NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
Note 1 — Business and Basis of Presentation
Business:
Akorn, Inc., together with its wholly-owned subsidiaries (collectively “Akorn,” the “Company,” “we,” “our” or “us”) is a specialty generic pharmaceutical company that develops, manufactures and markets generic and branded prescription pharmaceuticals, branded as well as private-label over-the-counter consumer health products and animal health pharmaceuticals. We are an industry leader in the development, manufacturing and marketing of specialized generic pharmaceutical products in alternative dosage forms. We focus on difficult-to-manufacture sterile and non-sterile dosage forms including, but not limited to, ophthalmics, injectables, oral liquids, otics, topicals, inhalants and nasal sprays.
Akorn is a Louisiana corporation founded in 1971 in Abita Springs, Louisiana. In 1997, we relocated our corporate headquarters to the Chicago, Illinois area and currently maintain our principal corporate offices in Lake Forest, Illinois. We operate pharmaceutical manufacturing facilities in Decatur, Illinois; Somerset, New Jersey; Amityville, New York; Hettlingen, Switzerland; and Paonta Sahib, Himachal Pradesh, India. We operate a central distribution warehouse in Gurnee, Illinois and additional distribution facilities in Amityville, New York and Decatur, Illinois. Our research and development (“R&D”) centers are located in Vernon Hills, Illinois and Cranbury, New Jersey. We maintain other corporate offices in Ann Arbor, Michigan and Gurgaon, Haryana, India.
During the three month periods ended
March 31, 2018
and 2017, the Company reported results for
two
reportable segments: Prescription Pharmaceuticals and Consumer Health. For further detail concerning our reportable segments please see Part I, Item 1, Note 10 - “
Segment Information.”
Our common shares are traded on The NASDAQ Global Select Market under the ticker symbol AKRX. Our principal corporate office is located at 1925 West Field Court Suite 300, Lake Forest, Illinois 60045 with telephone number (847) 279-6100.
Merger Agreement:
On April 24, 2017, the Company entered into an Agreement and Plan of Merger (the “Merger Agreement”) with Fresenius Kabi AG, a German stock corporation (“Parent”), Quercus Acquisition, Inc., a Louisiana corporation and wholly-owned subsidiary of Parent (“Merger Sub”) and, solely for purposes of Article VIII thereof, Fresenius SE & Co. KGaA, a German partnership limited by shares. The Merger Agreement, which has been adopted by the Board of Directors of the Company, provides for the merger of Merger Sub with and into the Company (the “Merger”), with the Company surviving the Merger as a wholly-owned subsidiary of Parent. On July 19, 2017, the Company's shareholders voted to approve the Merger Agreement.
Subject to the terms and conditions set forth in the Merger Agreement, at the effective time of the Merger (the “Effective Time”), each of the Company’s issued and outstanding shares of common stock, no par value per share (the “Shares”) (other than Shares owned by the Company or by Parent, Merger Sub or any direct or indirect wholly-owned subsidiary of the Company or of Parent (other than Merger Sub) immediately prior to the Effective Time), will be converted into the right to receive
$34.00
in cash per Share (the “Merger Consideration”), without interest.
Completion of the Merger is subject to customary closing conditions, including (1) there being no judgment or law enjoining or otherwise prohibiting the consummation of the Merger and (2) the expiration of the waiting period applicable to the Merger under the Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended. The obligation of each of the Company and Parent to consummate the Merger is also conditioned on the other party’s representations and warranties being true and correct (subject to certain materiality exceptions) and the other party having performed in all material respects its obligations under the Merger Agreement.
The Merger Agreement contains representations and warranties and covenants of the parties customary for a transaction of this nature. Among other things, Parent has agreed to promptly take all actions necessary to obtain antitrust approval of the Merger, including (i) entering into consent decrees or undertakings with a regulatory authority, (ii) divesting or holding separate any assets or businesses of Parent or the Company, (iii) terminating existing contractual relationships or entering into new contractual relationships, (iv) effecting any other change or restructuring of Parent or the Company and (v) defending through litigation any claim asserted by a regulatory authority that would prevent the closing of the Merger.
On April 22, 2018, Fresenius Kabi AG delivered to Akorn a letter purporting to terminate the Merger Agreement. On April 23, 2018, Akorn filed a verified complaint entitled Akorn, Inc. v. Fresenius Kabi AG, Quercus Acquisition, Inc. and
Fresenius SE & Co. KGaA, in the Court of Chancery of the State of Delaware for breach of contract and declaratory judgment. The complaint alleges, among other things, that (i) the defendants anticipatorily breached their obligations under the Merger Agreement by repudiating their obligation to close the Merger, (ii) the defendants knowingly and intentionally breached their obligations under the Merger Agreement by working to slow the antitrust approval process and by engaging in a series of actions designed to hamper and ultimately block the Merger and (iii) Akorn has performed its obligations under the Merger Agreement, and is ready, willing and able to close the Merger. The complaint seeks, among other things, a declaration that Fresenius Kabi AG's termination is invalid, an order enjoining the defendants from terminating the Merger Agreement, and an order compelling the defendants to specifically perform their obligations under the Merger Agreement to use reasonable best efforts to consummate and make effective the Merger.
Basis of Presentation
:
The Company’s financial statements have been prepared in accordance with accounting principles generally accepted in the United States ("GAAP") for interim financial information and accordingly do not include all the information and footnotes required by GAAP for annual financial statements. In the opinion of management, all adjustments of a normal and recurring nature considered necessary for a fair presentation have been included in these financial statements. Operating results for the three month period ended
March 31, 2018
are not necessarily indicative of the results that may be expected for the full year. For further information, refer to the consolidated financial statements and footnotes for the year ended
December 31, 2017
, included in the Company’s Annual Report on Form 10-K filed on February 28, 2018.
Note 2 — Summary of Significant Accounting Policies
Consolidation:
The accompanying condensed consolidated financial statements include the accounts of Akorn, Inc. and its wholly-owned domestic and foreign subsidiaries. All inter-company transactions and balances have been eliminated in consolidation, and the financial statements of Akorn India Private Limited ("AIPL") and Akorn AG have been translated from Indian Rupees to U.S. dollars and Swiss Francs to U.S. dollars, respectively, based on the currency translation rates in effect during the period or as of the date of consolidation, as applicable. The Company has no involvement with variable interest entities.
Use of Estimates:
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America (“GAAP”) requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Actual results could differ materially from those estimates.
Significant estimates and assumptions for the Company relate to the allowances for chargebacks, rebates, product returns, coupons, promotions and doubtful accounts, as well as the reserve for slow-moving and obsolete inventories, the carrying value and lives of intangible assets, the useful lives of fixed assets, the carrying value of deferred income tax assets and liabilities, the assumptions underlying share-based compensation, accrued but unreported employee benefit costs and assumptions underlying the accounting for business combinations.
Going Concern:
In connection with the preparation of the financial statements as of and for the three month period ended
March 31, 2018
, the Company conducted an evaluation as to whether there were conditions and events, considered in the aggregate, which raised substantial doubt as to the entity's ability to continue as a going concern within one year after the date of the issuance, or the date of availability, of the financial statements to be issued, noting that there did not appear to be evidence of substantial doubt of the entity's ability to continue as a going concern.
Revenue Recognition:
Revenue is recognized at a point in time upon the transfer of control of the Company’s products, which occurs upon delivery for substantially all of the Company’s sales. The promises within the contract that are distinct are primarily the Company’s supply of products, which represents a single performance obligation. The consideration the Company receives in exchange for its goods or services is only recognized when it is probable that a significant reversal will not occur. The consideration to which the Company expects to be entitled includes a stated list price, less various forms of variable consideration. The Company makes significant estimates for related variable consideration at the point of sale, including chargebacks, rebates, product returns, other discounts and allowances. All sales taxes are excluded from the transaction price. The Company expenses contract fulfillment costs when incurred since the amortization period would have been less than one year. Payment terms are primarily less than
90
days. See
Note 16 – Recently Issued and Adopted Accounting Pronouncements
for the discussion of the adoption of
Accounting Standard Codification ("ASC") Topic 606 Revenue from Contracts with Customers.
Provision for estimated chargebacks, rebates, discounts, managed care rebates, product returns and doubtful accounts is made at the time of sale and is analyzed and adjusted, if necessary, at each balance sheet date.
Freight:
The Company records shipping and handling expense related to product sales as cost of sales.
Cash and Cash Equivalents:
The Company considers all unrestricted, highly liquid investments with maturity of three months or less when acquired, to be cash and cash equivalents. At
March 31, 2018
and December 31, 2017, approximately
$2.4 million
and
$1.8 million
, respectively, of cash held by AIPL was restricted, and was reported within
prepaid expenses and other current assets
.
The following table sets forth the components of the Company’s Cash, cash equivalents, and restricted cash as reported in the consolidated statement of cash flows for the three month periods ended
March 31, 2018
and
2017
(in thousands):
|
|
|
|
|
|
|
|
|
Cash, Cash Equivalents, and Restricted Cash
|
Three Months Ended
March 31,
|
|
2018
|
|
2017
|
Cash and cash equivalents
|
$
|
309,377
|
|
|
$
|
307,425
|
|
Restricted cash
|
2,372
|
|
|
2,505
|
|
Total cash, cash equivalents, and restricted cash
|
$
|
311,749
|
|
|
$
|
309,930
|
|
Accounts Receivable:
Trade accounts receivable are stated at their net realizable value. The nature of the Company’s business involves, in the ordinary course, significant judgments and estimates relating to chargebacks, coupon redemption, product returns, rebates, discounts given to customers and allowances for doubtful accounts. Certain rebates, chargebacks and other credits are recorded as deductions to the Company’s trade accounts receivable where applicable, based on product and customer specific terms.
Unless otherwise noted, the provisions and allowances for the following customer deductions are reflected in the accompanying consolidated financial statements as reductions of revenues and trade accounts receivable, respectively.
Chargebacks
:
The Company enters into contractual agreements with certain third parties such as retailers, hospitals, group-purchasing organizations (“GPOs”) and managed care organizations to sell certain products at predetermined prices. Similarly, we maintain an allowance for rebates and discounts related to billbacks, wholesaler fee for service contracts, GPO administrative fees, government programs, prompt payment and other adjustments with certain customers. Most of the parties have elected to have these contracts administered through wholesalers that buy the product from the Company and subsequently sell it to these third parties. As noted elsewhere, these wholesalers represent a significant percentage of the Company’s gross sales. When a wholesaler sells products to one of these third parties that are subject to a contractual price agreement, the difference between the price paid to the Company by the wholesaler and the price under the specific contract is charged back to the Company by the wholesaler. This process typically takes four to six weeks, but for some products may extend to twelve weeks. The Company tracks sales and submitted chargebacks by product number and contract for each wholesaler. Utilizing this information, the Company estimates a chargeback percentage for each product and records an allowance as a reduction to gross sales when the Company records its sale of the products. The Company reduces the chargeback allowance when a chargeback request from a wholesaler is processed. Actual chargebacks processed by the Company can vary materially from period to period based upon actual sales volume through the wholesalers. However, the Company’s provision for chargebacks is fully reserved for at the time revenues are recognized.
Management obtains product inventory reports from certain wholesalers to aid in analyzing the reasonableness of the chargeback allowance and to monitor whether wholesaler inventory levels do not significantly exceed customer demand. The Company assesses the reasonableness of its chargeback allowance by applying a product chargeback percentage that is based on a combination of historical activity and future price and mix expectations to the quantities of inventory on hand at the wholesalers according to wholesaler inventory reports. In addition, the Company estimates the percent of gross sales generated through direct and indirect sales channels and the percent of contract vs. non-contract revenue in the period, as these each affect the estimated reserve calculation. In accordance with its accounting policy, the Company also estimates the percent of wholesaler inventory that will ultimately be sold to third parties that are subject to contractual price agreements based on a trend of such sales through wholesalers. The Company uses this percentage estimate until historical trends indicate that a revision should be made. On an ongoing basis, the Company evaluates its actual chargeback rate experience, and new trends are factored into its estimates each quarter as market conditions change.
For the three month period ended
March 31, 2018
, the Company incurred a chargeback provision of
$224.0 million
, or
43.0%
of gross sales of
$520.5 million
, compared to
$280.2 million
, or
41.2%
of gross sales of
$680.5 million
in the prior year period. We note that the dollar decrease and percent increase in the comparative period was the result of gross sales decreases and product mix shifts to products with higher chargeback expense percentages. The Company ensures that this rate as a percent of gross sales is reasonable through inspection of contractual obligations, review of historical trends and evaluation of recent activity. Furthermore, other events that could materially alter chargeback rates include: changes in product pricing as a result of competitive market dynamics or negotiations with customers, changes in demand for specific products due to external factors such as competitor supply position or consumer preferences, customer shifts in buying patterns from direct to indirect through wholesalers, which could either individually or in aggregate increase or decrease the chargeback rate depending on the direction and velocity of the change(s).
To better understand the impact of changes in chargeback reserve based on circumstances that are not fully outside the Company’s control, for instance, the ratio of sales subject to chargeback to indirect sales, the Company performs a sensitivity analysis. Holding all other assumptions constant, for a
490
basis point (“BP”) change in the ratio of sales subject to chargeback to indirect sales would increase the chargeback reserve by
$0.4 million
or decrease the chargeback reserve by
$2.5 million
depending on the change in the direction of the ratio. Fundamentally, the BP change calculation is determined based on the six month trend of the average ratio of sales subject to chargeback to indirect sales. Due to the competitive generic pharmaceutical industry and our recent experience with wholesalers’ strategy and shifts in contracted and non-contracted indirect sales, we believe that the six month trend of the proportion of direct to indirect sales provides a representative basis for sensitivity analysis.
Rebates, Administrative Fees and Others
: The Company maintains an allowance for rebates, administrative fees and others, related to contracts and other rebate programs that it has in place with certain customers. Rebates, administrative fees and other percentages vary by product and by volume purchased by each eligible customer. The Company tracks sales by product number for each eligible customer and then applies the applicable rebate, administrative fees and other percentage, using both historical trends and actual experience to estimate its rebates, administrative fees and others allowances. The Company reduces gross sales and increases the rebates, administrative fees and others allowance by the estimated rebates, administrative fees and others amounts when the Company sells its products to eligible customers. The Company reduces the rebate allowance when it processes a customer request for a rebate. At each balance sheet date, the Company analyzes the allowance for rebates, administrative fees and others against actual rebates processed and makes adjustments as appropriate. The amount of actual rebates processed can vary materially from period to period as discussed below.
The allowances for rebates, administrative fees and others further takes into consideration price adjustments which are credits issued to reflect increases or decreases in the invoice or contract prices of the Company’s products. In the case of a price decrease, a shelf-stock adjustment credit may be given for product remaining in customer’s inventories at the time of the price reduction and is reserved at the point of sales. Contractual price protection results in a similar credit when the invoice or contract prices of the Company’s products increase, effectively allowing customers to purchase products at previous prices for a specified period of time. Amounts recorded for estimated shelf-stock adjustments and price protections are based upon specified terms with direct customers, estimated changes in market prices, and estimates of inventory held by customers. The Company regularly monitors these and other factors and evaluates the reserve as additional information becomes available.
Similar to rebates, the reserve for administrative fees and others represents those amounts processed related to contracts and other fee programs which have been in place with certain entities, but they are settled through cash payment to these entities and accordingly are accounted for as a current liability. Otherwise, administrative fees and others operate similarly to rebates.
For the three month period ended
March 31, 2018
, the Company incurred rebates, administrative and others fees of
$92.3 million
, or
17.7%
of gross sales of
$520.5 million
, compared to
$124.4 million
, or
18.3%
of gross sales of
$680.5 million
in the prior year period. We note that the dollar decrease and percent decrease from the comparative period was the result of gross sales decreases and product mix shifts to products with lower rebates, administrative fees and others expense percentages. The Company ensures that this rate as a percent of gross sales is reasonable through inspection of contractual obligations, review of historical trends and evaluation of recent activity. Furthermore, other events that could materially alter rebates, administrative fees and others rates include: changes in product pricing as a result of competitive market dynamics or negotiations with customers, changes in demand for specific products due to external factors such as competitor supply position or consumer preferences, customer shifts in buying patterns from direct to indirect through wholesalers, which could either individually or in aggregate increase or decrease the rebate rate depending on the direction and velocity of the change(s).
To better understand the impact of changes in reserves for rebates, administrative fees and others based on circumstances that are not fully outside the Company’s control, for instance, the proportion of direct to indirect sales subject to rebates, administrative fees and others, the Company performs a sensitivity analysis. Holding all other assumptions constant, for a
490
BP change in the ratio of sales subject to rebates, administrative fees and others to indirect sales would increase the reserve for rebates, administrative fees and others by
$0.0 million
or decrease the same reserve by
$0.7 million
depending on the direction of the change in the ratio. Fundamentally, the BP change calculation is determined based on the six month trend of the average ratio of sales subject to rebates, administrative fees and others to indirect sales. Due to the competitive generic pharmaceutical industry and our recent experience with wholesalers’ strategy and shifts in contracted and non-contracted indirect sales, we believe the six month trend of the average ratio of sales subject to rebates, administrative fees and others to indirect sales provides a representative basis for sensitivity analysis.
Sales Returns:
Certain of the Company’s products are sold with the customer having the right to return the product within specified periods. Provisions are made at the time of sale based upon historical experience. Historical factors such as one-time recall events as well as pending new developments like comparable product approvals or significant pricing movement that may impact the expected level of returns are taken into account to determine the appropriate reserve estimate at each balance sheet date. As part of the evaluation of the reserve required, the Company considers actual returns to date that are in process, the expected impact of any product recalls and the amount of wholesaler’s inventory to assess the magnitude of unconsumed product that may result in sales returns to the Company in the future. The sales returns level can be impacted by factors such as overall market demand and market competition and availability for substitute products which can increase or decrease the pull through for sales of the Company’s products and ultimately impact the level of sales returns.
For the three month period ended March 31, 2018, the Company incurred a return provision of
$7.1 million
, or
1.4%
of gross sales of
$520.5 million
, compared to
$8.4 million
, or
1.2%
of gross sales of
$680.5 million
in the prior year period. We note that the dollar decrease and percent increase in the comparative period was the result of gross sales decreases and product mix shifts to products with higher return rates. The Company ensures that this rate as a percent of gross sales is reasonable through inspection of historical trends and evaluation of recent activity. Furthermore, other events that could materially alter return rates include: acquisitions and integration activities that consolidate dissimilar contract terms and could decrease the return rate as typically the Company purchases smaller entities with less contracting power and integrates those product sales to Akorn contracts; and consumer demand shifts by products, which could either increase or decrease the return rate depending on the product or products specifically demanded and ultimately returned.
To better understand the impact of changes in return reserve based on certain circumstances, the Company performs a sensitivity analysis. Holding all other assumptions constant, for an average
one
month change in the lag from the time of sale to the time the product return is processed, this change would result in an increase of
$2.8 million
or decrease of
$2.4 million
in return reserve expense if the lag increases or decreases, respectively. The average
one
month change in the lag from the time of sale to the time the product return is processed was determined based on the average variances of the last six-month historical activities. Due to the change in the volume and type of products sold by the Company in the recent past, we have determined that the lag calculation provides a reasonable basis for sensitivity analysis.
Allowance for Coupons, Advertising, Promotions and Co-Pay discount cards:
The Company issues coupons from time to time that are redeemable against certain of our Consumer Health products. In addition to couponing, from time to time the Company authorizes various retailers to run in-store promotional sales and co-pay discount of its products. At the point of sale, the Company records an estimate of the dollar value of coupons expected to be redeemed, the dollar amount owed back to the retailer and co-pay discount as variable consideration since the Company intends to continuously issue coupons, advertising promotion and co-pay discount from time to time. This coupon estimate is based on historical experience and is adjusted as needed based on actual redemptions. Upon receiving confirmation that an advertising promotion was run, the Company adjusts the estimate of the dollar amount expected to be owed back to the retailer as needed. This estimate is then adjusted to actual upon receipt of an invoice from the retailer. Additionally, the Company provides consumer co-pay discount cards, administered through outside agents to provide discounted products when redeemed. The Company records an estimate of the dollar value of co-pay discounts expected to be utilized based on historical experience and is adjusted as needed based on actual experience.
Doubtful Accounts:
Provisions for doubtful accounts, which reflect trade receivable balances owed to the Company that are believed to be uncollectible, are recorded as a component of selling, general and administrative ("SG&A") expenses. In estimating the allowance for doubtful accounts, the Company considers its historical experience with collections and write-offs, the credit quality of its customers and any recent or anticipated changes thereto, and the outstanding balances and past due amounts from its customers. Note that in the ordinary course of business, and consistent with our peers, we may from time to
time offer extended payment terms to our customers as an incentive for new product launches or in other circumstances in accordance with standard industry practices. These extended payment terms do not represent a significant risk to the collectability of accounts receivable as of the period-end. Accounts are considered past due when they remain uncollected beyond the due date specified in the applicable contract or on the applicable invoice, whichever is deemed to take precedence.
Inventories:
Inventories are stated at the lower of cost and net realizable value ("NRV") (see Note 5 -
Inventories, net
). The Company maintains an allowance for slow-moving and obsolete inventory as well as inventory where the cost is in excess of its NRV. For finished goods inventory, the Company estimates the amount of inventory that may not be sold prior to its expiration or is slow-moving based upon recent sales activity by unit and wholesaler inventory information. The Company also analyzes its raw material and component inventory for slow-moving items and NRV.
The Company capitalizes inventory costs associated with its products prior to regulatory approval when, based on management judgment, future commercialization is considered probable and future economic benefit is expected to be realized. The Company assesses the regulatory approval process and where the product stands in relation to that approval process including any known constraints or impediments to approval. The Company also considers the shelf life of the product in relation to the product timeline for approval.
Property, Plant and Equipment:
Property, plant and equipment is stated at cost, less accumulated depreciation. Depreciation is provided using the straight-line method in amounts considered sufficient to amortize the cost of the assets to operations over their estimated useful lives.
Intangible Assets:
Intangible assets consist primarily of goodwill, which is carried at its initial value, In-Process Research and Development ("IPR&D"), which is accounted for as an indefinite-lived intangible asset, subject to impairment testing until completion or abandonment of the project, and product licensing costs, trademarks and other such costs, which are capitalized and amortized on a straight-line basis over their useful lives, normally ranging from
one year
to
thirty years
. The Company regularly assesses its amortizable intangible assets for impairment based on several factors, including estimated fair value and anticipated cash flows. If the Company incurs additional costs to renew or extend the life of an intangible asset, such costs are added to the remaining unamortized cost of the asset, if any, and the sum is amortized over the extended remaining life of the asset. Goodwill is tested for impairment annually or more frequently if changes in circumstances or the occurrence of events suggest that impairment may exist. The Company uses widely accepted valuation techniques to determine the fair value of its reporting units used in its annual goodwill impairment analysis. The Company’s valuation is primarily based on qualitative and quantitative assessments regarding the fair value of the reporting unit relative to its carrying value. The Company models the fair value of the reporting unit based on projected earnings and cash flows of the reporting unit.
Impairments of IPR&D are recorded within R&D expenses in the Consolidated Statements of Comprehensive Income, while all other impairments of intangible assets are recorded within the impairment of intangible assets line.
Net (loss) Income Per Common Share:
Basic net income (loss) per common share is based upon the weighted average common shares outstanding. Diluted net income (loss) per common share is based upon the weighted average number of common shares outstanding, including the dilutive effect, if any, of stock options and restricted stock using the treasury stock method. Anti-dilutive shares are excluded from the computation of diluted net income (loss) per share.
Income Taxes:
Income taxes are accounted for under the asset and liability method. Deferred income tax assets and liabilities are determined based on differences between financial reporting and tax bases of assets and liabilities, and net operating loss and other tax credit carry-forwards. These items are measured using the enacted tax rates and laws that will be in effect when the differences are expected to reverse. The Company records a valuation allowance to reduce the deferred income tax assets to the amount that is more likely than not to be realized. On December 22, 2017, the Tax Cuts and Jobs Act (the “Tax Act”) was enacted into law and the new legislation contains several key tax provisions including a one-time mandatory transition tax on accumulated foreign earnings and a reduction of the corporate income tax rate to 21%, among others. We are required to recognize the effect of the tax law changes in the period of enactment, such as re-measuring our U.S. deferred tax assets and liabilities and reassessing the net realizability of our deferred tax assets and liabilities. The Company’s foreign subsidiaries do not have accumulated earnings that can be distributed; therefore, the provisions of the Act related to the repatriation of foreign earnings are not applicable to the Company at December 31, 2017 or
March 31, 2018
. In December 2017, the SEC staff issued Staff Accounting Bulletin No. 118, Income Tax Accounting Implications of the Tax Cuts and Jobs Act (SAB 118), which allows us to record provisional amounts during a measurement period not to extend beyond one year of the enactment date. See
Note 14 — Income Taxes
for more information.
Fair Value of Financial Instruments:
The Company applies
ASC 820 - Fair Value Measurement
, which establishes a framework for measuring fair value and clarifies the definition of fair value within that framework.
ASC 820 - Fair Value
Measurement
defines fair value as an exit price, which is the price that would be received for an asset or paid to transfer a liability in the Company’s principal or most advantageous market in an orderly transaction between market participants on the measurement date. The fair value hierarchy established in
ASC 820 - Fair Value Measurement
generally requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. Observable inputs reflect the assumptions that market participants would use in pricing the asset or liability and are developed based on market data obtained from sources independent of the reporting entity. Unobservable inputs reflect the entity’s own assumptions based on market data and the entity’s judgments about the assumptions that market participants would use in pricing the asset or liability, and are to be developed based on the best information available in the circumstances.
The valuation hierarchy is composed of three levels. The classification within the valuation hierarchy is based on the lowest level of input that is significant to the fair value measurement. The levels within the valuation hierarchy are described below:
|
|
-
|
Level 1
—Assets and liabilities with unadjusted, quoted prices listed on active market exchanges. Inputs to the fair value measurement are observable inputs, such as quoted prices in active markets for identical assets or liabilities. The carrying value of the Company's cash and cash equivalents are considered Level 1 assets.
|
|
|
-
|
Level 2
—Inputs to the fair value measurement are determined using prices for recently traded assets and liabilities with similar underlying terms, as well as directly or indirectly observable inputs, such as interest rates and yield curves that are observable at commonly quoted intervals. The Company has no Level 2 assets or liabilities in any of the periods presented.
|
|
|
-
|
Level 3
—Inputs to the fair value measurement are unobservable inputs, such as estimates, assumptions, and valuation techniques when little or no market data exists for the assets or liabilities. The portion of the fair valuation of the available-for-sale investment held in shares of Nicox stock that is subject to a lock-up provision is considered a Level 3 asset. The additional consideration payable as a result of prior years' acquisitions and other insignificant contingent amounts are considered Level 3 liabilities.
|
The following table summarizes the basis used to measure the fair values of the Company’s financial instruments (amounts in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair Value Measurements at Reporting Date, Using:
|
Description
|
March 31, 2018
|
|
Quoted Prices
in Active
Markets for
Identical Items
(Level 1)
|
|
Significant
Other
Observable
Inputs
(Level 2)
|
|
Significant
Unobservable
Inputs
(Level 3)
|
Cash and cash equivalents
|
$
|
309,377
|
|
|
$
|
309,377
|
|
|
$
|
—
|
|
|
$
|
—
|
|
Nicox stock with lockup provisions
|
34
|
|
|
—
|
|
|
—
|
|
|
34
|
|
Total assets
|
$
|
309,411
|
|
|
$
|
309,377
|
|
|
$
|
—
|
|
|
$
|
34
|
|
|
|
|
|
|
|
|
|
Purchase consideration payable
|
$
|
201
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
201
|
|
Total liabilities
|
$
|
201
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
201
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Description
|
December 31, 2017
|
|
Quoted Prices
in Active
Markets for
Identical Items
(Level 1)
|
|
Significant
Other
Observable
Inputs
(Level 2)
|
|
Significant
Unobservable
Inputs
(Level 3)
|
Cash and cash equivalents
|
$
|
368,119
|
|
|
$
|
368,119
|
|
|
$
|
—
|
|
|
$
|
—
|
|
Nicox stock with lockup provisions
|
35
|
|
|
—
|
|
|
—
|
|
|
35
|
|
Total assets
|
$
|
368,154
|
|
|
$
|
368,119
|
|
|
$
|
—
|
|
|
$
|
35
|
|
|
|
|
|
|
|
|
|
Purchase consideration payable
|
$
|
3,901
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
3,901
|
|
Total liabilities
|
$
|
3,901
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
3,901
|
|
As of
March 31, 2018
, the purchase consideration payable balance is attributed to a supply obligation related to one of our divested products.
Stock-Based Compensation:
Stock-based compensation cost is estimated at grant date based on the fair value of the award, and the cost is recognized as expense ratably over the vesting period. The Company uses the Black-Scholes model for estimating the grant date fair value of stock options. Determining the assumptions to be used in the model is highly subjective and requires judgment. The Company uses an expected volatility that is based on the historical volatility of its common stock. The expected life assumption is based on historical employee exercise patterns and employee post-vesting termination behavior. The risk-free interest rate for the expected term of the option is based on the average market rate on U.S. Treasury securities of similar term in effect during the quarter in which the options were granted. The dividend yield reflects the Company’s historical experience as well as future expectations over the expected term of the option. The Company estimates forfeitures at the time of grant and revises the estimate in subsequent periods, as necessary, if actual forfeitures differ from initial estimates.
Note 3 — Stock Options, Restricted Stock Units and Employee Stock Purchase Plan
The Company maintains equity compensation plans that allow the Company’s Board of Directors to grant stock options and other equity awards to eligible employees, officers, directors and consultants. On April 27, 2017, the Company’s shareholders voted to approve the Akorn, Inc. 2017 Omnibus Incentive Compensation Plan (the “Omnibus Plan”). Under the Omnibus Plan,
8.0 million
shares of the Company’s common stock were made available for issuance pursuant to equity awards. The Omnibus Plan replaced the Akorn, Inc. 2014 Stock Option Plan (the "2014 Plan"), which was approved by shareholders at the Company's 2014 Annual Meeting of Shareholders on May 2, 2014 and subsequently amended by proxy vote of the Company’s shareholders on December 16, 2016. The 2014 Plan had reserved
7.5 million
shares for issuance upon the grant of stock options, restricted stock units (“RSUs”), or various other instruments to directors, employees and consultants. Following shareholder approval of the Omnibus Plan, no new awards could be granted under the 2014 Plan, although previously granted awards remain outstanding pursuant to their original terms. As of March 31, 2018, there were approximately
3.8 million
stock options and
0.2 million
RSU shares outstanding under the 2014 Plan. The 2014 Plan had replaced the Amended and Restated Akorn, Inc. 2003 Stock Option Plan (the “2003 Plan”), which expired on November 6, 2013. As of March 31, 2018, a total of
0.2 million
stock options were outstanding under the 2003 Plan.
Under the Omnibus Plan,
0.7 million
RSUs have been granted to employees and directors, of which
none
have yet vested and a small number have been forfeited, leaving
0.6 million
RSUs outstanding as of March 31, 2018.
No
stock options have been granted under the Omnibus Plan. As of March 31, 2018, approximately
7.4 million
shares remain available for future issuance under the Omnibus Plan.
The Company accounts for stock-based compensation in accordance with
ASC Topic 718 - Compensation — Stock Compensation
. Accordingly, stock-based compensation cost is estimated at the grant date based on the fair value of the award, and the cost is recognized as expense ratably over the vesting period. The Company uses the Black-Scholes model for estimating the grant date fair value of stock options. Determining the assumptions that enter into the model is highly subjective and requires judgment. The Company uses an expected volatility that is based on the historical volatility of its stock. The expected life assumption is based on historical employee exercise patterns and employee post-vesting termination behavior. The risk-free interest rate for the expected term of the option is based on the average market rate on U.S. Treasury securities in effect during the quarter in which the options were granted. The dividend yield reflects historical experience as well as future
expectations over the expected term of the option. The Company estimates forfeitures at the time of grant and revises in subsequent periods, as necessary, if actual forfeitures differ from those estimates.
The Company uses the single-award method for allocating compensation cost related to stock options to each period. The following table sets forth the components of the Company’s share-based compensation expense for the three month periods ended
March 31, 2018
and
2017
(in thousands):
|
|
|
|
|
|
|
|
|
|
Three Months Ended
March 31,
|
|
2018
|
|
2017
|
Stock options
|
$
|
3,159
|
|
|
$
|
3,314
|
|
Employee stock purchase plan
|
—
|
|
|
262
|
|
Restricted stock units
|
2,349
|
|
|
1,133
|
|
Total stock-based compensation expense
|
$
|
5,508
|
|
|
$
|
4,709
|
|
Stock Option awards
From time to time, the Company has granted stock option awards to certain employees and directors, though
no
stock options have been awarded since the Omnibus Plan was adopted on May 2, 2017. The weighted-average assumptions used in estimating the grant date fair value of the stock options granted under the Company's equity compensation plans during the three month periods ended
March 31, 2018
and
2017
, respectively, along with the weighted-average grant date fair values, are set forth in the table below:
|
|
|
|
|
|
|
|
|
|
Three Months Ended
March 31,
|
|
2018
|
|
2017
|
Expected volatility
|
—
|
%
|
|
50
|
%
|
Expected life (in years)
|
0
|
|
|
4.8
|
|
Risk-free interest rate
|
—
|
%
|
|
1.75
|
%
|
Dividend yield
|
—
|
|
|
—
|
|
Fair value per stock option
|
$
|
—
|
|
|
$
|
9.25
|
|
Forfeiture rate
|
—
|
%
|
|
8
|
%
|
The table below sets forth a summary of stock option activity within the Company’s stock-based compensation plans for the three month-period ended
March 31, 2018
:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Number of
Options
(in thousands)
|
|
Weighted
Average
Exercise Price
|
|
Weighted
Average
Remaining
Contractual
Term (Years)
|
|
Aggregate
Intrinsic Value
(in thousands) (1)
|
Outstanding at December 31, 2017
|
4,053
|
|
|
$
|
28.95
|
|
|
4.56
|
|
$
|
21,459
|
|
Granted
|
—
|
|
|
—
|
|
|
|
|
|
Exercised
|
(22
|
)
|
|
24.99
|
|
|
|
|
|
Forfeited
|
(18
|
)
|
|
29.02
|
|
|
|
|
|
Outstanding at March 31, 2018
|
4,013
|
|
|
$
|
28.97
|
|
|
4.32
|
|
$
|
505
|
|
Exercisable at March 31, 2018
|
2,114
|
|
|
$
|
29.18
|
|
|
3.86
|
|
$
|
505
|
|
(1) The Aggregate Intrinsic Value of stock options outstanding and exercisable is defined as the difference between the market value of the Company’s common stock as of the date indicated and the exercise price of the stock options. Stock options for which the exercise price exceeded the market price have been omitted. Fluctuations in the intrinsic value of both outstanding and exercisable options may result from changes in underlying stock price and the timing and volume of option grants, exercises and forfeitures.
During the three month period ended
March 31, 2018
and 2017,
0.0 million
and
0.1 million
stock options were exercised resulting in cash payments to the Company of
$0.5 million
and
$1.1 million
, respectively. These stock option exercises generated tax deductible expense of
$0.2 million
and
$0.8 million
, respectively.
Restricted Stock Unit awards
From time to time, the Company has granted RSUs to certain employees, executives and directors. Grants to employees and executives are pursuant to the Company's Long-Term Incentive Plans (the "LTIPs"). These LTIPs called for annual grants of RSUs to all eligible employees and executives. The RSUs awards vest
25%
per year on each of the first
four
anniversaries of the grant date. All RSUs are valued at the closing market price of the Company’s common stock on the day of grant and the total value of the units is recognized as expense ratably over the vesting period of the grants. During the three month period ended
March 31, 2018
, the Company granted
0.0 million
RSUs to certain employees.
Set forth below is a summary of unvested RSU activity during the three month period ended
March 31, 2018
:
|
|
|
|
|
|
|
|
Number of Units
(in thousands)
|
|
Weighted Average Per Share
Grant Date Fair Value
|
Unvested at December 31, 2017
|
888
|
|
$
|
32.55
|
|
Granted
|
6
|
|
$
|
32.00
|
|
Vested
|
—
|
|
$
|
—
|
|
Forfeited
|
(10)
|
|
$
|
32.27
|
|
Unvested at March 31, 2018
|
884
|
|
$
|
32.56
|
|
Employee Stock Purchase Plan
The 2016 Akorn, Inc. Employee Stock Purchase Plan (the “ESPP”) permits eligible employees to acquire shares of the Company’s common stock through payroll deductions. The ESPP has been structured to qualify under Section 423 of the Internal Revenue Code (“IRC”). Employees who elect to participate in the ESPP may withhold from
1%
to
15%
of eligible wages toward the purchase of stock. Shares will be purchased at a
15%
discount off the lesser of the market price at the beginning or the ending of the applicable offering period. The ESPP is designed with
two
offering periods each year, one running from January 1st to December 31st and the other running from July 1st to December 31st. In a given year, employees may enroll in only one offering period, not both. Per IRC rules, annual purchases per employee are limited to
$25,000
worth of stock, valued as of the beginning of the offering period. Accordingly, with the
15%
discount, employees may withhold no more than
$21,250
per year toward the purchase of stock under the ESPP. Employees are further limited to purchasing no more than
15,000
shares of stock per year. A total of
2.0 million
shares of the Company’s stock have been set aside for issuance under the ESPP, of which
146,247
shares have been issued to date. The ESPP was approved by vote of the Company’s shareholders on December 16, 2016.
Pursuant to terms of the Merger Agreement, the Company has not initiated any new offering periods subsequent to entering into the Merger Agreement. Accordingly, no offering periods are currently active under the ESPP.
Note 4 — Accounts Receivable, Sales and Allowances
The nature of the Company’s business inherently involves, in the ordinary course, significant amounts and substantial volumes of transactions and estimates relating to allowances for product returns, chargebacks, rebates, doubtful accounts and discounts given to customers. This is typical of the pharmaceutical industry and is not necessarily specific to the Company. Depending on the product, the end-user customer, the specific terms of national supply contracts and the particular arrangements with the Company’s wholesaler customers, certain rebates, chargebacks and other credits are deducted from the Company’s accounts receivable. The process of claiming these deductions depends on wholesalers reporting to the Company the amount of deductions that were earned under the terms of the respective agreement with the end-user customer (which in turn depends on the specific end-user customer, each having its own pricing arrangement that entitles it to a particular deduction). This process can lead to partial payments to the Company against outstanding invoices as the wholesalers take the claimed deductions at the time of payment.
With the exception of the provision for doubtful accounts, which is reflected as part of selling, general and administrative expense, the provisions for the following customer reserves are reflected as a reduction of revenues in the accompanying condensed consolidated statements of comprehensive income. Additionally, with the exception of administrative
fees and others, which is included as a current liability, the ending reserve balances are included in trade accounts receivable, net in the Company’s condensed consolidated balance sheets.
Trade accounts receivable, net consists of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
March 31,
2018
|
|
December 31,
2017
|
Gross accounts receivable (1)
|
$
|
382,606
|
|
|
$
|
378,759
|
|
Less reserves for:
|
|
|
|
Chargebacks (2)
|
(64,698
|
)
|
|
(73,984
|
)
|
Rebates (2)
|
(86,468
|
)
|
|
(111,945
|
)
|
Product returns
|
(41,213
|
)
|
|
(41,687
|
)
|
Discounts and allowances
|
(10,579
|
)
|
|
(7,779
|
)
|
Advertising and promotions
|
(1,758
|
)
|
|
(1,301
|
)
|
Doubtful accounts
|
(837
|
)
|
|
(680
|
)
|
Trade accounts receivable, net
|
$
|
177,053
|
|
|
$
|
141,383
|
|
(1) The increase in the Gross accounts receivable balance as of
March 31, 2018
when compared to the
December 31, 2017
balance is due to higher Gross sales in the last two months of the first quarter of 2018 compared to the last two months of the fourth quarter of 2017.
(2) The reductions in the Chargebacks and Rebates balances as of
March 31, 2018
when compared to the
December 31, 2017
balance were primarily due to payment timing, product mix, customer mix and lower wholesaler inventory. Additionally, a change in contractual terms with a major customer in the first quarter of 2018 resulted in an increase in chargebacks and a decrease in rebates, which is also a contributing factor in the variances between the two periods compared.
For the three month periods ended
March 31, 2018
and
2017
, the Company recorded the following adjustments to gross sales (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
March 31,
|
|
|
2018
|
|
2017
|
Gross sales
|
|
$
|
520,533
|
|
|
$
|
680,534
|
|
Less adjustments for:
|
|
|
|
|
Chargebacks (1)
|
|
(223,963
|
)
|
|
(280,160
|
)
|
Rebates, administrative and other fees (1)
|
|
(92,279
|
)
|
|
(124,378
|
)
|
Product returns
|
|
(7,121
|
)
|
|
(8,418
|
)
|
Discounts and allowances
|
|
(10,238
|
)
|
|
(12,922
|
)
|
Advertising, promotions and others
|
|
(2,869
|
)
|
|
(1,236
|
)
|
Revenues, net
|
|
$
|
184,063
|
|
|
$
|
253,420
|
|
(1) The decreases in chargebacks and rebates, administrative and other fees for the three month periods ended
March 31, 2018
as compared to the same period in
2017
, were primarily due to volume declines as well product mix and customer mix.
Note 5 — Inventories, Net
The components of inventories are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
March 31,
2018
|
|
December 31,
2017
|
Finished goods
|
$
|
84,523
|
|
|
$
|
79,226
|
|
Work in process
|
13,633
|
|
|
15,447
|
|
Raw materials and supplies
|
94,807
|
|
|
88,895
|
|
Inventories, net
|
$
|
192,963
|
|
|
$
|
183,568
|
|
The Company maintains an allowance for excess and obsolete inventory, as well as inventory for which its cost is in excess of its net realizable value. Inventory at
March 31, 2018
and
December 31, 2017
was reported net of these reserves of
$33.1 million
and
$34.4 million
, respectively.
Note 6 — Property, Plant and Equipment, Net
Property, plant and equipment, net consist of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
March 31,
2018
|
|
December 31,
2017
|
Land and land improvements
|
$
|
17,992
|
|
|
$
|
17,846
|
|
Buildings and leasehold improvements
|
113,343
|
|
|
106,316
|
|
Furniture and equipment
|
221,749
|
|
|
202,897
|
|
Sub-total
|
353,084
|
|
|
327,059
|
|
Accumulated depreciation
|
(137,753
|
)
|
|
(130,814
|
)
|
Property, plant and equipment in service, net
|
$
|
215,331
|
|
|
$
|
196,245
|
|
Construction in progress
|
109,887
|
|
|
117,173
|
|
Property, plant and equipment, net
|
$
|
325,218
|
|
|
$
|
313,418
|
|
At
March 31, 2018
and
December 31, 2017
, property, plant and equipment, net, with a net carrying value of
$86.4 million
and
$82.8 million
, respectively, was located outside the United States.
During the three month periods ended
March 31, 2018
, the increase in Property, Plant and Equipment is due primarily to spending on equipment for compliance with the Drug Supply Chain Security Act ("DSCSA") requirements and expansion initiatives at our Decatur and Somerset manufacturing plants.
The Company recorded depreciation expense of
$7.1 million
and
$5.4 million
during the three month periods ended
March 31, 2018
and
2017
, respectively.
Note 7 — Goodwill and Other Intangible Assets, Net
Intangible assets consist primarily of Goodwill, which is carried at its initial value, subject to evaluation for impairment, In-Process Research and Development (“IPR&D”), which is accounted for as an indefinite-lived intangible asset, subject to impairment testing until completion or abandonment of the project, and product licensing costs, trademarks and other such costs, which are capitalized and amortized on a straight-line basis over their useful lives, normally ranging from
one
to
thirty years
.
During the three month periods ended
March 31, 2018
and
2017
, accumulated amortization of intangible assets was
$232.2 million
and
$208.7 million
, respectively. The Company recorded amortization expense of
$13.2 million
and
$15.5 million
during the three month periods ended
March 31, 2018
and 2017, respectively.
The Company regularly assesses its amortizable intangible assets for impairment based on several factors, including estimated fair value and anticipated cash flows, and through this analysis recognized impairment expense of
$0.9 million
for product licensing rights during the three month period ended
March 31, 2018
. Of the
$0.9 million
of impairment for product licensing rights,
$0.4 million
was recognized in R&D expense due to changes in market conditions expected upon launch of
one
acquired asset and
$0.5 million
of impairment was related to the Company's decision to discontinue certain currently marketed products. If the Company incurs additional costs to renew or extend the life of an intangible asset, such costs are added to the remaining unamortized cost of the asset, if any, and the sum is amortized over the extended remaining life of the asset.
Goodwill is tested for impairment annually or more frequently if changes in circumstances or the occurrence of events suggest that impairment may exist. The Company uses widely accepted valuation techniques to determine the fair value of its reporting units used in its annual goodwill impairment analysis. The Company’s valuation is primarily based on qualitative and quantitative assessments regarding the fair value of the reporting unit relative to its carrying value. The Company also models the fair value of the reporting unit based on projected earnings and cash flows of the reporting unit. The company performed a qualitative assessment of goodwill and did not identify any indicators of impairment during the quarter.
IPR&D intangible assets represent the value assigned to acquired R&D projects that principally represent rights to develop and sell a product that the Company has acquired which have not yet been completed or approved. These assets are subject to impairment testing until completion or abandonment of each project. Impairment testing requires the development of significant estimates and assumptions involving the determination of estimated net cash flows for each quarter for each project or product (including net revenue, cost of sales, R&D costs, selling and marketing costs and other costs which may be allocated), the appropriate discount rate to select in order to measure the risk inherent in each future cash flow stream, the assessment of each asset’s life cycle, the potential regulatory and commercial success risks, and competitive trends impacting the asset and each cash flow stream as well as other factors. The major risks and uncertainties associated with the timely and successful completion of the IPR&D projects include legal risk, market risk and regulatory risk. If applicable, upon abandonment of the IPR&D product, the assets are impaired.
During the three month periods ended
March 31, 2018
,
three
IPR&D projects were impaired due to the Company's expectations of market conditions upon launch, resulting in an impairment expense of
$17.9 million
, while in the same period prior year the Company recognized impairment expense of
$0.2 million
for the milestone payment related to the abandonment of
one
product. These impairments were recorded in R&D expenses in the Consolidated Statements of Comprehensive (Loss) Income in the three month periods ended
March 31, 2018
and
2017
.
The following table provides a summary of the activity in goodwill by segment for the three month period ended
March 31, 2018
(in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consumer
Health
|
|
Prescription
Pharmaceuticals
|
|
Total
|
Balances at December 31, 2017
|
$
|
16,717
|
|
|
$
|
268,593
|
|
|
$
|
285,310
|
|
Currency translation adjustments
|
—
|
|
|
(330
|
)
|
|
(330
|
)
|
Acquisitions
|
—
|
|
|
—
|
|
|
—
|
|
Impairments
|
—
|
|
|
—
|
|
|
—
|
|
Dispositions
|
—
|
|
|
—
|
|
|
—
|
|
Balances at March 31, 2018
|
$
|
16,717
|
|
|
$
|
268,263
|
|
|
$
|
284,980
|
|
The following table sets forth the major categories of the Company’s intangible assets as of
March 31, 2018
and
December 31, 2017
, and the weighted average remaining amortization period as of
March 31, 2018
and
December 31, 2017
(dollar amounts in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross
Amount
|
|
Accumulated
Amortization
|
|
Reclass-ifications
|
|
Gross Impairment
|
|
Net
Balance
|
|
Wtd Avg Remaining
Amortization Period
(years)
|
March 31, 2018
|
|
|
|
|
|
|
|
|
|
|
|
Product licensing rights
|
$
|
607,889
|
|
|
$
|
(218,006
|
)
|
|
$
|
5,300
|
|
|
$
|
(950
|
)
|
|
$
|
394,233
|
|
|
9.6
|
IPR&D
|
149,161
|
|
|
—
|
|
|
(5,300
|
)
|
|
(17,873
|
)
|
|
125,988
|
|
|
N/A - Indefinite lived
|
Trademarks
|
16,000
|
|
|
(5,608
|
)
|
|
—
|
|
|
—
|
|
|
10,392
|
|
|
17.7
|
Customer relationships
|
4,225
|
|
|
(2,123
|
)
|
|
—
|
|
|
—
|
|
|
2,102
|
|
|
8.1
|
Other intangibles
|
11,235
|
|
|
(6,472
|
)
|
|
—
|
|
|
—
|
|
|
4,763
|
|
|
5.6
|
|
$
|
788,510
|
|
|
$
|
(232,209
|
)
|
|
$
|
—
|
|
|
$
|
(18,823
|
)
|
|
$
|
537,478
|
|
|
|
December 31, 2017
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Product licensing rights
|
$
|
747,106
|
|
|
$
|
(205,549
|
)
|
|
$
|
—
|
|
|
$
|
(139,217
|
)
|
|
$
|
402,340
|
|
|
9.8
|
IPR&D
|
173,757
|
|
|
—
|
|
|
—
|
|
|
(24,596
|
)
|
|
149,161
|
|
|
N/A - Indefinite lived
|
Trademarks
|
16,000
|
|
|
(5,376
|
)
|
|
—
|
|
|
—
|
|
|
10,624
|
|
|
17.8
|
Customer relationships
|
4,225
|
|
|
(2,058
|
)
|
|
—
|
|
|
—
|
|
|
2,167
|
|
|
8.3
|
Other intangibles
|
11,235
|
|
|
(6,043
|
)
|
|
—
|
|
|
—
|
|
|
5,192
|
|
|
5.7
|
|
$
|
952,323
|
|
|
$
|
(219,026
|
)
|
|
$
|
—
|
|
|
$
|
(163,813
|
)
|
|
$
|
569,484
|
|
|
|
Note 8 — Financing Arrangements
Term Loans
During 2014, in order to finance its acquisitions of Hi-Tech Pharmacal Co Inc. and VersaPharm Inc., the Company entered into
two
term loan agreements (the “Term Loans”) with certain lenders and with JPMorgan Chase Bank, N.A., as administrative agent. The aggregate principal amount financed was
$1,045.0 million
. As of
March 31, 2018
, outstanding debt under the Term Loans was
$831.9 million
and the Company was in full compliance with all applicable covenants which included customary limitations on indebtedness, distributions, liens, acquisitions, investments, and other activities. The Term Loans are scheduled to mature in 2021.
During the three month period ended
March 31, 2018
, the Company amortized
$1.3 million
of the deferred financing cost related to the Term Loans, resulting in
$15.2 million
remaining balance of deferred financing costs at
March 31, 2018
. The Company will amortize this balance using the straight-line method over the life of the Term Loan Agreements.
Subsequent to November 13, 2015, interest accrues based at the Company’s election, on an adjusted prime/federal funds rate (“ABR Loan”) or an adjusted LIBOR (“Eurodollar Loan”) rate, plus a margin of
4.00%
for ABR Loans, and
5.00%
for Eurodollar Loans. As of the date of the filing of this Form 10-Q until the maturity of the Term Loans, the Company's spread will be based upon the Ratings Level applicable on such date as documented below. As of the period ended
March 31, 2018
, the Company was a Ratings Level I for the Existing Term Loan Facility.
|
|
|
|
|
Ratings Level
|
Index Ratings
(Moody’s/S&P)
|
Eurodollar Spread
|
ABR Spread
|
Level I
|
B1/B+ or higher
|
4.25%
|
3.25%
|
Level II
|
B2/B
|
4.75%
|
3.75%
|
Level III
|
B3/B- or lower
|
5.50%
|
4.50%
|
For the three month periods ended
March 31, 2018
and 2017, the Company recorded interest expense of
$12.3 million
and
$10.9 million
, respectively, in relation to the Term Loans.
JPMorgan Credit Facility
On April 17, 2014, the Akorn Loan Parties entered into a Credit Agreement (the “JPM Credit Agreement”) with JPMorgan as administrative agent, and Bank of America, N.A., as syndication agent for certain other lenders (at closing, Bank of America, N.A. and Wells Fargo Bank, N. A.) for a
$150.0 million
revolving credit facility (the “JPM Revolving Facility”).
As of
March 31, 2018
, the Company was in full compliance with all covenants applicable to the JPM Revolving Facility.
The Company may use any proceeds from borrowings under the JPM Revolving Facility for working capital needs and for the general corporate purposes of the Company and its subsidiaries. At
March 31, 2018
, there were
no
outstanding borrowings under the JPM Revolving Facility, and availability was reduced from
$150.0 million
to
$135.0 million
in accordance with ratio thresholds under the credit agreement.
The JPM Credit Agreement places customary limitations on indebtedness, distributions, liens, acquisitions, investments, and other activities of the Akorn Loan Parties in a manner designed to protect the collateral while providing flexibility for growth and the historic business activities of the Company and its subsidiaries.
Debt Maturities Schedule
Aggregate cumulative maturities of long-term obligations (including the Term Loans and the JPM Revolving Facility) as of
March 31, 2018
are:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(In thousands)
|
2018
|
|
2019
|
|
2020
|
|
2021
|
Maturities of debt
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
831,938
|
|
Note 9 — (Loss) Earnings Per Share
Basic net (loss) income per common share is based upon the weighted average number of common shares outstanding during the period. Diluted net (loss) income per common share is based upon the weighted average number of common shares outstanding, including the dilutive effect, if any, of potentially dilutive securities using the treasury stock method.
The Company’s potentially dilutive shares consist of: (i) vested and unvested stock options that are in-the-money, and (ii) unvested RSUs.
A reconciliation of the (loss) earnings per share data from a basic to a fully diluted basis is detailed below (amounts in thousands, except per share data):
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
March 31,
|
|
|
2018
|
|
2017
|
Net (loss) income
|
|
$
|
(28,747
|
)
|
|
$
|
41,027
|
|
Net (loss) income per share:
|
|
|
|
|
Basic
|
|
$
|
(0.23
|
)
|
|
$
|
0.33
|
|
Diluted
|
|
$
|
(0.23
|
)
|
|
$
|
0.33
|
|
Shares used in computing net (loss) income per share:
|
|
|
|
|
|
|
Weighted average basic shares outstanding
|
|
125,240
|
|
|
124,421
|
|
Dilutive securities:
|
|
|
|
|
Stock option and unvested RSUs
|
|
—
|
|
|
245
|
|
Total dilutive securities
|
|
—
|
|
|
245
|
|
Weighted average diluted shares outstanding
|
|
125,240
|
|
|
124,666
|
|
|
|
|
|
|
Shares subject to stock options omitted from the calculation of (loss) income per share as their effect would have been anti-dilutive
|
|
3,356
|
|
|
4,093
|
|
Note 10 — Segment Information
During the three month periods ended
March 31, 2018
and 2017, the Company reported results for the following
two
reportable segments:
- Prescription Pharmaceuticals
- Consumer Health
The Company’s Prescription Pharmaceuticals segment principally consists of generic and branded prescription pharmaceuticals products which span a broad range of indications as well as a variety of dosage forms including: sterile ophthalmics, injectables and inhalants, and non-sterile oral liquids, topicals and nasal sprays. The Company’s Consumer Health segment principally consists of animal health and OTC products, both branded and private label. OTC products include, but are not limited to, a suite of products for the treatment of dry eye sold under the TheraTears
®
brand name.
Financial information about the Company’s reportable segments is based upon internal financial reports that aggregate certain operating information. The Company’s Chief Operating Decision Maker (“CODM”), as defined in
ASC 280 - Segment Reporting
, who is also the CEO, oversees operational assessments and resource allocations based upon the results of the Company’s reportable segments, which have available and discrete financial information.
Selected financial information by reportable segment is presented below (in thousands):
|
|
|
|
|
|
|
|
|
|
Three Months Ended
March 31,
|
|
2018
|
|
2017
|
Revenues, net:
|
|
|
|
Prescription Pharmaceuticals
|
$
|
164,302
|
|
|
$
|
237,379
|
|
Consumer Health
|
19,761
|
|
|
16,041
|
|
Total revenues, net
|
184,063
|
|
|
253,420
|
|
|
|
|
|
Gross Profit:
|
|
|
|
|
|
Prescription Pharmaceuticals
|
73,508
|
|
|
140,956
|
|
Consumer Health
|
8,720
|
|
|
7,813
|
|
Total gross profit
|
82,228
|
|
|
148,769
|
|
|
|
|
|
Operating expenses
|
107,643
|
|
|
74,356
|
|
|
|
|
|
Operating (loss) income
|
(25,415
|
)
|
|
74,413
|
|
Other expenses, net
|
(10,612
|
)
|
|
(9,087
|
)
|
|
|
|
|
(Loss) Income before income taxes
|
$
|
(36,027
|
)
|
|
$
|
65,326
|
|
The Company manages its business segments to the gross profit level and manages its operating and other costs on a company-wide basis. Inter-segment activity at the gross profit level is minimal. The Company does not have discrete assets by segment, as certain manufacturing and warehouse facilities support more than one segment, and therefore does not report assets by segment. Financial information including revenues and gross profit from external customers by product or product line is not provided as to do so would be impracticable.
The following table sets forth the Company’s net revenues by geographic region for the
three
month periods ended
March 31, 2018
and 2017. The Domestic region represents sales within the United States of America ("U.S.") and its territories while the Foreign region represents sales within all other countries and territories (dollar amounts in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
March 31, 2018
|
|
Three Months Ended
March 31, 2017
|
Region
|
Amount
|
|
% of Total Revenues
|
|
Amount
|
|
% of Total Revenues
|
Domestic
|
$
|
181,015
|
|
|
98.3%
|
|
$
|
245,703
|
|
|
97.0%
|
Foreign
|
3,048
|
|
|
1.7%
|
|
7,717
|
|
|
3.0%
|
Total Revenues
|
$
|
184,063
|
|
|
100.0%
|
|
$
|
253,420
|
|
|
100.0%
|
Note 11 – Share Repurchases
In July 2016, the Company announced that the Board of Directors authorized a stock repurchase program (the "Stock Repurchase Program") pursuant to which the Company may repurchase up to
$200.0 million
of the Company’s common stock. The shares may be repurchased from time to time in open market transactions at prevailing market prices, in privately negotiated transactions or others, including accelerated stock repurchase arrangements, pursuant to a Rule 10b5-1 repurchase plan or by other means in accordance with federal securities laws. The timing and the amount of any repurchases will be determined by the Company’s management based on its evaluation of market conditions, capital allocation alternatives, and other factors. There is no guarantee as to the number of shares that will be repurchased, and the repurchase program may be suspended or discontinued at any time without notice and at the Company's discretion, and at this time no estimate to the effect on the results of the Company due to the Stock Repurchase Program can be made.
The Company did
no
t repurchase any shares during the three month period ended
March 31, 2018
. In aggregate, over the life of the Stock Repurchase Program the Company has repurchased
1.8 million
shares at an average purchase price of
$24.89
. As of
March 31, 2018
, the Company had
$155.0 million
remaining under the repurchase authorization.
Companies incorporated under Louisiana law are subject to the Louisiana Business Corporation Act ("LBCA"). Provisions of the LBCA eliminate the concept of treasury stock. As a result, all stock repurchases are presented as a reduction to issued shares of common stock, the stated value of common stock and retained earnings.
Note 12 — Commitments and Contingencies
The Company has entered into strategic business agreements for the development and marketing of finished dosage form pharmaceutical products with various pharmaceutical development companies.
Each strategic business agreement includes a future payment schedule for contingent milestone payments and in certain strategic business agreements, minimum royalty payments. The Company will be responsible for contingent milestone payments and minimum royalty payments to these strategic business partners based upon the occurrence of future events. Each strategic business agreement defines the triggering event of its future payment schedule, such as meeting product development progress timeline, successful product testing and validation, successful clinical studies, various FDA and other regulatory approvals and other factors as negotiated in each agreement. None of the contingent milestone payments or minimum royalty payments is individually material to the Company.
The Company is engaged in various supply agreements with third parties that obligate the Company to purchase various active pharmaceutical ingredients or finished products at contractual minimum levels. None of these agreements is individually or in aggregate material to the Company. Further, the Company does not believe at this time that any of the purchase obligations represent levels above that of normal business demands.
The table below summarizes contingent, potential milestone payments that would become due to strategic partners in the years 2018 and beyond, assuming all such contingencies occur (in thousands):
|
|
|
|
|
Year ending December 31,
|
Milestone Payments
|
2018
|
$
|
12,994
|
|
2019
|
5,220
|
|
2020
|
3,070
|
|
2021 and Beyond
|
950
|
|
Total
|
$
|
22,234
|
|
Legal Proceedings
The Company is a party to legal proceedings and potential claims arising in the ordinary course of our business. The amount, if any, of ultimate liability with respect to such matters cannot be determined, but despite the inherent uncertainties of litigation, management of the Company believes that the ultimate disposition of such proceedings and exposure will not have a material adverse impact on the financial condition, results of operations, or cash flows of the Company.
Litigation Related to the Merger
On March 8, 2018, a purported shareholder of the Company filed a putative class action complaint entitled
Joshi Living Trust v. Akorn, Inc. et al.,
in the United States District Court for the Northern District of Illinois alleging violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934. The complaint names as defendants the Company, Chief Executive Officer Rajat Rai, Chief Financial Officer Duane Portwood and Chief Accounting Officer Randall Pollard. The complaint alleges that defendants made materially false or misleading statements and/or material omissions by failing to disclose sooner the existence of investigations into data integrity at the Company. The Complaint seeks, among other things, an award of damages, attorneys’ fees and expenses. The Company disputes these claims and, if and when proper service is made, intends to vigorously defend these allegations.
On April 22, 2018, Fresenius Kabi AG delivered to Akorn a letter purporting to terminate the Merger Agreement. On April 23, 2018, Akorn filed a verified complaint entitled Akorn, Inc. v. Fresenius Kabi AG, Quercus Acquisition, Inc. and Fresenius SE & Co. KGaA, in the Court of Chancery of the State of Delaware for breach of contract and declaratory judgment. The complaint alleges, among other things, that (i) the defendants anticipatorily breached their obligations under the Merger Agreement by repudiating their obligation to close the Merger, (ii) the defendants knowingly and intentionally breached their obligations under the Merger Agreement by working to slow the antitrust approval process and by engaging in a series of
actions designed to hamper and ultimately block the Merger and (iii) Akorn has performed its obligations under the Merger Agreement, and is ready, willing and able to close the Merger. The complaint seeks, among other things, a declaration that Fresenius Kabi AG's termination is invalid, an order enjoining the defendants from terminating the Merger Agreement, and an order compelling the defendants to specifically perform their obligations under the Merger Agreement to use reasonable best efforts to consummate and make effective the Merger.
Other Matters
As previously disclosed in various reports filed with the SEC,
Fera Pharmaceuticals, LLC v. Akorn Inc., Sean Brynjelsen, and Michael Stehn
, in the United States District Court for the Southern District of New York, Case No. 12-cv-07692-LLS. Fera Pharmaceuticals, LLC (“Fera”) filed this action on September 12, 2012. The defendants in the case were the Company,
one
former employee of the Company, Sean Brynjelsen, and a current employee of the Company, Michael Stehn. The amended complaint generally alleged that the Company breached certain terms of a contract manufacturing supply agreement by, among other things, failing to manufacture Fera’s products, raising the manufacturing cost, and impermissibly terminating the contract. In addition, Fera alleged that the Company misappropriated Fera’s trade secrets in order to manufacture Erythromycin and Bacitracin for its own benefit. The counts in the amended complaint were for (1) breach of contract, (2) misappropriation of trade secrets, (3) fraudulent inducement, and (4) declaratory and injunctive relief. Fera sought
$135 million
in compensatory damages, an additional, unspecified amount in punitive damages, and injunctive relief restraining the Company from selling the products at issue in the case. The Company filed a counterclaim against Fera and certain affiliates, as well as Perrigo Company of Tennessee and Perrigo Company plc, asserting violations of Sections 1 and 2 of the Sherman Act and tortious interference with business relations. Pursuant to a settlement reached by all of the parties, on February 16, 2018, settlement payments were made and on February 23, 2018, the court entered an order dismissing all claims at issue in the case with prejudice.
As previously disclosed in various reports filed with the SEC, on March 4, 2015, a purported class action complaint was filed entitled
Yeung v. Akorn, Inc., et al.
, in the federal district court of Northern District of Illinois, No. 15-cv-1944. The complaint alleged that the Company and
three
of its officers violated the federal securities laws in connection with matters related to its accounting and financial reporting in the wake of its acquisitions of Hi-Tech Pharmacal Co., Inc. and VersaPharm, Inc. A second, related case entitled
Sarzynski v. Akorn, Inc., et al.
, No. 15-cv-3921, was filed on May 4, 2015 making similar allegations. On August 24, 2015, the
two
cases were consolidated and a lead plaintiff appointed in In re Akorn, Inc. Securities Litigation. On July 5, 2016, the lead plaintiff group filed a consolidated amended complaint making similar allegations against the Company and an officer and former officer of the Company. The consolidated amended complaint sought damages on behalf of the putative class. On August 9, 2016, the defendants filed a motion to dismiss the case. On March 6, 2017, the court denied the motion to dismiss and the defendants subsequently filed an answer to the consolidated amended complaint on March 27, 2017. On October 3, 2017, the parties informed the court that they had reached a settlement in principle of the litigation. In December 2017, following the court’s order preliminarily approving the class plaintiffs’ proposed settlement for
$24 million
, the Company paid
$5.0 million
and its insurers paid
$19.0 million
. On April 2, 2018, the court granted final approval of the settlement, and requested further information regarding plaintiffs’ request for reimbursement awards and attorney fees from the settlement fund.
The Chicago Regional Office of the Securities and Exchange Commission (SEC) was conducting an investigation regarding the previously disclosed restatement, internal controls and other related matters. Additionally, the United States Attorney’s Office for the Southern District of New York (USAO) had requested information regarding these matters. On March 26, 2018, the SEC filed a settled Complaint in the United States District Court for the Northern District of Illinois. The Complaint alleged that Akorn, its former Chief Financial Officer, Timothy Dick, and its former Controller, David Hebeda, had violated Sections 13(a) (financial reporting provisions), 13(b)(2)(A) (books and records provisions) and 13(b)(2)(B) (internal accounting controls provisions) of the Exchange Act and Rules 12b-20, 13a-11 and 13a-13 thereunder. The SEC simultaneously filed a Motion for Entry of Akorn, Dick and Hebeda’s Final Judgments. Pursuant to Akorn’s Final Judgment, Akorn consented to the entry of an order permanently enjoining it from violations of these provisions of the Exchange Act and agreed to settle the charges brought by the SEC without admitting or denying the SEC’s allegations and without paying a civil penalty. On April 5, 2018, the Court granted the SEC’s Motion and terminated the case.
The legal matters discussed above and others could result in losses, including damages, fines and civil penalties, and criminal charges, which could be substantial. We record accruals for these contingencies to the extent that we conclude that a loss is both probable and reasonably estimable. Given the nature of the litigation and investigations and the complexities involved, the Company is unable to reasonably estimate a possible loss for such matters until the Company knows, among other factors, (i) what claims, if any, will survive dispositive motion practice, (ii) the extent of the claims, including the size of any potential class, particularly when damages are not specified or are indeterminate, (iii) how the discovery process will affect the litigation, (iv) the settlement posture of the other parties to the litigation and (v) any other factors that may have a material effect on the litigation or investigation. However, we could incur judgments, enter into settlements or revise our expectations
regarding the outcome of certain matters, and such developments could have a material adverse effect on our results of operations in the period in which the amounts are accrued and/or our cash flows in the period in which the amounts are paid.
Data Integrity Investigations
As previously disclosed in various reports filed with the SEC, the Company and Fresenius Kabi AG, with the assistance of outside consultants, have been investigating alleged breaches of FDA data integrity requirements relating to product development at the Company. The Company has informed the FDA regarding the investigations and will continue to update the FDA as they proceed. To date, the Company’s investigation has not found any facts that would result in a material impact on Akorn’s operations and the Company does not believe such investigations should affect the closing of the transaction with Fresenius.
Note 13 — Customer, Supplier and Product Concentration
Customer Concentration
In the three month periods ended
March 31, 2018
and 2017, a significant portion of the Company’s gross and net revenues reported were to
three
large wholesale drug distributors, and a significant portion of the Company’s accounts receivable as of
March 31, 2018
and 2017 were due from these wholesale drug distributors as well. AmerisourceBergen Health Corporation (“Amerisource”), Cardinal Health, Inc. (“Cardinal”) and McKesson Drug Company (“McKesson”) collectively referred to as (the “Big 3 Wholesalers”), are all distributors of the Company’s products, as well as suppliers of a broad range of health care products. Aside from these
three
wholesale drug distributors, no other customers accounted for more than
10%
of gross sales, net revenue or gross trade receivables for the indicated dates and periods. If sales to the Big 3 Wholesalers were to diminish or cease, the Company believes that the end users of its products would find little difficulty obtaining the Company’s products from another distributor. Further, the Company is subject to credit risk from its accounts receivable, more heavily weighted to the Big 3 Wholesalers, but as of and for the three month periods ended March 31, 2018 and 2017, the Company has not experienced significant losses with respect to its collection of these gross accounts receivable balances.
The following table sets forth the percentage of the Company's gross accounts receivable attributable to the Big 3 Wholesalers as of
March 31, 2018
and December 31, 2017:
|
|
|
|
|
Big 3 Wholesalers combined:
|
March 31,
2018
|
|
December 31,
2017
|
Percentage of gross trade accounts receivable
|
88%
|
|
86%
|
The following table sets forth the percentage of the Company’s gross sales attributable to the Big 3 Wholesalers for the
three
month periods ended
March 31, 2018
and 2017:
|
|
|
|
|
|
|
|
Three Months Ended
March 31,
|
Big 3 Wholesalers combined:
|
|
2018
|
|
2017
|
Percentage of gross sales
|
|
83%
|
|
79%
|
The following table sets forth the Company’s net revenues disaggregated by major customers for the
three
month periods ended
March 31, 2018
and 2017 (dollar amounts in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
March 31, 2018
|
|
Three Months Ended
March 31, 2017
|
Disaggregation of net revenues by major customers
|
Amount
|
|
% of Total Revenues
|
|
Amount
|
|
% of Total Revenues
|
Amerisource
|
$
|
37,955
|
|
|
20.6%
|
|
$
|
43,937
|
|
|
17.3%
|
Cardinal
|
27,189
|
|
|
14.8%
|
|
48,968
|
|
|
19.3%
|
McKesson
|
53,221
|
|
|
28.9%
|
|
69,711
|
|
|
27.5%
|
Big 3 Wholesalers combined
|
118,365
|
|
|
64.3%
|
|
162,616
|
|
|
64.2%
|
All Others
|
65,698
|
|
|
35.7%
|
|
90,804
|
|
|
35.8%
|
Total Revenues
|
184,063
|
|
|
100.0%
|
|
253,420
|
|
|
100.0%
|
Sales to the Big 3 Wholesalers primarily represent purchases of products in the Prescription Pharmaceuticals segment and generate the majority of the Prescription Pharmaceuticals segment revenue. The Prescription Pharmaceuticals segment revenue represents
89.3%
and
93.7%
of the consolidated net revenue for three month period ended March 2018 and 2017, respectively. Chain pharmacies are the major customers in the Consumer Health segment. For more information, see
Note 10 — Segment Information
.
Supplier Concentration
The Company requires a supply of quality raw materials and components to manufacture and package pharmaceutical products for its own use and for third parties with which it has contracted. The principal components of the Company’s products are active and inactive pharmaceutical ingredients and certain packaging materials. Certain of these ingredients and components are available from only a single source and, in the case of certain of the Company’s abbreviated new drug applications and new drug applications, only one supplier of raw materials has been identified. Because FDA approval of drugs requires manufacturers to specify their proposed suppliers of active ingredients and certain packaging materials in their applications, FDA approval of any new supplier would be required if active ingredients or such packaging materials were no longer available from the specified supplier. The qualification of a new supplier could delay the Company’s development and marketing efforts. In addition, certain of the pharmaceutical products marketed by the Company are manufactured by a third party manufacturer, which serves as the Company’s sole source of that finished product. If for any reason the Company is unable to obtain sufficient quantities of any of the raw materials or components required to produce and package its products, it may not be able to manufacture its products as planned, which could have a material adverse effect on the Company’s business, financial condition and results of operations. Likewise, if the Company’s manufacturing partners experience any similar difficulties in obtaining raw materials or in manufacturing the finished product, the Company’s results of operations would be negatively impacted.
No
individual supplier represented
10%
or more of the Company’s purchases in the
three
month periods ended
March 31, 2018
or 2017.
Product Concentration
In the three month period ended
March 31, 2018
,
none
of the Company's products represented greater than
10%
of its total net revenue, while Ephedrine Sulfate Injection represented approximately
19%
of the Company’s total net revenue in the three month period ended March 31, 2017. The Company attempts to minimize the risk associated with product concentrations by continuing to acquire and develop new products to add to its existing portfolio.
Note 14 — Income Taxes
On December 22, 2017, the Tax Cuts and Jobs Act (the “Tax Act”) was enacted and implements comprehensive tax legislation which, among other changes, reduces the federal statutory corporate tax rate from 35% to 21%, requires companies to pay a one-time transition tax on earnings of certain foreign subsidiaries that were previously deferred, creates new provisions related to foreign sourced earnings, eliminates the domestic manufacturing deduction and moves to a territorial system. Additionally, in December 2017, the Securities and Exchange Commission staff issued Staff Accounting Bulletin No. 118 (“SAB 118”), which addresses how a company recognizes provisional amounts when a company does not have the necessary information available, prepared or analyzed (including computations) in reasonable detail to complete its accounting for the
effect of the changes in the Tax Act. The measurement period, as defined in SAB 118, ends when a company has obtained, prepared and analyzed the information necessary to finalize its accounting, but cannot extend beyond one year. During the measurement period, provisional amounts may also be adjusted for the effects, if any, of interpretative guidance issued after December 31, 2017, by U.S. regulatory and standard-setting bodies.
Based on the provisions of the Tax Act, the Company re-measured its U.S. deferred tax assets and liabilities and adjusted its deferred tax balances to reflect the lower U.S. corporate income tax rate at December 31, 2017. The re-measurement of the Company's U.S. deferred tax assets and liabilities at the lower enacted U.S. corporate tax rate resulted in an income tax benefit of
$26.9 million
which was included as a discrete item in the 2017 income tax benefit. The Company’s foreign subsidiaries do not have accumulated earnings that can be distributed; therefore, the provisions of the Act related to the repatriation of foreign earnings are not applicable to the Company at December 31, 2017.
No
additional re-measurement adjustments have been made since December 31, 2017.
The following table sets forth information about the Company’s income tax (benefit) provision for the periods indicated (dollar amounts in thousands):
|
|
|
|
|
|
|
|
|
|
Three Months Ended
March 31,
|
|
2018
|
|
2017
|
(Loss) Income before income taxes
|
$
|
(36,027
|
)
|
|
$
|
65,326
|
|
Income tax (benefit) provision
|
(7,280
|
)
|
|
24,299
|
|
Net (loss) income
|
$
|
(28,747
|
)
|
|
$
|
41,027
|
|
|
|
|
|
Income tax (benefit) provision as a percentage of (loss) income before income taxes
|
20.2
|
%
|
|
37.2
|
%
|
During the three month periods ended
March 31, 2018
and 2017, the Company recorded an income tax benefit of
$7.3 million
and income tax provision of
$24.3 million
, or
20.2%
and
37.2%
of (loss) income before income tax in the applicable periods, respectively. The decrease in the income tax rate as a percentage of (loss) income before income tax in the quarter ended
March 31, 2018
was principally the result of the enactment of the Tax Act in December 2017. The Company used the discrete method to calculate the quarterly provision.
As of
March 31, 2018
, the Company could not conclude that it was more likely than not that tax benefits from certain foreign net operating losses would be realized. Accordingly, as of the three months ended of
March 31, 2018
, the Company increased its valuation allowance to
$11.8 million
for certain of the losses at its Indian subsidiary and the entire amount of the loss at its Swiss subsidiary, compared to a valuation allowance of
$10.5 million
as of December 31, 2017.
In accordance with ASC 740-10-25,
Income Taxes - Recognition
, the Company reviews its tax positions to determine whether it is “more likely than not” that its tax positions will be sustained upon examination, and if any tax positions are deemed to fall short of that standard, the Company establishes reserves based on the financial exposure and the likelihood that its tax positions would not be sustained. Based on its evaluations, the Company determined that it would not recognize tax benefits on
$25.5 million
related to uncertain tax positions as of
March 31, 2018
. If recognized,
$2.9 million
of the above positions will impact the Company’s effective rate, while the remaining
$22.6 million
would result in adjustments to the Company’s deferred taxes. The Company accounts for interest and penalties as income tax expense. During the three month periods ended
March 31, 2018
, the Company recorded
no
penalties and
$0.4 million
interest related to unrecognized tax benefits. At March 31, 2018, the Company had accrued a total of
$8.9 million
and
$6.4 million
of penalties and interest, respectively.
Note 15 – Related Party Transactions
During the three month periods ended
March 31, 2018
and 2017, the Company obtained legal services totaling
$0.6 million
and
$0.5 million
, of which
$0.5 million
and
$0.3 million
was payable as of
March 31, 2018
and 2017, respectively, to Polsinelli PC, a law firm for which the spouse of the Company’s Executive Vice President, General Counsel and Secretary is an attorney and shareholder.
The Company also obtained and paid legal services totaling
$0.2 million
and
$0.1 million
, during the three month periods ended
March 31, 2018
and 2017, respectively, to Segal McCambridge Singer & Mahoney, a firm for which the brother in law of the Company's Executive Vice President, General Counsel and Secretary is a partner.
Note 16 – Recently Issued and Adopted Accounting Pronouncements
Recently Issued Accounting Pronouncements
In February 2016, the Financial Accounting Standards Board ("FASB") issued Accounting Standard Update ("ASU")
No.
ASU 2016-02
-
Leases,
which establishes a comprehensive new lease accounting model. The new standard clarifies the definition of a lease and causes lessees to recognize leases on the balance sheet as a lease liability with a corresponding right-of-use asset for leases with a lease term of more than one year. ASU 2016-02 is effective for financial statements issued for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years. Early adoption is permitted. The new standard requires a modified retrospective transition for capital or operating leases existing at or entered into after the beginning of the earliest comparative period presented in the financial statements, but it does not require transition accounting for leases that expire prior to the date of initial application. Upon adoption, operating leases will be reported on the statement of financial position as gross-up assets and liabilities. The Company has begun evaluating and planning for adoption and implementation of this ASU, including reviewing all material leases, the ASU practical expedient guidelines, current accounting policy elections, and assessing the overall financial statement impact. We expect this ASU will have a material impact on the Company’s financial position. The impact on the Company’s results of operations is currently being evaluated. The impact of this ASU is non-cash in nature and is not expected to affect the Company’s cash flows.
Recently Adopted Accounting Pronouncements
In May 2017, the Financial Accounting Standards Board ("FASB") issued Accounting Standard Update ("ASU")
No.
2017-09,
Compensation — Stock Compensation (Topic 718): Scope of Modification Accounting
, which provides guidance about which changes to the terms or conditions of a share-based payment award require an entity to apply modification accounting in Topic 718.
Per the ASU, a
n entity should account for the effects of a modification unless all the following are met: (1) The fair value (or calculated value or intrinsic value, if such an alternative measurement method is used) of the modified award is the same as the fair value (or calculated value or intrinsic value, if such an alternative measurement method is used) of the original award immediately before the original award is modified. If the modification does not affect any of the inputs to the valuation technique that the entity uses to value the award, the entity is not required to estimate the value immediately before and after the modification, (2) The vesting conditions of the modified award are the same as the vesting conditions of the original award immediately before the original award is modified, and (3) The classification of the modified award as an equity instrument or a liability instrument is the same as the classification of the original award immediately before the original award is modified. The current disclosure requirements in Topic 718 apply regardless of whether an entity is required to apply modification accounting under the amendments in this ASU.
The ASU is effective for public business entities for annual and interim periods in fiscal years beginning after December 15, 2017.
Early adoption is permitted, including adoption in any interim period, for (1) public business entities for reporting periods for which financial statements have not yet been issued and (2) all other entities for reporting periods for which financial statements have not yet been made available for issuance. The amendments in this ASU should be applied prospectively to an award modified on or after the adoption date.
The standard was adopted on January 1, 2018, and did not have a material impact on the Company's consolidated financial statements or financial statement disclosures.
In March 2017, the FASB issued ASU
No. 2017-07,
— Compensation — Retirement Benefits (Topic 715): Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost,
which apply to all employers, including not-for-profit entities, that offer to their employees defined benefit pension plans, other postretirement benefit plans, or other types of benefits accounted for under Topic 715. The amendments in this ASU require that an employer report the service cost component in the same line item or items as other compensation costs arising from services rendered by the pertinent employees during the period. The other components of net benefit cost as defined in paragraphs 715-30-35-4 and 715-60- 35-9 are required to be presented in the income statement separately from the service cost component and outside a subtotal of income from operations, if one is presented. If a separate line item or items are used to present the other components of net benefit cost, that line item or items must be appropriately described. If a separate line item or items are not used, the line item or items used in the income statement to present the other components of net benefit cost must be disclosed. The amendments in this ASU also allow only the service cost component to be eligible for capitalization when applicable (for example, as a cost of internally manufactured inventory or a self-constructed asset). The amendments in this ASU are effective for public business entities for annual periods beginning after December 15, 2017, including interim periods within those 3 annual periods. Disclosures of the nature of and reason for the change in accounting principle are required in the first interim and annual periods of adoption. The amendments in this ASU should be applied retrospectively for the presentation of the
service cost component and the other components of net periodic pension cost and net periodic postretirement benefit cost in the income statement and prospectively, on and after the effective date, for the capitalization of the service cost component of net periodic pension cost and net periodic postretirement benefit in assets. The amendments allow a practical expedient that permits an employer to use the amounts disclosed in its pension and other postretirement benefit plan note for the prior comparative periods as the estimation basis for applying the retrospective presentation requirements. Disclosure that the practical expedient was used is required. The standard was adopted on January 1, 2018, and did not have a material impact on the Company's consolidated financial statements or financial statement disclosures.
In November 2016, the FASB issued ASU
No. 2016-18,
Statement of Cash Flows (Topic 230): Restricted Cash (a consensus of the FASB Emerging Issues Task Force)
, which addresses classification and presentation of changes in restricted
cash on the statement of cash flows. The standard requires an entity’s reconciliation of the beginning-of-period and end-of-period total amounts shown on the statement of cash flows to include in cash and cash equivalents amounts generally described as restricted cash and restricted cash equivalents. The ASU does not define restricted cash or restricted cash equivalents, but an entity will need to disclose the nature of the restrictions. The ASU is effective for public business entities for annual and interim periods in fiscal years beginning after December 15, 2017. For all other entities, the ASU is effective for fiscal years beginning after December 15, 2018, and interim periods in fiscal years beginning after December 15, 2019. Early adoption is permitted, including adoption in an interim period. If an entity early adopts the amendments in an interim period, adjustments should be reflected at the beginning of the fiscal year that includes that interim period. Entities should apply this ASU using a retrospective transition method to each period presented.
The standard was adopted on January 1, 2018, and did not have a material impact on the Company's consolidated financial statements or financial statement disclosures.
In August 2016, the FASB issued
ASU 2016-15,
Statement of Cash Flows (Topic 230) Classification of Certain Cash Receipts and Cash Payments
. This standard amends and adjusts how cash receipts and cash payments are presented and classified in the statement of cash flows.
ASU 2016-15
is effective for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years and will require adoption on a retrospective basis unless impracticable. If impracticable the Company would be required to apply the amendments prospectively as of the earliest date possible. The standard was adopted on January 1, 2018, and did not have a material impact on the Company's consolidated financial statements or financial statement disclosures.
In May 2014, FASB issued
ASU 2014-09 - Revenue from Contracts with Customers (Topic 606)
, as modified by subsequently issued
ASUs 2015-14, 2016-08, 2016-10, 2016-12 and 2016-20 (collectively ASU 2014-09). ASU 2014-09
superseded the revenue recognition requirements in
ASC (Topic 605) Revenue Recognition,
and most industry specific guidance. This ASU also supersedes some cost guidance included in
ASC 605-35 Revenue Recognition Construction Type and Production Type Contracts
. Similar to the current guidance, the Company will need to make significant estimates related to variable consideration at the point of sale, including chargebacks, rebates, product returns, and other discounts and allowances. Revenue will be recognized at a point in time upon the transfer of control of the Company's products, which occurs upon delivery for substantially all of the Company's sales. The Company has adopted the practical expedient to exclude all sales taxes and contract fulfillment costs from the transaction price. The Company adopted the standard effective January 1, 2018 using the modified retrospective approach. The adoption of
ASU 2014-09
did not have a material impact on the Company’s consolidated financial position, results of operations, equity or cash flows as of the adoption date or for the three months ended March 31, 2018. See
Note 13 — Customer, Supplier and Product Concentration
for the disaggregation of net revenues by major customers.