotide with the Japanese Ministry of Health, Labor and Welfare, was achieved in February 2016. The third development milestone payment consisting of $15.0 million upon approval of an NDA by the Japanese Ministry of Health, Labor and Welfare to market linaclotide in Japan was achieved in December 2016.
During the years ended December 31, 2017, 2016 and 2015, the Company recognized no revenue, approximately $39.0 million, and approximately $7.2 million, respectively, in collaborative arrangements revenue from the Astellas license agreement.
The royalty on sales of LINZESS in Japan during the year ended December 31, 2017 relating to the quarters did not exceed the transfer price of API sold and other contractual deductions during the periods. During the years ended December 31, 2017, 2016 and 2015, the Company recognized approximately $29.7 million, approximately $5.4 million, and approximately $0.5 million, respectively, from the sale of API to Astellas under the license agreement and the Astellas Commercial Supply Agreement.
Collaboration Agreement for China, Hong Kong and Macau with AstraZeneca
In October 2012, the Company entered into a collaboration agreement with AstraZeneca (the “AstraZeneca Collaboration Agreement”) to co-develop and co-commercialize linaclotide in China, Hong Kong and Macau (the “License Territory”). The collaboration provides AstraZeneca with an exclusive nontransferable license to exploit the underlying technology in the License Territory. The parties share responsibility for continued development and commercialization of linaclotide under a joint development plan and a joint commercialization plan, respectively, with AstraZeneca having primary responsibility for the local operational execution.
The parties agreed to an Initial Development Plan (“IDP”) which includes the planned development of linaclotide in China, including the lead responsibility for each activity and the related internal and external costs. The IDP indicates that AstraZeneca is responsible for a multinational Phase III clinical trial (the “Phase III Trial”), the Company is responsible for nonclinical development and supplying clinical trial material and both parties are responsible for the regulatory submission process. The IDP indicates that the party specifically designated as being responsible for a particular development activity under the IDP shall implement and conduct such activities. The activities are governed by a Joint Development Committee (“JDC”), with equal representation from each party. The JDC is responsible for approving, by unanimous consent, the joint development plan and development budget, as well as approving protocols
for clinical studies, reviewing and commenting on regulatory submissions, and providing an exchange of data and information.
The AstraZeneca Collaboration Agreement will continue until there is no longer a development plan or commercialization plan in place, however, it can be terminated by AstraZeneca at any time upon 180 days’ prior written notice. Under certain circumstances, either party may terminate the AstraZeneca Collaboration Agreement in the event of bankruptcy or an uncured material breach of the other party. Upon certain change in control scenarios of AstraZeneca, the Company may elect to terminate the AstraZeneca Collaboration Agreement and may re-acquire its product rights in a lump sum payment equal to the fair market value of such product rights.
In connection with the AstraZeneca Collaboration Agreement, the Company and AstraZeneca also executed a co-promotion agreement (the “Co-Promotion Agreement”), pursuant to which the Company utilized its existing sales force to co-promote NEXIUM® (esomeprazole magnesium), one of AstraZeneca’s products, in the U.S. The Co-Promotion Agreement expired in May 2014.
There are no refund provisions in the AstraZeneca Collaboration Agreement and the Co-Promotion Agreement (together, the “AstraZeneca Agreements”).
Under the terms of the AstraZeneca Collaboration Agreement, the Company received a $25.0 million non-refundable up-front payment upon execution. The Company is also eligible for $125.0 million in additional commercial milestone payments contingent on the achievement of certain sales targets. The parties will also share in the net profits and losses associated with the development and commercialization of linaclotide in the License Territory, with AstraZeneca receiving 55% of the net profits or incurring 55% of the net losses until a certain specified commercial milestone is achieved, at which time profits and losses will be shared equally thereafter.
Activities under the AstraZeneca Agreements were evaluated in accordance with ASC 605-25, to determine if they represented a multiple element revenue arrangement. The Company identified the following deliverables in the AstraZeneca Agreements:
·
an exclusive license to develop and commercialize linaclotide in the License Territory (the “License Deliverable”),
·
research, development and regulatory services pursuant to the IDP, as modified from time to time (the “R&D Services”),
·
JDC services,
·
obligation to supply clinical trial material, and
·
co-promotion services for AstraZeneca’s product (the “Co-Promotion Deliverable”).
The License Deliverable is nontransferable and has certain sublicense restrictions. The Company determined that the License Deliverable had standalone value as a result of AstraZeneca’s internal product development and commercialization capabilities, which would enable it to use the License Deliverable for its intended purposes without the involvement of the Company. The remaining deliverables were deemed to have standalone value based on their nature and all deliverables met the criteria to be accounted for as separate units of accounting under ASC 605-25. Factors considered in this determination included, among other things, whether any other vendors sell the items separately and if the customer could use the delivered item for its intended purpose without the receipt of the remaining deliverables.
At the inception of the arrangement, the Company identified the supply of linaclotide drug product for commercial requirements and commercialization services as contingent deliverables because these services are contingent upon the receipt of regulatory approval to commercialize linaclotide in the License Territory, and there were no binding commitments or firm purchase orders pending for commercial supply at the inception of the AstraZeneca Collaboration Agreement.
The total amount of the non-contingent consideration allocable to the AstraZeneca Agreements was approximately $34.0 million (“Arrangement Consideration”) which includes the $25.0 million non-refundable up-front payment and approximately $9.0 million representing 55% of the costs for clinical trial material supply services and research, development and regulatory activities allocated to the Company in the IDP or as approved by the JDC in subsequent periods.
The Company allocated the Arrangement Consideration to the non-contingent deliverables based on management’s best estimated selling price (“BESP”) of each deliverable using the relative selling price method, as the Company did not have vendor-specific objective evidence or third-party evidence of selling price for such deliverables. Of the total Arrangement Consideration, approximately $29.7 million was allocated to the License Deliverable, approximately $1.8 million to the R&D Services, approximately $0.1 million to the JDC services, approximately $0.3 million to the clinical trial material supply services, and approximately $2.1 million to the Co-Promotion Deliverable in the relative selling price model.
Because the Company shares development costs with AstraZeneca, payments from AstraZeneca with respect to both research and development and selling, general and administrative costs incurred by the Company prior to the commercialization of linaclotide in the License Territory are recorded as a reduction in expense, in accordance with the Company’s policy, which is consistent with the nature of the cost reimbursement. Development costs incurred by the Company that pertain to the joint development plan and subsequent amendments to the joint development plan, as approved by the JDC, are recorded as research and development expense as incurred. Payments to AstraZeneca are recorded as incremental research and development expense.
The Company completed its obligations related to the License Deliverable upon execution of the AstraZeneca Agreements; however, the revenue recognized in the statement of operations was limited to the non-contingent portion of the License Deliverable consideration in accordance with ASC 605-25. During the years ended December 31, 2016 and 2015, the Company recognized approximately $0.4 million and approximately $2.2 million, respectively, in collaborative arrangements revenue related to the License Deliverable in connection with the modification to the IDP and development budget in August 2014, as such this portion of the Arrangement Consideration was no longer contingent. All amounts allocated to the license deliverable have been recognized as revenue as of December 31, 2016.
The Company also performs R&D Services and JDC services, and supplies clinical trial materials during the estimated development period. All Arrangement Consideration allocated to such services is being recognized as a reduction of research and development costs, using the proportional performance method, by which the amounts are recognized in proportion to the costs incurred. As a result of the cost-sharing arrangements under the collaboration, the Company recognized approximately $0.3 million in incremental research and development costs during the year ended December 31, 2017, and recognized an insignificant reduction in incremental research and development costs during the year ended December 31, 2016. During the year ended December 31, 2015, the Company recognized approximately $0.7 million in incremental research and development costs.
The amount allocated to the Co-Promotion Deliverable was recognized as collaborative arrangements revenue using the proportional performance method, which approximates recognition on a straight-line basis beginning on the date that the Company began to co-promote AstraZeneca’s product through December 31, 2013 (the earliest cancellation date). As of December 31, 2013, the Company completed its obligation related to the Co-Promotion Deliverable.
The Company reassesses the periods of performance for each deliverable at the end of each reporting period.
In March 2017, the Company began providing supply of linaclotide drug product and certain commercialization-related services pursuant to the AstraZeneca Collaboration Agreement. During the year ended December 31, 2017, the Company recognized approximately $0.2 million as collaborative arrangements revenue related to linaclotide drug product, as this deliverable was no longer contingent.
Milestone payments received from AstraZeneca upon the achievement of sales targets will be recognized as earned.
Co-Promotion and Other Agreements
Co-Promotion Agreement with Exact Sciences Corp. for Cologuard
In March 2015, the Company and Exact Sciences entered into an agreement to co-promote Exact Sciences’ Cologuard, the first and only FDA-approved noninvasive stool DNA screening test for colorectal cancer (the “Exact Sciences Co-Promotion Agreement”). The Exact Sciences Co-Promotion Agreement was terminated by the parties in August 2016. Under the terms of the non-exclusive Exact Sciences Co-Promotion Agreement, the Company’s sales team promoted and educated health care practitioners regarding Cologuard through July 2016. Exact Sciences maintained responsibility for all other aspects of the commercialization of Cologuard outside of the co-promotion. Under the terms of the Exact Sciences Co-Promotion Agreement, the Company was compensated primarily via royalties earned on the net sales of Cologuard generated from the healthcare practitioners on whom the Company called with such royalties payable through July 2017. There were no refund provisions in the Exact Sciences Co-Promotion Agreement.
Activities under the Exact Sciences Co-Promotion Agreement were evaluated in accordance with ASC 605-25, to determine if they represented a multiple element revenue arrangement. The Company identified the following deliverables in the Exact Sciences Co-Promotion Agreement through July 31, 2016: (i) second position sales detailing, (ii) promotional support services, and (iii) medical education services. Each of the deliverables was deemed to have standalone value based on their nature and all deliverables met the criteria to be accounted for as separate units of accounting under ASC 605-25. The Company determined that the BESP for each of the three deliverables approximated the value allocated to the deliverables under the agreement. The revenue related to each deliverable was recognized as collaborative arrangements revenue in the Company’s consolidated statement of operations, in accordance with ASC 605-25, during the period earned through July 2017. During the years ended December 31, 2017, 2016 and 2016, the Company recognized approximately $2.5 million, approximately $3.5 million and approximately $4.4 million as collaborative arrangements revenue related to this arrangement.
Co-Promotion Agreement with Allergan for VIBERZI
In August 2015, the Company and Allergan entered into an agreement for the co-promotion of VIBERZI in the U.S., Allergan’s treatment for adults suffering from IBS-D (the “VIBERZI Co-Promotion Agreement”). Under the terms of the VIBERZI Co-Promotion Agreement, the Company’s clinical sales specialists detailed VIBERZI to the same health care practitioners to whom they detail LINZESS. Allergan was responsible for all costs and activities relating to the commercialization of VIBERZI outside of the co-promotion. The Company’s promotional efforts under the non-exclusive co-promotion began when VIBERZI became commercially available in December 2015. The VIBERZI Co-Promotion Agreement was effective through December 31, 2017.
The Company provided the minimum number of VIBERZI calls on physicians pursuant to the VIBERZI Co-Promotion Agreement, and was compensated with the elimination of certain of the unfavorable adjustments to the Company’s share of net profits stipulated by the linaclotide collaboration agreement with Allergan for North America for the years ending December 31, 2015, 2016 and 2017. The Company was reimbursed for medical education services and did not achieve any milestone payments under this agreement.
The Company concluded that the VIBERZI Co-Promotion Agreement does not represent a material modification to the linaclotide collaboration agreement with Allergan for North America, as it is not material to the total arrangement consideration under the collaboration agreement, does not significantly modify the existing deliverables, and does not significantly change the term of the agreement. Activities under the VIBERZI Co-Promotion Agreement were evaluated in accordance with ASC 605-25 to determine if they represented a multiple element revenue arrangement. The Company identified the following deliverables in the VIBERZI Co-Promotion Agreement: (i) second position sales detailing of VIBERZI, and (ii) medical education services. Each of the deliverables was deemed to have standalone value based on their nature and both deliverables met the criteria to be accounted for as separate units of accounting under ASC 605-25. The Company determined the BESP for each of the deliverables approximated the value allocated to the deliverables under the agreement. As consideration is earned over the term of the agreement, the revenue will be allocated to each deliverable based on the relative selling price, using management’s BESP, and recognized as collaborative arrangements revenue in the Company’s consolidated statement of operations, in accordance with ASC 605-25, during the quarter earned.
Under the linaclotide collaboration agreement for North America with Allergan, if either party provides fewer calls on physicians in a particular year than it is contractually required to provide, such party’s share of the net profits will be adjusted as set forth in the agreement; however, certain of these adjustments to the share of the net profits have been eliminated in connection with the co-promotion activities under the VIBERZI Co-Promotion Agreement through December 31, 2017. In connection with these co-promotion activities, the net profit share adjustments payable to Allergan under the linaclotide collaboration agreement for North America were reduced by approximately $11.0 million, approximately $5.3 million, and approximately $2.9 million during the years ended December 31, 2017, 2016 and 2015, respectively. During the years ended December 31, 2017, 2016 and 2015 the Company also recognized approximately $1.5 million, approximately $1.8 million and approximately $0.2 million in revenue related to the VIBERZI Co-Promotion Agreement for the performance of medical education services.
In December 2017, the Company and Allergan entered into an amendment to the commercial agreement with Allergan, as described below, to include the VIBERZI promotional activities through December 31, 2018.
Commercial Agreement with Allergan
In January 2017, concurrently with entering into the amendment to the European License Agreement, the Company and Allergan entered into an agreement under which the adjustments to the Company’s or Allergan’s share of the net profits under the share adjustment provision of the collaboration agreement for linaclotide in North America relating to the contractually required calls on physicians in each year are eliminated, in full, in 2018 and all subsequent years (the “Commercial Agreement”). Pursuant to the Commercial Agreement, Allergan also appointed the Company, on a non-exclusive basis, to promote CANASA, approved for the treatment of ulcerative proctitis, and DELZICOL, approved for the treatment of ulcerative colitis, in the U.S. for approximately two years through February 2019. Under the terms of the Commercial Agreement, the Company is obligated to perform third position sales details and offer samples of such products to gastroenterology prescribers who are on the then-current call panel for LINZESS to which the Company provides first or second position details. The Company purchases samples of CANASA and DELZICOL from Allergan at the actual manufacturing cost. On a product-by-product basis, Allergan pays the Company a royalty in the mid-teens on incremental sales of CANASA and DELZICOL above a mutually agreed upon sales baseline. The Company records royalties on sales of these products in the period earned. In December 2017, the Company and Allergan entered into an amendment to the Commercial Agreement with Allergan, as described above, to include and extend the VIBERZI promotional activities through December 31, 2018 and discontinue the promotion of DELZICOL effective January 1, 2018. Accordingly, promotional activities for DELZICOL terminated on December 31, 2017 and, subject to the Company’s or Allergan’s rights of early termination, the promotional activities for CANASA will terminate on February 26, 2019. The share adjustment relief will, in the case of Allergan’s termination for convenience and certain other specified circumstances, survive termination of the commercial agreement. The Company concluded that the commercial agreement with Allergan, as amended, was not a material modification to the linaclotide collaboration agreement with Allergan for North America. Under the terms of the amended Commercial Agreement with Allergan, the Company’s clinical sales specialists will continue detailing VIBERZI in the second position to the same health care practitioners to whom they detail LINZESS in the first position and provide certain medical education services. The Company has the potential to achieve milestone payments of up to $7.5 million based on the net sales of VIBERZI during 2018, and will be compensated approximately $3.0 million over the term of the agreement for its medical education initiatives.
Activities under the Commercial Agreement with Allergan and the Allergan License Agreement were evaluated in accordance with ASC 605-25, as the agreements were entered into concurrently, to determine if they represented a multiple element revenue arrangement. The amendment to the Commercial Agreement is effective as of January 1, 2018.
The Company identified the following deliverables:
•an exclusive license to develop and commercialize linaclotide in the Allergan License Territory, and
•sales detailing services for CANASA and DELZICOL.
The exclusive license for the Allergan License Territory is nontransferable and has certain sublicense restrictions. The Company determined that Allergan had the internal product development and commercialization capabilities that would enable Allergan to use the license for its intended purposes without the involvement of the Company and, therefore, the license had standalone value. The deliverable for the sales detailing services for CANASA
and DELZICOL was deemed to have standalone value based on the nature of the services, and all deliverables met the criteria to be accounted for as separate units of accounting under ASC 605-25. There was no allocable arrangement consideration at the inception of the arrangement, as the consideration is in the form of royalties and the elimination of a contingent liability. During the year ended December 31, 2017, the Company did not recognize royalty revenue related to the Commercial Agreement with Allergan to promote CANASA and DELZICOL.
Other Collaboration and License Agreements
The Company has other collaboration and license agreements that are not individually significant to its business. Pursuant to the terms of one agreement, the Company may be required to pay $7.5 million for development milestones, of which, approximately $2.5 million had been paid as of December 31, 2017, and $18.0 million for regulatory milestones, none of which had been paid as of December 31, 2017. In addition, pursuant to the terms of another agreement, the contingent milestones could total up to $114.5 million per product to one of the Company’s collaboration partners, including $21.5 million for development milestones, $58.0 million for regulatory milestones and $35.0 million for sales-based milestones. Further, under such agreements, the Company is also required to fund certain research activities and, if any product related to these collaborations is approved for marketing, to pay significant royalties on future sales. The Company did not record any research and development expense associated with the Company’s other collaboration and license agreements during the years ended December 31, 2017 and 2016. During the year ended December 31, 2015, the Company incurred an insignificant amount in research and development expense associated with the Company’s other collaboration and license agreements.
6. Product Revenue
The Company began commercializing ZURAMPIC in October 2016 and DUZALLO in October 2017 in the U.S. During the three months ended December 31, 2017, the Company determined that it was able to reliably make certain estimates, including returns, necessary to recognize product revenue upon shipment to Distributors in accordance with ASC 605. As a result, the Company began recording net product revenue for the Lesinurad Products using a sell-in revenue recognition model. Accordingly, the Company recorded a cumulative adjustment of approximately $0.9 million to net product revenue and an insignificant amount to cost of revenues as a result of the transition to the sell-in revenue recognition model. During the years ended December 31, 2017 and 2016, the Company recognized approximately $3.1 million and an insignificant amount, respectively, of revenue related to product sales of the Lesinurad Products in the U.S.
7. Fair Value of Financial Instruments
The tables below present information about the Company’s assets that are measured at fair value on a recurring basis as of December 31, 2017 and 2016 and indicate the fair value hierarchy of the valuation techniques the Company utilized to determine such fair value. In general, fair values determined by Level 1 inputs utilize observable inputs such as quoted prices in active markets for identical assets or liabilities. Fair values determined by Level 2 inputs utilize data points that are either directly or indirectly observable, such as quoted prices for similar instruments in active markets, interest rates and yield curves. Fair values determined by Level 3 inputs utilize unobservable data points in which there is little or no market data, which require the Company to develop its own assumptions for the asset or liability.
The Company’s investment portfolio includes fixed income securities that do not always trade on a daily basis. As a result, the pricing services used by the Company apply other available information as applicable through processes such as benchmark yields, benchmarking of like securities, sector groupings and matrix pricing to prepare valuations. In addition, model processes are used to assess interest rate impact and develop prepayment scenarios. These models take into consideration relevant credit information, perceived market movements, sector news and economic events. The inputs into these models may include benchmark yields, reported trades, broker-dealer quotes, issuer spreads and other relevant data. The Company validates the prices provided by its third party pricing services by obtaining market values from other pricing sources and analyzing pricing data in certain instances. The Company also invests in certain reverse repurchase agreements which are collateralized by deposits in the form of Government Securities and Obligations for an amount not less than 102% of their value. The Company does not record an asset or liability for the collateral as the company is not permitted to sell or re-pledge the collateral. The collateral has at least the prevailing credit rating of US Government Treasuries and Agencies. The Company utilizes a third party custodian to manage the exchange of funds
and ensure that collateral received is maintained at 102% of the value of the reverse repurchase agreements on a daily basis.
The following tables present the assets and liabilities the Company has measured at fair value on a recurring basis (in thousands):
There were no transfers between fair value measurement levels during the years ended December 31, 2017 or 2016.
Cash equivalents, accounts receivable, related party accounts receivable, prepaid expenses and other current assets, accounts payable, related party accounts payable, accrued expenses and the current portion of capital lease obligations at December 31, 2017 and 2016 are carried at amounts that approximate fair value due to their short-term maturities.
The non-current portion of the capital lease obligations at December 31, 2017 and 2016 approximates fair value as it bears interest at a rate approximating a market interest rate.
Convertible Note Hedges and Note Hedge Warrants
The Company’s Convertible Note Hedges and the Note Hedge Warrants are recorded as derivative assets and liabilities, and are classified as Level 3 under the fair value hierarchy. These derivatives are not actively traded and are valued using the Black-Scholes option-pricing model which requires the use of subjective assumptions. Significant inputs used to determine the fair value as of December 31, 2017 included the price per share of the Company’s Class A common stock, time to maturity of the derivative instruments, the strike prices of the derivative instruments, the risk-free interest rate, and the volatility of the Company’s Class A common stock. The Company has not paid and does not anticipate paying cash dividends on its shares of common stock in the foreseeable future; therefore, the expected dividend yield is assumed to be zero. Changes to these inputs could materially affect the valuation of the Convertible Note Hedges and Note Hedge Warrants.
The following inputs were used in the fair market valuation of the Convertible Note Hedges and Note Hedge Warrants as of December 31, 2017 and 2016:
(1)
Based on U.S. Treasury yield curve, with terms commensurate with the terms of the Convertible Note Hedges and the Note Hedge Warrants
(2)
The closing price of the Company’s Class A common stock on the last trading day of the year ended December 31, 2017 and December 31, 2016, respectively.
(3)
As per the respective agreements for the Convertible Note Hedges and Note Hedge Warrants.
(4)
Selected volatility based on historical volatility of the Company’s Class A common stock.
The Convertible Note Hedges and the Note Hedge Warrants are recorded at fair value at each reporting period and changes in fair value are recorded in other expense, net within the Company's consolidated statements of operations. Gains and losses for these derivative financial instruments are presented separately in the Company's consolidated statements of cash flows.
The following table reflects the change in the Company's Level 3 convertible note derivatives from December 31, 2015 through December 31, 2017 (in thousands):
Contingent Consideration
In connection with the Lesinurad Transaction, the Company recorded a liability of $67.9 million as of the Acquisition Date. This valuation was based on a Monte-Carlo simulation, which includes significant estimates related to probability weighted net cash outflow projections, primarily comprised of estimated future royalty and milestone payments to AstraZeneca, discounted using a yield curve equivalent to the Company’s credit risk, which was the estimated cost of debt financing for market participants. Adjustments are recorded when there are changes in significant assumptions, including net sales projections, probability weighted net cash outflow projections, the discount rate, passage of time, and the yield curve equivalent to the Company’s credit risk, which is based on the estimated cost of debt for market participants. This estimate represents the probability weighted analysis of expected future milestone and royalty payments based on net sales to be made to AstraZeneca. Changes to these inputs are re-evaluated each reporting
period and could materially affect the valuation of the contingent consideration. The estimated fair value of contingent consideration was approximately $31.3 million as of December 31, 2017.
The following table reflects the change in the Company’s Level 3 contingent consideration payable from December 31, 2015 through December 31, 2017 (in thousands):
(1)
Includes approximately $19.8 million in measurement period adjustments to the Acquisition Date fair value recorded during the year ended December 31, 2016.
(2)
During the year ended December 31, 2017, the Company decreased its Lesinurad Products revenue projection. Accordingly, the expected estimated future royalty and milestone payments to AstraZeneca decreased, resulting in an approximately $31.3 million decrease to the contingent consideration liability.
(3)
Includes $15.0 million in milestone payment related to the FDA approval of DUZALLO.
11% PhaRMA Notes
In January 2013, the Company closed a private placement of $175.0 million in aggregate principal amount of the PhaRMA Notes. The outstanding principal balance of the PhaRMA Notes was redeemed in January 2017. The estimated fair value of the PhaRMA Notes was approximately $134.9 million as of December 31, 2016 and was determined using Level 3 inputs, including a quoted rate.
2.25% Convertible Senior Notes
In June 2015, the Company issued approximately $335.7 million of its 2022 Notes. The Company separately accounted for the liability and equity components of the 2022 Notes by allocating the proceeds between the liability component and equity component (Note 12). The fair value of the 2022 Notes, which differs from their carrying value, is influenced by interest rates, the price of the Company’s Class A common stock and the volatility thereof, and the prices for the 2022 Notes observed in market trading, which are Level 2 inputs. The estimated fair value of the 2022 Notes as of December 31, 2017 and 2016 was approximately $392.8 million and approximately $384.2 million, respectively.
8.375% Notes Due 2026
In September 2016, the Company closed a direct private placement pursuant to which the Company issued $150.0 million in aggregate principal amount of the 2026 Notes in January 2017. The estimated fair value of the 2026 Notes was approximately $152.5 million as of December 31, 2017. This valuation was calculated using a discounted cash flow estimate of expected interest and principal payments and was determined using Level 3 inputs, including significant estimates related to expected LINZESS sales and a discount rate equivalent to market participant interest rates.
8. Available-for-Sale Securities
The following tables summarize the available-for-sale securities held at December 31, 2017 and 2016 (in thousands):
The contractual maturities of all securities held at December 31, 2017 are one year or less. There were 29 and 34 available-for-sale securities in an unrealized loss position at December 31, 2017 and 2016, respectively, none of which had been in an unrealized loss position for more than twelve months. The aggregate fair value of these securities at December 31, 2017 and 2016 was approximately $95.7 million and approximately $111.3 million, respectively. The Company reviews its investments for other-than-temporary impairment whenever the fair value of an investment is less than amortized cost and evidence indicates that an investment’s carrying amount is not recoverable within a reasonable period of time. To determine whether an impairment is other-than-temporary, the Company considers whether it has the ability and intent to hold the investment until a market price recovery and considers whether evidence indicating the cost of the investment is recoverable outweighs evidence to the contrary. The Company does not intend to sell the investments and it is not more likely than not that the Company will be required to sell the investments before recovery of their amortized cost bases, which may be maturity. The Company did not hold any securities with other-than-temporary impairment at December 31, 2017.
There were no sales of available-for-sale securities during the years ended December 31, 2017, 2016 and 2015. Net unrealized holding gains or losses for the period that have been included in accumulated other comprehensive income were not material to the Company’s consolidated results of operations.
9. Inventory
Inventory consisted of the following (in thousands):
The Company’s inventory represents linaclotide API and drug product and Lesinurad Products finished goods that are available for commercial sale. The Company evaluates inventory levels quarterly and any inventory that has a cost basis in excess of its expected net realizable value, inventory that becomes obsolete, inventory in excess of expected sales requirements, inventory that fails to meet commercial sale specifications or is otherwise impaired is written down with a corresponding charge to the statement of operations in the period that the impairment is first identified.
The Company has entered into multiple commercial supply agreements for the purchase of linaclotide API. Two of the Company’s linaclotide API supply agreements for supplying API to its collaboration and license partners outside of North America contain minimum purchase commitments (Note 13). Prior to October 2015, the Company was
also responsible for the manufacturing of linaclotide API for Europe. As part of the Company's net realizable value assessment of its inventory, the Company assesses whether it has any excess non-cancelable purchase commitments resulting from its minimum supply agreements with its suppliers of linaclotide API. The Company relies exclusively on AstraZeneca for the commercial manufacture and supply of ZURAMPIC and DUZALLO under the Lesinurad CSA.
The determination of the net realizable value of inventory and non-cancelable purchase commitments for the commitments with the Company’s suppliers of linaclotide is based on demand forecasts from the Company's partners, that are received quarterly, to project the next 24 months of demand and the Company’s internal forecast for projected demand in subsequent years. During the three months ended June 30, 2015, Almirall, the Company’s former European partner, reduced its forecasted purchases of linaclotide API for its territory for the subsequent 18 months. In addition, regulatory changes made by the CFDA to the marketing approval process in China resulted in a potentially lengthened approval timeline for the commercialization of linaclotide. The reduced demand from Almirall and the potential extended timeline for commercialization of linaclotide in China resulted in lower projected sales of linaclotide API to the Company’s partners in Europe and China. As a result, during the three months ended June 30, 2015, the Company wrote-down the balance of its linaclotide API inventory of approximately $5.0 million to zero and accrued approximately $3.2 million for excess non-cancelable inventory purchase commitments.
In October 2015, Almirall transferred its exclusive license to develop and commercialize linaclotide in Europe to Allergan, and the Company separately entered into an amendment to the license agreement with Allergan relating to the development and commercialization of linaclotide in Europe. Pursuant to the terms of the amendment, Allergan assumed responsibility for the manufacturing of linaclotide API for Europe, as well as the associated costs (Note 5). Upon the execution of the amendment to the license agreement, the Company recorded an incremental loss on non-cancelable API purchase commitments of approximately $6.9 million related to one of the Company’s API supply agreements covering the commercial supply of linaclotide API for the European market. During the three months ended September 30, 2015, the Company also recorded an incremental loss on non-cancelable API purchase commitments related to in-process API batches.
The write-downs of inventory to net realizable value and the loss on non-cancelable inventory purchase commitments are recorded as a separate line item in the Company's consolidated statement of operations. As of December 31, 2017 and 2016, the accrual for excess linaclotide purchase commitments is recorded as approximately $3.4 million and approximately $2.5 million in accrued expenses and approximately $5.1 and approximately $7.6 million in other liabilities, respectively, in the Company's consolidated balance sheet.
During the Lesinurad TSA period, title for ZURAMPIC commercial supply and samples did not pass to the Company. Accordingly, the Company recorded purchases of ZURAMPIC commercial supply and samples from AstraZeneca as prepaid assets until they were sold or used. Purchases of DUZALLO commercial supply and samples were not within the scope of the Lesinurad TSA. As of October 1, 2017, in connection with the expiration of the Lesinurad TSA, the Company was no longer operating under this agreement for the warehousing and distribution of commercial supply and samples of ZURAMPIC. During the years ended December 31, 2017 and 2016, the Company wrote down an insignificant amount and approximately $0.4 million, respectively, of prepaid ZURAMPIC commercial supply as a result of revised demand forecasts. Additionally, during the year ended December 31, 2017, the Company recorded an expense of approximately $0.2 million for excess non-cancelable ZURAMPIC commercial supply purchase commitments, pursuant to the Company’s forecasts, as a result of a reduction in near-term forecasted demand. These write-downs were recorded in write-downs of inventory to net realizable value and the loss on non-cancelable inventory purchase commitments in the Company's consolidated statement of operations. Further, during the year ended December 31, 2017, the Company wrote-down approximately $0.4 million of prepaid ZURAMPIC sample supply as a result of revised demand forecasts. Additionally, during the year end December 31, 2017, the Company recorded an expense of approximately $1.3 million for excess non-cancelable ZURAMPIC sample supply purchase commitments, pursuant to the Company’s forecasts, as a result of a reduction in near-term forecasted demand. These write-downs were recorded in selling, general and administrative expenses in the Company's consolidated statement of operations.
As of December 31, 2017, the Company has evaluated all remaining minimum purchase commitments under its linaclotide API and lesinurad supply agreements and concluded that the commitments are realizable based on the current forecasts received from the Company’s partners in these territories and the Company’s internal forecasts (Note 13).
10. Property and Equipment
Property and equipment, net consisted of the following (in thousands):
As of December 31, 2017 and 2016, substantially all of the Company’s manufacturing equipment was located in the United Kingdom at one of the Company’s contract manufacturers. All other property and equipment were located in the U.S. for the periods presented.
The Company has entered into capital leases for certain computers, vehicles and office equipment (Note 13). As of December 31, 2017 and 2016, the Company had approximately $8.6 million and approximately $7.8 million of assets under capital leases with accumulated amortization balances of approximately $4.6 million and approximately $1.6 million, respectively.
Depreciation and amortization expense of property and equipment, including amounts recorded under capital leases, was approximately $8.4 million, approximately $10.3 million, and approximately $11.6 million for the years ended December 31, 2017, 2016 and 2015, respectively. During the year ended December 31, 2017, the Company recorded an expense of approximately $0.6 million related to a loss on disposal of assets.
11. Accrued Expenses
Accrued expenses consisted of the following (in thousands):
As of December 31, 2017, other accrued expenses of approximately $12.2 million includes approximately $3.4 million related to linaclotide excess purchase commitments, of which approximately $2.5 million relates to 2018 commitments, approximately $1.3 million related to excess non-cancelable ZURAMPIC sample purchase commitments, and approximately $0.2 million related to ZURAMPIC finished goods inventory. As of December 31, 2016, other accrued expenses of approximately $6.6 million includes approximately $2.8 million related to expenses incurred under the Lesinurad transitional services agreements.
12. Notes Payable
8.375% Notes due 2026
On September 23, 2016, the Company closed a direct private placement, pursuant to which the Company issued $150.0 million in aggregate principal amount of 8.375% notes due 2026 on the Funding Date, January 5, 2017. The proceeds from the issuance of the 2026 Notes were used to redeem the outstanding principal balance of the PhaRMA Notes on the Funding Date. The Company capitalized approximately $0.5 million of debt issuance costs, which were netted against the carrying value of the 2026 Notes.
The 2026 Notes bear an annual interest rate of 8.375%, with interest payable March 15, June 15, September 15 and December 15 of each year (each an “8.375% Payment Date”) which began on June 15, 2017. Principal of the 2026 Notes will be payable on the 8.375% Payment Dates beginning March 15, 2019. From March 15, 2019, the Company will make quarterly payments on the 2026 Notes equal to the greater of (i) 7.5% of net sales of linaclotide in the U.S. for the preceding quarter (the “8.375% Synthetic Royalty Amount”) and (ii) accrued and unpaid interest on the 2026 Notes (the “8.375% Required Interest Amount”). Principal on the 2026 Notes will be repaid in an amount equal to the 8.375% Synthetic Royalty Amount minus the 8.375% Required Interest Amount, when this is a positive number, until the principal has been paid in full. Given the principal payments on the 2026 Notes are based on the 8.375% Synthetic Royalty Amount, which will vary from quarter to quarter, the 2026 Notes may be repaid prior to September 15, 2026, the final legal maturity date.
The 2026 Notes are secured by a security interest in a segregated bank account established to receive the required quarterly payments as well as certain limited accounts receivables, payment intangibles or other rights to payment or proceeds, in each case, up to the 8.375% Synthetic Royalty Amount or estimated equivalent thereto, as applicable. Up to the amount of the required quarterly payments under the 2026 Notes, Allergan deposits its quarterly profit (loss) sharing payments due to the Company related to net sales of linaclotide in the U.S. pursuant to the collaboration agreement for North America, if any, into the segregated bank account. If the funds deposited by Allergan into the segregated bank account are insufficient to make a required payment of interest or principal on a particular 8.375% Payment Date, the Company is obligated to deposit such shortfall out of the Company’s general funds into the segregated bank account.
The 2026 Notes may be redeemed at any time prior to maturity, in whole or in part, at the option of the Company. If the applicable redemption of the 2026 Notes occurs prior to March 15, 2018, the Company will pay a redemption price equal to the outstanding principal balance of the 2026 Notes being redeemed, plus (i) the difference between (A) the required interest amount that would have otherwise been payable from the date of redemption through March 15, 2018 on the outstanding principal balance of the 2026 Notes being redeemed, minus (B) the aggregate amount of interest the purchasers would earn if the outstanding principal balance of the 2026 Notes being redeemed were reinvested for the period from the date of redemption through March 15, 2018 at a rate per annum equal to the yield expressed as a rate listed in The Wall Street Journal for United States Treasury securities having a term of not greater than 12 months on the date three business days prior to the date of redemption, plus (ii) an amount equal to the redemption premium that would otherwise be payable as if such redemption had occurred at March 15, 2018. If the applicable redemption of the 2026 Notes occurs on or after March 15, 2018, the Company will pay a redemption price equal to the percentage of outstanding principal balance of the 2026 Notes being redeemed specified below for the period in which the redemption occurs (plus the accrued and unpaid interest to the redemption date on the 2026 Notes being redeemed):
The 2026 Notes contain certain covenants related to the Company’s obligations with respect to the commercialization of linaclotide and the related collaboration agreement with Allergan for North America, as well as certain customary covenants, including covenants that limit or restrict the Company’s ability to incur certain liens, merge or consolidate or make dispositions of assets. The 2026 Notes also specify a number of events of default (some of which are subject to applicable cure periods), including, among other things, covenant defaults, other non-payment defaults,
and bankruptcy and insolvency defaults. Upon the occurrence of an event of default, subject to cure periods in certain circumstances, all amounts outstanding may become immediately due and payable.
The accounting for the 2026 Notes will require the Company to make certain estimates and assumptions about the future net sales of linaclotide in the U.S. Linaclotide has been marketed as LINZESS in the U.S. since December 2012 and the estimates of the magnitude and timing of linaclotide net sales are subject to significant variability and uncertainty. These estimates and assumptions are likely to change, which may result in future adjustments to the portion of the 2026 Notes that will be classified as a current liability, the amortization of debt issuance costs and discounts as well as the accretion of the interest expense. Any such adjustments could be material to the Company’s consolidated financial statements.
2.25% Convertible Senior Notes due 2022
In June 2015, the Company issued approximately $335.7 million aggregate principal amount of the 2022 Notes. The Company received net proceeds of approximately $324.0 million from the sale of the 2022 Notes, after deducting fees and expenses of approximately $11.7 million. The Company used approximately $21.1 million of the net proceeds from the sale of the 2022 Notes to pay the net cost of the Convertible Note Hedges (after such cost was partially offset by the proceeds to the Company from the sale of the Note Hedge Warrants), as described below.
The 2022 Notes are governed by an indenture (the "Indenture") between the Company and U.S. Bank National Association, as the trustee. The 2022 Notes are senior unsecured obligations and bear cash interest at the annual rate of 2.25%, payable on June 15 and December 15 of each year, which began on December 15, 2015. The 2022 Notes will mature on June 15, 2022, unless earlier converted or repurchased. The Company may settle conversions of the 2022 Notes through payment or delivery, as the case may be, of cash, shares of Class A common stock of the Company or a combination of cash and shares of Class A common stock, at the Company's option (subject to, and in accordance with, the settlement provisions of the Indenture). The initial conversion rate for the 2022 Notes is 60.3209 shares of Class A common stock (subject to adjustment as provided for in the Indenture) per $1,000 principal amount of the 2022 Notes, which is equal to an initial conversion price of approximately $16.58 per share and 20,249,665 shares. Holders of the 2022 Notes may convert their 2022 Notes at their option at any time prior to the close of business on the business day immediately preceding December 15, 2021 in multiples of $1,000 principal amount, only under the following circumstances:
·
during any calendar quarter commencing after the calendar quarter ending on September 30, 2015 (and only during such calendar quarter), if the last reported sale price of the Company's Class A common stock for at least 20 trading days (whether or not consecutive) during a period of 30 consecutive trading days ending on the last trading day of the immediately preceding calendar quarter is greater than or equal to 130% of the conversion price for the 2022 Notes on each applicable trading day;
·
during the five business day period after any five consecutive trading day period (the "measurement period") in which the "trading price" (as defined in the Indenture) per $1,000 principal amount of the 2022 Notes for each trading day of the measurement period was less than 98% of the product of the last reported sale price of the Company's Class A common stock and the conversion rate for the 2022 Notes on each such trading day; or
·
upon the occurrence of specified corporate events described in the Indenture.
On or after December 15, 2021, until the close of business on the second scheduled trading day immediately preceding June 15, 2022, holders may convert their 2022 Notes, in multiples of $1,000 principal amount, at the option of the holder regardless of the foregoing circumstances.
If a make-whole fundamental change, as described in the Indenture, occurs and a holder elects to convert its 2022 Notes in connection with such make-whole fundamental change, such holder may be entitled to an increase in the conversion rate as described in the Indenture. The Company may not redeem the 2022 Notes prior to the maturity date and no "sinking fund" is provided for by the 2022 Notes, which means that the Company is not required to periodically redeem or retire the 2022 Notes. Upon the occurrence of certain fundamental changes involving the Company, holders of the 2022 Notes may require the Company to repurchase for cash all or part of their 2022 Notes at a repurchase price equal to 100% of the principal amount of the 2022 Notes to be repurchased, plus accrued and unpaid interest.
The Indenture does not contain any financial covenants or restrict the Company's ability to repurchase the Company's securities, pay dividends or make restricted payments in the event of a transaction that substantially increases the Company's level of indebtedness. The Indenture provides for customary events of default. In the case of an event of default with respect to the 2022 Notes arising from specified events of bankruptcy or insolvency, all outstanding 2022 Notes will become due and payable immediately without further action or notice. If any other event of default with respect to the 2022 Notes under the Indenture occurs or is continuing, the trustee or holders of at least 25% in aggregate principal amount of the then outstanding 2022 Notes may declare the principal amount of the 2022 Notes to be immediately due and payable. Notwithstanding the foregoing, the Indenture provides that, upon the Company's election, and for up to 180 days, the sole remedy for an event of default relating to certain failures by the Company to comply with certain reporting covenants in the Indenture consists exclusively of the right to receive additional interest on the 2022 Notes.
In accordance with accounting guidance for debt with conversion and other options, the Company separately accounted for the liability and equity components of the 2022 Notes by allocating the proceeds between the liability component and the embedded conversion option, or equity component, due to the Company's ability to settle the 2022 Notes in cash, its Class A common stock, or a combination of cash and Class A common stock at the option of the Company. The carrying amount of the liability component was calculated by measuring the fair value of a similar liability that does not have an associated convertible feature. The allocation was performed in a manner that reflected the Company's non-convertible debt borrowing rate for similar debt. The equity component of the 2022 Notes was recognized as a debt discount and represents the difference between the gross proceeds from the issuance of the 2022 Notes and the fair value of the liability of the 2022 Notes on their respective dates of issuance. The excess of the principal amount of the liability component over its carrying amount, or debt discount, is amortized to interest expense using the effective interest method over seven years, or the life of the 2022 Notes. The equity component is not remeasured as long as it continues to meet the conditions for equity classification.
The Company's outstanding Convertible Note balances as of December 31, 2017 and 2016 consisted of the following (in thousands):
In connection with the issuance of the 2022 Notes, the Company incurred approximately $11.7 million of debt issuance costs, which primarily consisted of initial purchasers’ discounts and legal and other professional fees. The Company allocated these costs to the liability and equity components based on the allocation of the proceeds. The portion of these costs allocated to the equity components totaling approximately $4.0 million were recorded as a reduction to additional paid-in capital. The portion of these costs allocated to the liability components totaling approximately $7.7 million were recorded as a reduction in the carrying value of the debt on the balance sheet and are amortized to interest expense using the effective interest method over the expected life of the 2022 Notes.
The Company determined the expected life of the 2022 Notes was equal to their seven-year term. The effective interest rate on the liability components of the 2022 Notes for the period from the date of issuance through December 31,
2017 was 9.34%. The following table sets forth total interest expense recognized related to the 2022 Notes during the years ended December 31, 2017, 2016, and 2015 (in thousands):
Future minimum payments under the 2022 Notes as of December 31, 2017, are as follows (in thousands):
Convertible Note Hedge and Warrant Transactions with Respect to 2022 Notes
To minimize the impact of potential dilution to the Company's Class A common stockholders upon conversion of the 2022 Notes, the Company entered into the Convertible Note Hedges covering 20,249,665 shares of the Company's Class A common stock in connection with the issuance of the 2022 Notes. The Convertible Note Hedges have an exercise price of approximately $16.58 per share and are exercisable when and if the 2022 Notes are converted. If upon conversion of the 2022 Notes, the price of the Company's Class A common stock is above the exercise price of the Convertible Note Hedges, the counterparties are obligated to deliver shares of the Company's Class A common stock and/or cash with an aggregate value approximately equal to the difference between the price of the Company's Class A common stock at the conversion date and the exercise price, multiplied by the number of shares of the Company's Class A common stock related to the Convertible Note Hedge being exercised.
Concurrently with entering into the Convertible Note Hedges, the Company also sold Note Hedge Warrants to the Convertible Note Hedge counterparties to acquire 20,249,665 shares of the Company's Class A common stock, subject to customary anti-dilution adjustments. The strike price of the Note Hedge Warrants is initially $21.50 per share, subject to adjustment, and such warrants are exercisable over the 150 trading day period beginning on September 15, 2022. The Note Hedge Warrants could have a dilutive effect on the Class A common stock to the extent that the market price per share of the Company's Class A common stock exceeds the applicable strike price of such warrants.
The Convertible Note Hedges and the Note Hedge Warrants are separate transactions entered into by the Company and are not part of the terms of the 2022 Notes. Holders of the 2022 Notes and the Note Hedge Warrants do not have any rights with respect to the Convertible Note Hedges. The Company paid approximately $91.9 million for the Convertible Note Hedges and recorded this amount as a long-term asset on the consolidated balance sheet. The Company received approximately $70.8 million for the Note Hedge Warrants and recorded this amount as a long-term liability, resulting in a net cost to the Company of approximately $21.1 million. The Convertible Note Hedges and Note Hedge Warrants are accounted for as derivative assets and liabilities, respectively, in accordance with ASC 815 (Note 7).
11% PhaRMA Notes due 2024
In January 2013, the Company closed a private placement of $175.0 million in aggregate principal amount of notes due on or before June 15, 2024. The PhaRMA Notes were redeemed at par on the 2026 Notes’ Funding Date, January 5, 2017 resulting in a loss on extinguishment of debt related to the write-off of the remaining PhaRMA Notes unamortized debt issuance costs of approximately $2.0 million.
13. Commitments and Contingencies
Lease Commitments
The Company rents office and laboratory space at its corporate headquarters at 301 Binney Street, Cambridge, Massachusetts (the “Facility”) under a non-cancelable operating lease, entered into in January 2007, as amended (“2007 Lease Agreement”).
In March 2017, the Company and BMR-Rogers Street LLC (the “Landlord”) entered into an additional amendment (the “2017 Amendment”) to the 2007 Lease Agreement. The 2017 Amendment extends the term of the 2007 Lease Agreement through January 31, 2025 for the approximately 223,000 square feet of the Facility that the Company currently occupies. The 2017 Amendment also provides that the Landlord resume possession of the approximately 93,000 square feet of additional space in the Facility that the Company previously subleased to a third party in 2014. The 2007 Lease Agreement, as amended by the 2017 Amendment, contains various provisions including an option to extend the term of the lease for an additional five years at a market base rental rate, a 3% annual rent escalation, and in certain cases, free rent periods. The rent expense, inclusive of the escalating rent payments and free rent periods, is recognized on a straight line basis over the lease term through January 2025. Additionally, the 2017 Amendment reduced the required letter of credit to secure the Company’s obligations under the lease agreement to approximately $6.4 million, which is recorded as restricted cash.
During 2014, the Company entered into an agreement, with the Landlord’s consent, to sublease a portion of its corporate headquarters that it did not intend to use for its operation. In connection with the sublease, as well as a rent escalation tied to the Consumer Price Index and fair market rent pursuant to the terms of the 2007 Lease Agreement, the Company had previously recorded losses related to its obligations to the Landlord associated with the sublet space, net of sublease income in accordance with ASC Topic 420, “Exit or Disposal Cost Obligations”. Pursuant to the 2017 Amendment, the Landlord resumed possession of the space that the Company previously subleased to a third party, and the Company is no longer obligated for the sublease associated with this space. The provisions of the 2007 Lease Agreement governing the space which was previously subleased were terminated and as such, the Company revised its accounting estimates associated with its rent expense and sublease income. Upon the relief of these future liabilities, the Company recorded a gain on the extinguishment of sublease loss of approximately $1.6 million during the three months ended March 31, 2017. The change in accounting estimate associated with rent expense was recognized on a prospective, straight-line basis through May 2017. Rent expenses related to the 2007 Lease Agreement and the 2017 Amendment, net of sublease income, recorded during the years ended December 31, 2017, 2016 and 2015 were approximately $14.7 million, approximately $11.6 million and approximately $6.3 million, respectively.
In November 2015, the Company entered into 12-month capital leases (the “2015 Vehicle Leases”) for certain vehicles within its vehicle fleet for its field-based sales force and medical science liaisons. The 2015 Vehicle Leases expire at varying times through December 2017 with an automatic one-month renewal provision. In accordance with the terms of the 2015 Vehicle Leases, the Company maintains a letter of credit securing its obligations under the lease agreements of approximately $0.6 million, which is recorded as restricted cash. At December 31, 2017, the weighted average interest rate on the outstanding 2015 Vehicle Lease obligations was approximately 3.3%.
The Company has also entered into capital leases for certain computer and office equipment. These capital leases expire in April 2018. At December 31, 2017, the weighted average interest rate on the outstanding capital lease obligations was approximately 14.5%.
At December 31, 2017, future minimum lease payments under all non-cancelable lease arrangements were as follows (in thousands):
Commercial Supply Commitments
The Company has entered into multiple supply agreements for the purchase of linaclotide finished drug product and API. Two of the Company’s API supply agreements for supplying API to its collaboration partners outside of North America contain minimum purchase commitments. In July 2015 and August 2015, the Company entered into amendments to its agreements with two of its suppliers of linaclotide API. One amendment reduced the Company's non-cancelable purchase commitments and the other increased the Company's non-cancelable purchase commitments, but extended the timeframe over which the Company must purchase the API. The amended contracts include remaining total non-cancelable commercial supply purchase obligations of approximately $25.4 million through 2023.
As of December 31, 2017, the Company had approximately $3.4 million recorded as an accrual for excess purchases commitments, of which approximately $2.5 million relates to the 2018 commitment, and approximately $5.1 million recorded as other liabilities related to linaclotide API supply (Note 9). The next payment of approximately $2.5 million related to these accrued excess purchase commitments is in 2018, and is reflected as an other current liability in the Company’s consolidated balance sheet. The remaining payments under these accrued excess purchase commitments are approximately $2.5 million in each of the years 2019 and 2020. Such payments are recorded as other liabilities in the Company’s consolidated balance sheet. As of December 31, 2017, the Company's unrecognized minimum purchase requirements and other firm commitments related to the supply contracts associated with the territories not covered by the partnerships with Allergan for North America were as follows (in thousands):
In addition, the Company and Allergan are jointly obligated to make minimum purchases of linaclotide API for the territories covered by the Company's collaboration with Allergan for North America. Currently, Allergan fulfills all such minimum purchase commitments and, as a result, they are excluded from the amounts above. As of December 31, 2017, the Company has evaluated all remaining minimum purchase commitments under its linaclotide API supply agreements and has concluded that the remaining purchase commitments are realizable based on the current forecasts received from certain of the Company’s partners and the Company’s internal forecasts.
The Lesinurad CSA with AstraZeneca provides for commercial supply and samples of ZURAMPIC and DUZALLO. The Lesinurad CSA includes minimum purchase obligations based on the Company’s forecasted demand for ZURAMPIC and DUZALLO commercial product and samples. As of December 31, 2017, the Company had approximately $5.6 million of such commitments related to ZURAMPIC and DUZALLO commercial supply and samples for 2018, and none thereafter.
As of December 31, 2017, the Company has evaluated all remaining non-cancelable purchase commitments under the Lesinurad CSA and concluded that its non-cancelable purchase commitments are realizable based on the Company’s forecasted demand.
Commitments Related to the Collaboration and License Agreements
Under the collaboration agreements with Allergan for North America and AstraZeneca for China, Hong Kong and Macau, respectively, the Company shares all development and commercialization costs related to linaclotide in the U.S. with Allergan and for China, Hong Kong and Macau with AstraZeneca, respectively. The actual amounts that the Company pays its partners or that partners pay to the Company will depend on numerous factors outside of the Company’s control, including the success of certain clinical development efforts with respect to linaclotide, the content and timing of decisions made by the regulators, the reimbursement and competitive landscape around linaclotide and the Company’s other product candidates, and other factors.
Under the Lesinurad License, the Company is responsible for the development and commercialization of lesinurad in the U.S. Pursuant to the terms of the Lesinurad License, the Company will pay a tiered royalty to AstraZeneca in the single-digits as a percentage of net sales of ZURAMPIC and DUZALLO, in the U.S., as well as commercial and other milestones of up to $165.0 million over the duration of the agreement, of which a $15.0 million milestone payment was made during 2017 related to the FDA approval of DUZALLO.
In addition, the Company has commitments to make potential future milestone payments to third parties under certain of its license and collaboration arrangements. These milestones primarily relate to the initiation and results of clinical trials, obtaining regulatory approval in various jurisdictions and the future commercial success of development programs, the outcome and timing of which are difficult to predict and subject to significant uncertainty. In addition to the milestones discussed above, the Company is obligated to pay royalties on future sales, which are contingent on generating levels of sales of future products that have not been achieved and may never be achieved.
These agreements are more fully described in Note 4, Business Combinations and Note 5, Collaboration, License, Co-promotion and Other Commercial Agreements, to these consolidated financial statements.
Other Funding Commitments
As of December 31, 2017, the Company has several on-going studies in various clinical trial stages. The Company’s most significant clinical trial expenditures are to contract research organizations. These contracts are generally cancellable, with notice, at the Company’s option and do not have any significant cancellation penalties.
Guarantees
As permitted under Delaware law, the Company indemnifies its officers and directors for certain events or occurrences while the officer or director is, or was, serving at the Company’s request in such capacity. The maximum potential amount of future payments the Company could be required to make is unlimited; however, the Company has directors’ and officers’ insurance coverage that is intended to limit its exposure and enable it to recover a portion of any future amounts paid.
The Company enters into certain agreements with other parties in the ordinary course of business that contain indemnification provisions. These typically include agreements with directors and officers, business partners, contractors, landlords, clinical sites and customers. Under these provisions, the Company generally indemnifies and holds harmless the indemnified party for losses suffered or incurred by the indemnified party as a result of the Company’s activities. These indemnification provisions generally survive termination of the underlying agreements. The maximum potential amount of future payments the Company could be required to make under these indemnification provisions is unlimited. However, to date the Company has not incurred material costs to defend lawsuits or settle claims related to these indemnification provisions. As a result, the estimated fair value of these obligations is minimal. Accordingly, the Company did not have any liabilities recorded for these obligations as of December 31, 2017 and 2016.
Litigation
From time to time, the Company is involved in various legal proceedings and claims, either asserted or unasserted, which arise in the ordinary course of business. While the outcome of these other claims cannot be predicted with certainty, management does not believe that the outcome of any of these ongoing legal matters, individually and in aggregate, will have a material adverse effect on the Company’s consolidated financial statements.
The Company and Allergan have received Paragraph IV certification notice letters regarding Abbreviated New Drug Applications (“ANDAs”), submitted to the FDA by generic drug manufacturers requesting approval to engage in commercial manufacture, use, sale and offer for sale of linaclotide capsules (72 mcg, 145 mcg and 290 mcg), proposed generic versions of LINZESS. In January 2018, the Company and Allergan entered into a settlement agreement with one such generic manufacturer, Sun Pharma Global FZE, together with its affiliates (“Sun”). Pursuant to the terms of the settlement, the Company and Allergan will grant Sun a license to market a generic version of LINZESS in the United States beginning on February 1, 2031 (subject to FDA approval), unless certain limited circumstances, customary for settlement agreements of this nature, occur. For additional information relating to such ANDAs and any resolution of related litigation, see Item 3, Legal Proceedings, elsewhere in this Annual Report on Form 10-K. The Company is unable to estimate the outcome of the litigation at this time.
14. Stockholders’ Equity
Preferred Stock
The Company’s preferred stock may be issued from time to time in one or more series, with each such series to consist of such number of shares and to have such terms as adopted by the board of directors. Authority is given to the board of directors to determine and fix such voting powers, full or limited, or no voting powers, and such designations, preferences and relative participating, optional or other special rights, and qualifications, limitation or restrictions thereof, including without limitation, dividend rights, conversion rights, redemption privileges and liquidation preferences.
Common Stock
The Company has designated two series of common stock, Series A common stock (“Class A Common Stock”) and Series B common stock (“Class B Common Stock”). All shares of common stock that were outstanding immediately prior to August 2008 were converted into shares of Class B Common Stock. The holders of Class A Common Stock and Class B Common Stock vote together as a single class. Class A Common Stock is entitled to one vote per share. Class B Common Stock is also entitled to one vote per share with the following exceptions: (1) after the completion of an initial public offering (“IPO”) of the Company’s stock, the holders of the Class B Common Stock are entitled to ten votes per share if the matter is an adoption of an agreement of merger or consolidation, an adoption of a resolution with respect to the sale, lease, or exchange of the Company’s assets or an adoption of dissolution or liquidation of the Company, and (2) Class B common stockholders are entitled to ten votes per share on any matter if any individual, entity, or group seeks to obtain or has obtained beneficial ownership of 30% or more of the Company’s outstanding shares of common stock. Class B Common Stock can be sold at any time and irrevocably converts to Class A Common Stock, on a one-for-one basis, upon sale or transfer. The Class B Common Stock is also entitled to a separate class vote for the issuance of additional shares of Class B Common Stock (except pursuant to dividends, splits or convertible securities), or any amendment, alteration or repeal of any provision of the Company’s charter. All Class B Common Stock will automatically convert into Class A Common Stock upon the earliest of:
·
the later of (1) the first date on which the number of shares of Class B Common Stock then outstanding is less than 19,561,556 which represents 25% of the number of shares of Class B Common Stock outstanding immediately following the completion of the Company’s IPO or (2) December 31, 2018;
·
December 31, 2038; or
·
a date agreed to in writing by a majority of the holders of the Class B Common Stock.
The Company has reserved such number of shares of Class A Common Stock as there are outstanding shares of Class B Common Stock solely for the purpose of effecting the conversion of the Class B Common Stock.
The holders of shares of Class A Common Stock and Class B Common Stock are entitled to dividends if and when declared by the board of directors. In the event that dividends are paid in the form of common stock or rights to acquire common stock, the holders of shares of Class A Common Stock shall receive Class A Common Stock or rights to acquire Class A Common Stock and the holders of shares of Class B Common Stock shall receive Class B Common Stock or rights to acquire Class B Common Stock, as applicable.
In the event of a voluntary or involuntary liquidation, dissolution, distribution of assets, or winding up of the Company, the holders of shares of Class A Common Stock and the holders of shares of Class B Common Stock are entitled to share equally, on a per share basis, in all assets of the Company of whatever kind available for distribution to the holders of common stock.
The Company has reserved, out of its authorized but unissued shares of Class A Common Stock, sufficient shares to affect the conversion of the 2022 Notes and the Note Hedge Warrants, pursuant to the terms thereof (Note 12).
15. Stock Benefit Plans
The following table summarizes the expense recognized for share-based compensation arrangements in the consolidated statements of operations (in thousands):
Share-based compensation is reflected in the consolidated statements of operations as follows for the years ended December 31, 2017, 2016 and 2015 (in thousands):
Stock Benefit Plans
The Company has two share-based compensation plans pursuant to which awards are currently being made: the Amended and Restated 2010 Employee, Director and Consultant Equity Incentive Plan (“2010 Equity Plan”) and the Amended and Restated 2010 Employee Stock Purchase Plan (“2010 Purchase Plan”). The Company also has one share-based compensation plans under which there are outstanding awards, but from which no further awards will be made: the Amended and Restated 2005 Stock Incentive Plan (“2005 Equity Plan”). At December 31, 2017, there were 17,992,305 shares available for future grant under all such plans.
2010 Equity Plan
During 2010, the Company’s stockholders approved the 2010 Equity Plan under which stock options, restricted stock awards, RSUs, and other stock-based awards may be granted to employees, officers, directors, or consultants of the Company. There were 6,000,000 shares of common stock initially reserved for issuance under the 2010 Equity Plan. The
number of shares available for future grant may be increased on the first day of each fiscal year by an amount equal to the lesser of: (i) 6,600,000; (ii) 4% of the number of outstanding shares of common stock on the first day of each fiscal year; and (iii) an amount determined by the board of directors. Awards that are returned to the Company’s other equity plans as a result of their expiration, cancellation, termination or repurchase are automatically made available for issuance under the 2010 Equity Plan. At December 31, 2017, there were 14,507,164 shares available for future grant under the 2010 Equity Plan.
2010 Purchase Plan
During 2010, the Company’s stockholders approved the 2010 Purchase Plan, which gives eligible employees the right to purchase shares of common stock at the lower of 85% of the fair market value on the first or last day of an offering period. Each offering period is six months. There were 400,000 shares of common stock initially reserved for issuance pursuant to the 2010 Purchase Plan. The number of shares available for future grant under the 2010 Purchase Plan may be increased on the first day of each fiscal year by an amount equal to the lesser of: (i) 1,000,000 shares, (ii) 1% of the Class A shares of common stock outstanding on the last day of the immediately preceding fiscal year, or (iii) such lesser number of shares as is determined by the board of directors. At December 31, 2017, there were 3,485,141 shares available for future grant under the 2010 Purchase Plan.
2005 Equity Plan
The 2005 Equity Plan provided for the granting of stock options, restricted stock awards, RSUs and other share-based awards to employees, officers, directors, consultants, or advisors of the Company. At December 31, 2017, there were no shares available for future grant under the 2005 Equity Plan.
Restricted Stock Awards
In 2017, the Company granted an aggregate of 134,793 shares of Class A Common Stock to independent members of the board of directors under restricted stock agreements in accordance with the terms of the 2010 Equity Plan and the Company’s director compensation plan, effective in January 2014. These shares of restricted stock vest ratably over the period of service from the Company’s 2017 annual meeting of stockholders through the Company’s 2018 annual meeting of stockholders, provided the individual continues to serve on the Company’s board of directors through each vest date.
In 2016, the Company granted an aggregate of 191,977 shares of Class A Common Stock to independent members of the board of directors under restricted stock agreements in accordance with the terms of the 2010 Equity Plan and the Company’s director compensation plan, effective in January 2014. These shares of restricted stock vest ratably over the period of service from the Company’s 2016 annual meeting of stockholders through the Company’s 2017 annual meeting of stockholders, provided the individual continues to serve on the Company’s board of directors through each vest date.
.
A summary of the unvested shares of restricted stock as of December 31, 2017 is presented below:
Restricted Stock Units
In 2015, the Company began utilizing RSUs, in addition to stock options as part of the equity compensation it provides to its employees, each RSU representing the right to receive one share of the Company’s Class A Common Stock pursuant to the terms of the applicable award agreement and granted pursuant to the terms of the Company’s 2010 Equity Plan. The RSUs generally vest 25% per year on the approximate anniversary of the date of grant until fully vested, provided the employee remains continuously employed with the Company through each vesting date. Shares of the Company's Class A Common Stock are delivered to the employee upon vesting, subject to payment of applicable withholding taxes. The fair value of all RSUs is based on the market value of the Company's Class A Common Stock on the date of grant. Compensation expense, including the effect of estimated forfeitures, is recognized over the applicable service period.
A summary of RSU activity for the year ended December 31, 2017 is as follows:
Stock Options
Stock options granted under the Company’s equity plans generally have a ten-year term and vest over a period of four years, provided the individual continues to serve at the Company through the vesting dates. Options granted under all equity plans are exercisable at a price per share not less than the fair market value of the underlying common stock on the date of grant. The estimated fair value of options, including the effect of estimated forfeitures, is recognized over the requisite service period, which is typically the vesting period of each option.
The weighted average assumptions used to estimate the fair value of the stock options using the Black-Scholes option-pricing model were as follows for the years ended December 31, 2017, 2016 and 2015:
Expected volatility is based on the historic volatility of the Company’s Class A common stock. The Company estimates the expected term using historical data. The risk-free interest rate used for each grant is based on a zero-coupon U.S. Treasury instrument with a remaining term similar to the expected term of the share-based award. The
Company has not paid and does not anticipate paying cash dividends on its shares of common stock in the foreseeable future; therefore, the expected dividend yield is assumed to be zero.
The weighted-average grant date fair value per share of options granted during the years ended December 31, 2017, 2016 and 2015 was $7.62, $5.08, and $6.73, respectively.
The Company’s Class B Common Stock is issuable upon exercise of options granted prior to the closing of the Company’s IPO under the 2002 Equity Plan and the 2005 Equity Plan, and its Class A Common Stock is issuable upon exercise of all options granted after the closing of the Company’s IPO under the Company’s equity plans. At December 31, 2017, options exercisable into 1,536,470 shares of Class B Common Stock and 19,549,828 shares of Class A Common Stock were outstanding.
Subject to approval by the board of directors, option grantees under the 2005 Equity Plan may have the right to exercise an option prior to vesting. The exercise of these shares is not substantive and as a result, the cash paid for the exercise prices is considered a deposit or prepayment of the exercise price and is recorded as a liability. For the year ended December 31, 2017, there were no option exercises prior to vesting, and as such, no liability was recorded. The Company recorded a liability of approximately $0.9 million as of December 31, 2016, for cash received related to the exercise of such options.
The Company, from time to time, issues certain time-accelerated stock options to certain employees. The vesting of these options accelerates upon the achievement of certain performance-based milestones. If these criteria are not met, such options will vest between six and ten years after the date of grant. During the year ended December 31, 2017, there were 300,000 shares that vested as a result of milestone or service period achievements. At December 31, 2017 and 2016, there were no shares and 300,000 shares issuable under unvested time-accelerated options, respectively. When achievement of the milestone is not deemed probable, the Company recognizes compensation expense associated with time-accelerated stock options initially over the vesting period of the respective stock option. When deemed probable of achievement, the Company expenses the remaining unrecognized compensation over the implicit service period. The Company recorded an insignificant amount in share-based compensation related to these time-accelerated options during each of the years ended December 31, 2017, 2016 and 2015.
The Company also grants to certain employees performance-based options to purchase shares of common stock. These options are subject to performance-based milestone vesting. During the year ended December 31, 2017, there were 351,500 shares that vested as a result of performance milestone achievements. The Company recorded no share-based compensation expense related to these performance-based options during the year ended December 31, 2017. The Company recorded share-based compensation related to these performance-based options of approximately $1.4 million and approximately $0.2 million, respectively, during the years ended December 31, 2016 and 2015.
The following table summarizes stock option activity under the Company’s share-based compensation plans, including performance-based options:
(1)
All stock options granted under the 2005 Equity Plan contain provisions allowing for the early exercise of such options into restricted stock. The exercisable shares disclosed above represent those that were vested as of December 31, 2017.
The total intrinsic value of options exercised during the years ended December 31, 2017, 2016 and 2015 was approximately $16.0 million, approximately $23.9 million, and approximately $17.7 million. The intrinsic value was calculated as the difference between the fair value of the Company’s common stock and the exercise price of the option issued.
The following table sets forth the Company's unrecognized share-based compensation expense, net of estimated forfeitures, as of December 31, 2017, by type of award and the weighted-average period over which that expense is expected to be recognized:
(1)
The weighted-average remaining recognition period cannot be determined for performance-based or time-accelerated options due to the nature of such awards, as detailed above.
The total unrecognized share-based compensation cost will be adjusted for future changes in estimated forfeitures.
16. Income Taxes
In general, the Company has not recorded a provision for federal or state income taxes as it has had cumulative net operating losses since inception.
On December 22, 2017, the Tax Cuts and Jobs Act was enacted. This law substantially amended the Internal Revenue Code, including reducing the U.S. corporate tax rates. Upon enactment, the Company’s deferred tax asset and related valuation allowance decreased by approximately $153.9 million. As the deferred tax asset is offset in full by valuation allowance, this enacted legislation had no impact on the Company’s financial position or results of operations. The Company will monitor future interpretations of the Tax Act as they develop and accordingly, the Company’s estimates may change.
A reconciliation of income taxes computed using the U.S. federal statutory rate to that reflected in operations follows (in thousands):
Components of the Company’s deferred tax assets and liabilities are as follows (in thousands):
Management of the Company has evaluated the positive and negative evidence bearing upon the realizability of its deferred tax assets. Management has considered the Company’s history of operating losses and concluded, in accordance with the applicable accounting standards, that it is more likely than not that the Company will not realize the benefit of its deferred tax assets. Accordingly, the deferred tax assets have been fully reserved at December 31, 2017 and 2016. Management reevaluates the positive and negative evidence on a quarterly basis.
The valuation allowance decreased approximately $95.8 million during the year ended December 31, 2017 primarily due to a decrease in net operating losses as a result of U.S. tax reform tax rate reduction, a decrease in contingent consideration, and a decrease in capitalized R&D, partially offset by the 2017 net operating loss and increase in tax credit carryforwards.
The valuation allowance increased approximately $66.3 million during the year ended December 31, 2016, primarily due to an increase in net operating losses, tax credit carryforwards, basis difference on the North America collaboration agreement and share-based compensation expense. During the year ended December 31, 2016, the Company closed the Lesinurad Transaction which resulted in an approximately $0.3 million deferred tax impact. Additionally, the 2016 change in valuation allowance noted in the table above reflects the impact of the Company’s early adoption of ASC 2016-09, Compensation - Stock Compensation, of an approximately $23.1 million increase in net operating losses recorded through retained earnings.
Subject to the limitations described below, at December 31, 2017 and 2016, the Company has federal net operating loss carryforwards of approximately $1,089.2 million and approximately $952.7 million, respectively, to offset future federal taxable income, which expire beginning in 2018 continuing through 2037. As of December 31, 2017 and 2016, the Company had state net operating loss carryforwards of approximately $807.7 million and approximately $686.2 million, respectively, to offset future state taxable income, which will begin to expire in 2027 and will continue to expire through 2037. The Company also had tax credit carryforwards of approximately $53.6 million and approximately $40.4 million as of December 31, 2017 and 2016, respectively, to offset future federal and state income taxes, which expire at various times through 2037.
Utilization of net operating loss carryforwards and research and development credit carryforwards may be subject to a substantial annual limitation due to ownership change limitations that could occur in the future in accordance with Section 382 of the Internal Revenue Code of 1986 (“IRC Section 382”) and with Section 383 of the Internal Revenue Code of 1986, as well as similar state provisions. These ownership changes may limit the amount of net operating loss carryforwards and research and development credit carryforwards that can be utilized annually to offset future taxable income and taxes, respectively. In general, an ownership change, as defined by IRC Section 382, results
from transactions increasing the ownership of certain stockholders or public groups in the stock of a corporation by more than 50 percentage points over a three-year period. The Company has completed several financings since its inception which may result in a change in control as defined by IRC Section 382, or could result in a change in control in the future.
The following table summarizes the changes in the Company’s unrecognized income tax benefits for the years ended December 31, 2017 and 2016 (in thousands):
The Company had gross unrecognized tax benefits of approximately $24.1 million, approximately $26.4 million, and approximately $17.6 million as of December 31, 2017, 2016, and 2015, respectively. Of the approximately $24.1 million of total unrecognized tax benefits at December 31, 2017, none of the unrecognized tax positions would, if recognized, affect the Company’s effective tax rate, as this item only impacts the Company’s deferred tax accounting.
The Company will recognize interest and penalties, if any, related to uncertain tax positions in income tax expense. As of December 31, 2017, no interest or penalties have been accrued.
The statute of limitations for assessment by the Internal Revenue Service (“IRS”) and state tax authorities is open for tax years ended December 31, 2016, 2015, and 2014, although carryforward attributes that were generated prior to tax year 2014 may still be adjusted upon examination by the IRS or state tax authorities if they either have been, or will be, used in a future period. There are currently no federal or state income tax audits in progress.
17. Defined Contribution Plan
The Ironwood Pharmaceuticals, Inc. 401(k) Savings Plan is a defined contribution plan in the form of a qualified 401(k) plan in which substantially all employees are eligible to participate upon employment. Subject to certain IRS limits, eligible employees may elect to contribute from 1% to 100% of their compensation. Company contributions to the plan are at the sole discretion of the Company’s board of directors. Currently, the Company provides a matching contribution of 75% of the employee’s contributions, up to $6,000 annually. During the years ended December 31, 2017, 2016 and 2015, the Company recorded approximately $3.9 million, approximately $3.2 million, and approximately $2.5 million of expense related to its 401(k) company match, respectively.
18. Related Party Transactions
In September 2009, Allergan became a related party when the Company sold to Allergan 2,083,333 shares of the Company’s convertible preferred stock. Amounts due to and due from Allergan are reflected as related party accounts payable and related party accounts receivable, respectively. These balances are reported net of any balances due to or from the related party. As of December 31, 2017 and 2016, the Company had approximately $79.0 million and approximately $63.9 million, respectively, in related party accounts receivable, net of related party accounts payable, associated with Allergan.
The Company has and currently obtains health insurance services for its employees from an insurance provider whose President and Chief Executive Officer became a member of the Company’s Board of Directors in April 2016. The Company paid approximately $12.1 million and approximately $8.5 million in insurance premiums to this insurance provider during the years ended December 31, 2017 and 2016, respectively. At December 31, 2017 and 2016, the Company had no outstanding payable balance and an insignificant amount of accounts payable, respectively, due to this related party.
19. Selected Quarterly Financial Data (Unaudited)
The following table contains quarterly financial information for the years ended December 31, 2017 and 2016. The Company believes that the following information reflects all normal recurring adjustments necessary for a fair presentation of the information for the periods presented. The operating results for any quarter are not necessarily indicative of results for any future period.
(1)
Total revenues includes approximately $29.7 million of revenue from sales of linaclotide API to our linaclotide partners, primarily driven by the commercialization of linaclotide in Japan for the year ended December 31, 2017.
(2)
Total costs and expenses includes approximately $39.3 million reduction in the fourth quarter of 2017 related to a gain on remeasurement of contingent consideration pursuant to the Company’s exclusive license to develop, manufacture, and commercialize products containing lesinurad as an active ingredient, including ZURAMPIC and DUZALLO, in the U.S. The contingent consideration obligation is revalued at each reporting period and changes in the fair value, other than changes due to payments, are recognized as a gain/(loss) on fair value remeasurement of contingent consideration in the Company’s statement of operations. Adjustments are recorded when there are changes in significant assumptions, including net sales projections, probability weighted net cash outflow projections, the discount rate, passage of time, and the yield curve equivalent to the Company’s credit risk, which is based on the estimated cost of debt for market participants. During the year ended December 31, 2017, the Company decreased its Lesinurad Products revenue projection. Accordingly, the expected estimated future royalty and milestone payments to AstraZeneca decreased, resulting in an approximately $31.3 million decrease to the contingent consideration liability.
(3)
Other (expense) income, net includes an approximately $2.0 million loss on extinguishment of debt in the first quarter of 2017 related to the write-off of the remaining PhaRMA Notes unamortized debt issuance costs.
(4)
Collaborative arrangements revenue includes the achievement of $30.0 million related to the receipt of milestone payments under the license agreement with Astellas, consisting of $15.0 million for the filing of an NDA for LINZESS with the Japanese Ministry of Health, Labor and Welfare during the first quarter of the year ended December 31, 2016, and $15.0 million for the subsequent approval of the NDA during the fourth quarter of the year ended December 31, 2016.
(5)
Total costs and expenses for the third and fourth quarters of the year ended December 31, 2016 includes approximately $3.2 million and a subsequent reduction of approximately $3.3 million, respectively, related to the amortization of acquired intangible asset, as well as approximately $8.7 million and approximately $1.1 million during the third and fourth quarters, respectively, as a loss on fair value remeasurement of contingent consideration
(6)
Other (expense) income, net for the year ended December 31, 2016 includes a loss of approximately $1.6 million for the first quarter, and gains of approximately $3.1 million, approximately $4.5 million, and approximately $2.1 million in the second, third and fourth quarters of 2016, respectively, related to gain on derivatives. The gain on derivatives for the year ended December 31, 2016 consists of the change in fair value of the Company’s Convertible Note Hedges and Note Hedge Warrants, which are recorded as derivative assets and liabilities. The Convertible Note Hedges and the Note Hedge Warrants are recorded at fair value at each reporting period and changes in fair
value are recorded in the Company’s consolidated statements of operations (Note 7).
20. Subsequent Events
On January 30, 2018, the Company commenced an initiative to evaluate the optimal mix of investments for the lesinurad franchise. As part of this effort, the Company reduced its field-based workforce by approximately 60 employees, primarily consisting of field-based sales representatives that promote DUZALLO or ZURAMPIC in the first position, which the Company expects to complete during the first quarter of 2018. The Company estimates that it will incur aggregate charges in connection with the reduction in its field-based workforce of approximately $2.3 million to $2.8 million during the first quarter of 2018 for one-time employee severance and benefit costs, of which approximately 92% are expected to result in cash expenditures.
			 		
Exhibit Index
*Filed herewith.
‡Furnished herewith.
+Confidential treatment granted under 17 C.F.R. §§200.80(b)(4) and 230.406. The confidential portions of this exhibit have been omitted and are marked accordingly. The confidential portions have been provided separately to the SEC pursuant to the confidential treatment request.
#Management contract or compensatory plan, contract, or arrangement.
Item 16. Form 10-K Summary
None.