Notes to Condensed Consolidated Financial Statements (Unaudited)
Note 1 – Organization, Basis of Presentation and Liquidity
Zogenix, Inc. and subsidiaries (the Company, we, us or our) is a global commercial-stage biopharmaceutical company committed to developing and commercializing therapies with the potential to transform the lives of patients and their families living with rare diseases. Our first rare disease therapy, Fintepla (fenfluramine) oral solution, C-IV has been approved by the U.S. Food and Drug Administration (FDA) and is under review in Europe for the treatment of seizures associated with Dravet syndrome, a rare, severe childhood onset epilepsy. In addition, the company has two late-stage development programs underway: one for Fintepla for the treatment of seizures associated with Lennox-Gastaut syndrome, a rare childhood-onset epilepsy and another for MT1621, an investigational novel substrate enhancement therapy for the treatment of TK2 deficiency, a rare genetic disorder.
We operate in one business segment—the research, development and commercialization of pharmaceutical products, and our headquarters are located in Emeryville, California.
Basis of Presentation
The accompanying condensed consolidated financial statements include the accounts of Zogenix, Inc. and its wholly-owned subsidiaries. Intercompany accounts and transactions have been eliminated in consolidation. The condensed consolidated financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (SEC) for interim financial reporting. In the opinion of management, the condensed consolidated financial statements reflect all adjustments, which are normal and recurring in nature, necessary for fair financial statement presentation. The results of operations for any interim period are not necessarily indicative of results of operations for any future period. Certain information and footnote disclosures normally included in annual consolidated financial statements prepared in accordance with generally accepted accounting principles in the United States (GAAP) have been condensed or omitted. Accordingly, these unaudited interim condensed consolidated financial statements and accompanying notes should be read in conjunction with the consolidated financial statements and related notes included in our 2019 Annual Report on Form 10-K (2019 Form 10-K), which was filed with the SEC on March 2, 2020.
Liquidity
As of September 30, 2020, our cash, cash equivalents and marketable securities totaled $525.2 million. Excluding gains from two discrete business divestitures, we have incurred significant net losses and negative cash flows from operating activities since inception resulting in an accumulated deficit of $1.3 billion as of September 30, 2020. We expect to continue to incur significant operating losses and negative cash flows from operations to support the marketing and commercialization of Fintepla for Dravet syndrome as well as continuing to advance our clinical programs. Additionally, we are obligated to make future milestone payments that are contingent upon the successful achievement of certain development, regulatory and sales-based milestone events related to Fintepla and MT1621. Historically, we have relied primarily on the proceeds from equity and convertible debt offerings to finance our operations. See Note 10 for information related to our recent financing transactions. Until such time, if ever, we can generate a sufficient amount of revenue to finance our cash requirements, we may need to continue to rely on additional financing to achieve our business objectives. However, there is no assurance that such financings could be consummated on acceptable terms or at all. Failure to raise sufficient capital when needed could require us to significantly delay, scale back or discontinue one or more of our product development programs or commercialization efforts or other aspects of our business plans, and our operating results and financial condition would be adversely affected.
Note 2 – Summary of Significant Accounting Policies
Use of Estimates
The preparation of our condensed consolidated financial statements requires us to make estimates, judgments and assumptions that may affect the reported amounts of assets, liabilities, equity, revenues and expenses and related disclosure of contingent assets and liabilities. On an ongoing basis we evaluate our estimates, judgments and methodologies. We base our estimates on historical experience and on various other assumptions that we believe are reasonable, the results of which form the basis for making judgments about the carrying values of assets, liabilities and equity and the amount of revenues and expenses. Actual results may differ from those estimates.
Significant Accounting Policies
The significant accounting policies and estimates used in the preparation of the accompanying condensed consolidated financial statements are described in Note 2, Summary of Significant Accounting Policies to the consolidated financial
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statements in our 2019 Form 10-K. There have been no material changes in our significant accounting policies during the nine months ended September 30, 2020, other than as set forth below.
Revenue Recognition for Net Product Sales
We began to record revenues from product sales to our exclusive specialty distributor, our sole Customer, in the third quarter of 2020, subsequent to the approval of Fintepla by the FDA in June 2020. Prior to the third quarter of 2020, our revenues were derived from our collaboration agreement with Nippon Shinyaku Co., Ltd. (Shinyaku).
We recognize revenue when control of the promised good or service is transferred to the customer, in an amount that reflects the consideration we expect to be entitled to in exchange for those goods or services. We determine revenue recognition through the following steps: (i) identify the contract(s) with a customer; (ii) identify the performance obligations in the contract; (iii) determine the transaction price; (iv) allocate the transaction price to the performance obligations in the contract; and (v) recognize revenue when (or as) we satisfy a performance obligation. We only apply the five-step model to contracts when collectability of the consideration to which we are entitled in exchange for the goods or services we transfer to the customer is determined to be probable. At contract inception, once the contract is determined to be within the scope of the revenue from contracts with customers accounting standard, we assess whether the goods or services promised within each contract are distinct and, therefore, represent a separate performance obligation. Goods and services that are determined not to be distinct are combined with other promised goods and services until a distinct bundle is identified. We then allocate the transaction price (the amount of consideration we expect to be entitled to from a customer in exchange for the promised goods or services) to each performance obligation and recognize the associated revenue when (or as) each performance obligation is satisfied. Our estimate of the transaction price for each contract includes all variable consideration to which we expect to be entitled. See Note 3 for a detailed discussion of our revenue recognition policy for product sales and our consideration of the transaction price related to variable consideration.
Amounts are recorded as accounts receivable when our right to consideration is unconditional. We do not assess whether a contract has a significant financing component if the expectation at contract inception is that the period between payment by the customer and the transfer of the promised goods or services to the customer will be one year or less. We expense incremental costs of obtaining a contract, as and when incurred, if the expected amortization period of the asset that we would have recognized is one year or less or the amount is immaterial.
Cost of Product Sales (Excluding Amortization of Intangible Asset)
Cost of product sales (excluding amortization of intangible asset) includes the cost of producing and distributing inventories that are related to product revenues during the respective period (including salary-related and stock-based compensation expenses for employees involved with production and distribution, freight and indirect overhead costs) and third-party royalties payable on our net product revenues. Cost of product sales may also include costs related to excess or obsolete inventory adjustment charges, abnormal costs, unabsorbed manufacturing and overhead costs, and manufacturing variances.
During the three and nine months ended September 30, 2020, most of the cost of product sales had a zero-cost basis. Prior to receiving FDA approval for Fintepla, we recorded all manufacturing product costs as research and development expense.
Account Receivables, Net
We record accounts receivable, net of certain fees paid to our Customer for distribution services rendered to us that are not distinct from sales of product to that Customer, prompt payment discounts and chargebacks based on contractual terms. As of September 30, 2020, we determined an allowance for credit losses was not recorded based upon our review of contractual payment terms, the short-duration we expect the accounts receivable to be outstanding, the fact each order placed for Fintepla by our Customer is for immediate shipment to their customer, and our assessment of the creditworthiness of our Customer, among other factors. We have standard payment terms that generally require payment within approximately 30 days. Accounts receivable, net excludes receivables from our collaboration agreement with Shinyaku, if any, which are recorded within current assets on our condensed consolidated balance sheets.
We are also subject to credit risk from our accounts receivable related to our product sales. Estimates of our allowance for credit losses consider a number of factors including existing contractual payment terms, individual customer circumstances, historical payment patterns of our customers, a review of the local economic environment and its potential impact on expected future customer payment patterns.
Concentration of Credit Risk
As is common in the pharmaceutical industry for products treating rare diseases, Fintepla is distributed through an exclusive arrangement with a single specialty distributor, our sole Customer. As a result, our accounts receivable is exposed to concentration of credit risk as 100% of the accounts receivable is due from this Customer.
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Inventory
Inventory is recorded at the lower of cost or net realizable value, with cost determined on a first-in, first-out basis. Inventory costs include third-party contract manufacturing, third-party packaging services, freight, labor costs for personnel involved in the manufacturing process, and indirect overhead costs. We primarily use actual costs to determine the cost basis for our inventory. We periodically review our inventories to identify obsolete, slow moving, excess or otherwise unsaleable items. If obsolete, slow moving, excess or unsaleable items are observed and there are no alternate uses for the inventory, we record a write-down to net realizable value. The determination of net realizable value requires judgment including consideration of many factors, such as estimates of future product demand, product net selling prices, current and future market conditions and potential product obsolescence, among others.
Prior to regulatory approval, we expense costs associated with the manufacture of our product candidates to research and development expense unless we are reasonably certain such costs have future commercial use and net realizable value. Since we consider attaining regulatory approval of a product candidate to be highly uncertain and difficult to predict, we expect only in rare instances will pre-launch inventory be capitalized, if at all.
Finite-Lived Intangible Assets
Purchased finite-lived intangible assets are initially recognized at fair value and subject to amortization over its estimated useful life. Our finite-lived intangible assets are amortized using a method that reflects the pattern in which the economic benefits of the intangible assets are consumed or otherwise used. If that pattern cannot be reliably determined, the intangible assets are amortized using the straight-line method over their estimated useful lives and are tested for impairment along with other long-lived assets. At September 30, 2020, our finite-lived intangible assets consisted of Fintepla product rights (see Note 7).
Long-Lived Assets
Long-lived assets, including right-of-use operating lease assets and our finite-lived intangible asset, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of such assets (group) may not be recoverable. Recoverability of assets is determined by comparing the estimated undiscounted net cash flows of the operations related to the assets (asset group) to their carrying amount. If the carrying value of the assets (asset group) exceeds its undiscounted cash flows, we then compare the fair value of the assets (asset group) to their carrying value to determine the impairment loss. The impairment loss will be allocated to the carrying values of the long-lived assets (asset group), but not below their individual fair values.
If we determine that events and circumstances warrant a revision to the remaining period of amortization, a long-lived asset’s remaining useful life shall be changed, and the remaining carrying amount of the long-lived asset shall be depreciated or amortized prospectively over that revised remaining useful life.
Impact of COVID-19 Pandemic
In March 2020, the World Health Organization declared the global novel coronavirus disease (COVID-19) outbreak a pandemic. To date, other than closing our offices, initiating new remote work policies and delaying the initiation of an exploratory Phase 2 basket study by two quarters, our operations have not been significantly impacted by the COVID-19 pandemic. We cannot predict the specific extent, duration, or full impact that the COVID-19 pandemic will have on our financial condition and operations, including ongoing and planned clinical trials, the timelines for receiving feedback or approvals from regulatory authorities, and product launch in the midst of a pandemic.
As of September 30, 2020, the COVID-19 pandemic has not impacted the carrying value of our finite-lived intangible asset, goodwill, long-lived assets and right-of-use assets. The full extent to which the COVID-19 pandemic will directly or indirectly impact our business, results of operations and financial condition, will depend on future developments that are highly uncertain, including as a result of new information that may emerge concerning COVID-19 and the actions taken to contain it or treat COVID-19, as well as the economic impact on local, regional, national and international markets. If the financial markets and/or the overall economy are impacted for an extended period, our business, results of operations and financial condition may be adversely affected.
Income Taxes
On March 18, 2020, the Families First Coronavirus Response Act (FFCR Act) and on March 27, 2020, The Coronavirus Aid, Relief and Economic Security Act (CARES Act) were signed into law in response to the COVID-19 pandemic. The FFCR Act and CARES Act, includes provisions related to refundable payroll tax credits, deferment of employer side social security payments, retroactively and temporarily (for taxable years beginning before January 1, 2021) suspending the application of the
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80%-of-income limitation on the use of net operating losses, which was enacted as part of the Tax Cuts and Jobs Act of 2017. The CARES Act also provides that net operating losses arising in any taxable year beginning after December 31, 2017, and before January 1, 2021 are generally eligible to be carried back up to five years.
On June 29, 2020, Assembly Bill 85 (A.B. 85) was signed into California law. A.B. 85 provides for a three-year suspension of the use of net operating losses for medium and large businesses and a three-year cap on the use of business incentive tax credits to offset no more than $5.0 million of tax per year. A.B. 85 suspends the use of net operating losses for taxable years 2020, 2021 and 2022 for certain taxpayers with taxable income of $1.0 million or more. The carryover period for any net operating losses that are suspended under this provision will be extended. A.B. 85 also requires that business incentive tax credits including carryovers may not reduce the applicable tax by more than $5.0 million for taxable years 2020, 2021 and 2022.
The enactment of the FFCR Act, CARES Act and A.B. 85 did not result in any material adjustments to our income tax provision for the three and nine months ended September 30, 2020 or to our net deferred tax assets as of September 30, 2020. Given our history of losses, we do not expect the provisions of the FFCR Act, CARES Act and A.B. 85 to have a material impact on our annual effective tax rate or condensed consolidated financial statements in 2020; however, we will continue to evaluate the impact of tax legislation and will update our disclosures as additional information and interpretive guidance becomes available.
Recently Adopted Accounting Pronouncements
Accounting Standards Update (ASU) 2016-13, Financial Instruments—Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments revises the measurement of credit losses for most financial instruments measured at amortized cost, including trade receivables, from an incurred loss methodology to an expected loss methodology which results in earlier recognition of credit losses. Under the incurred loss model, a loss is not recognized until it is probable that the loss-causing event has already occurred. The standard introduces a forward-looking expected credit loss model that requires an estimate of the expected credit losses over the life of the instrument by considering all relevant information including historical experience, current conditions, and reasonable and supportable forecasts that affect collectability. In addition, the standard also modifies the impairment model for available-for-sale debt securities, which are measured at fair value, by eliminating the consideration for the length of time fair value has been less than amortized cost when assessing credit loss for a debt security and provides for reversals of credit losses through income upon credit improvement. The standard became effective for us beginning January 1, 2020. Based on the composition of our investment portfolio, which reflects our primary investment objective of capital preservation, the adoption of this standard did not have a material impact on our condensed consolidated financial statements or related disclosures.
ASU 2017-04, Intangibles—Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment simplifies how an entity is required to test goodwill for impairment by eliminating Step 2 from the goodwill impairment test. Step 2 measures a goodwill impairment loss by comparing the implied fair value of a reporting unit’s goodwill with the carrying amount of that goodwill. The implied fair value for a reporting unit is determined in the same manner as the amount of goodwill recognized in a business acquisition of the reporting unit. Under the standard, an entity shall recognize an impairment charge for the amount by which the carrying amount of a reporting unit exceeds its fair value; however, the loss recognized should not exceed the total amount of goodwill allocated to that reporting unit. The standard became effective for us beginning January 1, 2020. The adoption of this standard did not have a material impact on our condensed consolidated financial statements or related disclosures; however, any prospective goodwill impairment losses recognized will be measured in accordance with the updated guidance.
ASU 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework—Changes to the Disclosure Requirements for Fair Value Measurement modifies the disclosure requirements in Topic 820 by removing certain disclosure requirements related to the fair value hierarchy, modifying existing disclosure requirements related to measurement uncertainty and adding new disclosure requirements, such as disclosing the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements. This standard became effective for us beginning January 1, 2020 and the adoption of this standard did not have a material impact on our condensed consolidated financial statements. For the new disclosures regarding our Level 3 fair value measurements, see Note 5, Fair Value Measurements to these condensed consolidated financial statements.
ASU 2019-12, Simplifying the Accounting for Income Taxes (Topic 740) (ASU 2019-12) removes certain exceptions to the general principles in Topic 740 related to the approach for intraperiod tax allocation, the methodology for calculating income taxes in an interim period and the recognition of deferred tax liabilities for outside basis differences. The new guidance also simplifies aspects of the accounting for franchise taxes and enacted changes in tax laws or rates and clarifies the accounting for transactions that result in a step-up in the tax basis of goodwill. This ASU is effective for us for all interim and annual periods beginning January 1, 2021, with early adoption permitted. We early adopted ASU 2019-12 beginning January 1, 2020
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on a prospective basis. The adoption of this standard did not have a material impact on our condensed consolidated financial statements and related disclosures.
The only aspect of ASU 2019-12 that is currently applicable to us is the removal of the exception related to intraperiod tax allocation. Beginning January 1, 2020, we have applied the general methodology regarding the intraperiod allocation of tax expense for reporting periods where we have a loss from continuing operations by determining the amount of taxes attributable to continuing operations without regard to the tax effect of other items, including changes in unrealized gains related to marketable securities.
Recently Issued Accounting Pronouncements Not Yet Adopted
ASU 2020-06, Debt — Debt with Conversion and Other Options (subtopic 470-20) and Derivatives and Hedging — Contracts in Entity’s Own Equity (subtopic 815-40), or ASU 2020-06, reduces the number of accounting models in ASC 470-20 that require separate accounting for embedded conversion features, which we followed in accounting for the issuance of our convertible senior notes (see Note 9). ASU 2020-06 will be effective for SEC-reporting entities for fiscal years beginning after December 15, 2021 (or, in the case of smaller reporting companies, December 15, 2023), including interim periods within those fiscal years. However, early adoption is permitted in certain circumstances for fiscal years beginning after December 15, 2020, including interim periods within those fiscal years. When effective, we expect the elimination of the requirement to separately account for the conversion feature into its equity component by recording amounts as debt discount related to our senior convertible notes will result in a decrease to our interest expense over the expected life of the financial instrument. In addition, interest expense is expected to be closer to the stated coupon rate of the convertible senior notes.
As we intend to settle conversions by paying the conversion value in cash up to the principal amount being converted and any excess in shares, we expect to be eligible to use the treasury stock method to reflect the shares underlying the notes in our diluted earnings per share. Under this method, if the conversion value of the notes exceeds their principal amount for a reporting period, then we will calculate our diluted earnings per share assuming that all the notes were converted and that we issued shares of our common stock to settle the excess. However, if reflecting the notes in diluted earnings per share in this manner is anti-dilutive, or if the conversion value of the notes does not exceed their principal amount for a reporting period, then the shares underlying the notes will not be reflected in our diluted earnings per share. Upon adoption of ASU 2020-06, we also expect to lose the ability to use the treasury stock method, which would cause our diluted earnings per share to decline. For example, ASU 2020-06 eliminates the treasury stock method for convertible instruments that can be settled in whole or in part with equity and instead require application of the “if-converted” method. Under that method, diluted earnings per share would generally be calculated assuming that all the notes were converted solely into shares of common stock at the beginning of the reporting period, unless the result would be anti-dilutive. The application of the if-converted method could reduce our reported diluted earnings per share.
Note 3 – Revenues
Net Product Sales
We distribute Fintepla in the United States through an arrangement with a single specialty distributor. Our Customer subsequently resells our product through its related specialty pharmacy provider to patients and health care providers. Separately, we enter into payment arrangements with various third-party payers including pharmacy benefit managers, private healthcare insurers and government healthcare programs who provide coverage and reimbursement for our product provided to a patient.
Revenue from product sales is recorded at the net sales price (transaction price), which includes estimates of consideration payable to our Customer and third-party payers for which reserves are established and that result from government rebates, chargebacks, co-pay assistance, prompt-payment discounts and other allowances that are offered under arrangements between us, our Customer, and third-party payers related to the sales of Fintepla. These reserves are classified as either reductions of accounts receivable (if the amounts are payable to our Customer) or as refund liabilities within current liabilities (if the amounts are payable to a party other than our Customer). Amounts billed or invoiced are included in accounts receivable, net on our condensed consolidated balance sheet. We did not have any contract assets (unbilled receivables) at September 30, 2020, as we generally invoice our Customer before or at the time of revenue recognition. We did not have any contract liabilities at September 30, 2020, as we did not receive payments in advance of fulfilling our performance obligations to our Customer.
We recognize product revenues when our Customer obtains control of our product, which occurs at a point in time and is typically upon delivery to our Customer or, in the case of products that are subject to consignment agreements, when our Customer takes title of the product from our consigned inventory location for shipment directly to a patient or healthcare provider. In the event the variable consideration is constrained, we include an amount to the extent it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur in a future reporting period. Depending on the type of variable consideration, we use either the most likely method or expected value method to estimate variable
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consideration related to Fintepla product sales. We do not have any material constraints on our variable consideration included within the transaction price for Fintepla product sales. The actual amount of consideration ultimately received may differ from our estimates. If actual results in the future vary from estimates, the estimates will be adjusted, which will affect our revenue from net product sales in the period that such variances become known. Each unit of Fintepla that is ordered by our Customer represents a separate performance obligation that is completed when our Customer obtains control of our product. We record product revenues, net of variable consideration, any applicable constraint, and consideration payable to parties other than our Customer at that point in time. We record shipping and handling costs within cost of product sales on our condensed consolidated statements of operations. We classify payments to our Customer or its affiliates for certain services, to the extent that the services we received are distinct from the sale of our product, as selling, general and administrative expenses on our condensed consolidated statements of operations. We have elected to exclude taxes collected from our customers (we currently have one) and remitted to governmental authorities from the measurement of the transaction price.
We sell Fintepla to our Customer at wholesale acquisition cost, and calculate product revenue from Fintepla sales, net of variable consideration and consideration payable to parties other than our Customer. Variable consideration and consideration payable to parties other than our Customer consists of estimates related to the following categories:
Trade Discounts and Allowances: We provide our Customer with discounts for prompt payment and we also pay fees to our Customer for distribution services rendered that are not distinct from product sales. We expect our Customer to earn these discounts and fees, and accordingly we deduct these discounts and fees in full from our gross product revenue and accounts receivable at the time we recognize the related revenue.
Government Rebates: Fintepla is eligible for purchase by, or qualifies for reimbursement from, Medicaid and other government programs that are eligible for rebates on the price they pay for Fintepla. To determine the appropriate amount to reserve for these rebates, we identify the government-funded health insurer of patients who receive Fintepla as sold by our Customer through its related specialty pharmacy, apply the applicable government discount to these sales, and estimate the portion of total rebates that we anticipate will be claimed.
Other Rebates and Chargebacks: We may contract with various third-party payers for coverage and reimbursement of Fintepla. We estimate the rebates and chargebacks that we expect to be obligated to provide to such third-party payers based upon the terms of the applicable arrangement or negotiations with such third-party payers and our visibility regarding the payer mix.
Patient Assistance Program: We provide financial assistance to eligible patients whose insurance policies have high deductibles or co-payments and deduct our estimate of the amount of such assistance from gross product revenue.
Product Returns: We do not provide contractual return rights to our Customer, except in instances where the product is damaged or defective, which we expect to be rare.
During the three and nine months ended September 30, 2020, we recorded net product sales of $1.5 million, which consisted of commercial sales of Fintepla in the United States.
Collaboration Revenue
In March 2019, we entered into an agreement (Shinyaku Agreement) with Nippon Shinyaku Co., Ltd. (Shinyaku) for the exclusive distribution of Fintepla in Japan for the treatment of Dravet syndrome and LGS. As part of the Shinyaku Agreement, we are responsible for completing the global clinical development and all regulatory approval activities for Fintepla to support the submission of new drug applications in Japan for Dravet syndrome and LGS. Upon regulatory approval of Fintepla in Japan, Shinyaku will act as our exclusive distributor for Fintepla and will be responsible for the commercialization activities including the promotion, marketing, sale and distribution of Fintepla in Japan. Upon regulatory approval of Fintepla in Japan, Shinyaku will also act as our exclusive distributor for commercial shipment and distribution of Fintepla in Japan. If we pursue global development of Fintepla for indications other than Dravet syndrome or LGS, Shinyaku has the option to participate in the development for such indications in Japan, subject to cost sharing requirements pursuant to the agreement. Activities under the Shinyaku Agreement will be governed by a joint steering committee (JSC) consisting of three representatives from each party to the agreement. All decisions of the JSC are to be made by a unanimous vote with tie-breaking rights provided to each party for certain matters related to development, regulatory approval and commercialization select distribution activities of Fintepla in that territory.
Shinyaku has agreed to support development and regulatory approval of Fintepla in Japan by actively participating in the design of non-clinical, clinical and manufacturing requirements needed for regulatory submission, actively planning and participating in product labeling decisions and discussions with the Japanese Ministry of Health, Labor and Welfare (MHLW) and obtained distribution exclusivity through the payment of an initial fixed consideration. Pursuant to the terms of the agreement, Shinyaku agreed to make aggregate fixed payments of $20.0 million to us in scheduled installments. As of
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September 30, 2020, we have received $17.0 million with the remaining balance due within the next year. We will be actively running the clinical trials, performing manufacturing validation activities, preparing regulatory filings and holding discussions with MHLW, and negotiating pricing. We and Shinyaku have agreed to proportionally share the Japan specific development costs that may arise outside of the initial development plan and any post-approval clinical study costs in Japan. In addition, we can earn up to $66.0 million from Shinyaku for the achievement of certain regulatory milestones for the treatment of Dravet syndrome and LGS. If regulatory approval of Fintepla is received in Japan, we have agreed to supply Shinyaku with Fintepla upon receipt of purchase orders at our actual manufacturing cost plus a fixed transfer price mark-up, a fixed percentage of Shinyaku's net sales of Fintepla in Japan for such fiscal year, and a net price mark-up based on a percent of the applicable aggregate sales of Fintepla by Shinyaku for such fiscal year. The net price mark-up percentage increases with Shinyaku’s sales of Fintepla annual net sales in Japan and ranges between mid-twenties and is capped at a low thirties of the aggregate annual net sales for an applicable fiscal year. In addition, we can earn up to an additional $42.5 million tied to the achievement of certain net sales milestones by Shinyaku through the term of the agreement, which generally expires in 2045.
The collaborative activities under the Shinyaku Agreement prior to regulatory approval are within the scope of the accounting guidance related to collaborative arrangements as both parties are active participants and are exposed to significant risks and rewards dependent on the success of commercializing Fintepla in Japan. Since Shinyaku is not a customer as it does not obtain an output of our development and regulatory approval activities for Fintepla as they were not provided a license to our intellectual property or the ability to manufacture the product, and we do not consider performing development and regulatory approval services to be a part of our ongoing activities. Shinyaku will only become a customer and subject to revenue from contracts from customers accounting guidance after regulatory approval of Fintepla in Japan occurs and Shinyaku places purchase orders with us. To date, Shinyaku has not provided us with any purchase orders and thus no revenue has been recognized for the supply of Fintepla.
We considered the revenue from contracts with customers guidance by analogy in determining the unit of account, and the recognition and measurement of such unit of account for collaborative activities under the Shinyaku Agreement and concluded that there are two development programs akin to performance obligations related to collaborative activities for development and regulatory approval efforts for Dravet and LGS. We are the principal as it relates to the collaborative development and regulatory approval activities primarily because we are responsible for the acceptability of the results of the work of the third-party vendors that are used to assist us in performing such activities. Therefore, such collaboration revenue is presented on a gross basis in our condensed consolidated statements of operations apart from research and development expenses incurred.
Since Shinyaku was not provided a license to our intellectual property or the ability to manufacture Fintepla, Shinyaku will only become a customer, and payments made under the Shinyaku Agreement will only be subject to the accounting guidance related to revenue from contracts from customers, after regulatory approval of Fintepla in Japan occurs and Shinyaku places purchase orders with us.
The initial collaboration consideration consisted solely of the fixed consideration payments of $20.0 million and was allocated on a relative standalone selling price basis to the two identified development programs akin to performance obligations related to collaborative activities for development and regulatory approval efforts for Dravet syndrome and LGS. Analogizing to the revenue from contracts with customers variable consideration guidance, all potential regulatory milestone payment consideration will be included in the collaboration consideration if and when it is probable that a significant reversal in the amount of cumulative collaboration consideration recognized will not occur when the uncertainty associated with the variable collaboration consideration is subsequently resolved. At contract inception and through September 30, 2020, this consideration was fully constrained as the achievement of the events tied to these regulatory milestone payments was highly dependent on factors outside our control.
Collaboration revenue is being recognized over time as the collaborative activities related to each development program are rendered. We determined an input method is a reasonable representative depiction of the performance of the collaborative activities under the Shinyaku Agreement. The method of measuring progress towards completion incorporates actual internal and external costs incurred, relative to total internal and external costs expected to be incurred over an estimated period to satisfy the collaborative activities. The period over which total costs are estimated reflects our estimate of the period over which it will perform the collaborative activities for each development program. Changes in estimates of total internal and external costs expected to be incurred are recognized in the period of change as a cumulative catch-up adjustment to collaboration revenue.
For the three and nine months ended September 30, 2020, we recognized collaboration revenue of $1.3 million and $3.6 million, respectively. As of September 30, 2020, the deferred revenue balance of $11.2 million included a $1.5 million installment receivable recorded within other current assets related to the $20.0 million fixed consideration under the arrangement. We classified deferred revenue as either current or net of current portion in the accompanying condensed consolidated balance sheets based on the period over which the collaboration revenue is expected to be recognized. We expect to recognize collaboration revenue related to these collaborative activities through the end of 2023.
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Note 4 – Cash, Cash Equivalents and Marketable Securities
The following tables summarize the amortized cost and the estimated fair value of our cash, cash equivalents and marketable securities as of September 30, 2020 and December 31, 2019 (in thousands):
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September 30, 2020
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Amortized Cost
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Gross Unrealized Gains
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Gross Unrealized Losses
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Estimated Fair Value
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Current assets:
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Cash
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$
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219,469
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$
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—
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$
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—
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$
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219,469
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Cash equivalents:
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U.S. Treasuries
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13,799
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—
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—
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13,799
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Money market funds
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39,536
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—
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—
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|
39,536
|
|
Certificate of deposits
|
|
3,008
|
|
|
—
|
|
|
—
|
|
|
3,008
|
|
Commercial paper
|
|
21,648
|
|
|
—
|
|
|
—
|
|
|
21,648
|
|
Total cash and cash equivalents
|
|
297,460
|
|
|
—
|
|
|
—
|
|
|
297,460
|
|
Marketable securities:
|
|
|
|
|
|
|
|
|
U.S. Treasuries
|
|
27,894
|
|
|
2
|
|
|
—
|
|
|
27,896
|
|
Commercial paper
|
|
101,951
|
|
|
—
|
|
|
—
|
|
|
101,951
|
|
U.S. Government-sponsored enterprises debt securities
|
|
6,200
|
|
|
19
|
|
|
—
|
|
|
6,219
|
|
Corporate debt securities
|
|
49,980
|
|
|
377
|
|
|
—
|
|
|
50,357
|
|
Certificate of deposits
|
|
41,284
|
|
|
—
|
|
|
—
|
|
|
41,284
|
|
|
|
|
|
|
|
|
|
|
Total marketable securities
|
|
227,309
|
|
|
398
|
|
|
—
|
|
|
227,707
|
|
Total cash, cash equivalents and marketable securities
|
|
$
|
524,769
|
|
|
$
|
398
|
|
|
$
|
—
|
|
|
$
|
525,167
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2019
|
|
|
Amortized Cost
|
|
Gross Unrealized Gains
|
|
Gross Unrealized Losses
|
|
Estimated Fair Value
|
Current assets:
|
|
|
|
|
|
|
|
|
Cash
|
|
$
|
43,058
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
43,058
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash equivalents:
|
|
|
|
|
|
|
|
|
Money market funds
|
|
11,527
|
|
|
—
|
|
|
—
|
|
|
11,527
|
|
Commercial paper
|
|
7,485
|
|
|
—
|
|
|
—
|
|
|
7,485
|
|
Total cash and cash equivalents
|
|
62,070
|
|
|
—
|
|
|
—
|
|
|
62,070
|
|
Marketable securities:
|
|
|
|
|
|
|
|
|
Commercial paper
|
|
73,366
|
|
|
—
|
|
|
—
|
|
|
73,366
|
|
Corporate debt securities
|
|
74,038
|
|
|
381
|
|
|
(2)
|
|
|
74,417
|
|
Certificate of deposits
|
|
41,302
|
|
|
—
|
|
|
—
|
|
|
41,302
|
|
|
|
|
|
|
|
|
|
|
Total marketable securities
|
|
188,706
|
|
|
381
|
|
|
(2)
|
|
|
189,085
|
|
Total cash, cash equivalents and marketable securities
|
|
$
|
250,776
|
|
|
$
|
381
|
|
|
$
|
(2)
|
|
|
$
|
251,155
|
|
The following table summarizes the cost and fair value of marketable securities based on stated effective maturities as of September 30, 2020 (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
Amortized Cost
|
|
Fair Value
|
Due within one year
|
$
|
216,609
|
|
|
$
|
216,962
|
|
Due between one and two years
|
10,700
|
|
|
10,745
|
|
Total
|
$
|
227,309
|
|
|
$
|
227,707
|
|
Zogenix, Inc. | Q3 2020 Form 10-Q | 13
We regularly review our available-for-sale marketable securities in an unrealized loss position and evaluate the current expected credit loss by considering factors such as historical experience, market data, issuer-specific factors, and current economic conditions. As of September 30, 2020, no assessment of expected credit losses was necessary as we did not have any individual security in an unrealized loss position.
Accrued interest receivable on available-for-sale marketable securities are recorded within “Prepaid expenses and other current assets” on our condensed consolidated balance sheets and was $0.6 million and $0.6 million at September 30, 2020 and December 31, 2019, respectively.
See Note 5 for further information regarding the fair value of our financial instruments.
Note 5 – Fair Value Measurements
Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. A three-level valuation hierarchy has been established under GAAP for disclosure of fair value measurements. The valuation hierarchy is based on the transparency of inputs to the valuation of an asset or liability as of the measurement date. The three levels are defined as follows:
Level 1:Observable inputs such as quoted prices in active markets;
Level 2:Inputs, other than the quoted prices in active markets, that are observable either directly or indirectly; and
Level 3:Unobservable inputs in which there is little or no market data, which require the reporting entity to develop its own assumptions.
Our financial instruments consist primarily of cash and cash equivalents, marketable securities, other current assets, accounts payable and accrued liabilities, convertible debt, contingent consideration liabilities and our outstanding common stock warrant liabilities. Certain cash equivalents, marketable securities, contingent consideration liabilities and common stock warrant liabilities are reported at their respective fair values on our condensed consolidated balance sheets. The remaining financial instruments are carried at cost which approximates their respective fair values because of the short-term nature of these financial instruments. See Note 4 for further information regarding the amortized cost of our financial assets.
The following tables summarize assets and liabilities recognized or disclosed at fair value on a recurring basis as of September 30, 2020 and December 31, 2019 (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2020
|
|
|
Level 1
|
|
Level 2
|
|
Level 3
|
|
Total
|
Assets:
|
|
|
|
|
|
|
|
|
Cash equivalents:
|
|
|
|
|
|
|
|
|
U.S. Treasuries
|
|
$
|
—
|
|
|
$
|
13,799
|
|
|
$
|
—
|
|
|
$
|
13,799
|
|
Money market funds
|
|
39,536
|
|
|
—
|
|
|
—
|
|
|
39,536
|
|
Certificate of deposits
|
|
—
|
|
|
3,008
|
|
|
—
|
|
|
3,008
|
|
Commercial paper
|
|
—
|
|
|
21,648
|
|
|
—
|
|
|
21,648
|
|
Marketable securities:
|
|
|
|
|
|
|
|
|
U.S. Treasuries
|
|
—
|
|
|
27,896
|
|
|
—
|
|
|
27,896
|
|
Commercial paper
|
|
—
|
|
|
101,951
|
|
|
—
|
|
|
101,951
|
|
U.S. Government-sponsored enterprises debt securities
|
|
—
|
|
|
6,219
|
|
|
—
|
|
|
6,219
|
|
Corporate debt securities
|
|
—
|
|
|
50,357
|
|
|
—
|
|
|
50,357
|
|
Certificate of deposits
|
|
—
|
|
|
41,284
|
|
|
—
|
|
|
41,284
|
|
Total assets(1)
|
|
$
|
39,536
|
|
|
$
|
266,162
|
|
|
$
|
—
|
|
|
$
|
305,698
|
|
Liabilities:
|
|
|
|
|
|
|
|
|
Common stock warrant liabilities
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
9
|
|
|
$
|
9
|
|
Contingent consideration liabilities
|
|
—
|
|
|
—
|
|
|
54,900
|
|
|
54,900
|
|
Total liabilities
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
54,909
|
|
|
$
|
54,909
|
|
Zogenix, Inc. | Q3 2020 Form 10-Q | 14
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2019
|
|
|
Level 1
|
|
Level 2
|
|
Level 3
|
|
Total
|
Assets:
|
|
|
|
|
|
|
|
|
Cash equivalents:
|
|
|
|
|
|
|
|
|
Money market funds
|
|
$
|
11,527
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
11,527
|
|
Commercial paper
|
|
—
|
|
|
7,485
|
|
|
—
|
|
|
$
|
7,485
|
|
Marketable securities:
|
|
|
|
|
|
|
|
|
Commercial paper
|
|
—
|
|
|
73,366
|
|
|
—
|
|
|
73,366
|
|
Corporate debt securities
|
|
—
|
|
|
74,417
|
|
|
—
|
|
|
74,417
|
|
Certificate of deposits
|
|
—
|
|
|
41,302
|
|
|
—
|
|
|
41,302
|
|
|
|
|
|
|
|
|
|
|
Total assets(1)
|
|
$
|
11,527
|
|
|
$
|
196,570
|
|
|
$
|
—
|
|
|
$
|
208,097
|
|
Liabilities:
|
|
|
|
|
|
|
|
|
Common stock warrant liabilities
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
198
|
|
|
$
|
198
|
|
Contingent consideration liabilities
|
|
—
|
|
|
—
|
|
|
63,800
|
|
|
63,800
|
|
Total liabilities
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
63,998
|
|
|
$
|
63,998
|
|
————————————
(1)Fair value is determined by taking into consideration valuations obtained from third-party pricing services. The third-party pricing services utilize industry standard valuation models, for which all significant inputs are observable, either directly or indirectly, to estimate fair value. These inputs include reported trades of and broker/dealer quotes on the same or similar securities; issuer credit spreads; benchmark securities; and other observable inputs.
Contingent Consideration Liability
Pursuant to the terms of the Brabant purchase agreement in 2014 in which we acquired worldwide development and commercialization rights to Fintepla, we are obligated to make future milestone payments that are contingent upon the successful achievement of certain regulatory and sales-based milestone events related to Fintepla. As of September 30, 2020, the potential amount of future payments that we may be required to make is between zero, if none of the remaining milestones are achieved, to a maximum of $60.0 million.
The following table provides a reconciliation of our contingent consideration liability measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the three and nine months ended September 30, 2020 and 2019 (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30,
|
|
Nine Months Ended September 30,
|
|
2020
|
|
2019
|
|
2020
|
|
2019
|
Balance at beginning of period
|
$
|
53,100
|
|
|
$
|
70,500
|
|
|
$
|
63,800
|
|
|
$
|
78,200
|
|
Change in fair value
|
1,800
|
|
|
400
|
|
|
6,100
|
|
|
2,700
|
|
Settlements
|
—
|
|
|
—
|
|
|
(15,000)
|
|
|
(10,000)
|
|
Balance at end of period
|
$
|
54,900
|
|
|
$
|
70,900
|
|
|
$
|
54,900
|
|
|
$
|
70,900
|
|
For the nine months ended September 30, 2020, the $6.1 million increase to the estimated fair value of our contingent consideration liability was primarily due to updated assumptions used regarding the probability of success for achieving certain regulatory and sales-based milestone events in light of FDA approval of Fintepla in June 2020. The change in fair value for the three and nine months ended September 30, 2019 and the three months ended September 30, 2020 was attributable to immaterial adjustments to certain assumptions and estimates used in the remeasurement to fair value and changes in the discount rate used as a result of market interest rate changes.
The following table summarizes the significant unobservable inputs used in the fair value measurement of our contingent consideration liabilities as of September 30, 2020.
Zogenix, Inc. | Q3 2020 Form 10-Q | 15
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair Value as of
September 30, 2020
(in thousands)
|
|
Valuation Technique
|
|
Unobservable Input
|
|
Range
|
|
Weighted
Average(1)
|
$54,900
|
|
Discounted cash flow
|
|
Discount rate
|
|
3.6% — 10.1%
|
|
5.5%
|
|
|
Probability of payment
|
|
0% — 94.3%
|
|
94.3%
|
|
|
Projected year of payment
|
|
2021 — 2030
|
|
2022
|
————————————
(1)Unobservable inputs were weighted by the relative fair value of the contingent consideration liability.
The weighted average discount rate was calculated based on the relative fair value of our contingent consideration obligations. Significant increases or decreases in projected revenues, probabilities of payment, discount rates or the time until payment is made would have resulted in a significantly lower or higher fair value measurement as of September 30, 2020.
Convertible Senior Notes
As of September 30, 2020, the estimated fair value of our Convertible Senior Notes was approximately $199.7 million and was determined based on a binomial lattice model with Level 2 inputs.
Note 6 – Balance Sheet Details
Inventory
The following table provides details of our inventory balance (in thousands):
|
|
|
|
|
|
|
September 30, 2020
|
Raw materials
|
$
|
391
|
|
Work in process
|
531
|
|
Finished goods
|
88
|
|
Total
|
$
|
1,010
|
|
As of September 30, 2020, our inventory balance reflects the cost of post-approval manufacturing activities related to our product. During the three and nine months ended September 30, 2020, most of the cost of product sales had a zero-cost basis. Prior to receiving FDA approval for Fintepla, we recorded all manufacturing product costs as research and development expense. As of September 30, 2020, no write-downs of inventory were deemed necessary.
Accrued and Other Current Liabilities
The following table provides details of accrued and other current liabilities (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2020
|
|
December 31, 2019
|
Accrued clinical trial expenses
|
$
|
13,088
|
|
|
$
|
18,666
|
|
Accrued compensation
|
8,668
|
|
|
7,179
|
|
Other accrued liabilities
|
10,117
|
|
|
4,074
|
|
Common stock warrant liabilities
|
9
|
|
|
198
|
|
Total accrued and other current liabilities
|
$
|
31,882
|
|
|
$
|
30,117
|
|
Zogenix, Inc. | Q3 2020 Form 10-Q | 16
Note 7 – Intangible Assets
The following table provides details of the carrying amount of our intangible assets (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2020
|
|
December 31, 2019
|
Finite-lived intangible assets
|
$
|
102,500
|
|
|
$
|
—
|
|
Accumulated amortization
|
(1,971)
|
|
|
—
|
|
Indefinite-lived in-process research and development (IPR&D) intangible assets
|
—
|
|
|
102,500
|
|
Total intangible assets, net
|
$
|
100,529
|
|
|
$
|
102,500
|
|
Our intangible assets consist of worldwide development, commercialization and related intellectual property rights including patents and licenses for our product, Fintepla (fenfluramine; formerly referred to as ZX008), which at the time of our acquisition in October 2014 and as of December 31, 2019, was classified as an indefinite-lived IPR&D asset. Upon FDA approval of Fintepla in June 2020, this indefinite-lived asset was reclassified to a finite-lived intangible asset subject to amortization.
In July 2020, we commercially launched Fintepla and commenced amortization of this asset on a straight-line basis over its estimated useful life. Due to the inherent subjectivity of forecasting the timing in which the cash flows may be generated from this intangible asset over a long-term time horizon, we concluded the pattern of economic benefit cannot be reliably determined. As such, we elected to use the straight-line method of amortization for this intangible asset.
In estimating the useful life of the finite-lived Fintepla intangible asset, we considered the estimated period over which the asset will contribute directly or indirectly to our future cash flows, the strength of issued or licensed patents and related period of intellectual property protection, the availability of competitor products treating similar indications and the impact of patent expiry on the sustainability of future operating cash flows of the asset. Based on these factors, we estimated the useful life of the finite-lived intangible asset to be 13 years.
As of September 30, 2020, the estimated future amortization of intangible assets for the next five years and thereafter is as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
Estimated Amortization Expense
|
2020 (remaining 3 months)
|
|
$
|
1,971
|
|
2021
|
|
7,885
|
|
2022
|
|
7,885
|
|
2023
|
|
7,885
|
|
2024
|
|
7,885
|
|
Thereafter
|
|
67,018
|
|
Total
|
|
$
|
100,529
|
|
Note 8 – Leases
We have operating leases consisting of office space for our Emeryville, California headquarters and for our various subsidiaries. In March 2020, our operating lease for our former headquarters in San Diego, California and the co-terminus sublease arrangement with our sublessee expired in accordance with the terms of the leases. In February 2020, we entered into a lease for office space in Maidenhead, United Kingdom, for a five-year term with aggregate lease payments of approximately $1.5 million. Operating lease assets represent our right to use an underlying asset for the lease term. Operating lease liabilities represent the present value of lease payments over the lease term, discounted using an estimate of our secured incremental borrowing rate.
The components of lease cost included in our condensed consolidated statements of operations were as follows (in thousands):
Zogenix, Inc. | Q3 2020 Form 10-Q | 17
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30,
|
|
|
2020
|
|
2019
|
Lease costs
|
|
|
|
|
Operating lease cost
|
|
$
|
1,510
|
|
|
$
|
1,505
|
|
Short-term lease cost
|
|
346
|
|
|
690
|
|
Sublease income
|
|
(115)
|
|
|
(435)
|
|
Total
|
|
$
|
1,741
|
|
|
$
|
1,760
|
|
Cash paid for amounts included in the measurement of lease liabilities for the nine months ended September 30, 2020 and 2019 was $1.6 million and $1.2 million, respectively. The amounts were included in net cash used in operating activities in our condensed consolidated statements of cash flows. Right-of-use assets obtained in exchange for new operating lease liabilities were $1.2 million for the nine months ended September 30, 2020.
Maturities of operating lease liabilities as of September 30, 2020 and December 31, 2019 were as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2020
|
|
December 31, 2019
|
2020 (remaining 3 months and 12 months, respectively)
|
|
$
|
589
|
|
|
$
|
1,986
|
|
2021
|
|
2,305
|
|
|
1,957
|
|
2022
|
|
2,243
|
|
|
1,894
|
|
2023
|
|
2,300
|
|
|
1,951
|
|
2024
|
|
2,311
|
|
|
2,010
|
|
Thereafter
|
|
5,101
|
|
|
5,101
|
|
Total lease payments
|
|
14,849
|
|
|
14,899
|
|
Less imputed interest
|
|
(2,535)
|
|
|
(2,825)
|
|
Total operating lease liabilities
|
|
$
|
12,314
|
|
|
$
|
12,074
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2020
|
|
December 31, 2019
|
Current portion of operating lease liabilities
|
|
$
|
1,654
|
|
|
$
|
1,322
|
|
Operating lease liabilities, net of current portion
|
|
10,660
|
|
|
10,752
|
|
Total lease liabilities
|
|
$
|
12,314
|
|
|
$
|
12,074
|
|
As of September 30, 2020, the weighted-average remaining lease term was 6.3 years and the weighted-average discount rate, weighted based on the remaining balance of lease payments, was 6.2%.
Note 9 – Convertible Senior Notes
On September 28, 2020, we issued $200.0 million aggregate principal amount of 2.75% convertible senior Notes due 2027 (Initial Notes) to certain initial purchasers for resale to qualified institutional buyers in a private offering exempt from registration under the Securities Act of 1933. In connection with the offering, we granted the initial purchasers an option to purchase up to an additional $30.0 million in principal amount of notes (Option Notes), which was exercised in full on October 5, 2020. Total proceeds realized, net of issuance costs, from the sale of the Initial Notes and Option Notes (collectively, the Convertible Senior Notes, or the Notes) were approximately $222.5 million, of which $194.0 million were received upon closing of the Initial Notes in September 2020. The Notes are governed by an indenture (Indenture), dated as of September 28, 2020, between Zogenix and U.S. Bank National Association, as trustee. Under the Indenture, the Notes are senior, unsecured obligations of Zogenix, are equal in right of payment with its future senior, unsecured indebtedness of Zogenix, and structurally subordinated to all indebtedness and liabilities of its subsidiaries. The principal amount of the Notes was issued at par value and the Notes accrue interest at a rate of 2.75% per year, payable semi-annually in arrears on April 1 and October 1 of each year, beginning on April 1, 2021. The Notes mature on October 1, 2027, unless earlier converted by the holders or redeemed or repurchased by us in accordance with their terms prior to such date. The Indenture contains customary terms and covenants, including certain events of default upon which the Notes may be due and payable immediately, but does not contain any financial covenants.
Zogenix, Inc. | Q3 2020 Form 10-Q | 18
The Notes are convertible, subject to certain conditions described below, into shares of our common stock at an initial conversion rate of 41.1794 shares per $1,000 principal amount of the Notes, which represents an initial conversion price of approximately $24.28 per share, subject to adjustments upon the occurrence of certain events. Certain corporate events described in the Indenture may increase the conversion rate for holders who elect to convert their Notes in connection with such corporate event should they occur. We also may choose to repurchase outstanding Notes through open-market transactions, including through Rule 10b5-1 trading plan to facilitate open-market repurchases, or otherwise, from time to time.
Holders may convert the Notes in multiples of $1,000 principal amount at any time prior to October 1, 2027, but only in the following circumstances:
•during any calendar quarter ending after December 31, 2020, if our closing stock price exceeds 130% of the conversion price on each of at least 20 trading days of the last 30 consecutive trading days of the immediately preceding calendar quarter;
•during the five consecutive business day period after any 10 consecutive trading day period in which the Notes’ trading price is less than 98% of the product of our closing stock price times the conversion rate; or
•the occurrence of certain corporate events, such as a change of control, merger, default or liquidation.
In addition, holders may also convert their Notes at their option at any time beginning on July 1, 2027 until the close of business on the second scheduled trading day immediately before the maturity date for the Notes, without regard to the foregoing circumstances.
Upon conversion, we will pay or deliver, as the case may be, cash, shares of our common stock or a combination thereof at our election.
We may not redeem the Notes prior to October 7, 2024. On or after October 7, 2024, the Notes are redeemable for cash, in whole or in part (subject to minimum redemption amounts), at our option at any time, and from time to time, before the 40th scheduled trading day immediately before October 1, 2027, at a cash redemption price equal to 100% of the principal amount of the Notes to be redeemed, plus accrued and unpaid interest, if any, but only if our closing stock price exceeds 130% of the conversion price on (1) each of at least 20 trading days, whether or not consecutive, during the 30 consecutive trading days ending on, and including, the trading day immediately before the date we send the related redemption notice; and (2) the trading day immediately before the date we send such notice. In addition, calling any note for redemption will constitute a make-whole fundamental change with respect to that Note, in which case the conversion rate applicable to the conversion of that Note will be increased in certain circumstances if it is converted after it is called for redemption.
In accounting for the issuance of the $200.0 million Initial Notes, we performed an assessment of all embedded features of the debt instrument to determine if (i) such features should be bifurcated and separately accounted for, and (ii) if bifurcation requirements are met, whether such features should be classified and accounted for as equity or liability instruments. If the embedded feature meets the requirements to be bifurcated and accounted for as a liability, the fair value of the embedded feature is measured initially, included as a liability on the condensed consolidated balance sheets and re‑measured to fair value at each reporting period.
We determined the embedded conversion feature in the Initial Notes is not required to be separately accounted for as a derivative liability instrument because it is considered to be indexed to our common stock. However, since the Initial Notes may be settled with a combination of cash and shares, at our election, we are required to separate the Initial Notes into debt and equity components. The value assigned to the debt component is the estimated fair value, as of the issuance date, of a similar debt instrument issued by us without the conversion feature. The difference between the full principal amount of the Initial Notes and this estimated fair value was recorded as a debt discount on the Notes, with a corresponding offset to additional paid-in capital (the equity component). In addition, the underlying debt issuance costs of associated with the Initial Notes were allocated to the debt and equity components in proportion to the allocation of the full principal amount to those components. The Option Notes that settled in October 2020 will be accounted for similarly.
The debt component of the Initial Notes was estimated to have a fair value of $132.3 million based on the contractual cash flows discounted at our estimated non-convertible debt borrowing rate of 9.7%. Our determination of an appropriate discount rate was based on a yield curve derived from recent publicly traded bond offerings with a similar term for companies with similar credit ratings to us (Level 2 inputs). After the allocation of underlying debt issuance costs of $6.6 million to the debt and equity components, $65.5 million was attributable to additional-paid-in capital within stockholders’ equity and the corresponding offset was recorded as unamortized debt discount and issuance costs and included within the carrying amount of the Notes. The debt discount and issuance costs will be amortized as interest expense over the expected term of the Initial Notes of seven years using the effective interest method. The effective interest rate on the $200.0 million Initial Notes was 9.9%. The equity component is not remeasured as long as it continues to meet the conditions for equity classification.
Zogenix, Inc. | Q3 2020 Form 10-Q | 19
The following table provides information on our Convertible Senior Notes balance as of September 30, 2020 (in thousands):
|
|
|
|
|
|
|
|
|
|
|
September 30, 2020
|
Principal amount of Convertible Senior Notes
|
|
$
|
200,000
|
|
Less: Unamortized debt discount and issuance costs
|
|
(72,040)
|
|
Net carrying amount
|
|
$
|
127,960
|
|
For the three and nine months ended September 30, 2020, interest expense for the Initial Notes was not material. For the same periods in 2019, we had no interest expense as we had no borrowings..
Note 10 – Stockholders’ Equity and Stock-Based Compensation
Sale of Common Stock
Underwritten Public Offerings
In March 2020, we completed an underwritten public offering of 9,798,000 shares of our common stock at an offering price of $23.50 per share, including 1,278,000 shares sold pursuant to the underwriters’ full exercise of their option to purchase additional shares. Net proceeds realized from the offering amounted to approximately $221.7 million, after deducting commissions and other offering costs.
At-the-Market Offerings
We are party to an at-the-market sales agreement (ATM Sales Agreement) with Cantor Fitzgerald & Co. (Cantor), pursuant to which Cantor has agreed to act as sales agent in connection with the issuance and sale of up to $200.0 million in gross aggregate proceeds of our common stock from time to time pursuant to the ATM Sales Agreement and our automatic “shelf” registration statement on Form S-3 registering the offering filed on June 12, 2020. In August and September 2020, we sold 202,503 shares of common stock and realized net proceeds of approximately $4.9 million, after deducting commissions and other offering costs, pursuant to the ATM Sales Agreement. As of September 30, 2020, approximately $195.0 million remains available under the ATM Sales Agreement.
Equity Incentive Plans
We have issued stock-based awards from various equity incentive and stock purchase plans, as more fully described in Note 12, Stock-Based Compensation to the consolidated financial statements in our 2019 Form 10-K. In June 2020, our shareholders approved an amendment and restatement of our 2010 Employee Stock Purchase Plan (the Restated ESPP). Effective May 29, 2020, the plan was amended to increase the aggregate number of shares authorized for issuance from 375,000 to 875,000 shares and to eliminate the annual evergreen feature, which automatically added 31,250 shares to the aggregate shares authorized for issuance on January 1 of each year under the plan. In addition, the expiration date of the Restated ESPP was modified from October 2020 to the date that all shares authorized have been issued. As of September 30, 2020, there were 524,962 shares of common stock available for future purchases under the Restated ESPP.
Stock Options
The following is a summary of stock option activity for the nine months ended September 30, 2019 (in thousands, except per share data):
|
|
|
|
|
|
|
|
|
|
|
|
|
Shares
|
|
Weighted-
Average
Exercise
Price per Share
|
Outstanding at December 31, 2019
|
4,253
|
|
|
$
|
29.59
|
|
Granted
|
1,396
|
|
|
28.83
|
|
Exercised
|
(239)
|
|
|
16.64
|
|
Canceled
|
(230)
|
|
|
39.02
|
|
Outstanding at September 30, 2020
|
5,180
|
|
|
$
|
29.57
|
|
Zogenix, Inc. | Q3 2020 Form 10-Q | 20
Restricted Stock Units
The following is a summary of restricted stock unit activity for the nine months ended September 30, 2019 (in thousands, except per share data):
|
|
|
|
|
|
|
|
|
|
|
|
|
Shares
|
|
Weighted- Average Fair Value per Share at Grant Date
|
Outstanding at December 31, 2019
|
439
|
|
|
$
|
36.97
|
|
Granted
|
218
|
|
|
27.34
|
|
Vested
|
(220)
|
|
|
26.39
|
|
Canceled
|
(42)
|
|
|
38.79
|
|
Outstanding at September 30, 2020
|
395
|
|
|
$
|
37.61
|
|
In June 2020, approximately 128,000 shares of performance-based restricted stock units (PSU’s) granted in March 2017 vested upon satisfaction of both a service-period condition and a performance condition, the latter of which was satisfied following the FDA’s approval of Fintepla in June 2020. As of September 30, 2020, all outstanding restricted stock units were subject to time-based vesting.
Stock-Based Compensation Expense Allocation
The following table summarizes the components of total stock-based compensation expense included in the condensed consolidated statements of operations (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30,
|
|
Nine Months Ended September 30,
|
|
2020
|
|
2019
|
|
2020
|
|
2019
|
Research and development
|
$
|
2,865
|
|
|
$
|
2,012
|
|
|
$
|
9,082
|
|
|
$
|
5,521
|
|
Selling, general and administrative
|
4,276
|
|
|
3,423
|
|
|
12,756
|
|
|
9,495
|
|
Compensation expense related to acquired IPR&D
|
—
|
|
|
4,927
|
|
|
—
|
|
|
4,927
|
|
Total
|
$
|
7,141
|
|
|
$
|
10,362
|
|
|
$
|
21,838
|
|
|
$
|
19,943
|
|
Stock-based compensation expense for the nine months ended September 30, 2020 included $1.4 million of compensation expense related to the vesting of PSUs.
Note 11 – Net Loss Per Share
Basic net loss per share is calculated by dividing net loss by the weighted average number of shares outstanding for the period. Diluted net loss per share is calculated by dividing net loss by the weighted average number of shares of common stock and potential dilutive common stock equivalents outstanding during the period if the effect is dilutive. Our potentially dilutive shares of common stock include outstanding stock options, restricted stock units, warrants to purchase common stock and rights under our Senior Convertible Notes.
A reconciliation of the numerators and denominators used in computing net loss per share is as follows (in thousands, except per share amounts):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30,
|
|
Nine Months Ended September 30,
|
|
2020
|
|
2019
|
|
2020
|
|
2019
|
Numerator:
|
|
|
|
|
|
|
|
Net loss
|
$
|
(60,089)
|
|
|
$
|
(290,478)
|
|
|
$
|
(139,213)
|
|
|
$
|
(363,443)
|
|
|
|
|
|
|
|
|
|
Denominator:
|
|
|
|
|
|
|
|
Shares used in per share calculation
|
55,548
|
|
|
43,029
|
|
|
53,039
|
|
|
42,577
|
|
|
|
|
|
|
|
|
|
Net loss per share, basic and diluted
|
$
|
(1.08)
|
|
|
$
|
(6.75)
|
|
|
$
|
(2.62)
|
|
|
$
|
(8.54)
|
|
Zogenix, Inc. | Q3 2020 Form 10-Q | 21
The following table presents the potential shares of common stock outstanding that were excluded from the calculation of diluted net loss per share for the periods presented because including them would have been anti-dilutive (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30,
|
|
Nine Months Ended September 30,
|
|
2020
|
|
2019
|
|
2020
|
|
2019
|
Shares subject to outstanding stock options
|
5,149
|
|
|
4,172
|
|
|
4,848
|
|
|
4,040
|
|
Shares subject to outstanding restricted stock units
|
422
|
|
|
402
|
|
|
487
|
|
|
371
|
|
Shares subject to outstanding warrants to purchase common stock
|
28
|
|
|
28
|
|
|
28
|
|
|
28
|
|
Shares issuable upon conversion of Convertible Senior Notes
|
269
|
|
|
—
|
|
|
90
|
|
|
—
|
|
Total
|
5,868
|
|
|
4,602
|
|
|
5,453
|
|
|
4,439
|
|
Note 12 - Income Taxes
Income tax benefit during interim periods is based on applying an estimated annual effective income tax rate to year-to-date income, plus any significant unusual or infrequently occurring items, which are recorded in the interim period. The income tax benefit for the nine months ended September 30, 2020 differs from the U.S. federal statutory rate of 21.0% primarily due to effect of change in the valuation allowance against our deferred tax assets, which resulted in an income tax benefit.
As of December 31, 2019, our net deferred tax liability was related to book and tax basis differences for our indefinite-lived Fintepla IPR&D intangible asset that was acquired through the October 2014 acquisition of Brabant Pharma Limited. Previously, this deferred tax liability was not considered to be a source of income for purposes of establishing our deferred tax asset valuation allowance due to the uncertainty associated with the timing of the reversal of this temporary tax difference. Upon FDA approval of Fintepla in June 2020, the indefinite-lived asset was reclassified to a finite-lived intangible asset and was subject to amortization over its estimated useful life. Because the detail scheduling of the timing of reversal of this temporary tax difference became available, the deferred tax liability associated with this finite-lived intangible asset was considered to be a source of income when assessing the realizability of our deferred tax assets as of September 30, 2020. We therefore recorded a $17.4 million income tax benefit for the nine months ended September 30, 2020 with a corresponding reduction to our valuation allowance on deferred tax assets. The income tax benefit recognized for the nine months ended September 30, 2020 included the effects of foreign exchange differences on remeasurement of the deferred tax liability. An immaterial portion of the adjustment for foreign exchange differences was related to prior periods. As of September 30, 2020, given our recurring net operating losses, we maintained a full valuation allowance against our net deferred tax assets.
Note 13 – United Kingdom (U.K.) Research and Development (R&D) Tax Relief Scheme
We conduct extensive research and development activities that benefit from U.K.’s small and medium-sized enterprises (SMEs) R&D tax relief scheme. Under this tax relief scheme, a SME can make an election (i) to receive an enhanced U.K. tax deduction on its eligible R&D activities or, when an SME entity is in a net operating loss position, or (ii) to surrender net operating losses that arise from its eligible R&D activities in exchange for a cash payment from the U.K. tax authorities. As the tax incentives may be received without regard to an entity’s actual tax liability, they are not subject to accounting for income taxes. Amounts recognized by us for cash payment claims under the SME R&D tax relief scheme are recorded as a component of other income after an election for tax relief has been made by submitting a claim for a discrete tax year and collectability is deemed probable and reasonably assured.
In December 2019, we elected to surrender net operating losses by submitting claims to receive cash payments of $9.9 million and $9.8 million related to our 2017 and 2018 tax years, respectively. Upon approval of our submitted claims by the U.K. tax authorities in the first quarter of 2020, we recorded income of $19.7 million as a component of other income on the condensed consolidated statement of operations. In May 2020, we received the cash payment for our submitted claims. For our 2019 tax year, we have not yet decided whether to seek tax relief by surrendering some of our losses for a tax credit cash rebate claim or electing to receive enhanced U.K. tax deductions on our eligible research and development activities. Under the U.K.’s tax legislation, there is a two-year window after the end of a tax year to seek relief under this tax relief scheme.
Zogenix, Inc. | Q3 2020 Form 10-Q | 22