| • 10-Q • EX-10.1 • EX-10.2 • EX-10.3 • EX-31.1 • EX-31.2 • EX-32.1 • EX-32.2 • XBRL INSTANCE DOCUMENT • XBRL TAXONOMY EXTENSION SCHEMA DOCUMENT • XBRL TAXONOMY EXTENSION CALCULATION LINKBASE DOCUMENT • XBRL TAXONOMY EXTENSION LABELS LINKBASE DOCUMENT • XBRL TAXONOMY EXTENSION PRESENTATION LINKBASE DOCUMENT • XBRL TAXONOMY EXTENSION DEFINITION LINKBASE DOCUMENT | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
UNITED STATES Washington, D.C. 20549
FORM 10-Q
x QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2012
OR
o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934
Commission file number: 0-21379
CUBIST PHARMACEUTICALS, INC. (Exact Name of Registrant as Specified in its Charter)
65 Hayden Avenue, Lexington, MA 02421 (Address of Principal Executive Offices and Zip Code)
(781) 860-8660 (Registrant’s Telephone Number, Including Area Code)
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definitions of “accelerated filer,” “large accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x
Number of shares of the registrant’s Common Stock, $0.001 par value, outstanding on April 19, 2012: 63,337,315.
Cubist Pharmaceuticals, Inc.
Item 1. Condensed Consolidated Financial Statements
CUBIST PHARMACEUTICALS, INC. CONDENSED CONSOLIDATED BALANCE SHEETS UNAUDITED (in thousands, except share data)
The accompanying notes are an integral part of the condensed consolidated financial statements.
CUBIST PHARMACEUTICALS, INC. CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME UNAUDITED (in thousands, except share and per share data)
The accompanying notes are an integral part of the condensed consolidated financial statements.
CUBIST PHARMACEUTICALS, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS UNAUDITED (in thousands)
The accompanying notes are an integral part of the condensed consolidated financial statements.
CUBIST PHARMACEUTICALS, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS UNAUDITED
A. BASIS OF PRESENTATION AND ACCOUNTING POLICIES
Basis of Presentation and Consolidation
The accompanying condensed consolidated financial statements are unaudited and have been prepared by Cubist Pharmaceuticals, Inc. (“Cubist” or the “Company”) in accordance with accounting principles generally accepted in the United States of America, or GAAP, and pursuant to the instructions to Form 10-Q and Article 10 of Regulation S-X. Certain information and footnote disclosures normally included in the Company’s annual consolidated financial statements have been condensed or omitted. The condensed consolidated financial statements, in the opinion of management, reflect all normal and recurring adjustments necessary for a fair statement of the Company’s financial position and results of operations. Certain reclassifications have been made to prior year amounts to conform to the current year presentation.
The year-end condensed consolidated balance sheet data was derived from audited financial statements, but does not include all disclosures required by GAAP. The results of operations for the interim periods are not necessarily indicative of the results of operations to be expected for any future period or the entire fiscal year. These interim condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements for the year ended December 31, 2011, which are contained in Cubist’s Annual Report on Form 10-K filed with the Securities and Exchange Commission, or SEC, on February 27, 2012.
The accompanying condensed consolidated financial statements include the accounts of Cubist and its wholly-owned subsidiaries. All intercompany balances and transactions have been eliminated in consolidation. The Company’s results of operations for the three months ended March 31, 2012, include the results of Adolor Corporation, or Adolor, which Cubist acquired in December 2011.
Use of Estimates
The preparation of financial statements in conformity with GAAP requires the extensive use of estimates and assumptions that affect the amounts of assets and liabilities and contingent assets and contingent liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. The most significant assumptions are employed in estimates used in determining values of: inventories; investments; acquisition-date fair value and subsequent impairment of long-lived assets, including goodwill, in-process research and development, or IPR&D, and other intangible assets; accrued clinical research costs; contingent consideration; income taxes; accounting for stock-based compensation; product rebate, chargeback and return accruals; restructuring charges; as well as in estimates used in accounting for contingencies and revenue recognition. Actual results could differ from estimated amounts under different assumptions or conditions.
Fair Value Measurements
On January 1, 2012, the Company adopted amended guidance for fair value measurement and disclosure, which requires Cubist to disclose quantitative information about unobservable inputs used in the fair value measurement within Level 3 of the fair value hierarchy. See Note D., “Fair Value Measurements,” for additional information.
The accounting standard for fair value measurements defines fair value, establishes a framework for measuring fair value in accordance with GAAP, and requires detailed disclosures about fair value measurements. Under this standard, fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The valuation techniques are based on observable and unobservable inputs. Observable inputs reflect readily obtainable data from independent sources, while unobservable inputs reflect certain market assumptions. This standard classifies these inputs into the following hierarchy:
Level 1 Inputs—Quoted prices for identical instruments in active markets.
Level 2 Inputs—Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations whose inputs are observable or whose significant value drivers are observable.
Level 3 Inputs—Instruments with primarily unobservable value drivers.
The fair value hierarchy level is determined by asset class based on the lowest level of significant input. In periods of market inactivity, the observability of prices and inputs may be reduced for certain instruments. This condition could cause an instrument to be reclassified between Level 1 and Level 2 or between Level 2 and Level 3. During the three months ended March 31, 2012, there were no transfers between Level 1, Level 2 or Level 3.
The carrying amounts of Cubist’s cash and cash equivalents, accounts receivable, net, accounts payable and accrued expenses approximate their fair value due to the short-term nature of these amounts. Short-term and long-term investments are considered available-for-sale as of March 31, 2012 and December 31, 2011, and are carried at fair value.
Concentration of Risk
Financial instruments, which potentially subject the Company to concentrations of credit risk, consist principally of cash and cash equivalents, investments and accounts receivable. The Company’s cash and cash equivalents are held primarily with six financial institutions in the United States, or U.S. Investments are restricted, in accordance with the Company’s investment policy, to a concentration limit per institution.
Cubist’s accounts receivable at March 31, 2012 and December 31, 2011, primarily represent amounts due to the Company from wholesalers, including AmerisourceBergen Drug Corporation, Cardinal Health, Inc. and McKesson Corporation, as well as from Cubist’s international partners for CUBICIN® (daptomycin for injection). Cubist performs ongoing credit evaluations of its key wholesalers, distributors and other customers and generally does not require collateral. For the three months ended March 31, 2012 and 2011, Cubist did not have any significant write-offs of accounts receivable, and its days sales outstanding has not significantly changed since December 31, 2011.
IPR&D
IPR&D acquired in a business combination is capitalized on the Company’s condensed consolidated balance sheets at its acquisition-date fair value. Until the underlying project is completed, these assets are accounted for as indefinite-lived intangible assets, subject to impairment testing. Once the project is completed, the carrying value of the IPR&D is amortized over the estimated useful life of the asset. Post-acquisition research and development expenses related to the acquired IPR&D are expensed as incurred.
IPR&D is tested for impairment on an annual basis, in the fourth quarter, or more frequently if impairment indicators are present, using projected discounted cash flow models. If IPR&D becomes impaired or is abandoned, the carrying value of the IPR&D is written down to its revised fair value with the related impairment charge recognized in the period in which the impairment occurs. If the fair value of the asset becomes impaired as the result of unfavorable data from any ongoing or future clinical trial, changes in assumptions that negatively impact projected cash flows, or because of any other information regarding the prospects of successfully developing or commercializing the Company’s programs, Cubist could incur significant charges in the period in which the impairment occurs. The valuation techniques utilized in performing
impairment tests incorporate significant assumptions and judgments to estimate the fair value. The use of different valuation techniques or different assumptions could result in materially different fair value estimates.
Revenue Recognition
Principal sources of revenue are: (i) sales of CUBICIN and ENTEREG® (alvimopan) in the U.S.; (ii) revenues derived from sales of CUBICIN by Cubist’s international distribution partners; and (iii) service revenues derived from Cubist’s agreement with Optimer Pharmaceuticals, Inc., or Optimer, for the promotion and support of DIFICIDTM (fidaxomicin) in the U.S. In all instances, revenue is recognized only when the price is fixed or determinable, persuasive evidence of an arrangement exists, delivery has occurred or services have been rendered and collectibility of the resulting receivable is reasonably assured.
U.S. Product Revenues, net
Cubist maintains a drop-ship program under which orders are processed through wholesalers, but shipments are sent directly to the end users, who are generally hospitals and acute care settings. The Company generally does not allow wholesalers to stock CUBICIN or ENTEREG. All revenues from product sales are recorded net of applicable provisions for returns, chargebacks, Medicaid and Medicare coverage gap discount program rebates, wholesaler management fees and discounts in the same period the related sales are recorded.
Gross U.S. product revenues are offset by provisions for the three months ended March 31, 2012 and 2011, as follows:
Certain product sales qualify for rebates or discounts from standard list pricing due to government-sponsored programs or other contractual agreements. Contractual adjustments in the table above include pricing and early payment discounts extended to the Company’s external customers, as well as provisions for returns and wholesaler distribution fees. Governmental rebates in the table above represent estimated amounts for Medicaid and Medicare coverage gap discount program rebates and chargebacks related to 340B/Public Health Service and Federal Supply Schedule drug pricing programs. Estimates and assumptions for reserves are analyzed quarterly.
Service Revenues
Service revenues for the three months ended March 31, 2012, represent the ratable recognition of the quarterly service fee earned in accordance with the co-promotion agreement with Optimer, which was entered into in April 2011 to promote and provide medical affairs support for DIFICID in the U.S. Cubist is also eligible to receive an additional $5.0 million in 2012 and $12.5 million in 2013, if and when mutually agreed-upon annual sales targets are achieved, as well as 50% of Optimer’s gross profits on net sales of DIFICID above the specified annual targets, if any. The initial term of the co-promotion agreement is approximately two years from the date of first commercial sale of DIFICID in the U.S., which occurred in July 2011.
Basic and Diluted Net Income Per Share
Basic net income per common share has been computed by dividing net income by the weighted average number of shares outstanding during the period. Diluted net income per share has been computed by dividing diluted net income by the diluted number of shares outstanding during the period. Except where the result would be antidilutive to income from continuing operations, diluted net income per share has been computed assuming the conversion of convertible obligations and the elimination of the interest expense related to the Company’s 2.25% convertible subordinated notes, or 2.25% Notes,
and 2.50% convertible senior notes, or 2.50% Notes, the exercise of stock options and the vesting of restricted stock units, or RSUs, as well as their related income tax effects.
The following table sets forth the computation of basic and diluted net income per common share (amounts in thousands, except share and per share amounts):
Potential common shares excluded from the calculation of diluted net income per share, as their inclusion would have been antidilutive, were:
Subsequent Events
Cubist considers events or transactions that have occurred after the balance sheet date of March 31, 2012, but prior to the filing of the financial statements with the SEC on this Quarterly Report on Form 10-Q to provide additional evidence relative to certain estimates or to identify matters that require additional recognition or disclosure. Subsequent events have been evaluated through the date of the filing with the SEC of this Quarterly Report on Form 10-Q. There were no subsequent events that occurred after March 31, 2012.
Recent Accounting Pronouncements
None.
B. INVESTMENTS
The following table summarizes the amortized cost and estimated fair values of the Company’s available-for-sale investments:
The following table contains information regarding the range of contractual maturities of the Company’s short-term and long-term investments (in thousands):
Certain short-term debt securities with original maturities of less than 90 days are included in cash and cash equivalents on the condensed consolidated balance sheets and are not included in the tables above. In addition, certain bank deposits with original maturities of more than 90 days are not considered available-for-sale securities and are not included in the tables above.
C. BUSINESS COMBINATIONS AND ACQUISITIONS
Acquisition of Adolor
On December 12, 2011, Cubist acquired 100% of the outstanding shares of common stock of Adolor for $4.25 in cash, plus, as described below, up to a maximum of an additional $4.50 upon achievement of specified milestones, for each share of Adolor common stock, upon which Adolor became a wholly-owned subsidiary of Cubist. The Company’s acquisition of Adolor provides an existing commercialized product, ENTEREG, as well as rights to an additional late-stage product candidate, CB-5945, among other assets. CB-5945 is an oral, peripherally-restricted mu opioid receptor antagonist currently in development for the treatment of chronic opioid-induced constipation.
The following table summarizes the fair value of total consideration at December 12, 2011:
The contingent consideration relates to the achievement of certain regulatory milestones, sales milestones or a combination of both, with respect to CB-5945, and in which Cubist granted non-transferable contingent payment rights, or CPRs, to the former stockholders of Adolor. The CPRs represent the right to receive additional payments above the upfront purchase price, up to a maximum of $4.50 for each share owned by Adolor’s former stockholders upon achievement of such milestones. The CPRs may not be sold, assigned, transferred, pledged, encumbered or disposed of, subject to limited exceptions. See Note D., “Fair Value Measurements,” for additional information.
The transaction was accounted for as a business combination under the acquisition method of accounting. Accordingly, the tangible assets and identifiable intangible assets acquired and liabilities assumed were recorded at fair value, with the remaining purchase price recorded as goodwill.
The following table summarizes the estimated fair values of the assets acquired and liabilities assumed at the date of acquisition:
The allocation of the purchase price to acquired assets and liabilities has been prepared on a preliminary basis and is subject to change as additional information becomes available, including the finalization of the valuation of acquired IPR&D and certain tax matters. Any adjustments to the purchase price allocation will be made as soon as practicable but no later than one year from December 12, 2011, the acquisition date.
The difference between the purchase price and the fair value of the assets acquired and liabilities assumed of $60.7 million was allocated to goodwill. None of this goodwill is expected to be deductible for income tax purposes.
The Company recorded $40.8 million of ENTEREG inventory that was acquired from Adolor. See Note I., “Inventory,” for additional information.
Restructuring Activities
In connection with the acquisition of Adolor, Cubist committed to a restructuring program in the fourth quarter of 2011, which included severance benefits to former Adolor employees and execution of a lease termination agreement with respect to Adolor’s operating lease for its facility in Exton, Pennsylvania. During the fourth quarter of 2011, the Company incurred charges of $8.1 million related to severance benefits and $1.2 million related to the early termination of the lease. The Company plans to vacate the leased premises by June 30, 2012, and the remaining severance payments will be made through the first half of 2013.
The following table summarizes the activity within the restructuring liability:
D. FAIR VALUE MEASUREMENTS
The following tables set forth the Company’s assets and liabilities that are measured at fair value on a recurring basis as of March 31, 2012 and December 31, 2011:
Marketable Securities
The Company classifies its bank deposits and corporate and municipal notes as Level 2 under the fair value hierarchy based on the lowest level of significant input. These assets have been valued using information obtained through a third-party pricing service at each balance sheet date, using observable market inputs that may include trade information, broker or dealer quotes, bids, offers, or a combination of these data sources.
Debt
The Company estimates the fair value of its 2.50% Notes and 2.25% Notes by using quoted market rates in an inactive market, which are classified as Level 2 inputs. See Note G., “Debt,” for additional information.
Payable to Glaxo
In connection with the acquisition of Adolor in December 2011, Cubist assumed the obligation to pay Glaxo Group Limited, or Glaxo, annual payments aggregating to $22.5 million as a result of Adolor’s termination of its collaboration agreement with Glaxo in September 2011, which was recorded at its estimated fair value of $18.9 million. At March 31, 2012, the carrying value of the remaining six annual payments to Glaxo of $19.2 million approximates its fair value. The fair value estimate utilizes a discounted cash flow model and a discount rate, which is classified as a Level 3 input. See Note G., “Debt,” for additional information.
Contingent Consideration
Contingent consideration is measured at fair value and is based on significant inputs not observable in the market, which represents a Level 3 measurement within the fair value hierarchy. The valuation of contingent consideration uses assumptions the Company believes would be made by a market participant. The Company assesses these estimates on an on-going basis as additional data impacting the assumptions is obtained. Changes in the fair value of contingent consideration related to updated assumptions and estimates are recognized within the condensed consolidated statements of comprehensive income.
Contingent consideration expense may change significantly as development progresses and additional data is obtained, impacting the Company’s assumptions regarding probabilities of successful achievement of related milestones used to estimate the fair value of the liability. In evaluating the fair value information, considerable judgment is required to interpret the market data used to develop the estimates. The estimates of fair value may not be indicative of the amounts that could be realized in a current market exchange. Accordingly, the use of different market assumptions and/or different valuation techniques may have a material effect on the estimated fair value amounts, and such changes could materially impact the Company’s results of operations in future periods.
Level 3 Disclosures
The following table provides quantitative information associated with the fair value measurement of the Company’s Level 3 inputs:
The significant unobservable inputs used in the fair value measurement of Cubist’s contingent consideration are the probabilities of successful achievement of development, regulatory and sales milestones, the period in which these milestones are expected to be achieved and a discount rate. Significant increases or decreases in any of the probabilities of success would result in a significantly higher or lower fair value measurement, respectively. Significant increases or decreases in the period in which milestones will be achieved would result in a significantly lower or higher fair value measurement, respectively.
The table below provides a rollforward of fair value for which the Company used Level 3 inputs:
Adolor
The fair value of contingent consideration relating to amounts payable by the Company to the former stockholders of Adolor upon the achievement of certain regulatory milestones, sales milestones or a combination of both, with respect to CB-5945, was estimated to be $111.9 million and $110.5 million as of March 31, 2012 and December 31, 2011, respectively. The change in fair value for the three months ended March 31, 2012, is due to the time value of money. The aggregate, undiscounted amount of contingent consideration that Cubist could pay under the merger agreement ranges from zero to approximately $233.8 million.
Calixa
The fair value of contingent consideration relating to amounts payable by the Company to the former stockholders of Calixa Therapeutics Inc., or Calixa, upon the achievement of certain development, regulatory and sales milestones with respect to CXA-201, was estimated to be $109.1 million and $137.7 million as of March 31, 2012 and December 31, 2011, respectively. The change in fair value for the three months ended March 31, 2012, is primarily due to a $30.0 million milestone payment that Cubist made to the former stockholders of Calixa in January 2012, which was triggered by first patient enrollment in a Phase 3 clinical trial for complicated intra-abdominal infections, or cIAI, which occurred in December 2011. This was partially offset by contingent consideration expense related to the time value of money. Cubist may be required to make up to an additional $220.0 million of undiscounted payments to the former stockholders of Calixa under the merger agreement. CXA-201 is an intravenously-administered combination of a novel anti-pseudomonal cephalosporin, CXA-101, and the beta-lactamase inhibitor, tazobactam. CXA-201 is being developed as a potential treatment for hospital-acquired bacterial pneumonia, or HABP, ventilator-associated bacterial pneumonia, or VABP, complicated urinary tract infections, or cUTI, and cIAI.
E. PROPERTY AND EQUIPMENT, NET
Property and equipment, net consisted of the following at:
Depreciation expense was $3.0 million and $2.5 million for the three months ended March 31, 2012 and 2011, respectively.
F. GOODWILL AND OTHER INTANGIBLE ASSETS, NET
Indefinite-Lived Assets
The Company’s goodwill balance remained unchanged as of March 31, 2012, as compared to December 31, 2011.
As of March 31, 2012, there were no accumulated impairment losses. Goodwill has been assigned to the Company’s single reporting unit, which is the single operating segment by which the chief decision maker manages the Company. See Note K., “Segment Information,” for additional information.
The Company’s IPR&D consists of $117.4 million related to CB-5945, which was acquired through the Company’s acquisition of Adolor in December 2011, and $194.0 million related to CXA-201, which was acquired through the Company’s acquisition of Calixa in December 2009. CXA-201 as a potential treatment for HABP and VABP had an estimated fair value of $174.0 million and CXA-201 as a potential treatment for cUTI and cIAI had an estimated fair value of $20.0 million as of the acquisition date. Cubist has not recorded any impairment charges related to the IPR&D since the acquisition of the assets.
Other Intangible Assets
Other intangible assets, net consisted of the following at:
Amortization expense was $5.2 million and $0.6 million for the three months ended March 31, 2012 and 2011, respectively. The increase in amortization expense during the three months ended March 31, 2012, as compared to the three months ended March 31, 2011, was primarily due to the ENTEREG intangible asset acquired in connection with the acquisition of Adolor in December 2011, which is included within acquired technology rights. The estimated aggregate amortization of intangible assets as of March 31, 2012, for each of the five succeeding years and thereafter is as follows:
G. DEBT
Debt is comprised of the following amounts at:
2.50% Notes
The Company’s $450.0 million aggregate principal amount of its outstanding 2.50% Notes, due November 2017, are convertible into common stock at an initial conversion rate of 34.2759 shares of common stock per $1,000 principal amount of convertible notes, subject to adjustment upon certain events, which is equivalent to an initial conversion price of approximately $29.18 per share of common stock. Holders of the 2.50% Notes may convert the 2.50% Notes at any time prior to the close of business on the business day immediately preceding May 1, 2017, only under the following circumstances: (i) during any calendar quarter (and only during such calendar quarter), if the last reported sale price of the common stock for at least 20 trading days (whether or not consecutive) during a period of 30 consecutive trading days ending on the last trading day of the immediately preceding calendar quarter is greater than or equal to 130% of the conversion price on each applicable trading day; (ii) during the five business day period after any five consecutive trading day period, or the measurement period, in which the trading price per $1,000 principal amount of notes for each trading day of the measurement period was less than 98% of the product of the last reported sale price of Cubist’s common stock and the conversion rate on each such trading day; or (iii) upon the occurrence of specified corporate events. Upon conversion, Cubist may deliver cash, common stock or a combination of cash and common stock, at Cubist’s option, to the note holders that requested the conversion. The shares attributable to the 2.50% Notes could potentially dilute the Company’s shares of common stock outstanding if converted. Interest is payable to the note holders on each May 1st and November 1st. As of March 31, 2012, the “if-converted value” exceeded the principal amount of the 2.50% Notes by $217.1 million. The fair value of the $450.0 million aggregate principal amount of the outstanding 2.50% Notes was estimated to be $720.1 million as of March 31, 2012.
2.25% Notes
The Company’s $109.2 million aggregate principal amount of its outstanding 2.25% Notes, due June 2013, are convertible at any time prior to maturity into common stock at an initial conversion rate of 32.4981 shares of common stock per $1,000 principal amount of 2.25% Notes, subject to adjustment upon certain events, which is equivalent to an initial conversion price of approximately $30.77 per share of common stock. Cubist may deliver cash or a combination of cash and common stock in lieu of shares of common stock at Cubist’s option. Cubist retains the right to redeem all or a portion of the 2.25% Notes at 100% of the principal amount plus accrued and unpaid interest if the closing price of Cubist’s common stock for at least 20 trading days (whether or not consecutive) during a period of 30 consecutive trading days ending on the date one day prior to the day the Company gives a notice of redemption is greater than 150% of the conversion price on the date of such notice. The shares attributable to the 2.25% Notes could potentially dilute the Company’s shares of common stock outstanding if converted. Interest is payable on each June 15th and December 15th. As of March 31, 2012, the “if-converted value” exceeded the principal amount of the 2.25% Notes by $44.3 million. The fair value of the $109.2 million aggregate principal amount of the outstanding 2.25% Notes was estimated to be $157.5 million as of March 31, 2012.
In accordance with accounting guidance for debt with conversion and other options, Cubist separately accounted for the liability and equity components of each of the 2.50% Notes and 2.25% Notes in a manner that reflected its non-convertible debt borrowing rate of similar debt. The equity component of each of the 2.50% Notes and 2.25% Notes was recognized as a debt discount and represents the difference between the proceeds from the issuance of the convertible notes and the fair value of the liability of each note at the date of issuance. The debt discount is amortized to interest expense using the effective interest method over the expected life of a similar liability without the equity component. The Company determined this expected life to be equal to the seven-year term of both the 2.50% Notes and 2.25% Notes, resulting in an amortization period ending November 1, 2017, and June 15, 2013, respectively.
Payable to Glaxo
The acquisition-date fair value of the payable to Glaxo assumed in connection with the acquisition of Adolor in December 2011 was allocated between current and non-current liabilities within the condensed consolidated balance sheet based on the contractual payment dates, and imputed interest on the payable to Glaxo is recorded as interest expense within the condensed consolidated statement of comprehensive income.
The table below summarizes the interest expense the Company incurred on its 2.50% Notes, 2.25% Notes and the payable to Glaxo for the periods presented:
Credit Facility
In December 2008, Cubist entered into a $90.0 million revolving credit facility with RBS Citizens National Association, or RBS Citizens, for general corporate purposes. Under the revolving credit facility, Cubist may request to borrow at any time a minimum of $1.0 million up to the maximum of the available remaining credit. Any amounts borrowed under the facility will be secured by the pledge of a certificate of deposit issued by RBS Citizens and/or an RBS Citizens money market account equal to an aggregate of 102% of the outstanding principal amount of the loans, so long as such loans are outstanding. Interest expense on the borrowings can be based, at Cubist’s option, on LIBOR plus a margin or the Prime rate. Any borrowings under the facility are due on demand or upon termination of the revolving credit agreement. There were no outstanding borrowings under the credit facility as of March 31, 2012, or December 31, 2011.
H. ACCRUED LIABILITIES
Accrued liabilities consisted of the following at:
Accrued royalties are primarily comprised of royalties owed on net sales of CUBICIN under Cubist’s license agreement with Eli Lilly & Co., or Eli Lilly. Accrued royalties decreased at March 31, 2012, as compared to December 31, 2011, due to the semi-annual royalty payment made to Eli Lilly in February 2012. Accrued bonus decreased at March 31, 2012, as compared to December 31, 2012, due to payment of annual performance-based bonuses during the three months ended March 31, 2012.
I. INVENTORY
Inventories consisted of the following at:
Raw materials included in other assets within the condensed consolidated balance sheets as of March 31, 2012, and December 31, 2011, represent the amount of ENTEREG inventory held that is in excess of the amount expected to be sold within one year. In connection with the acquisition of Adolor in December 2011, Cubist recorded the acquired ENTEREG inventory at its fair value, which required a step-up adjustment to recognize the inventory at its expected net realizable value. The inventory step-up is recorded to cost of product revenues within the condensed consolidated statements of comprehensive income as the related inventory is sold, which is expected to be over a period of approximately eight years.
J. EMPLOYEE STOCK BENEFIT PLANS
Summary of Stock-Based Compensation Expense
Stock-based compensation expense recorded in the condensed consolidated statements of comprehensive income for the three months ended March 31, 2012 and 2011, is as follows:
General Option Information
A summary of option activity for the three months ended March 31, 2012, is as follows:
RSU Information
A summary of RSU activity for the three months ended March 31, 2012, is as follows:
K. SEGMENT INFORMATION
Cubist has one operating segment, the research, development and commercialization of pharmaceutical products that address unmet medical needs in the acute care environment. The Company’s entire business is managed by a single management team, which reports to the Chief Executive Officer. For the three months ended March 31, 2012 and 2011, the Company generated approximately 93% and 95% of revenues, respectively, within the U.S.
L. INCOME TAXES
The following table summarizes the Company’s effective tax rates and income tax provisions for the three months ended March 31, 2012 and 2011:
The effective tax rate of 36.3% for the three months ended March 31, 2012, differs from the U.S. federal statutory income tax rate of 35.0%, primarily due to the impact of non-deductible contingent consideration expense and state income taxes, partially offset by a tax benefit recognized during the three months ended March 31, 2012, related to the federal domestic manufacturing deduction under Section 199 of the Internal Revenue Code, which also contributed to a decrease in the effective tax rate for the three months ended March 31, 2012, as compared to the three months ended March 31, 2011. The effective tax rate for the three months ended March 31, 2012, does not include federal research and development tax credits, which expired at the end of 2011. The reinstatement of the credit is likely to be extended and could have an impact on the Company’s effective tax rate in future periods.
As of December 31, 2011, the Company has federal, foreign and state net operating loss, or NOL, carryforwards of $157.1 million, $2.3 million and $32.9 million, respectively. Included in the NOLs are state NOLs of $2.0 million attributable to excess tax benefits from the exercise of non-qualified stock options. The tax benefits attributable to these NOLs are credited directly to additional paid-in capital when realized. These NOLs expire between 2012 and 2030. Of the total federal NOLs, approximately $149.0 million relate to NOLs that were acquired in connection with the acquisition of Adolor. These NOLs are subject to limitation under the Internal Revenue Code, Section 382, which limits the amount of NOLs and credit carryforwards that may be utilized following an ownership change. The Company expects to utilize approximately $33.1 million of Adolor’s federal NOLs in 2012.
As of March 31, 2012, the Company had $28.1 million of uncertain tax positions, of which $14.2 million was included in other long-term liabilities within the condensed consolidated balance sheet and $13.9 million was offset against certain tax attributes. The Company anticipates that $14.9 million of uncertain tax positions related to its state filing positions will be resolved during 2012.
M. LEGAL PROCEEDINGS
In February 2012, the Company received a Paragraph IV Certification Notice Letter from Hospira, Inc., or Hospira, notifying Cubist that it has submitted an Abbreviated New Drug Application, or ANDA, to the U.S. Food and Drug Administration, or FDA, seeking approval to market a generic version of CUBICIN. Hospira’s notice letter advised that it is seeking FDA approval to market daptomycin for injection prior to the expiration of U.S. Patent Nos. 6,468,967 and 6,852,689, which expire on September 24, 2019, U.S. Patent No. RE39,071, which expires on June 15, 2016, U.S. Patent No. 8,058,238, which expires on November 28, 2020, and U.S. Patent No. 8,003,673, which expires on September 4, 2028. Each of these patents is listed in the FDA’s list of “Approved Drug Products with Therapeutic Equivalence Evaluations” (commonly referred to as the “Orange Book”). The notice letter further stated that Hospira is asserting that each claim in the referenced patents is invalid, and/or unenforceable and/or will not be infringed by the commercial manufacture, use or sale of the drug product described by Hospira’s ANDA. On March 21, 2012, Cubist filed a patent infringement lawsuit against Hospira in response to its ANDA filing. The complaint, which was filed in the U.S. District Court for the District of Delaware, alleges infringement of U.S. Patent Nos. 6,468,967; 6,852,689; RE39,071; and 8,058,238. The complaint seeks (i) an order preventing the effective date of the FDA’s approval of Hospira’s ANDA until the expiration of the patents in the lawsuit; (ii) an order preventing Hospira from making, using, selling, offering for sale, marketing, distributing or importing Hospira’s generic version of CUBICIN; and (iii) an award of attorney’s fees. By statute, the FDA is automatically prohibited from approving Hospira’s ANDA for 30 months from Cubist’s receipt of Hospira’s Paragraph IV notification letter unless the court enters a judgment finding the patents invalid, unenforceable or not infringed before expiration of the 30-month period or otherwise shortens the 30-month period. An unappealable adverse result in the litigation would likely have a material adverse effect on the Company’s results of operation and financial condition.
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS
This document contains and incorporates by reference “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, or the Securities Act, and Section 21E of the Securities Exchange Act of 1934, or the Exchange Act. In some cases, these statements can be identified by the use of forward-looking terminology such as “may,” “will,” “could,” “should,” “would,” “expect,” “anticipate,” “continue” or other similar words. These statements discuss future expectations, contain projections of results of operations or of financial condition, or state trends and known uncertainties or other forward-looking information. You are cautioned that forward-looking statements are based on current expectations and are inherently uncertain. Actual performance and results of operations may differ materially from those projected or suggested in the forward-looking statements due to certain risks and uncertainties, including the risks and uncertainties described or discussed in Item 1A under the heading “Risk Factors” in Part II of this report. The forward-looking statements contained and incorporated herein represent our judgment as of the date of this Quarterly Report on Form 10-Q, and we caution readers not to place undue reliance on such statements. The information contained in this Quarterly Report on Form 10-Q is provided by us as of the date of this Quarterly Report on Form 10-Q, and, except as required by law, we do not undertake any obligation to update any forward-looking statements contained in this document as a result of new information, future events or otherwise.
Forward-looking statements in this Quarterly Report on Form 10-Q include, without limitation, statements regarding our expectations with respect to:
This Management’s Discussion and Analysis of Financial Condition and Results of Operations, or MD&A, is provided in addition to the condensed consolidated financial statements and accompanying notes to assist readers in understanding our results of operations, financial condition and cash flows. We have organized the MD&A as follows:
· Overview: This section provides a summary of our financial highlights, business developments and product and product pipeline updates for the three months ended March 31, 2012.
· Results of Operations: This section provides a review of our results of operations for the three months ended March 31, 2012 and 2011.
· Liquidity and Capital Resources: This section provides a summary of our financial condition, including our sources and uses of cash, capital resources, commitments and liquidity.
· Commitments and Contingencies: This section provides a summary of our material legal proceedings and commitments and contingencies that are outside our normal course of business, as well as our commitment to make potential future milestone payments to third parties as part of our various business agreements.
· Critical Accounting Policies and Estimates: This section describes our critical accounting policies and the significant judgments and estimates that we have made in preparing our condensed consolidated financial statements.
· Recent Accounting Pronouncements: This section provides a summary of recently issued accounting pronouncements.
Overview
We are a biopharmaceutical company headquartered in Lexington, Massachusetts, focused on the research, development and commercialization of pharmaceutical products that address unmet medical needs in the acute care environment. Such products and product candidates are used, or are being developed to be used in hospitals and other acute care settings, including home infusion and hospital outpatient clinics. Cubist has two marketed products, CUBICIN and ENTEREG, which we acquired in connection with the acquisition of Adolor Corporation, or Adolor, in December 2011. We also co-promote DIFICID in the United States, or U.S., under our co-promotion agreement with Optimer Pharmaceuticals, Inc., or Optimer. In addition, Cubist has three drug candidates in late-stage clinical trials and several pre-clinical programs addressing areas of significant medical needs.
CUBICIN is a once-daily, bactericidal, intravenous antibiotic with proven activity against methicillin-resistant Staphylococcus aureus (S. aureus), or MRSA. CUBICIN is approved in the U.S., the European Union, or EU, and many other countries for the treatment of certain infections caused by Gram-positive bacteria, including treatment for certain bloodstream infections. ENTEREG is approved in the U.S. to accelerate upper and lower gastrointestinal, or GI, recovery following partial large or small bowel resection surgery with primary anastomosis. ENTEREG is not approved for marketing outside of the U.S. DIFICID is used for the treatment of Clostridium difficile-associated diarrhea, or CDAD.
Financial Highlights
The following table is a summary of our financial results for the periods presented:
Business Developments
The following is a summary of significant business developments that occurred during the three months ended March 31, 2012, or that impacted the period thereof. For additional 2011 developments or for a more comprehensive discussion of certain developments discussed below, see our Annual Report on Form 10-K for the year ended December 31, 2011, or 2011 Form 10-K, filed with the Securities and Exchange Commission, or SEC, on February 27, 2012.
ANDA Notification/Patent Litigation in U.S.
In February 2012, we received a Paragraph IV Certification Notice Letter from Hospira, Inc., or Hospira, notifying us that it has submitted an Abbreviated New Drug Application, or ANDA, to the U.S. Food and Drug Administration, or FDA, seeking approval to market a generic version of CUBICIN. Hospira’s notice letter advised that it is seeking FDA approval to market daptomycin for injection prior to the expiration of U.S. Patent Nos. 6,468,967 and 6,852,689, which expire on September 24, 2019, U.S. Patent No. RE39,071, which expires on June 15, 2016, U.S. Patent No. 8,058,238, which expires on November 28, 2020, and U.S. Patent No. 8,003,673, which expires on September 4, 2028. Each of these patents is listed in the FDA’s list of “Approved Drug Products with Therapeutic Equivalence Evaluations,” or the Orange Book. The notice letter further stated that Hospira is asserting that each claim in the referenced patents is invalid, and/or unenforceable and/or will not be infringed by the commercial manufacture, use or sale of the drug product described by Hospira’s ANDA. On March 21, 2012, Cubist filed a patent infringement lawsuit against Hospira in response to its ANDA filing. The complaint, which was filed in the U.S. District Court for the District of Delaware, alleges infringement of U.S. Patent Nos. 6,468,967; 6,852,689; RE39,071; and 8,058,238. The complaint seeks (i) an order preventing the effective date of the FDA’s approval of Hospira’s ANDA until the expiration of the patents in the lawsuit; (ii) an order preventing Hospira from making, using, selling, offering for sale, marketing, distributing or importing Hospira’s generic version of CUBICIN; and (iii) an award of attorney’s fees. By statute, the FDA is automatically prohibited from approving Hospira’s ANDA for 30 months from Cubist’s receipt of Hospira’s Paragraph IV notification letter unless the court enters a judgment finding the patents invalid, unenforceable or not infringed before expiration of the 30-month period or otherwise shortens the 30-month period.
An unappealable adverse result in the litigation would likely have a material adverse effect on our results of operation and financial condition. We are confident in our intellectual property portfolio protecting CUBICIN, including the patents listed in the Orange Book.
Acquisition of Adolor
In December 2011, we completed our acquisition of Adolor. Under the terms of the agreement and plan of merger, we paid Adolor’s former stockholders $4.25 in cash for each share of Adolor common stock, or approximately $220.8 million, in aggregate, which we funded from our existing cash balances. Adolor’s former stockholders also received one non-transferable contingent payment right, or CPR, which represents the right to receive up to an additional $4.50 for each share of Adolor common stock owned, or up to approximately $233.8 million in aggregate, which Cubist will pay upon achievement of certain regulatory milestones, sales milestones or a combination of both, related to CB-5945. The fair value of the purchase price was estimated to be $331.0 million and was allocated to the tangible assets and identifiable intangible assets acquired and liabilities assumed on the basis of their fair values at the date of acquisition. See Note C., “Business Combinations and Acquisitions,” in the accompanying notes to condensed consolidated financial statements for additional information.
Product and Product Pipeline Updates
In April 2012, we announced that a Phase 4 clinical study of ENTEREG in patients undergoing radical cystectomy met its primary endpoint of time to achieve recovery of both upper and lower GI function. We expect to submit an sNDA seeking label expansion for the use of ENTEREG to accelerate the time to upper and lower GI recovery in patients undergoing this procedure by the end of 2012.
We are building a pipeline of acute care therapies through our business development efforts and progressing compounds into clinical development that we have developed internally.
We are developing ceftolozane/tazobactam, or CXA-201, as a potential therapy for the treatment of certain serious Gram-negative bacterial infections in the hospital, including those caused by multi-drug-resistant Pseudomonas aeruginosa. First patient enrollment in a Phase 3 clinical trial for complicated intra-abdominal infections, or cIAI, occurred in December 2011, which triggered a $30.0 million milestone payment that we made to the former stockholders of Calixa Therapeutics Inc., or Calixa, in January 2012. We plan to file a New Drug Application, or NDA, for complicated urinary tract infections, or cUTI, and cIAI indications by the end of 2013 and a subsequent filing of a marketing authorization application outside the U.S., assuming positive Phase 3 clinical trial results in both cUTI and cIAI. We also are planning to pursue the development of CXA-201 as a potential treatment for hospital-acquired bacterial pneumonia, or HABP, and ventilator-associated bacterial pneumonia, or VABP, and expect to begin Phase 3 clinical trials of CXA-201 in these indications in the second half of 2012.
We are also developing CB-315 (formerly known as CB-183,315) and CB-5945 as a potential treatment for CDAD and chronic opioid-induced constipation, or OIC, respectively. We expect to initiate Phase 3 clinical trials for CDAD in the first half of 2012 and for OIC by the end of 2012.
Results of Operations for the Three Months Ended March 31, 2012 and 2011
Revenues
The following table sets forth net revenues for the periods presented:
Product Revenues, net
Cubist’s net U.S. product revenues included $184.7 million of sales of CUBICIN and $9.4 million of sales of ENTEREG for the three months ended March 31, 2012, as compared to $153.7 million of net U.S. product revenues from sales of CUBICIN for the three months ended March 31, 2011. We did not have any ENTEREG revenues for the three months ended March 31, 2011, because we had not yet acquired Adolor. Gross U.S. product revenues totaled $224.1 million and $174.4 million for the three months ended March 31, 2012 and 2011, respectively. The $49.7 million increase in gross U.S. product revenues was due to: (i) the addition of ENTEREG to our product portfolio in December 2011; (ii) price increases of 5.5% for CUBICIN in both July 2011 and January 2012, which resulted in $21.7 million of additional gross U.S. product revenues; and (iii) an increase of approximately 10.3% in vial sales of CUBICIN in the U.S., which resulted in higher gross U.S. product revenues of $18.1 million.
Gross U.S. product revenues are offset by provisions for the three months ended March 31, 2012 and 2011, as follows:
Contractual adjustments include pricing and early payment discounts extended to our external customers, as well as provisions for sales returns and wholesaler distribution fees. Governmental rebates represent estimated amounts for Medicaid and Medicare coverage gap discount programs, as well as chargebacks related to 340B/Public Health Service, or 340B/PHS, and Federal Supply Schedule, or FSS, drug pricing programs. The increase in provisions against gross product revenue was primarily driven by increases in chargebacks, Medicaid rebates, including the amount of rebates and the number of individuals eligible to participate in the Medicaid program, and pricing discounts due to increased U.S. sales of CUBICIN and the price increases described above.
International product revenues increased $4.4 million for the three months ended March 31, 2012, as compared to the three months ended March 31, 2011, primarily related to an increase in product sold to Novartis AG, or Novartis, and Merck & Co., Inc., or Merck, through its wholly-owned subsidiary, MSD Japan, for their distribution of CUBICIN in the EU and Japan, respectively. CUBICIN was commercially launched by Merck in Japan in September 2011.
Service Revenues
For the three months ended March 31, 2012, service revenues were $3.7 million. There were no sevice revenues for the three months ended March 31, 2011. Service revenues for the three months ended March 31, 2012, represent the ratable recognition of the quarterly service fee earned in accordance with the co-promotion agreement we entered into with Optimer in April 2011 to promote and provide medical affairs support for DIFICID in the U.S. See Note A., “Basis of Presentation and Accounting Policies,” in the accompanying notes to condensed consolidated financial statements for additional information.
Costs and Expenses
The following table sets forth costs and expenses for the periods presented:
Cost of Product Revenues
Cost of product revenues were $53.9 million and $36.6 million for the three months ended March 31, 2012 and 2011, respectively. Included in our cost of product revenues are royalties owed on worldwide net sales of CUBICIN and ENTEREG under our license agreements with Eli Lilly & Co., or Eli Lilly, costs to procure, manufacture and distribute CUBICIN and ENTEREG, and the amortization expense related to certain intangible assets. The increase in our cost of product revenues during the three months ended March 31, 2012, as compared to the three months ended March 31, 2011, is primarily attributable to the increase of sales of CUBICIN, the addition of ENTEREG to our product portfolio and amortization expense of $4.6 million related to the ENTEREG intangible asset. Our gross margin for the three months ended March 31, 2012 and 2011, was 74% and 77%, respectively. The decrease in our gross margin percentage from the three months ended March 31, 2011, is primarily due to amortization expense related to the ENTEREG intangible asset and an increase in inventory write-offs. We expect our gross margin percentage for the remainder of 2012 to decrease slightly from our gross margin percentage in 2011 due to ENTEREG.
Research and Development Expense
Research and development expense for the three months ended March 31, 2012 and 2011, consisted of the following:
The increase in research and development expenses for the three months ended March 31, 2012, as compared to the three months ended March 31, 2011, is primarily due to an increase of $4.9 million in employee-related expenses due to additional headcount, $3.3 million in manufacturing process development expenses to support the clinical trials of CXA-201 and CB-315 and $3.1 million in clinical trial expenses primarily related to CB-315 and CB-625 (formerly known as CB-189,625).
Contingent Consideration Expense
Contingent consideration expense for the three months ended March 31, 2012 and 2011, represents the change in the fair value of the contingent consideration liability due to the time value of money. The contingent consideration liability relates to potential amounts payable to Calixa’s former stockholders pursuant to our agreement to acquire Calixa in December 2009 and to Adolor’s former stockholders pursuant to our agreement to acquire Adolor in December 2011.
Contingent consideration expense may fluctuate significantly in future periods depending on changes in estimates, including probabilities associated with achieving the milestones and the period in which we estimate these milestones will be achieved.
Selling, General and Administrative Expense
The increase in selling, general and administrative expense for the three months ended March 31, 2012, as compared to the three months ended March 31, 2011, is primarily due to an increase of $4.3 million in employee-related expenses, which includes salaries, benefits and stock-based compensation, partially offset by a decrease in legal expenses primarily as a
result of the settlement of the patent infringement litigation with Teva Parenteral Medicines, Inc., or Teva, and its affiliates in April 2011.
Other Income (Expense), net
The following table sets forth other income (expense), net, for the periods presented:
Interest Expense
The increase in interest expense for the three months ended March 31, 2012, as compared to the three months ended March 31, 2011, primarily relates to the increase in debt discount amortization on our 2.50% convertible senior notes, or 2.50% Notes, and the cessation of capitalizing interest as a result of substantially completing construction at 65 Hayden Avenue in Lexington, Massachusetts, in December 2011.
Provision for Income Taxes
The following table summarizes the effective tax rates and income tax provisions for the periods presented:
The effective tax rate of 36.3% for the three months ended March 31, 2012, differs from the U.S. federal statutory income tax rate of 35.0%, primarily due to the impact of non-deductible contingent consideration expense and state income taxes, partially offset by a tax benefit we recognized during the three months ended March 31, 2012, related to the federal domestic manufacturing deduction under Section 199 of the Internal Revenue Code, which also contributed to a decrease in the effective tax rate for the three months ended March 31, 2012, as compared to the three months ended March 31, 2011. The effective tax rate for the three months ended March 31, 2012, does not include the federal research and development tax credits, which expired at the end of 2011. The reinstatement of the credit is likely to be extended and could have an impact on our effective tax rate in future periods.
We anticipate that $14.9 million of uncertain tax positions related to our state filing positions will be resolved during 2012.
Liquidity and Capital Resources
Currently, we require cash to fund our working capital needs, to purchase capital assets, and to pay our debt service, including principal and interest. We fund our cash requirements primarily through sales of CUBICIN and equity and debt financings. We expect to incur significant expenses in the future for the continued development and commercialization of CUBICIN, the development of our other drug candidates, particularly CXA-201, CB-315 and CB-5945, investments in other product opportunities and our business development activities.
A summary of our cash, cash equivalents, investments and certain financial obligations is summarized as follows:
Based on our current business plan, we believe that our available cash, cash equivalents, investments and projected cash flows from revenues will be sufficient to fund our operating expenses, debt obligations, contingent payments under our license and collaboration agreements and capital requirements for the foreseeable future. Certain economic or strategic factors may require that we seek to raise additional cash by selling debt or equity securities. However, such funds may not be available when needed, or we may not be able to obtain funding on favorable terms, or at all, particularly if the credit and financial markets are constrained at the time we require funding.
Investments
We have investments in bank deposits, corporate and municipal notes, U.S. Treasury securities and federal agency securities. See Note A., “Basis of Presentation and Accounting Policies” and Note B., “Investments,” in the accompanying notes to condensed consolidated financial statements for additional information.
Borrowings and Other Liabilities
We have convertible debt outstanding as of March 31, 2012, related to our 2.50% Notes, due November 2017, and our 2.25% convertible subordinated notes, or 2.25% Notes, due June 2013. Both debt instruments are convertible into common stock upon satisfaction of certain conditions and require semi-annual interest payments. See Note G., “Debt,” in the accompanying notes to condensed consolidated financial statements for additional information.
As a result of the acquisition of Adolor, we assumed an obligation to pay Glaxo Group Limited, or Glaxo, annual payments aggregating to $22.5 million. See Note G., “Debt,” in the accompanying notes to condensed consolidated financial statements for additional information.
We also have a $90.0 million revolving credit facility with RBS Citizens National Association, or RBS Citizens, for general corporate purposes. There were no outstanding borrowings under the credit facility as of March 31, 2012, and December 31, 2011. See Note G., “Debt,” in the accompanying notes to condensed consolidated financial statements for additional information.
Repurchases of Common Stock, Convertible Subordinated Notes or Convertible Senior Notes Outstanding
From time to time, our Board of Directors may authorize us to repurchase shares of our common stock or repurchase or redeem our outstanding 2.25% Notes and 2.50% Notes pursuant to the terms of the convertible notes, in privately-negotiated transactions, publicly-announced programs or otherwise. If and when our Board of Directors should determine to authorize any such action, it would be on terms and under market conditions that the Board of Directors determines are in the best interest of Cubist and its stockholders. Any such repurchases or redemptions could deplete some of our cash resources.
Cash Flows
Our net cash flows are as follows:
Operating Activities
Net cash provided by operating activities for the three months ended March 31, 2012, was $1.2 million, as compared to $10.5 million for the three months ended March 31, 2011. Net cash provided by operating activities for the three months ended March 31, 2012, was impacted by a milestone payment to Calixa’s former stockholders in January 2012 as a result of first patient enrollment in Phase 3 clinical trials for cIAI in 2011, of which $17.4 million was included within net cash provided by operating activities, as it relates to the amount of the milestone payment in excess of its acquisition-date fair value. Net cash provided by operating activities was also impacted by a $29.3 million increase in the change in accounts payable and accrued liabilities for the three months ended March 31, 2012, as compared to the three months ended March 31, 2011, which is primarily due to increases in royalties paid to Eli Lilly on sales of CUBICIN and payments of annual performance-based bonuses.
In connection with our acquisition of Adolor, we committed to a restructuring program in the fourth quarter of 2011, which included severance benefits to former Adolor employees and execution of a lease termination agreement for Adolor’s operating lease for its facility in Exton, Pennsylvania. We incurred charges of $9.3 million in the fourth quarter of 2011 related to these activities. We paid $3.6 million in employee-related severance during the three months ended March 31, 2012. The remaining severance payments will be made through the first half of 2013 using our existing cash balances. See Note C., “Business Combinations and Acquisitions,” in the accompanying notes to condensed consolidated financial statements for additional information.
Investing Activities
Net cash used in investing activities for the three months ended March 31, 2012 and 2011, was $33.9 million and $61.3 million, respectively. Net cash used in investing activities for the three months ended March 31, 2012, primarily consisted of $25.8 million of net purchases of investments and $8.1 million of purchases of property and equipment. Net cash used in investing activities for the three months ended March 31, 2011, primarily consisted of $47.6 million of net purchases of investments as well as $13.7 million of purchases of property and equipment primarily related to costs incurred for the expansion of our facility at 65 Hayden Avenue, Lexington, Massachusetts.
Financing Activities
Net cash provided by financing activities for the three months ended March 31, 2012 and 2011, was $2.4 million and $10.7 million, respectively. Net cash provided by financing activities for the three months ended March 31, 2012, included $12.0 million of cash received from employees’ exercise of stock options and purchases of common stock through our employee stock purchase plan, as well as a $3.0 million credit to additional paid-in capital relating to excess tax benefits from stock-based awards. This was partially offset by a milestone payment to Calixa’s former stockholders in January 2012 as a result of first patient enrollment in Phase 3 clinical trials for cIAI in 2011, of which the acquisition-date fair value of $12.6 million was included within net cash provided by financing activities. Net cash provided by financing activities for the three months ended March 31, 2011, included $2.8 million of cash received from employees’ exercise of stock options and purchases of common stock through our employee stock purchase plan along with excess tax benefits from stock-based awards of $7.9 million.
Commitments and Contingencies
Legal Proceedings
In February 2012, we received a Paragraph IV Certification Notice Letter from Hospira notifying us that it has submitted an ANDA to the FDA seeking approval to market a generic version of CUBICIN. In March 2012, we filed a patent infringement lawsuit against Hospira in response to the ANDA filing. See the “Overview” section within this MD&A for additional information.
Business Agreements
Upon achievement of certain development, regulatory, or commercial milestones, we have committed to make potential future milestone payments to third parties as part of our various business agreements, including license, collaboration and commercialization agreements. Additional information regarding our business agreements can be found in Note C., “Business Agreements,” in the notes to consolidated financial statements in our 2011 Form 10-K.
Contingent Consideration
Adolor
If certain regulatory milestones, sales milestones or a combination of both are achieved, with respect to CB-5945, we have committed, under the terms of the acquisition agreement pursuant to which we acquired Adolor in December 2011, to make future payments to the former stockholders of Adolor. We granted non-transferable CPRs to the former stockholders of Adolor, which represent the right to receive additional payments above the upfront purchase price, up to a maximum amount of $4.50 for each share owned by Adolor’s former stockholders upon achievement of such milestones. The aggregate, undiscounted additional amount that Cubist could pay under the merger agreement ranges from zero to approximately $233.8 million.
Calixa
If certain development, regulatory, or commercial milestones are achieved with respect to CXA-201, or other products that incorporate a novel anti-pseudomonal cephalosporin, CXA-101, we have committed, under the terms of the merger agreement pursuant to which we acquired Calixa in December 2009, to make future milestone payments to the former stockholders of Calixa. First patient enrollment in Phase 3 clinical trials for cIAI triggered a $30.0 million milestone payment that we made to the former stockholders of Calixa in January 2012. We may be required to make up to an additional $220.0 million of undiscounted payments to the former stockholders of Calixa, including a $40.0 million milestone expected to be triggered in the second half of 2012 related to first patient enrollment in a Phase 3 clinical trial for HABP and VABP.
In accordance with accounting for business combinations guidance, contingent consideration liabilities are required to be recognized on our consolidated balance sheets at fair value. Estimating the fair value of contingent consideration requires the use of significant assumptions primarily relating to expectations regarding the probability of achieving certain development, regulatory, and sales milestones, the expected timing in which these milestones will be achieved, and a discount rate. The use of different assumptions could result in materially different estimates of fair value. As of March 31, 2012 and December 31, 2011, the contingent consideration related to the Adolor and Calixa acquisitions are our only financial liabilities measured and recorded using Level 3 inputs in accordance with accounting guidance for fair value measurements and represents 100% of the total financial liabilities measured at fair value. See Note D., “Fair Value Measurements,” in the accompanying notes to condensed consolidated financial statements for additional information.
Critical Accounting Policies and Estimates
We prepare our condensed consolidated financial statements in conformity with accounting principles generally accepted in the U.S., or GAAP. The preparation of consolidated financial statements requires estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosure of contingent assets and liabilities. Actual results may differ from these estimates. The accounting policies that we believe are most critical to fully understand our consolidated financial statements include those relating to: revenue recognition; inventories; clinical research costs; investments; business combinations; intangible assets and impairment; income taxes; accounting for stock-based compensation and contingent consideration.
Our critical accounting policies and the methodologies and assumptions we apply under them have not materially changed since February 27, 2012, the date we filed our 2011 Form 10-K. For more information on our critical accounting policies, refer to our 2011 Form 10-K.
Recent Accounting Pronouncements
None.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
There has been no material change in our exposure to market risk since December 31, 2011. For discussion of our market risk exposure, refer to Item 7A., “Quantitative and Qualitative Disclosures About Market Risk,” in our 2011 Form 10-K.
The potential change in the fair value of our fixed-rate investments has been assessed on a hypothetical 100 basis point adverse movement across all maturities. We estimate that such hypothetical adverse 100 basis point movement would result in a decrease in fair value of $2.5 million on our fixed-rate investments as of March 31, 2012. In addition to interest risk, we are subject to liquidity and credit risk as it relates to these investments.
As of March 31, 2012, the fair value of the 2.25% Notes and 2.50% Notes was estimated by us to be $157.5 million and $720.1 million, respectively. As of December 31, 2011, the fair value of the 2.25% Notes and 2.50% Notes was estimated by us to be $146.6 million and $675.6 million, respectively. We determined the estimated fair value of the 2.25% Notes and 2.50% Notes by using quoted market rates. If interest rates were to increase by 100 basis points, the fair value of our 2.25% Notes and our 2.50% Notes would decrease by approximately $0.2 million and $2.9 million, respectively, as of March 31, 2012.
ITEM 4. CONTROLS AND PROCEDURES
We maintain disclosure controls and procedures designed to ensure that we are able to collect the information we are required to disclose in the reports we file with the SEC and to process, summarize and disclose this information within the time periods specified in the rules and forms of the SEC. Based on the evaluation of our disclosure controls and procedures (as defined in the Exchange Act, Rules 13a-15(e) and 15d-15(e)) as of March 31, 2012, our Chief Executive Officer and Chief Financial Officer have concluded that such disclosure controls and procedures are effective to ensure that information required to be disclosed in our periodic reports filed under the Exchange Act is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure and is recorded, processed, summarized and reported within the time periods specified by the SEC’s rules and forms.
There has been no change in our internal control over financial reporting during the three months ended March 31, 2012, that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
See Note M., “Legal Proceedings,” in the accompanying notes to condensed consolidated financial statements within Item 1 of Part I in this report, which is incorporated herein by reference.
Our future operating results could differ materially from the results described in this report due to the risks and uncertainties related to our business, including those discussed below. Furthermore, these factors represent risks and uncertainties that could cause actual results to differ materially from those implied by forward-looking statements. We refer you to our “Cautionary Note Regarding Forward-Looking Statements,” which identifies some of the forward-looking statements in this report.
Risks Related to Our Business
We depend heavily on the continued commercial success of CUBICIN.
For the foreseeable future, our ability to maintain and grow revenues will depend primarily on the commercial success of CUBICIN in the U.S., which depends, among other things, upon CUBICIN’s continued acceptance by the medical community and the future market demand and medical need for CUBICIN. CUBICIN is approved in the U.S. as a treatment for complicated skin and skin structure infections, or cSSSI, and S. aureus bloodstream infections (bacteremia), including those with right-sided infective endocarditis caused by methicillin-susceptible and methicillin-resistant isolates.
We cannot be sure that CUBICIN will continue to be accepted by hospitals, physicians and other health care providers for its approved indications in the U.S., particularly as the market into which CUBICIN is sold has grown only modestly, and economic problems persist, leading to increased efforts by hospitals and others to minimize expenditures by encouraging the purchase of lower-cost alternative therapies, including generic products like vancomycin, patients electing lower-cost alternative therapies due to increased out-of-pocket costs, patients choosing to have fewer elective surgeries and
other procedures, and lower overall admissions to hospitals. CUBICIN also faces intense competition in the U.S. from a number of currently-approved antibiotic drugs manufactured and marketed by major pharmaceutical companies. CUBICIN will likely in the future compete with other drugs that are currently in late-stage clinical development.
The degree of continued market acceptance of CUBICIN in the U.S., and our ability to grow revenues from the sale of CUBICIN, depends on a number of additional factors, including those set forth below and the other CUBICIN-related risk factors described in this “Risk Factors” section:
· the continued safety and efficacy of CUBICIN, both actual and perceived;
· target organisms developing resistance to CUBICIN;
· unanticipated adverse reactions to CUBICIN in patients;
· maintaining prescribing information, also known as a label, that is substantially consistent with current prescribing information for CUBICIN in the U.S. and other jurisdictions where CUBICIN is sold;
· the rate of growth, if any, of the overall market into which CUBICIN is sold, including the market for products to treat MRSA skin and bloodstream infections;
· the ability to maintain or increase the opportunities for our sales force to provide clinical information to those physicians who treat patients for whom CUBICIN would be appropriate, particularly in the face of increasing restrictions on sales professionals’ access to physicians;
· the ability to maintain and enforce U.S. and foreign patent protection for CUBICIN, including in the face of challenges, such as Hospira’s submission of an ANDA to the FDA seeking approval to market a generic version of CUBICIN and asserting that each claim in our patents protecting CUBICIN in the U.S. is invalid, and/or unenforceable and/or will not be infringed by the commercial manufacture, use or sale of the drug product described by Hospira’s ANDA;
· the ability to maintain and grow market share and vial sales as the price of CUBICIN increases in a market that has shown only modest growth;
· the advantages and disadvantages of CUBICIN, both actual and perceived, compared to alternative therapies with respect to cost, availability of reimbursement, convenience, safety, efficacy and other factors;
· whether the Federal Trade Commission, or FTC, Department of Justice, or DOJ, or a third party seeks to challenge and is successful in such challenge of our settlement agreement with Teva and its affiliates;
· the impact on physicians’ perception and use of CUBICIN as a result of treatment guidelines that are published from time to time, including the treatment guidelines for MRSA infections published by the Infectious Diseases Society of America in early 2011;
· the ability of our third-party manufacturers, including our single source provider of the active pharmaceutical ingredient, or API, for CUBICIN and our two finished drug product suppliers (one of which is an affiliate of Hospira, the company that recently submitted an ANDA to the FDA, seeking to market its own generic version of CUBICIN), to manufacture, store, release and deliver sufficient quantities of CUBICIN in accordance with current Good Manufacturing Practices, or cGMPs, and other requirements of the regulatory approvals for CUBICIN and to do so in accordance with a schedule to meet demand for our sales in the U.S. and for our supply obligations to our international CUBICIN distribution partners and to do so at an acceptable cost;
· the reimbursement policies of government and third-party payors;
· the level and scope of rebates, discounts, fees and other payments that we are required to pay or provide under federal government programs in the U.S., such as Medicare, Medicaid and the 340B/PHS drug pricing program;
· future legislative and policy changes in the U.S. and other jurisdictions where CUBICIN is sold, including any additional U.S. health care reform legislation, or health care reform, changes to the existing health care reform enacted in March 2010 under the Affordable Care Act, price controls or taxes on pharmaceutical sales, or adoption of a generic drug user fee act that would provide additional revenue to reduce the review time for ANDAs;
· maintaining the level of fees and discounts payable to distributors and wholesalers who distribute CUBICIN at the same or similar levels;
· the cost containment efforts of hospitals, particularly with respect to CUBICIN, which often represents the top antibiotic expense for hospital pharmacies and is a significant cost to them; and
· our ability to continue to successfully sell CUBICIN, begin selling ENTEREG and co-promote DIFICID in the U.S. using the same sales force, which has never commercialized three products at the same time.
We market and sell CUBICIN in the U.S. through our own sales force and marketing team. Significant turnover or changes in the level of experience of our sales and marketing personnel, particularly our most senior sales and marketing personnel, could impact our ability to effectively sell and market CUBICIN and ENTEREG and co-promote DIFICID.
As of March 31, 2012, CUBICIN had been approved or received an import license in more than 70 countries outside of the U.S. and is commercially available in more than 50 countries, including countries in the EU. Our partners may not be successful in launching or marketing CUBICIN in their markets. For example, to date, EU sales have grown more slowly than U.S. sales did in the same period after launch due primarily to lower MRSA rates both in and outside the hospital in some EU countries, an additional glycopeptide competitor (teicoplanin), which is not approved in the U.S., the evolving commercialization strategy and mix of resources that our EU partner, Novartis, has been using to commercialize CUBICIN, as well as other factors. Even if our international partners are successful in commercializing CUBICIN, we only receive a portion of the revenues from non-U.S. sales of CUBICIN.
Beginning with our acquisition of Adolor in December 2011, we are also generating revenues from our sales of ENTEREG in the U.S., although such revenues are anticipated to be much lower than our CUBICIN revenues. Our ability to successfully sell ENTEREG depends on many of the same factors listed above that may impact our sales of CUBICIN, but as they relate to ENTEREG, including a potential ANDA challenge which could occur as early as May 2012 (see the next risk factor) and the following additional risks:
· Our sales force has never sold ENTEREG before or any product for the indication for which ENTEREG is approved, bowel resection surgery with primary anastomosis;
· ENTEREG and our OIC product candidates are peripherally acting mu opioid receptor antagonists intended to mitigate the GI side effects associated with acute postoperative or chronic (long-term) opioid pain management. If the use of drugs or techniques that reduce the requirement for opioid analgesics becomes more widespread, the market for ENTEREG and our OIC product candidates would decrease. For example, postoperative use of non-opioid analgesics (e.g. non-steroidal anti-inflammatory drugs such as parenteral acetaminophen) may reduce total opioid requirements. Novel analgesics which target other opioid receptor subtypes, non-opioid receptors or pain pathways are under development that may, if approved, compete with mu opioid analgesics for acute or chronic pain management. If these analgesics significantly reduce the use of more traditional opioid analgesics, it would have a negative impact on the potential market for ENTEREG and our OIC product candidates; and
· ENTEREG was approved by the FDA subject to a Risk Evaluation and Mitigation Strategy, or REMS, and the product labeling carries a boxed warning that ENTEREG is available only for short-term (15 doses) use in hospitalized patients, consistent with the approved indication. The REMS is designed to maintain the benefits associated with short-term use in the bowel resection population and prevent long-term, outpatient use. Under the REMS, ENTEREG is available only to hospitals that perform bowel resection surgeries and that are enrolled in the Entereg Access Support and Education, or E.A.S.E.® program. If we were to provide ENTEREG to a hospital that is not enrolled in the E.A.S.E. program, we could face sanctions from the FDA.
We may not be able to obtain, maintain or protect proprietary rights necessary for the development and commercialization of CUBICIN, ENTEREG or our product candidates and research technologies.
CUBICIN Patents. The primary composition of matter patent covering CUBICIN in the U.S. has expired. We own or have licensed rights to a limited number of patents directed toward methods of administration, methods of treatment and methods of manufacture of CUBICIN, as well as a patent covering CUBICIN produced by certain processes. We cannot be sure that patents will be granted to us or to our international licensors or collaborators with respect to any of our or their pending patent applications for CUBICIN. Of particular concern for a company like ours that is dependent primarily upon one product to generate revenues and profits, which in our case is CUBICIN, is that third parties may seek to market generic | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||