AMRI Albany Molecular Research, Inc.

Note 1 — Summary of Operations and Significant Accounting Policies

Nature of Business and Operations

Albany Molecular Research, Inc. (the “Company”) is a leading global contract research and manufacturing organization providing customers fully integrated drug discovery, development, and manufacturing services. It supplies a broad range of services and technologies supporting the discovery and development of pharmaceutical products, the manufacturing of Active Pharmaceutical Ingredients (“API”) and the development and manufacturing of drug product for new and generic drugs, as well as research, development and manufacturing for the agrochemical and other industries. With locations in the United States, Europe, and Asia, the Company maintains geographic proximity to its customers and flexible cost models.

Basis of Presentation

The accompanying unaudited Condensed Consolidated Financial Statements have been prepared in accordance with U.S. generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. In accordance with Rule 10-01, the unaudited Condensed Consolidated Financial Statements do not include all of the information and footnotes required by U.S. generally accepted accounting principles for complete consolidated financial statements. The year-end Condensed Consolidated Balance Sheet data was derived from audited financial statements but does not include all disclosures required by U.S. generally accepted accounting principles. In the opinion of management, all adjustments (consisting of normal recurring accruals and adjustments) considered necessary for a fair statement of the results for the interim period have been included. Operating results for the three and nine month periods ended September 30, 2016 are not necessarily indicative of the results that may be expected for any other period or for the year ending December 31, 2016. The accompanying unaudited Condensed Consolidated Financial Statements should be read in conjunction with the audited Consolidated Financial Statements and Notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2015.

The accompanying unaudited Condensed Consolidated Financial Statements include the accounts of the Company and its wholly-owned subsidiaries as of and for the three and nine month periods ended September 30, 2016. All intercompany balances and transactions have been eliminated during consolidation. Assets and liabilities of non-U.S. operations are translated at period-end rates of exchange, and the statements of operations are translated at the average rates of exchange for the period. Gains or losses resulting from translating non-U.S. currency financial statements are recorded in the unaudited Condensed Consolidated Statements of Comprehensive Loss and in ‘Accumulated other comprehensive loss, net’ in the accompanying unaudited Condensed Consolidated Balance Sheets. When necessary, prior years’ unaudited Condensed Consolidated Financial Statements have been reclassified to conform to the current year presentation.

Use of Management Estimates

The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, and disclosures of contingent assets and liabilities, at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. The most significant estimates included in the accompanying consolidated financial statements include assumptions regarding the valuation of inventory, intangible assets, and long-lived assets, assumptions associated with the Company’s accounting for business combinations and goodwill impairment assessment, and the amount and realizability of deferred tax assets. Other significant estimates include assumptions utilized in determining actuarial obligations in conjunction with the Company’s pension and postretirement health plans, assumptions utilized in determining stock-based compensation, environmental remediation liabilities, as well as those utilized in determining the value of both the notes hedges and the notes conversion derivative and the assumptions related to the collectability of receivables. Actual results can vary from these estimates.

Contract Revenue Recognition

The Company’s contract revenue consists primarily of amounts earned under contracts with third-party customers and reimbursed expenses under such contracts. Reimbursed expenses consist of chemicals and other project specific costs. The Company also seeks to include provisions in certain contracts that contain a combination of up-front licensing fees, milestone and royalty payments should the Company’s proprietary technology and expertise lead to the discovery of new products that become commercial. Generally, the Company’s contracts may be terminated by the customer upon 30 days’ to two years’ prior notice, depending on the terms and/or size of the contract. The Company analyzes its agreements to determine whether the elements can be separated and accounted for individually or as a single unit of accounting in accordance with the Financial Accounting Standards Board’s (the “FASB”) Accounting Standards Codification (“ASC”) 605-25, “Revenue Arrangements with Multiple Deliverables,” and Staff Accounting Bulletin (“SAB”) 104, “Revenue Recognition.” Allocation of revenue to individual elements that qualify for separate accounting is based on the separate selling prices determined for each component, and total contract consideration is then allocated based on relative fair value across the components of the arrangement. If separate selling prices are not available, the Company will use its best estimate of such selling prices, consistent with the overall pricing strategy and after consideration of relevant market factors.

The Company generates contract revenue under the following types of contracts:

Fixed-Fee . Under a fixed-fee contract, the Company charges a fixed agreed-upon amount for a deliverable. Fixed-fee contracts have fixed deliverables upon completion of the project. Typically, the Company recognizes revenue for fixed-fee contracts after projects are completed and when delivery is made or title and risk of loss otherwise transfers to the customer, and collection is reasonably assured. In certain instances, the Company’s customers request that the Company retain materials produced upon completion of the project due to the fact that the customer does not have a qualified facility to store those materials or for other reasons. In these instances, the revenue recognition process is considered complete when project documents have been delivered to the customer, as required under the arrangement, or other customer-specific contractual conditions have been satisfied.

Full-time Equivalent (“FTE”) . An FTE agreement establishes the number of Company employees contracted for a project or a series of projects, the duration of the contract period, the price per FTE, plus an allowance for chemicals and other project specific costs, which may or may not be incorporated in the FTE rate. FTE contracts can run in one month increments, but typically have terms of six months or longer. FTE contracts typically provide for annual adjustments in billing rates for the scientists assigned to the contract.

These contracts involve the Company’s scientists providing services on a “best efforts” basis on a project that may involve a research component with a timeframe or outcome that has some level of unpredictability. There are no fixed deliverables that must be met for payment as part of these services. As such, the Company recognizes revenue under FTE contracts as services are performed according to the terms of the contract.

Time and Materials . Under a time and materials contract, the Company charges customers an hourly rate plus reimbursement for chemicals and other project specific costs. The Company recognizes revenue for time and materials contracts based on the number of hours devoted to the project multiplied by the customer’s billing rate plus other project specific costs incurred.

Recurring Royalty and Milestone Revenues

Recurring Royalty Revenue . Recurring royalties have historically related to royalties under a license agreement with Sanofi based on the worldwide net sales of fexofenadine HCl, marketed as Allegra in the Americas and Telfast elsewhere, as well as on sales of Sanofi’s authorized or licensed generics and sales by certain authorized sub-licensees. These royalty payments ceased in May 2015 due to the expiration of patents under the license agreement. The Company currently receives royalties on net sales of generic products sold by Allergan, plc (“Allergan”) in conjunction with a Development and Supply Agreement. The Company records royalty revenue in the period in which the net sales of the product occur. Royalty payments from Allergan are due within 60 days after each calendar quarter and are determined based on sales of the qualifying products in that quarter. The Company also receives royalties on certain other products.  

Up-Front License Fees and Milestone Revenue . The Company recognizes revenue from up-front non-refundable licensing fees on a straight-line basis over the period of the underlying project. The Company will recognize revenue arising from a substantive milestone payment upon the successful achievement of the event, and the resolution of any uncertainties or contingencies regarding potential collection of the related payment, or if appropriate over the remaining term of the agreement.

Proprietary Drug Development Arrangements

The Company has discovered and conducted the early development of several new drug candidates, and has out-licensed certain of these candidates to partners for further development in return for a potential combination of up-front license fees, milestone payments and recurring royalty payments if compounds resulting from the Company’s intellectual property are successfully developed into new drugs and reach the market. The Company does not anticipate milestone or recurring royalty payments under its current license arrangements for proprietary drug candidates to have a significant impact on the Company’s consolidated operating results, financial position, or cash flows.

Cash, Cash Equivalents and Restricted Cash

Cash equivalents consist of money market accounts and overnight deposits. For purposes of the consolidated statements of cash flows, the Company considers all highly liquid investments with a maturity of three months or less when purchased to be cash equivalents. The Company’s cash and cash equivalents are held principally at seven financial institutions and at times may exceed insured limits.  The Company has placed these funds in high quality institutions in order to minimize risk relating to exceeding insured limits.

Restricted cash balances at September 30, 2016 and December 31, 2015 are required pursuant to the Company’s Singapore lease agreements. The additional restricted cash balance at December 31, 2015 was required as collateral for the letters of credit associated with the Company’s debt agreements.

Long-Lived Assets

The Company assesses the impairment of a long-lived asset group whenever events or changes in circumstances indicate that its carrying value may not be recoverable. Factors the Company considers important that could trigger an impairment review include, among others, the following:

If the Company determines that the carrying value of long-lived assets may not be recoverable, based upon the existence of one or more of the above indicators of impairment, the Company compares the carrying value of the asset group to the undiscounted cash flows expected to be generated by the asset group. If the carrying value exceeds the undiscounted cash flows, an impairment charge is indicated. An impairment charge is recognized to the extent that the carrying amount of the asset group exceeds its fair value and will reduce only the carrying amounts of the long-lived assets.

Derivative Instruments and Hedging Activities

The Company accounts for derivatives in accordance with FASB ASC Topic 815, “Derivatives and Hedging,” which establishes accounting and reporting standards requiring that derivative instruments be recorded on the balance sheet as either an asset or a liability measured at fair value. Additionally, changes in a derivative’s fair value shall be recognized currently in earnings unless specific hedge accounting criteria are met. The Company recognizes changes in fair value associated with non-qualified derivatives in ‘Other (expense) income, net’ in the Condensed Consolidated Statements of Operations. If required hedge accounting criteria are met, then changes in fair value are recorded in accumulative other comprehensive loss, net.

Recently Issued Accounting Pronouncements

In October 2016, the FASB issued Accounting Standard Update (“ASU”) No. 2016-16, “Income Taxes (Topic 740): Intra-Entity Transfers of Assets other than Inventory,” which requires entities to recognize the tax impacts of all intra-entity sales of assets other than inventory even though the pre-tax effects of those transactions are eliminated in consolidation.  The new standard is effective for fiscal years beginning after December 15, 2017 and for interim periods therein with early adoption permitted. The new standard is required to be adopted in a modified retrospective approach, with a cumulative-effect adjustment recorded in retained earnings to write off any unamortized tax expense previously deferred and record any previously unrecognized net deferred tax assets. The Company is currently evaluating the impact this ASU will have on its consolidated financial statements. 

In August 2016, the FASB issued ASU No. 2016-15, “Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments,” which provides clarification guidance on eight specific cash flow presentation issues that have developed due to diversity in practice. The issues include, but are not limited to, debt prepayment or extinguishment costs, settlement of zero-coupon debt, proceeds from the settlement of insurance claims, and cash receipts from payments on beneficial interests in securitization transactions. The new standard is effective for fiscal years beginning after December 15, 2017 and for interim periods therein with early adoption permitted. The Company is currently evaluating the impact this ASU will have on its consolidated financial statements.

In May 2014, the FASB issued ASU No. 2014-09, “Revenue from Contracts with Customers: (Topic 606).” This ASU affects any entity that either enters into contracts with customers to transfer goods or services or enters into contracts for the transfer of nonfinancial assets unless those contracts are within the scope of other standards (e.g., insurance contracts or lease contracts). This ASU will supersede the revenue recognition requirements in ASC Topic 605, “Revenue Recognition,” and most industry-specific guidance. In addition, the existing requirements for the recognition of a gain or loss on the transfer of nonfinancial assets that are not in a contract with a customer (e.g., assets within the scope of ASC Topic 360, “Property, Plant, and Equipment,” and intangible assets within the scope of ASC Topic 350, “Intangibles-Goodwill and Other”) are amended to be consistent with the guidance on recognition and measurement (including the constraint on revenue) in this ASU. The core principle of the guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services.  In July 2015, the FASB deferred the effective date of ASU No. 2014-09. This ASU is effective for annual periods and interim periods within those annual periods beginning after December 15, 2017.  Early adoption is not permitted.

In March 2016, the FASB issued ASU No. 2016-08, “Revenue from Contracts with Customers (Topic 606): Principal versus Agent Considerations (Reporting Revenue Gross versus Net).” In April 2016, the FASB issued ASU No. 2016-10, “Revenue from Contracts with Customers (Topic 606): Identifying Performance Obligations and Licensing.” In May 2016, the FASB issued ASU No. 2016-12, “Revenue from Contracts with Customers (Topic 606): Narrow-Scope Improvements and Practical Expedients” and ASU No. 2016-11, “Revenue Recognition (Topic 605) and Derivatives and Hedging (Topic 815): Rescission of SEC Guidance Because of Accounting Standards Updates 2014-09 and 2014-16 Pursuant to Staff Announcements at the March 3, 2016 EITF Meeting.” These amendments provide additional clarification and implementation guidance on the previously issued ASU No. 2014-09, “Revenue from Contracts with Customers (Topic 606),” discussed above.

The amendments in ASU No. 2016-08 clarify how an entity should identify the specified good or service for the principal versus agent evaluation and how it should apply the control principle to certain types of arrangements. ASU No. 2016-10 clarifies the following two aspects of ASU No. 2014-09; identifying performance obligations and licensing implementation guidance. ASU No. 2016-11 rescinds several SEC Staff Announcements that are codified in Topic 605, including, among other items, guidance relating to accounting for consideration given by a vendor to a customer, as well as accounting for shipping and handling fees and freight services. ASU No. 2016-12 provides clarification to Topic 606 on how to assess collectability, present sales tax, treat noncash consideration, and account for completed and modified contracts at the time of transition. In addition, ASU No. 2016-12 clarifies that an entity retrospectively applying the guidance in Topic 606 is not required to disclose the effect of the accounting change in the period of adoption. The effective date and transition requirements for these amendments are the same as the effective date and transition requirements of ASU No. 2014-09. The Company is currently assessing the impact of these ASUs and ASU No. 2014-09 on its consolidated financial statements.

In March 2016, the FASB issued ASU No. 2016-09, “Compensation – Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting,” which changes the accounting for share-based payment transactions, including income tax consequences, classification of awards as either equity or liabilities, and classification in the statement of cash flows. The new standard is effective for fiscal years beginning after December 15, 2016 and for interim periods therein with early adoption permitted. The Company is currently evaluating the impact this ASU will have on its consolidated financial statements. 

In February 2016, the FASB issued ASU No. 2016-02, “Leases (Topic 842).” The new standard establishes a right-of-use (“ROU”) model that requires a lessee to record a ROU asset and a lease liability on the balance sheet for all leases with terms longer than 12 months. Leases will be classified as either finance or operating, with classification affecting the pattern of expense recognition in the income statement. The new standard is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. A modified retrospective transition approach is required for lessees for capital and operating leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements, with certain practical expedients available. The Company is currently evaluating the impact this ASU will have on its consolidated financial statements.

In July 2015, the FASB issued ASU No. 2015-11, “Simplifying the Measurement of Inventory.” This ASU simplifies the measurement of inventory by requiring certain inventory to be measured at the lower of cost or net realizable value. The amendments in this ASU are effective for fiscal years beginning after December 15, 2016 and for interim periods therein. The Company does not expect this ASU to have a material impact on its consolidated financial statements.

In August 2014, the FASB issued ASU No. 2014-15, “Presentation of Financial Statements-Going Concern (Subtopic 205-40): Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern,” which defines management’s responsibility to assess an entity’s ability to continue as a going concern, and to provide related footnote disclosures if there is substantial doubt about its ability to continue as a going concern. The pronouncement is effective for annual reporting periods ending after December 15, 2016, with early adoption permitted. The Company does not expect this ASU to have a material impact on its consolidated financial statements.

In June 2014, the FASB issued ASU No. 2014-12, “Compensation - Stock Compensation (Topic 718): Accounting for Share-Based Payments When the Terms of an Award Provide That a Performance Target Could Be Achieved after the Requisite Service Period.” This ASU requires that a performance target that affects vesting and that could be achieved after the requisite service period, be treated as a performance condition. This ASU is effective for annual periods and interim periods within those annual periods beginning after December 15, 2015. The adoption of this ASU as of January 1, 2016 did not have a material impact on the Company’s consolidated financial statements.

The Company has excluded certain outstanding stock options, non-vested restricted stock and warrants from the calculation of diluted earnings per share for the three and nine months ended September 30, 2016 and 2015 because of anti-dilutive effects. The weighted average number of anti-dilutive common equivalents outstanding (before the effects of the treasury stock method) was 11,838 and 11,962 for the three months ended September 30, 2016 and 2015, respectively, and 11,815 and 12,028 for the nine months ended September 30, 2016 and 2015, respectively. These amounts are not included in the calculation of weighted average common shares outstanding.

Note 3 — Business Acquisitions

Euticals

On July 11, 2016, the Company purchased from Lauro Cinquantasette S.p.A. all of the capital stock of Prime European Therapeuticals S.p.A., ("Euticals") (such acquisition, the “Euticals Acquisition”), a privately-held company headquartered in Lodi, Italy, specializing in custom synthesis and the manufacture of active pharmaceutical ingredients with a network of facilities located primarily in Italy, Germany, the U.S. and France.

The aggregate net purchase price was $279,376 (net of cash acquired of $20,784), which consisted of (i) the issuance of 7,051 unregistered shares of common stock subject to a six month lock-up provision, valued at $91,765 (net of lock-up provision discount of $9,633), (ii) the issuance of two unsecured promissory notes to Lauro Cinquantasette S.p.A. with a combined face value of €55,000, or $60,783, that were valued at $44,342 (net of an original issue discount of $16,441) (the “Euticals Seller Notes”), and (iii) $143,269 in cash. The purchase price is subject to certain working capital and debt-like items adjustments which have not yet be finalized by the Company and Lauro Cinquantasette S.p.A.

The aggregate purchase price has been preliminarily allocated based on an estimate of the fair value of assets and liabilities acquired as of the acquisition date. The allocation of acquisition consideration for Euticals is based on estimates, assumptions, valuations and other studies which have not yet been finalized in order to make a definitive allocation. The Company is finalizing the allocation of purchase price to intangibles, property and equipment, working capital, environmental remediation liabilities and income taxes. The following table summarizes the allocation of the preliminary aggregate purchase price to the estimated fair value of the net assets acquired:

The Company has attributed the goodwill of $69,502 to an expanded global footprint and additional market opportunities that the Euticals business offers primarily within the API, Discovery and Development Services (“DDS”) and Fine Chemicals (“FC”) segments. The goodwill is not deductible for tax purposes. Intangible assets acquired consisted of customer relationships of $7,184, with an estimated life of 9 years, developed technology of $49,179, with an estimated life of 16 years, and manufacturing intellectual property and know-how of $7,736, with an estimated life of 18 years.

Whitehouse Laboratories

On December 15, 2015, the Company acquired all the outstanding equity interests of Whitehouse Analytical Laboratories, LLC (“Whitehouse”), a leading provider of testing services that includes chemical and material analysis, method development and validation and quality control verification services to the pharmaceutical, medical device and personal care industries. Whitehouse offers a comprehensive array of testing solutions for life sciences from materials and excipients, container qualification and container closure integrity testing, routine analytical chemistry, drug delivery systems and device qualification programs, packaging, distribution, and stability and storage programs. The aggregate net purchase price was $55,986 (net of cash acquired of $377), which included the issuance of 137 shares of common stock, valued at $1,800, with the balance comprised of $53,924 in cash, plus a working capital adjustment of $262.

The purchase price was increased in the first quarter of 2016 by $262 due to the finalization of the net working capital adjustment. The purchase price was reduced in the first quarter of 2016 to recognize the discount associated with the 137 unregistered shares issued in conjunction with the Whitehouse acquisition in the amount of $200. These adjustments resulted in a net increase of goodwill of $62.

Gadea Grupo

On July 16, 2015, the Company completed the purchase of Gadea Grupo Farmaceutico, S.L. (“Gadea”), a contract manufacturer of complex active pharmaceutical ingredients and finished drug product. Gadea operates within the Company's API and Drug Product (“DP”) segments. The aggregate net purchase price was $127,572 (net of cash acquired of $10,961), which included the issuance of 2,200 shares of common stock, valued at $40,568, with the balance comprised of $96,961 in cash, plus a working capital adjustment of $1,004. The purchase price has been allocated based on the fair value of assets and liabilities acquired as of the acquisition date.

The purchase price was adjusted in the first quarter of 2016 by $676 due to the finalization of the net working capital adjustment. The purchase price allocation was adjusted in the first quarter of 2016, primarily due to the recognition of an environmental remediation liability of $1,542, and a corresponding indemnification receivable from the seller of $771. The purchase price allocation was adjusted in the second quarter of 2016 to reduce the estimated uncertain tax position liabilities associated with pre-acquisition tax years by $498, and to reduce the corresponding indemnification receivable from the seller by $293. These adjustments resulted in a net increase of goodwill of approximately $1,200.

The Company has attributed the goodwill of $51,358 to an expanded global footprint and additional market opportunities that the Gadea business offers. The goodwill has been allocated between business segments, with API of $30,879 and DP of $20,479, and is not deductible for tax purposes. Intangible assets acquired consisted of customer relationships of $24,000 (with an estimated life of 13 years), a tradename of $4,100 (with an indefinite estimated life), intellectual property of $11,900 (with an estimated life of 15 years), in-process research and development of $18,000 (with an indefinite estimated life), and $200 of order backlog.

SSCI

On February 13, 2015, the Company completed the purchase of assets and assumed certain liabilities of Aptuit's Solid State Chemical Information business, now AMRI SSCI, LLC (“SSCI”), for total consideration of $35,850. SSCI brings extensive material science knowledge and technology and expands the Company’s capabilities in analytical testing to include peptides, proteins and oligonucleotides. SSCI has been assigned to the DDS segment.

Glasgow

On January 8, 2015, the Company completed the purchase of all of the outstanding equity interests of Aptuit's Glasgow, U.K. business, now Albany Molecular Research (Glasgow) Limited (“Glasgow”), for total consideration of $23,805 (net of cash acquired of $146). The Glasgow facility extends the Company’s capabilities to sterile injectable drug product pre-formulation, formulation and clinical stage manufacturing. Glasgow has been assigned to the DP segment.

Unaudited Pro Forma Statements of Operations

The following table shows the unaudited pro forma statements of operations for the three and nine months ended September 30, 2016, as if the Euticals Acquisition had occurred on January 1, 2015, and as if the Gadea, Whitehouse, SSCI and Glasgow acquisitions had occurred on January 1, 2014. This pro forma information does not purport to represent what the Company’s actual results would have been if the acquisitions had occurred as of the dates indicated or what such results would be for any future periods. 

The following table shows the pro forma adjustments made to the weighted average shares outstanding for the three and nine months ended September 30, 2016:

For the three and nine month periods ended September 30, 2016, pre-tax net income was adjusted by reducing expenses by $14,911 and $19,873, respectively, for acquisition related costs. For the three and nine months ended September 30, 2016, pre-tax net income was adjusted by reducing expenses by $12,835 and $19,493, respectively, for purchase accounting related inventory costs. Pre-tax net income for the nine months ended September 30, 2016 was adjusted by increasing expenses by $1,907 for purchase accounting related depreciation and amortization.

The Company partially funded the Euticals Acquisition utilizing the proceeds from a $230,000 term loan that was provided for in conjunction with the Third Restated Credit Agreement, entered into with JP Morgan Chase Bank, N.A. and Barclays Bank PLC, as administrative agents and collateral agents, and the lenders party thereto (the “Third Restated Credit Agreement”), which was completed on July 7, 2016, along with the issuance of the Euticals Seller Notes on July 11, 2016 (see Note 5). The Company did not have sufficient cash on hand to complete the acquisition as of January 1, 2015. For the purposes of presenting the pro forma statements of operations for the three and nine months ended September 30, 2016, the Company has assumed that it entered into the Third Restated Credit Agreement and issued the Euticals Seller Notes on January 1, 2015 for an amount sufficient to fund the preliminary cash consideration to acquire Euticals as of that date. The pro forma statements of operations for the three and nine months ended September 30, 2016 reflect the recognition of interest expense that would have been incurred had the Third Restated Credit Agreement and the Euticals Seller Notes been entered into on January 1, 2015. The Company has recorded $4,437 of pro forma interest expense on the Third Restated Credit Agreement and the Euticals Seller Notes for the purposes of presenting the pro forma statements of operations for the nine months ended September 30, 2016.

During the three month period ended September 30, 2016, the Company recognized income tax expense of $4,715 to establish a deferred tax liability associated with the original issue discount recorded in conjunction with the issuance of the Euticals Seller Notes. For the purposes of presenting the pro forma condensed combined statements of operations for the three and nine months ended September 30, 2016, the Company has assumed that it would have been required to recognize this deferred tax liability on January 1, 2015, assuming a January 1, 2015 acquisition date. During the three month period ended June 30, 2016, the Company established a valuation allowance against its U.S. deferred tax assets.  For the purposes of presenting the pro forma condensed combined statements of operations for the three and nine months ended September 30, 2016, the Company has assumed that it would have been required to establish a valuation allowance against the combined U.S. deferred tax assets of the Company and Euticals on January 1, 2015, assuming a January 1, 2015 acquisition date.  In addition, the pro forma adjustments to net income incorporate, at the applicable effective rates (including the effect of establishing a valuation allowance against the combined U.S. deferred tax assets of the Company and Euticals), the tax effects of the pro forma pre-tax adjustments noted above.

The following table shows the unaudited pro forma statements of operations for the three and nine months ended September 30, 2015, as if the Euticals Acquisition had occurred on January 1, 2015, and as if the Gadea, Whitehouse, SSCI and Glasgow acquisitions had occurred on January 1, 2014. This pro forma information does not purport to represent what the Company’s actual results would have been if the acquisitions had occurred as of the date indicated or what such results would be for any future periods. 

The following table shows the pro forma adjustments made to the weighted average shares outstanding for the three and nine months ended September 30, 2015:

For the three and nine month periods ended September 30, 2015, pre-tax net income was adjusted by reducing expenses by $1,326 and $1,635, respectively, for acquisition related costs. For the three and nine months ended September 30, 2015, pre-tax net income was adjusted by reducing and increasing expenses by $3,081 and $21,064, respectively, for purchase accounting related inventory costs. For the three and nine months ended September 30, 2015, pre-tax net income was adjusted by increasing expenses by $473 and $2,910, respectively, for purchase accounting related depreciation and amortization.

The Company partially funded the acquisition of Euticals utilizing the proceeds from a $230,000 term loan that was provided for in conjunction with the Third Restated Credit Agreement, which was completed on July 7, 2016, along with the issuance of the Euticals Seller Notes on July 11, 2016 (see Note 5). The Company did not have sufficient cash on hand to complete the acquisition as of January 1, 2015. For the purposes of presenting the pro forma statements of operations for the three and nine months ended September 30, 2015, the Company has assumed that it entered into the Third Restated Credit Agreement and issued the Euticals Seller Notes on January 1, 2015 for an amount sufficient to fund the preliminary cash consideration to acquire Euticals as of that date. The pro forma statements of operations for the three and nine months ended September 30, 2015 reflect the recognition of interest expense that would have been incurred had the Third Restated Credit Agreement and the Euticals Seller Notes been entered into on January 1, 2015. The Company has recorded $2,218 and $ 6,655, respectively, of pro forma interest expense on the Third Restated Credit Agreement and the Euticals Seller Notes for the purposes of presenting the pro forma statements of operations for the three and nine months ended September 30, 2015.

The Company partially funded the acquisition of Whitehouse utilizing the proceeds from a $30,000 revolving line of credit pursuant to a $230,000 senior secured credit agreement with Barclays Bank PLC (the “Credit Agreement”) that was completed in July 2015 (see Note 5). For purposes of presenting the pro forma statements of operations for the three and nine months ended September 30, 2015, the Company has assumed that it borrowed on the revolving line of credit on January 1, 2014 for an amount sufficient to fund the cash consideration to acquire Whitehouse as of that date. The pro forma statements of operations for the three and nine months ended September 30, 2015 reflects the recognition of interest expense that would have been incurred on the revolving line of credit had it been entered into on January 1, 2014. The Company has recorded $425 and $1,276, respectively, of pro forma interest expense on the revolving line of credit for the purposes of presenting the pro forma statements of operations for the three and nine months ended September 30, 2015.

The Company partially funded the acquisition of Gadea utilizing the proceeds from a $200,000 term loan pursuant to the Credit Agreement. The Company did not have sufficient cash on hand to complete the acquisition as of January 1, 2014. For the purposes of presenting the pro forma statements of operations for the three and nine months ended September 30, 2015, the Company has assumed that it entered into the Credit Agreement on January 1, 2014 for an amount sufficient to fund the preliminary cash consideration to acquire Gadea as of that date. The pro forma statements of operations for the three and nine months ended September 30, 2015 reflect the recognition of interest expense that would have been incurred on the Credit Agreement had it been entered into on January 1, 2014. The Company has recorded $4,200 of pro forma interest expense on the Credit Agreement for the purposes of presenting the pro forma statements of operations for the nine months ended September 30, 2015.

During the three month period ended September 30, 2016, the Company recognized income tax expense of $4,715 to establish a deferred tax liability associated with the original issue discount recorded in conjunction with the issuance of the Euticals Seller Notes. For the purposes of presenting the pro forma condensed combined statements of operations for the three and nine months ended September 30, 2015, the Company has assumed that it would have been required to recognize this deferred tax liability on January 1, 2015, assuming a January 1, 2015 acquisition date. During the three month period ended June 30, 2016, the Company established a valuation allowance against its U.S. deferred tax assets.  For the purposes of presenting the pro forma condensed combined statements of operations for the three and nine months ended September 30, 2015, the Company has assumed that it would have been required to establish a valuation allowance against the combined U.S. deferred tax assets of the Company and Euticals on January 1, 2015, assuming a January 1, 2015 acquisition date.  In addition, the pro forma adjustments to net income incorporate, at the applicable effective rates (including the effect of establishing a valuation allowance against the combined U.S. deferred tax assets of the Company and Euticals), the tax effects of the pro forma pre-tax adjustments noted above.

Note 5 — Debt

Short-Term Borrowings

In connection with the Euticals Acquisition, the Company assumed the short-term borrowing obligations of Euticals, consisting of multiple bank revolving lines of credit with a maximum borrowing capacity of €41,450, or $46,470, (the “Euticals Revolving Credit Facilities”). The Euticals Revolving Credit Facilities support Euticals’ short-term working capital needs and are collateralized, in part, by certain Euticals trade receivables balances. The Euticals Revolving Credit Facilities are subject to variable interest rates and the average effective interest rate was 4.02% during the period July 12, 2016 to September 30, 2016.

As of September 30, 2016, the aggregate outstanding balance under the Euticals Revolving Credit Facilities was $20,787 and the related trade receivables collateral was $12,855.

The aggregate maturities of long-term debt, exclusive of unamortized debt discount of $34,951 at September 30, 2016, are as follows:

Term Loans

In connection with the Euticals Acquisition, on July 7, 2016, the Company entered into the Third Restated Credit Agreement, which (i) provides incremental senior secured first lien term loans in an aggregate principal amount of $230,000 (the “Incremental Term Loans”) which increased the aggregate principal amount of senior secured first lien term loans under the Credit Agreement to $428,500 and (ii) increased the first lien revolving credit facility commitments by $5,000 to $35,000. The Company used the proceeds of the Incremental Term Loans primarily to: (i) pay a portion of the cash consideration for the Euticals Acquisition; (ii) pay various fees and expenses incurred in connection with the Euticals Acquisition and related financing activities; and (iii) repay the $30,000 outstanding under the first lien revolving credit facility.

The Third Restated Credit Agreement requires that the Company make quarterly repayments toward the Incremental Term Loans principal of $579 beginning on September 30, 2016, with all remaining unpaid principal amounts of the Incremental Term Loans maturing and payable on July 16, 2021. The revolving credit facility commitments under the Third Restated Credit Agreement terminate and all amounts then outstanding thereunder are payable on July 16, 2020, subject, in each case, to earlier acceleration (i) to six months prior to the scheduled maturity date of the Company’s 2.25% Cash Convertible Senior Notes issued on December 4, 2013 (the “Notes”) if on such date, both (x) more than $25,000 of the Notes shall remain outstanding and (y) the ratio the secured debt of the Company and its subsidiaries to the EBITDA of the Company and its subsidiaries exceeds 1.50:1.00 and (ii) to April 7, 2019, April 7, 2020 or April 7, 2021, respectively, in each case to the extent that at any such date the Company has not (x) prepaid or otherwise satisfied the amortization or final maturity payment amounts to next come due under each Euticals Seller Note then outstanding or (y) refinanced such amortization or final maturity payment amount to next come due under each Euticals Seller Note then outstanding in a manner permitted by the Third Restated Credit Agreement.

At the Company’s election, loans made under the Third Restated Credit Agreement bear interest at (a) the one-month, three-month or six-month LIBOR rate subject to a floor of 1.0% (the “LIBOR Rate”) or (b) a base rate determined by reference to the highest of (i) the United States federal funds rate plus 0.50%, (ii) the rate of interest quoted by The Wall Street Journal as the “Prime Rate,” and (iii) a daily rate equal to the one-month LIBOR Rate plus 1.0%, subject to a floor of 2.0% (the “Base Rate”), plus an applicable margin of 4.75% per annum for LIBOR Rate loans and 3.75% per annum for Base Rate loans.

The obligations under the Third Restated Credit Agreement are guaranteed by each material domestic subsidiary of the Company (each a “Guarantor”) and are secured by first priority liens on, and security interests in, substantially all of the present and after-acquired assets of the Company and each Guarantor subject to certain customary exceptions.

The components of the term loans are as follows:

Euticals Seller Notes

As indicated in Note 3, in connection with the Euticals Acquisition, on July 11, 2016, the Company issued two notes to Lauro Cinquantasette S.p.A. with a combined face value of €55,000, that were valued at $44,342 (net of original issue discount of $16,441). The Euticals Seller Notes are unsecured promissory notes, guaranteed by the Company, and are subject to customary representations and warranties and events of default with repayment to be made in three equal annual installments made on the third, fourth and fifth anniversaries of the Euticals Acquisition closing date. The repayment is subject to certain set off rights of the Company relating to the seller’s indemnification obligations. The Euticals Seller Notes are subject to an interest rate equal to 0.25% per annum, which is due and payable in cash on the first day of January, April, July and October during each calendar year. The Euticals Seller Notes were recognized net of an original issue discount of $16,441.

As of September 30, 2016, the components of the Euticals Seller Notes were as follows:

Convertible Senior Notes

On December 4, 2013, the Company completed the private offering of $150,000 aggregate principal amount of the Notes.  The Notes mature on November 15, 2018, unless earlier repurchased or converted into cash in accordance with their terms prior to such date and interest is paid in arrears semiannually on each May 15 and November 15 at an annual rate of 2.25% beginning on May 15, 2014. The Notes were offered and sold only to qualified institutional buyers pursuant to Rule 144A under the Securities Act of 1933, as amended (the “Securities Act”).

The Notes are not convertible into the Company's common stock or any other securities under any circumstances. Holders may convert their Notes solely into cash at their option at any time prior to the close of business on the business day immediately preceding May 15, 2018 only under the following circumstances: (1) during any calendar quarter commencing after the calendar quarter ending on December 31, 2013 (and only during such calendar quarter), if the last reported sale price of the Company's 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; (2) during the five business day period after any five consecutive trading day period in which the trading price per thousand dollars 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 the Company's common stock and the conversion rate on each such trading day; or (3) upon the occurrence of specified corporate events. On or after May 15, 2018 until the close of business on the second scheduled trading day immediately preceding the maturity date, holders may convert their Notes solely into cash at any time, regardless of the foregoing circumstances. Upon conversion, in lieu of receiving shares of the Company's common stock, a holder will receive, per thousand dollars principal amount of Notes, an amount in cash equal to the settlement amount, determined in the manner set forth in the indenture. The initial conversion rate is 63.9844 shares of the Company's common stock per thousand dollars principal amount of Notes (equivalent to an initial conversion price of approximately $15.63 per share of common stock). The conversion rate is subject to adjustment upon certain events as described in the indenture but will not be adjusted for any accrued and unpaid interest. In addition, following certain corporate events that occur prior to the maturity date, the Company has agreed to pay a cash make-whole premium by increasing the conversion rate for a holder who elects to convert its Notes in connection with such a corporate event in certain circumstances as described in the indenture.

The Company may not redeem the Notes prior to the maturity date, and no sinking fund is provided for the Notes.

The cash conversion feature of the Notes (“Notes Conversion Derivative”) requires bifurcation from the Notes in accordance with ASC 815, “Derivatives and Hedging,” and is accounted for as a derivative liability. The fair value of the Notes Conversion Derivative at the time of issuance of the Notes was $33,600 and was recorded as original debt discount for purposes of accounting for the debt component of the Notes. This discount is amortized as interest expense using the effective interest method over the term of the Notes. For the three months ended September 30, 2016 and 2015, the Company recorded $1,697 and $1,572, respectively, and for the nine months ended September 30, 2016 and 2015, the Company recorded $5,005 and $4,628, respectively, of amortization of the debt discount as interest expense based upon an effective rate of 7.69%.

The components of the Notes were as follows:

In connection with the pricing of the Notes, on November 19, 2013, the Company entered into cash convertible note hedge transactions (“Notes Hedges”) relating to a notional number of shares of the Company's common stock underlying the Notes with two counterparties (the “Option Counterparties”). The Notes Hedges, which are cash-settled, are intended to reduce the Company’s exposure to potential cash payments that it is required to make upon conversion of the Notes in excess of the principal amount of converted Notes if the Company’s common stock price exceeds the conversion price. The Notes Hedges are accounted for as a derivative instrument in accordance with ASC 815, “Derivatives and Hedging.” The aggregate cost of the note hedge transaction was $33,600.

At the same time, the Company also entered into separate warrant transactions with each of the Option Counterparties initially relating, in the aggregate, to 9,598 shares of the Company's common stock underlying the Note Hedges. The Note Hedges are intended to offset cash payments due upon any conversion of the Notes. However, the warrant transactions could separately have a dilutive effect to the extent that the market price per share of the Company's common stock (as measured under the terms of the warrant transactions) exceeds the applicable strike price of the warrants. The initial strike price of the warrants is $18.9440 per share, which was 60% above the last reported sale price of the Company's common stock of $11.84 on November 19, 2013 and proceeds of $23,100 were received from the Option Counterparties from the sale of the warrants.

Aside from the initial payment of a $33,600 premium to the Option Counterparties, the Company is not required to make any cash payments to the Option Counterparties under the Note Hedges and will be entitled to receive from the Option Counterparties an amount of cash, generally equal to the amount by which the market price per share of common stock exceeds the strike price of the Note Hedges during the relevant valuation period. The strike price under the Note Hedges is initially equal to the conversion price of the Notes. Additionally, if the market price per share of the Company's common stock, as measured under the warrant transactions, exceeds the strike price of the warrants during the measurement period at the maturity of the warrants, the Company will be obligated to issue to the Option Counterparties a number of shares of the Company's common stock in an amount based on the excess of such market price per share of the Company's common stock over the strike price of the warrants. The Company will not receive any proceeds if the warrants are exercised.

Neither the Notes Conversion Derivative nor the Notes Hedges qualify for hedge accounting, thus any changes in the fair market value of the derivatives is recognized immediately in the statement of operations. As of September 30, 2016 and December 31, 2015, the changes in fair market value of the Notes Conversion Derivative and the Notes Hedges were equal, therefore there was no change in fair market value that was recognized in the statement of operations.

The following table summarizes the fair value and the presentation in the consolidated balance sheet:

IDA Bonds

In May 2016, the sale of the Company’s Syracuse, N.Y. facility, within the DDS operating segment, was completed for $675. Commensurate with the sale of the facility, the industrial development authority (“IDA”) bonds associated with the facility were repaid in full, with a final payment of $1,760.

Note 6 — Facilities Impairment, Restructuring and Other Charges

In August 2016, the Company announced a restructuring plan in connection with the Euticals Acquisition. Under the restructuring plan, the Company initiated a reduction in workforce in certain locations in the United States and Europe and ceased operations in one location in Italy.  The Company recorded $2,698 in charges for reduction in force and termination benefits during the three months ended September 30, 2016.  The Company also assumed $101 of Euticals restructuring liabilities for a restructuring plan initiated by Euticals prior to the Euticals Acquisition to cease operations at a separate location in Italy.

In the second quarter of 2016, the Company recognized a change in estimate of $634, which reduced the restructuring liabilities related to the operations of Cedarburg. Other restructuring and other charges for various sites at the three and nine months ended September 30, 2016, were $25 and $303, respectively.

In April 2015, the Company announced a restructuring plan with respect to certain operations in the U.K. within its API business segment. In connection with the restructuring plan, the Company ceased all operations at its Holywell, U.K. facility in the fourth quarter of 2015. The Company recorded $228 and $1,793 in charges for reduction in force and termination benefits and other restructuring-related charges related to the U.K. facility during the three and nine months ended September 30, 2016, respectively. In conjunction with the Company’s actions to cease operations at its Holywell, U.K. facility, the Company also recorded property and equipment impairment charges in the API segment of $2,550 in the first quarter of 2015. These charges are included under the caption “impairment charges” on the consolidated statement of operations.  Also in 2015, the Company made additional resource changes at its Singapore site (within the DDS segment) to optimize the cost profile of the facility, which resulted in restructuring charges of $16 and $1,934 during the three and nine months ended September 30, 2016. Equipment that was not transferred or recovered through sale was subject to accelerated depreciation over the remaining operating period of the facility, which closed in the first quarter of 2016.

Restructuring and other charges for the three months ended September 30, 2016 and 2015 were $2,967 and $709, respectively, and for the nine months ended September 30, 2016 and 2015 were $6,094 and $3,828, respectively, consisting primarily of employee termination charges and costs associated with the Euticals Acquisition restructuring plan, costs associated with the closure and related transfer of continuing products from the Holywell, U.K. facility to the Company’s other manufacturing locations, and resource optimization and lease termination charges at the Company’s Singapore facility.

The following table displays the restructuring and other charges activity and liability balances for the nine-month period ended as of September 30, 2016:

Termination benefits and personnel realignment costs related to severance packages, outplacement services, and career counseling for employees affected by the restructuring. Lease termination charges related to estimated costs associated with exiting a facility, net of estimated sublease income.

Restructuring charges are included under the caption ‘Restructuring and other charges’ in the Condensed Consolidated Statements of Operations for the three and nine months ended September 30, 2016 and 2015 and the restructuring liabilities are included in ‘Accounts payable and accrued expenses’ and ‘Other long-term liabilities’ on the Condensed Consolidated Balance Sheets at September 30, 2016 and December 31, 2015.

Anticipated cash outflow related to the above restructuring liability as of September 30, 2016 for the remainder of 2016 is approximately $701.

The Company is currently marketing its Holywell, U.K. facility for sale. The facility is an asset of the API operating segment and is classified as held for sale with the long-lived assets segregated to a separate line on the Condensed Consolidated Balance Sheets until they are sold. Depreciation expense on the facility has ceased. The carrying value of the facility is $1,508 at September 30, 2016.

The components of intangible assets are as follows:

Amortization expense related to intangible assets was $2,862 and $1,275 for the three months ended September 30, 2016 and 2015, respectively, and $6,762 and $2,702 for the nine months ended September 30, 2016 and 2015, respectively. The weighted average amortization period is 13.3 years.

The following chart represents estimated future annual amortization expense related to intangible assets:

Note 8 — Income Taxes

During the three month period ended September 30, 2016, the Company recognized $4,715 of tax expense related to a deferred tax liability for the original discount on the Euticals Seller Notes. Additionally, during the three month period ended June 30, 2016, the Company established a full valuation allowance against its U.S. deferred tax assets in the amount of $8,467.

In assessing the realizability of U.S. deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of taxable income, either in prior years available for carryback claims or in the future. Management considers all available evidence in support of its ability to utilize its deferred tax assets, including cumulative income or loss in recent periods, future reversals of existing temporary differences, forecasted future taxable income and tax planning strategies.

The Company will continue to evaluate all positive and negative evidence in support of its deferred tax assets in the future, as changes in temporary differences, tax laws and operating performance may require a change in the need for a valuation allowance. If the Company determines the valuation allowance should be reversed in a future period, the resulting adjustment would be recorded as a tax benefit in the Condensed Consolidated Statements of Operations, and such amount may be material.

Note 9 — Share-Based Compensation

During the three and nine months ended September 30, 2016, the Company recognized total share based compensation cost of $1,790 and $6,420, respectively, as compared to total share-based compensation cost for the three and nine months ended September 30, 2015 of $1,797 and $4,816, respectively.

The Company grants share-based compensation, including restricted shares, under its 1998 Stock Option Plan, its 2008 Stock Option and Incentive Plan, as amended, as well as its 1998 Employee Stock Purchase Plan, as amended (“ESPP”). The 1998 Stock Option Plan, the 2008 Stock Option and Incentive Plan and ESPP are together referred to as the “Stock Option and Incentive Plans.”

As of September 30, 2016, there was $13,268 of total unrecognized compensation cost related to unvested restricted shares. That cost is expected to be recognized over a weighted-average period of 2.67 years. 312 shares of restricted stock outstanding have market-based vesting provisions. The grant date fair value assumptions for these shares contain a vesting probability factor to reflect the Company’s expectation that not all shares will vest. Of the remaining 997 shares of restricted stock outstanding, the Company currently expects all shares to vest.

A summary of stock option activity during the nine months ended September 30, 2016 is presented below:

The weighted average fair value of stock options granted for the nine months ended September 30, 2016 and 2015 was $5.98 and $6.51, respectively. As of September 30, 2016, there was $2,433 of total unrecognized compensation cost related to unvested stock options. That cost is expected to be recognized over a weighted-average period of 2.66 years. Of the 1,600 stock options outstanding, the Company currently expects all options to vest.

Employee Stock Purchase Plan

During the nine months ended September 30, 2016 and 2015, 100 and 83 shares, respectively, were issued under the Company’s ESPP.

During the nine months ended September 30, 2016 and 2015, cash received from stock option exercises and employee stock purchases under the ESPP was $1,828 and $2,818, respectively. The excess tax benefit realized for the tax deductions from share-based compensation was $0 for both the nine months ended September 30, 2016 and 2015, respectively.

Note 10 — Operating Segment Data

In the third quarter of 2016, the Company completed the Euticals Acquisition. With the acquisition of Euticals, financial planning and management reporting of the Company’s operations include a new reportable segment (Fine Chemicals (“FC”)), which has been added based on the criteria set forth in ASC 280, “Segment Reporting.” FC includes lab to commercial scale synthesis of reagents and diverse compounds.

Prior to the Euticals Acquisition, the Company organized its operations into the DDS, API and DP segments, which remain unchanged. The DDS segment includes activities such as drug lead discovery, optimization, drug development, analytical services and small scale commercial manufacturing. API includes pilot to commercial scale manufacturing of active pharmaceutical ingredients and intermediates and high potency and controlled substance manufacturing. DP (formerly referred to as Drug Product Manufacturing or “DPM”) includes pre-formulation, formulation and process development through commercial scale production of complex liquid-filled and lyophilized injectable formulations. Corporate activities include sales and marketing and administrative functions, as well as research and development costs that have not been allocated to the operating segments. The Euticals business is split between DDS, API and FC. No prior period adjustments are necessary to reflect this change in reportable segments.

The following table contains earnings data by operating segment, reconciled to totals included in the unaudited Condensed Consolidated Financial Statements:

The following table summarizes other information by segment as of, and for the nine-month period ended September 30, 2016:

The following table summarizes other information by segment as of December 31, 2015 and capital expenditures for the nine-month period ended September 30, 2015: