Annual Reports

 
Quarterly Reports

  • 10-Q (Nov 7, 2017)
  • 10-Q (Aug 7, 2017)
  • 10-Q (May 10, 2017)
  • 10-Q (Nov 7, 2016)
  • 10-Q (Aug 5, 2016)
  • 10-Q (May 6, 2016)

 
8-K

 
Other

Gilead Sciences 10-Q 2011

Documents found in this filing:

  1. 10-Q
  2. Ex-31.1
  3. Ex-31.2
  4. Ex-32.1
  5. Ex-32.1
Form 10-Q
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

 

FORM 10-Q

 

 

 

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2011

or

 

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                  to                 

Commission File No. 0-19731

 

 

GILEAD SCIENCES, INC.

(Exact Name of Registrant as Specified in Its Charter)

 

 

 

Delaware   94-3047598

(State or Other Jurisdiction of

Incorporation or Organization)

 

(IRS Employer

Identification No.)

333 Lakeside Drive, Foster City, California   94404
(Address of principal executive offices)   (Zip Code)

650-574-3000

Registrant’s Telephone Number, Including Area Code

 

 

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer   x     Accelerated filer  ¨    Non-accelerated filer   ¨     Smaller reporting company  ¨

                                                                    (Do not check if a smaller reporting company)

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x

Number of shares outstanding of the issuer’s common stock, par value $0.001 per share, as of July 29, 2011: 771,455,146

 

 

 


Table of Contents

GILEAD SCIENCES, INC.

INDEX

 

PART I.

   FINANCIAL INFORMATION    3
   Item 1.   

Condensed Consolidated Financial Statements

   3
     

Condensed Consolidated Balance Sheets at June 30, 2011 and December 31, 2010

   3
     

Condensed Consolidated Statements of Income for the Three and Six Months Ended June 30, 2011 and 2010

   4
     

Condensed Consolidated Statements of Cash Flows for the Three and Six Months Ended June 30,  2011 and 2010

   5
     

Notes to Condensed Consolidated Financial Statements

   6
   Item 2.   

Management’s Discussion and Analysis of Financial Condition and Results of Operations

   22
   Item 3.   

Quantitative and Qualitative Disclosures About Market Risk

   29
   Item 4.   

Controls and Procedures

   29

PART II.

   OTHER INFORMATION    30
   Item 1.   

Legal Proceedings

   30
   Item 1A.   

Risk Factors

   31
   Item 2.   

Unregistered Sales of Equity Securities and Use of Proceeds

   44
   Item 3.   

Defaults Upon Senior Securities

   44
   Item 4.   

Removed and Reserved

   44
   Item 5.   

Other Information

   44
   Item 6.   

Exhibits

   45

SIGNATURES

   54

We own or have rights to various trademarks, copyrights and trade names used in our business, including the following: GILEAD®, GILEAD SCIENCES®, TRUVADA®, VIREAD®, HEPSERA®, AMBISOME®, EMTRIVA®, VISTIDE®, LETAIRIS®, VOLIBRIS®, RANEXA®, CAYSTON® and RAPISCAN®. ATRIPLA® is a registered trademark belonging to Bristol-Myers Squibb & Gilead Sciences, LLC. LEXISCAN® is a registered trademark belonging to Astellas U.S. LLC. MACUGEN® is a registered trademark belonging to Eyetech Inc. SUSTIVA® is a registered trademark of Bristol-Myers Squibb Pharma Company. TAMIFLU® is a registered trademark belonging to Hoffmann-La Roche Inc. EDURANT® is a registered trademark belonging to Johnson & Johnson. This report also includes other trademarks, service marks and trade names of other companies.

 

2


Table of Contents
PART I. FINANCIAL INFORMATION

 

ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

GILEAD SCIENCES, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(in thousands, except per share amounts)

 

     June 30,
2011
    December 31,
2010
 
     (unaudited)        

Assets

    

Current assets:

    

Cash and cash equivalents

   $ 905,779      $ 907,879   

Short-term marketable securities

     1,364,539        1,190,789   

Accounts receivable, net

     1,938,645        1,621,966   

Inventories

     1,321,615        1,203,809   

Deferred tax assets

     277,611        279,339   

Prepaid taxes

     241,698        320,424   

Prepaid expenses

     84,140        67,632   

Other current assets

     85,018        116,244   
  

 

 

   

 

 

 

Total current assets

     6,219,045        5,708,082   

Property, plant and equipment, net

     721,884        701,235   

Noncurrent portion of prepaid royalties

     189,271        203,790   

Noncurrent deferred tax assets

     87,168        153,379   

Long-term marketable securities

     3,228,994        3,219,403   

Intangible assets

     2,128,410        1,425,592   

Other noncurrent assets

     119,368        181,149   
  

 

 

   

 

 

 

Total assets

   $ 12,694,140      $ 11,592,630   
  

 

 

   

 

 

 

Liabilities and Stockholders’ Equity

    

Current liabilities:

    

Accounts payable

   $ 1,102,319      $ 803,025   

Accrued government rebates

     384,284        325,018   

Accrued compensation and employee benefits

     129,989        147,632   

Income taxes payable

     5,438        1,862   

Other accrued liabilities

     618,223        437,893   

Deferred revenues

     63,243        103,175   

Current portion of long-term debt and other obligations, net

     7,345        646,345   
  

 

 

   

 

 

 

Total current liabilities

     2,310,841        2,464,950   

Long-term deferred revenues

     27,706        32,844   

Long-term debt, net

     3,870,846        2,838,573   

Long-term income taxes payable

     117,025        107,025   

Other long-term obligations

     156,391        27,401   

Commitments and contingencies (Note 10)

    

Stockholders’ equity:

    

Preferred stock, par value $0.001 per share; 5,000 shares authorized; none outstanding

     —          —     

Common stock, par value $0.001 per share; 2,800,000 shares authorized; 776,405 and 801,998 shares issued and outstanding at June 30, 2011 and December 31, 2010, respectively

     777        802   

Additional paid-in capital

     4,783,439        4,648,286   

Accumulated other comprehensive income (loss)

     (133,279     30,911   

Retained earnings

     1,395,908        1,183,730   
  

 

 

   

 

 

 

Total Gilead stockholders’ equity

     6,046,845        5,863,729   

Noncontrolling interest

     164,486        258,108   
  

 

 

   

 

 

 

Total stockholders’ equity

     6,211,331        6,121,837   
  

 

 

   

 

 

 

Total liabilities and stockholders’ equity

   $ 12,694,140      $ 11,592,630   
  

 

 

   

 

 

 

See accompanying notes.

 

3


Table of Contents

GILEAD SCIENCES, INC.

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

(unaudited)

(in thousands, except per share amounts)

 

     Three Months Ended
June 30,
    Six Months Ended
June 30,
 
     2011     2010     2011     2010  

Revenues:

        

Product sales

   $ 2,039,588      $ 1,806,061      $ 3,903,166      $ 3,594,124   

Royalty revenues

     94,321        117,790        152,986        411,471   

Contract and other revenues

     3,344        3,373        7,195        7,482   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total revenues

     2,137,253        1,927,224        4,063,347        4,013,077   
  

 

 

   

 

 

   

 

 

   

 

 

 

Costs and expenses:

        

Cost of goods sold

     533,863        455,525        1,007,974        895,955   

Research and development

     282,403        231,066        536,849        449,730   

Selling, general and administrative

     304,269        248,006        599,837        513,624   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total costs and expenses

     1,120,535        934,597        2,144,660        1,859,309   
  

 

 

   

 

 

   

 

 

   

 

 

 

Income from operations

     1,016,718        992,627        1,918,687        2,153,768   

Interest and other income, net

     11,978        18,285        25,810        33,930   

Interest expense

     (46,107     (17,764     (87,323     (34,719
  

 

 

   

 

 

   

 

 

   

 

 

 

Income before provision for income taxes

     982,589        993,148        1,857,174        2,152,979   

Provision for income taxes

     240,130        284,021        467,412        591,758   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net income

     742,459        709,127        1,389,762        1,561,221   

Net loss attributable to noncontrolling interest

     3,768        2,934        7,606        5,741   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net income attributable to Gilead

   $ 746,227      $ 712,061      $ 1,397,368      $ 1,566,962   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net income per share attributable to Gilead common stockholders—basic

   $ 0.95      $ 0.81      $ 1.77      $ 1.76   
  

 

 

   

 

 

   

 

 

   

 

 

 

Shares used in per share calculation—basic

     784,807        881,802        790,430        891,649   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net income per share attributable to Gilead common stockholders—diluted

   $ 0.93      $ 0.79      $ 1.73      $ 1.71   
  

 

 

   

 

 

   

 

 

   

 

 

 

Shares used in per share calculation—diluted

     800,800        898,753        806,462        913,819   
  

 

 

   

 

 

   

 

 

   

 

 

 

See accompanying notes.

 

4


Table of Contents

GILEAD SCIENCES, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(unaudited)

(in thousands)

 

     Six Months Ended
June 30,
 
     2011     2010  

Operating Activities:

    

Net income

   $ 1,389,762      $ 1,561,221   

Adjustments to reconcile net income to net cash provided by operating activities:

    

Depreciation expense

     36,030        33,386   

Amortization expense

     119,776        85,521   

Stock-based compensation expenses

     99,595        94,888   

Excess tax benefits from stock-based compensation

     (20,298     (60,689

Tax benefits from employee stock plans

     17,796        62,722   

Deferred income taxes

     40,008        29,896   

Other non-cash transactions

     6,150        3,683   

Changes in operating assets and liabilities:

    

Accounts receivable, net

     (221,966     (242,381

Inventories

     (114,644     (317,543

Prepaid expenses and other assets

     10,884        299   

Accounts payable

     295,648        262,262   

Income taxes payable

     51,585        (164,847

Accrued liabilities

     98,541        31,091   

Deferred revenues

     (45,070     (9,861
  

 

 

   

 

 

 

Net cash provided by operating activities

     1,763,797        1,369,648   
  

 

 

   

 

 

 

Investing Activities:

    

Purchases of marketable securities

     (2,714,090     (2,016,151

Proceeds from sales of marketable securities

     2,225,064        1,601,656   

Proceeds from maturities of marketable securities

     348,968        306,406   

Acquisitions, net of cash acquired

     (588,608     —     

Capital expenditures and other

     (41,505     (27,717
  

 

 

   

 

 

 

Net cash used in investing activities

     (770,171     (135,806
  

 

 

   

 

 

 

Financing Activities:

    

Proceeds from issuances of senior notes, net of issuance costs

     987,370        —     

Proceeds from issuances of common stock

     115,912        144,291   

Proceeds from credit facility

     —          500,000   

Repurchases of common stock

     (1,272,862     (1,854,081

Repayment of convertible senior notes

     (649,987     —     

Repayments of other long-term obligations

     (1,567     (5,556

Excess tax benefits from stock-based compensation

     20,298        60,689   

Distributions (to) from noncontrolling interest

     (86,016     5,153   
  

 

 

   

 

 

 

Net cash used in financing activities

     (886,852     (1,149,504
  

 

 

   

 

 

 

Effect of exchange rate changes on cash

     (108,874     125,343   
  

 

 

   

 

 

 

Net change in cash and cash equivalents

     (2,100     209,681   

Cash and cash equivalents at beginning of period

     907,879        1,272,958   
  

 

 

   

 

 

 

Cash and cash equivalents at end of period

   $ 905,779      $ 1,482,639   
  

 

 

   

 

 

 

See accompanying notes.

 

5


Table of Contents

GILEAD SCIENCES, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(unaudited)

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

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. The financial statements include all adjustments (consisting only of normal recurring adjustments) that the management of Gilead Sciences, Inc. (Gilead, we or us) believes are necessary for a fair presentation of the periods presented. These interim financial results are not necessarily indicative of results expected for the full fiscal year or for any subsequent interim period.

The preparation of these Condensed Consolidated Financial Statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues, expenses, and related disclosures. On an ongoing basis, management evaluates its estimates, including critical accounting policies or estimates related to revenue recognition, intangible assets, allowance for doubtful accounts, prepaid royalties, clinical trial accruals, its tax provision and stock-based compensation. We base our estimates on historical experience and on various other market specific and other relevant assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ significantly from these estimates.

The accompanying Condensed Consolidated Financial Statements include the accounts of Gilead, our wholly-owned subsidiaries and our joint ventures with Bristol-Myers Squibb Company (BMS), for which we are the primary beneficiary. We record a noncontrolling interest in our Condensed Consolidated Financial Statements to reflect BMS’s interest in the joint ventures. All intercompany transactions have been eliminated. The Condensed Consolidated Financial Statements include the results of companies acquired by us from the date of each acquisition for the applicable reporting periods.

The accompanying Condensed Consolidated Financial Statements and related financial information should be read in conjunction with the audited Consolidated Financial Statements and the related notes thereto for the year ended December 31, 2010, included in our Annual Report on Form 10-K filed with the U.S. Securities and Exchange Commission (SEC).

Net Income Per Share Attributable to Gilead Common Stockholders

Basic net income per share attributable to Gilead common stockholders is calculated based on the weighted-average number of shares of our common stock outstanding during the period. Diluted net income per share attributable to Gilead common stockholders is calculated based on the weighted-average number of shares of our common stock outstanding and other dilutive securities outstanding during the period. The potential dilutive shares of our common stock resulting from the assumed exercise of outstanding stock options, restricted stock units, performance shares and warrants relating to the convertible senior notes due in 2011 (2011 Notes), 2013 (2013 Notes), 2014 (2014 Notes) and 2016 (2016 Notes) (collectively, the Convertible Notes) are determined under the treasury stock method.

Because the principal amount of the Convertible Notes is settled in cash, only the conversion spread relating to the Convertible Notes is included in our calculation of diluted net income per share attributable to Gilead common stockholders. Our common stock resulting from the assumed settlement of the conversion spread of the Convertible Notes has a dilutive effect when the average market price of our common stock during the period exceeds the conversion prices of approximately $38.75, $38.10, $45.08 and $45.41 for the 2011 Notes, 2013 Notes, 2014 Notes and 2016 Notes, respectively.

In May 2011, our 2011 Notes matured and as a result, we have only included their impact for the period they were outstanding on our net income per share calculations for the three and six months ended June 30, 2011. Warrants related to our 2011 Notes remained outstanding at June 30, 2011 and we have included their full impact on our net income per share calculations for the three and six months ended June 30, 2011. The warrants related to our 2011 Notes will expire in August 2011.

During the three and six months ended June 30, 2011 and 2010, the average market prices of our common stock exceeded the conversion prices of the 2011 Notes and the 2013 Notes and the dilutive effects are included in the accompanying table. During the three and six months ended June 30, 2011, the average market prices of our common stock did not exceed the conversion prices of the 2014 Notes and 2016 Notes, which were issued in July 2010, and therefore did not have a dilutive effect on our net income per share for those periods.

Warrants relating to the 2011 Notes, 2013 Notes, 2014 Notes and 2016 Notes have a dilutive effect when the average market price of our common stock during the period exceeds the warrants’ exercise prices of $50.80, $53.90, $56.76 and $60.10, respectively. The average market prices of our common stock during each of the three and six months ended June 30, 2011 and 2010 did not exceed the warrants’ exercise prices relating to any of the Convertible Notes; therefore, these warrants did not have a dilutive effect on our net income per share for those periods.

 

6


Table of Contents

Stock options to purchase approximately 21.6 million and 21.8 million weighted-average shares of our common stock were outstanding during the three and six months ended June 30, 2011, respectively, but were not included in the computation of diluted net income per share attributable to Gilead common stockholders because their effect was antidilutive. Stock options to purchase approximately 23.4 million and 19.5 million weighted-average shares of our common stock were outstanding during the three and six months ended June 30, 2010, respectively, but were not included in the computation of diluted net income per share attributable to Gilead common stockholders because their effect was antidilutive.

The following table is a reconciliation of the numerator and denominator used in the calculation of basic and diluted net income per share attributable to Gilead common stockholders (in thousands):

 

     Three Months Ended
June 30,
     Six Months Ended
June 30,
 
     2011      2010      2011      2010  

Numerator:

           

Net income attributable to Gilead

   $ 746,227       $ 712,061       $ 1,397,368       $ 1,566,962   
  

 

 

    

 

 

    

 

 

    

 

 

 

Denominator:

           

Weighted-average shares of common stock outstanding used in the calculation of basic net income per share attributable to Gilead common stockholders

     784,807         881,802         790,430         891,649   

Effect of dilutive securities:

           

Stock options and equivalents

     14,461         16,503         14,817         18,746   

Conversion spread related to the 2011 Notes

     432         81         402         1,568   

Conversion spread related to the 2013 Notes

     1,100         367         813         1,856   
  

 

 

    

 

 

    

 

 

    

 

 

 

Weighted-average shares of common stock outstanding used in the calculation of diluted net income per share attributable to Gilead common stockholders

     800,800         898,753         806,462         913,819   
  

 

 

    

 

 

    

 

 

    

 

 

 

Concentrations of Risk

We are subject to credit risk from our portfolio of cash equivalents and marketable securities. Under our investment policy, we limit amounts invested in such securities by credit rating, maturity, industry group, investment type and issuer, except for securities issued by the U.S. government. We are not exposed to any significant concentrations of credit risk from these financial instruments. The goals of our investment policy, in order of priority, are as follows: safety and preservation of principal and diversification of risk; liquidity of investments sufficient to meet cash flow requirements; and a competitive after-tax rate of return.

We are also subject to credit risk from our accounts receivable related to our product sales. The majority of our trade accounts receivable arises from product sales in the United States and Europe. To date, we have not experienced significant losses with respect to the collection of our accounts receivable. We believe that our allowance for doubtful accounts was adequate at June 30, 2011.

Recent Accounting Pronouncements

In May 2011, the Financial Accounting Standards Board (FASB) issued amendments to its existing standard for fair value measurement to achieve common guidance between U.S. generally accepted accounting principles and International Financial Reporting Standards. In addition, the amended standard revises certain requirements for measuring fair value and for disclosure around fair value measurement. It does not require additional fair value measurements and was not intended to establish valuation standards or affect valuation practices outside of financial reporting. The updated standard is effective for us beginning in the first quarter of 2012. Early adoption is not permitted. The adoption of these amendments is not expected to have a material impact on our Condensed Consolidated Financial Statements.

In June 2011, the FASB issued an update to an existing standard for comprehensive income to make the presentation of items within other comprehensive income (OCI) more prominent. The updated standard prohibits the current presentation of OCI in the statement of stockholders’ equity and instead, provides public companies the option of presenting OCI in a continuous statement of comprehensive income or two separate consecutive statements. Additionally, the update requires that reclassification adjustments be displayed on the face of the financial statements where OCI is reported. The updated standard is effective for us beginning in the first quarter of 2012; however, early adoption is permitted and prior-year information would need to be presented in accordance with the requirements of the updated standard. Upon adoption, the updated standard will impact the presentation of our Condensed Consolidated Financial Statements; however, it will have no impact on our financial position or results of operations.

2. FAIR VALUE MEASUREMENTS

Our financial instruments consist principally of cash and cash equivalents, marketable securities, accounts receivable, foreign currency exchange forward and option contracts, accounts payable, and short-term and long-term debt. Cash and cash equivalents, marketable securities and foreign currency exchange contracts that hedge accounts receivable and forecasted sales are reported at their respective fair values on our Condensed Consolidated Balance Sheets. The carrying value and fair value of the Convertible Notes were $2.88 billion and $3.62 billion, respectively, as of June 30, 2011. The carrying value and fair value of the Convertible Notes were

 

7


Table of Contents

$3.48 billion and $3.97 billion, respectively, as of December 31, 2010. In March 2011, we issued senior unsecured notes due in 2021 (2021 Notes) in a registered offering for an aggregate principal amount of $1.00 billion. The carrying value and fair value of the 2021 Notes were $991.6 million and $1.01 billion, respectively, as of June 30, 2011. The fair value of the Convertible Notes and 2021 Notes were based on their quoted market values.

The remaining financial instruments are reported on our Condensed Consolidated Balance Sheets at amounts that approximate current fair values.

We determine the fair value of financial and non-financial assets and liabilities using the following fair value hierarchy, which establishes three levels of inputs that may be used to measure fair value, as follows:

Level 1 inputs which include quoted prices in active markets for identical assets or liabilities;

Level 2 inputs which include observable inputs other than Level 1 inputs, such as quoted prices for similar assets or liabilities; quoted prices for identical or similar assets or liabilities in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the asset or liability; and

Level 3 inputs which include unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the underlying asset or liability. Level 3 assets and liabilities include those whose fair value measurements are determined using pricing models, discounted cash flow methodologies or similar valuation techniques, as well as significant management judgment or estimation.

The following table summarizes, for assets or liabilities recorded at fair value, the respective fair value and classification by level of input within the fair value hierarchy defined above (in thousands):

 

    June 30, 2011     December 31, 2010  
    Level 1     Level 2     Level 3     Total     Level 1     Level 2     Level 3     Total  

Assets:

               

Debt securities:

               

U.S. treasury securities

  $ 1,321,543      $ —        $ —        $ 1,321,543      $ 1,355,437      $ —        $ —        $ 1,355,437   

Money market funds

    236,033        —          —          236,033        520,063        —          —          520,063   

U.S. government agencies and FDIC guaranteed securities

    —          1,018,855        —          1,018,855        —          1,296,110        —          1,296,110   

Municipal debt securities

    —          24,574        —          24,574        —          17,625        —          17,625   

Non-U.S. government securities

    —          218,626        45,756        264,382        —          278,610        9,594        288,204   

Corporate debt securities

    —          1,663,520        —          1,663,520        —          1,119,254        —          1,119,254   

Residential mortgage and asset-backed securities

    —          311,009        —          311,009        —          277,043        —          277,043   

Student loan-backed securities

    —          —          58,389        58,389        —          —          70,771        70,771   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total debt securities

    1,557,576        3,236,584        104,145        4,898,305        1,875,500        2,988,642        80,365        4,944,507   

Equity securities

    8,302        —          —          8,302        4,631        —          —          4,631   

Derivatives

    —          2,214        —          2,214        —          64,461        —          64,461   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 
  $ 1,565,878      $ 3,238,798      $ 104,145      $ 4,908,821      $ 1,880,131      $ 3,053,103      $ 80,365      $ 5,013,599   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Liabilities:

               

Contingent consideration

  $ —        $ —        $ 126,690      $ 126,690      $ —        $ —        $ 11,100      $ 11,100   

Derivatives

    —          140,335        —          140,335        —          38,553        —          38,553   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 
  $ —        $ 140,335      $ 126,690      $ 267,025      $ —        $ 38,553      $ 11,100      $ 49,653   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Marketable securities, measured at fair value using Level 2 inputs, are primarily comprised of U.S. government-sponsored entity and corporate debt securities. We review trading activity and pricing for these investments as of the measurement date. When sufficient quoted pricing for identical securities is not available, we use market pricing and other observable market inputs for similar securities obtained from various third party data providers. These inputs represent quoted prices for similar assets in active markets or these inputs have been derived from observable market data. This approach results in the classification of these securities as Level 2 of the fair value hierarchy.

 

8


Table of Contents

The following table is a reconciliation of marketable securities measured at fair value using significant unobservable inputs (Level 3) (in thousands):

 

     Three Months Ended
June 30,
    Six Months Ended
June 30,
 
     2011     2010     2011     2010  

Balance, beginning of period

   $ 116,823      $ 105,587      $ 80,365      $ 105,662   

Total realized and unrealized gains (losses) included in:

        

Interest and other income, net

     1,624        115        2,871        115   

Other comprehensive income, net

     (7,853     907        (5,694     1,767   

Sales of marketable securities

     (6,450     (12,547     (27,280     (13,482

Transfers into Level 3

     1        —          53,883        —     
  

 

 

   

 

 

   

 

 

   

 

 

 

Balance, end of period

   $ 104,145      $ 94,062      $ 104,145      $ 94,062   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total losses included in interest and other income, net attributable to the change in unrealized losses relating to assets still held at the reporting date

   $ —        $ —        $ —        $ —     
  

 

 

   

 

 

   

 

 

   

 

 

 

Our policy is to recognize transfers into or out of Level 3 classification as of the actual date of the event or change in circumstances that caused the transfer.

Marketable securities, measured at fair value using Level 3 inputs, are comprised of auction rate securities and Greek government-issued bonds within our available-for-sale investment portfolio. The underlying assets of our auction rate securities consist of student loans. Although auction rate securities would typically be measured using Level 2 inputs, the failure of auctions and the lack of market activity and liquidity experienced since the beginning of 2008 required that these securities be measured using Level 3 inputs. The fair value of our auction rate securities was determined using a discounted cash flow model that considered projected cash flows for the issuing trusts, underlying collateral and expected yields. Projected cash flows were estimated based on the underlying loan principal, bonds outstanding and payout formulas. The weighted-average life over which the cash flows were projected considered the collateral composition of the securities and related historical and projected prepayments. The underlying student loans have a weighted-average expected life of three to seven years. The discount rates used in our discounted cash flow model were based on market conditions for comparable or similar term asset-backed and other fixed income securities, adjusted for an illiquidity discount. This resulted in an annual discount rate of 2.13%. Our auction rate securities reset every seven to 14 days with maturity dates ranging from 2025 through 2040 and have annual interest rates ranging from 0.16% to 1.09%. As of June 30, 2011, our auction rate securities continued to earn interest. Although there continued to be failed auctions as well as lack of market activity and liquidity, we believe we had no other-than-temporary impairments on these securities as of June 30, 2011 because we do not intend to sell these securities and it is not more likely than not that we will be required to sell these securities before the recovery of their amortized cost basis.

In 2010, the Greek government agreed to settle the majority of its aged outstanding accounts receivable with zero-coupon bonds, which were expected to trade at a discount to face value. As of June 30, 2011, we received a total of $63.5 million in bonds, of which $53.9 million comprise the balance of transfers into Level 3 during the first six months of 2011. We have measured the fair value of the Greek zero-coupon bonds using Level 3 inputs due to the current lack of market activity and liquidity. The discount rates used in our fair value model for these bonds were based on credit default swap rates. We have the ability and intent to hold these bonds until maturity. Therefore, we believe we had no other-than-temporary impairments on these investments as of June 30, 2011.

As of June 30, 2011, our auction rate securities and Greek government-issued bonds were recorded in long-term marketable securities on our Condensed Consolidated Balance Sheet. As of December 31, 2010, our auction rate securities and substantially all of our Greek government-issued bonds were recorded in long-term marketable securities on our Consolidated Balance Sheet.

As of June 30, 2011, we had contingent consideration liabilities totaling $126.7 million. These liabilities were incurred as a result of our acquisitions of CGI Pharmaceuticals, Inc. (CGI) in July 2010, Arresto Biosciences, Inc. (Arresto) in January 2011 and Calistoga Pharmaceuticals, Inc. (Calistoga) in April 2011. The fair value measurements of contingent consideration obligations are based on significant unobservable inputs, and accordingly, such amounts are considered Level 3 measurements. The majority of our contingent consideration liabilities is related to our acquisition of Calistoga. The estimated fair value of the contingent consideration liabilities for the Calistoga acquisition was based on the probability of technical and regulatory success to achieve each of the milestone events at the expected dates and the present value of the total earnout amount. We estimated the fair value using a discount rate of 8.00%. For the three and six months ended June 30, 2011, changes in the fair values of our contingent consideration liabilities were not significant. See Note 5 for a description of our acquisitions.

 

9


Table of Contents

3. AVAILABLE-FOR-SALE SECURITIES

The following table is a summary of available-for-sale debt and equity securities recorded in cash equivalents or marketable securities in our Condensed Consolidated Balance Sheets. Estimated fair values of available-for-sale securities are generally based on prices obtained from commercial pricing services (in thousands):

 

     Amortized
Cost
     Gross
Unrealized
Gains
     Gross
Unrealized
Losses
    Estimated
Fair Value
 

June 30, 2011

          

Debt securities:

          

U.S. treasury securities

   $ 1,313,550       $ 8,166       $ (173   $ 1,321,543   

Money market funds

     236,033         —           —          236,033   

U.S. government agencies and FDIC guaranteed securities

     1,009,079         9,781         (5     1,018,855   

Municipal debt securities

     24,422         161         (9     24,574   

Non-U.S. government securities

     274,033         1,872         (11,523     264,382   

Corporate debt securities

     1,653,769         10,509         (758     1,663,520   

Residential mortgage and asset-backed securities

     311,504         980         (1,475     311,009   

Student loan-backed securities

     62,650         —           (4,261     58,389   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total debt securities

     4,885,040         31,469         (18,204     4,898,305   

Equity securities

     1,451         6,851         —          8,302   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total

   $ 4,886,491       $ 38,320       $ (18,204   $ 4,906,607   
  

 

 

    

 

 

    

 

 

   

 

 

 

December 31, 2010

          

Debt securities:

          

U.S. treasury securities

   $ 1,349,348       $ 7,109       $ (1,020   $ 1,355,437   

Money market funds

     520,063         —           —          520,063   

U.S. government agencies and FDIC guaranteed securities

     1,284,654         11,919         (463     1,296,110   

Municipal debt securities

     17,543         103         (21     17,625   

Non-U.S. government securities

     286,410         1,880         (86     288,204   

Corporate debt securities

     1,112,976         8,040         (1,762     1,119,254   

Residential mortgage and asset-backed securities

     277,359         923         (1,239     277,043   

Student loan-backed securities

     75,900         —           (5,129     70,771   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total debt securities

     4,924,253         29,974         (9,720     4,944,507   

Equity securities

     1,451         3,180         —          4,631   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total

   $ 4,925,704       $ 33,154       $ (9,720   $ 4,949,138   
  

 

 

    

 

 

    

 

 

   

 

 

 

The following table summarizes the classification of the available-for-sale debt and equity securities on our Condensed Consolidated Balance Sheets (in thousands):

 

     June 30,
2011
     December 31,
2010
 

Cash and cash equivalents

   $ 313,074       $ 538,946   

Short-term marketable securities

     1,364,539         1,190,789   

Long-term marketable securities

     3,228,994         3,219,403   
  

 

 

    

 

 

 

Total

   $ 4,906,607       $ 4,949,138   
  

 

 

    

 

 

 

 

10


Table of Contents

The following table summarizes our portfolio of available-for-sale debt securities by contractual maturity (in thousands):

 

     June 30, 2011      December 31, 2010  
     Amortized Cost      Fair Value      Amortized Cost      Fair Value  

Less than one year

   $ 1,672,052       $ 1,677,613       $ 1,726,095       $ 1,729,735   

Greater than one year but less than five years

     3,075,261         3,086,951         3,022,744         3,044,114   

Greater than five years but less than ten years

     27,315         27,979         33,076         33,580   

Greater than ten years

     110,412         105,762         142,338         137,078   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 4,885,040       $ 4,898,305       $ 4,924,253       $ 4,944,507   
  

 

 

    

 

 

    

 

 

    

 

 

 

The following table summarizes the gross realized gains and losses related to sales of marketable securities (in thousands):

 

     Three Months Ended
June 30,
    Six Months Ended
June 30,
 
     2011     2010     2011     2010  

Gross realized gains on sales

   $ 5,257      $ 7,464      $ 8,954      $ 9,298   

Gross realized losses on sales

   $ (415   $ (1,900   $ (1,777   $ (2,174

The cost of securities sold was determined based on the specific identification method.

The following table summarizes our available-for-sale debt securities that were in a continuous unrealized loss position, but were not deemed to be other-than-temporarily impaired (in thousands):

 

     Less Than 12 Months      12 Months or Greater      Total  
      Gross
Unrealized
Losses
    Estimated
Fair Value
     Gross
Unrealized
Losses
    Estimated
Fair
Value
     Gross
Unrealized
Losses
    Estimated
Fair Value
 

June 30, 2011

              

Debt securities:

              

U.S. treasury securities

   $ (173   $ 181,374       $ —        $ —         $ (173   $ 181,374   

U.S. government agencies and FDIC guaranteed securities

     (5     9,883         —          —           (5     9,883   

Municipal debt securities

     (9     11,943         —          —           (9     11,943   

Non-U.S. government securities

     (11,523     48,751         —          —           (11,523     48,751   

Corporate debt securities

     (758     278,102         —          —           (758     278,102   

Residential mortgage and asset-backed securities

     (1,135     152,088         (340     14,433         (1,475     166,521   

Student loan-backed securities

     —          —           (4,261     58,389         (4,261     58,389   
  

 

 

   

 

 

    

 

 

   

 

 

    

 

 

   

 

 

 

Total

   $ (13,603   $ 682,141       $ (4,601   $ 72,822       $ (18,204   $ 754,963   
  

 

 

   

 

 

    

 

 

   

 

 

    

 

 

   

 

 

 

December 31, 2010

              

Debt securities:

              

U.S. treasury securities

   $ (1,020   $ 531,184       $ —        $ —         $ (1,020   $ 531,184   

U.S. government agencies and FDIC guaranteed securities

     (463     226,176         —          —           (463     226,176   

Municipal debt securities

     (21     4,688         —          —           (21     4,688   

Non-U.S. government securities

     (86     44,317         —          —           (86     44,317   

Corporate debt securities

     (1,762     459,412         —          —           (1,762     459,412   

Residential mortgage and asset-backed securities

     (1,239     197,330         —          —           (1,239     197,330   

Student loan-backed securities

     —          —           (5,129     70,771         (5,129     70,771   
  

 

 

   

 

 

    

 

 

   

 

 

    

 

 

   

 

 

 

Total

   $ (4,591   $ 1,463,107       $ (5,129   $ 70,771       $ (9,720   $ 1,533,878   
  

 

 

   

 

 

    

 

 

   

 

 

    

 

 

   

 

 

 

As of June 30, 2011 and December 31, 2010, approximately 19% and 34%, respectively, of the total number of securities were in an unrealized loss position. The gross unrealized losses for auction rate securities were caused by a higher discount rate used in the valuation of these securities as compared to the coupon rates of these securities. The gross unrealized losses for the other securities were primarily the result of an increase in the yield-to-maturity of the underlying securities. No significant facts or circumstances have arisen to indicate that there has been any deterioration in the creditworthiness of the issuers of these securities. Based on our review of these securities, we believe we had no other-than-temporary impairments on these securities as of June 30, 2011 and December 31, 2010 because we do not intend to sell these securities and it is not more likely than not that we will be required to sell these securities before the recovery of their amortized cost basis.

During the three and six months ended June 30, 2011, we recorded net unrealized gains on available-for-sale securities of $2.4 million and $0.7 million, respectively, in accumulated other comprehensive income (OCI) and reclassified gains of $3.1 million and $4.6 million, respectively, out of accumulated OCI into interest and other income, net. Comparatively, during the three and six months ended June 30, 2010, we recorded net unrealized gains on available-for-sale securities of $6.9 million and $8.7 million, respectively, in accumulated OCI and reclassified gains of $3.1 million and $4.0 million, respectively, out of accumulated OCI into interest and other income, net.

 

11


Table of Contents

4. DERIVATIVE FINANCIAL INSTRUMENTS

We operate in foreign countries, which exposes us to market risk associated with foreign currency exchange rate fluctuations between the U.S. dollar and various foreign currencies, the most significant of which is the Euro. In order to manage this risk, we hedge a portion of our foreign currency exposures related to outstanding monetary assets and liabilities as well as forecasted product sales using foreign currency exchange forward and option contracts. In general, the market risk related to these contracts is offset by corresponding gains and losses on the hedged transactions. The credit risk associated with these contracts is driven by changes in interest and currency exchange rates and, as a result, varies over time. By working only with major banks and closely monitoring current market conditions, we limit the risk that counterparties to these contracts may be unable to perform. We also limit our risk of loss by entering into contracts that permit net settlement at maturity. Therefore, our overall risk of loss in the event of a counterparty default is limited to the amount of any unrecognized gains on outstanding contracts (i.e., those contracts that have a positive fair value) at the date of default. We do not enter into derivative contracts for trading purposes, nor do we hedge our net investment in any of our foreign subsidiaries.

We hedge our exposure to foreign currency exchange rate fluctuations for certain monetary assets and liabilities of our foreign subsidiaries that are denominated in a non-functional currency. The derivative instruments we use to hedge this exposure are not designated as hedges, and as a result, changes in their fair value are recorded in interest and other income, net on our Condensed Consolidated Statements of Income.

We hedge our exposure to foreign currency exchange rate fluctuations for forecasted product sales that are denominated in a non-functional currency. The derivative instruments we use to hedge this exposure are designated as cash flow hedges and have maturity dates of 18 months or less. Upon executing a hedging contract and quarterly thereafter, we assess prospective hedge effectiveness using a regression analysis which calculates the change in cash flow as a result of the hedge instrument. On a monthly basis, we assess retrospective hedge effectiveness using a dollar offset approach. We exclude time value from our effectiveness testing and recognize changes in the time value of the hedge in interest and other income, net. The effective component of our hedge is recorded as an unrealized gain or loss on the hedging instrument in accumulated OCI within stockholders’ equity. When the hedged forecasted transaction occurs, the hedge is de-designated and the unrealized gains or losses are reclassified into product sales. The majority of gains and losses related to the hedged forecasted transactions reported in accumulated OCI at June 30, 2011 will be reclassified to product sales within 12 months.

We had notional amounts on foreign currency exchange contracts outstanding of $3.89 billion and $3.55 billion at June 30, 2011 and December 31, 2010, respectively.

 

12


Table of Contents

The following table summarizes information about the fair values of derivative instruments on our Condensed Consolidated Balance Sheets (in thousands):

 

     June 30, 2011  
     Asset Derivatives      Liability Derivatives  
     Location    Fair Value      Location    Fair Value  

Derivatives designated as hedges:

           

Foreign currency exchange contracts

   Other current assets    $ 691       Other accrued liabilities    $ 130,795   

Foreign currency exchange contracts

   Other noncurrent assets      1,521       Other long-term obligations      9,322   
     

 

 

       

 

 

 

Total derivatives designated as hedges

        2,212            140,117   
     

 

 

       

 

 

 

Derivatives not designated as hedges:

           

Foreign currency exchange contracts

   Other current assets      2       Other accrued liabilities      218   
     

 

 

       

 

 

 

Total derivatives not designated as hedges

        2            218   
     

 

 

       

 

 

 

Total derivatives

      $ 2,214          $ 140,335   
     

 

 

       

 

 

 
     December 31, 2010  
     Asset Derivatives      Liability Derivatives  
     Location    Fair Value      Location    Fair Value  

Derivatives designated as hedges:

           

Foreign currency exchange contracts

   Other current assets    $ 59,276       Other accrued liabilities    $ 36,493   

Foreign currency exchange contracts

   Other noncurrent assets      5,089       Other long-term obligations      2,022   
     

 

 

       

 

 

 

Total derivatives designated as hedges

        64,365            38,515   
     

 

 

       

 

 

 

Derivatives not designated as hedges:

           

Foreign currency exchange contracts

   Other current assets      96       Other accrued liabilities      38   
     

 

 

       

 

 

 

Total derivatives not designated as hedges

        96            38   
     

 

 

       

 

 

 

Total derivatives

      $ 64,461          $ 38,553   
     

 

 

       

 

 

 

The following table summarizes the effect of our foreign currency exchange contracts on our Condensed Consolidated Statements of Income (in thousands):

 

     Three Months Ended
June 30,
    Six Months Ended
June 30,
 
     2011     2010     2011     2010  

Derivatives designated as hedges:

        

Net gains (losses) recognized in OCI (effective portion)

   $ (46,608   $ 143,074      $ (174,107   $ 250,344   

Net gains (losses) reclassified from accumulated OCI into product sales (effective portion)

   $ (20,945   $ 32,029      $ (11,016   $ 37,554   

Net losses recognized in interest and other income, net (ineffective portion and amounts excluded from effectiveness testing)

   $ (4,061   $ (1,892   $ (3,066   $ (1,665

Derivatives not designated as hedges:

        

Net gains (losses) recognized in interest and other income, net

   $ (34,344   $ 83,943      $ (120,190   $ 138,834   

The net unrealized losses related to our cash flow hedges included in accumulated OCI, net of taxes, were $141.6 million at June 30, 2011. Net unrealized gains related to our cash flow hedges included in accumulated OCI, net of taxes, were $21.6 million at December 31, 2010.

There were no material amounts recorded in interest and other income, net, for the three or six months ended June 30, 2011 and 2010 as a result of the discontinuance of cash flow hedges because the forecasted transactions were no longer probable of occurring.

5. ACQUISITIONS

Arresto Biosciences, Inc.

In December 2010, we entered into an agreement to acquire Arresto for $225.0 million plus potential future payments based on the achievement of certain sales targets. This transaction closed on January 14, 2011, at which time Arresto became a wholly-owned subsidiary. Arresto was a privately-held, development-stage biotechnology company based in Palo Alto, California, focused on developing antibodies for the potential treatment of fibrotic diseases and cancer. The lead product from the acquisition of Arresto is GS 6224 (formerly AB0024), a humanized monoclonal antibody (mAb) targeting the human lysyl oxidase-like-2 (LOXL2) protein. In addition to an ongoing Phase 1 study of GS 6224 in patients with advanced solid tumors, a Phase 1 study had also been initiated to evaluate GS 6224 in patients with idiopathic pulmonary fibrosis. We believe that Arresto’s pipeline and research and development expertise are well aligned with our areas of focus.

 

13


Table of Contents

The acquisition was accounted for as a business combination. Arresto’s results of operations since January 14, 2011 have been included in our Condensed Consolidated Statement of Income and were not significant.

The acquisition-date fair value of the total consideration transferred to acquire Arresto was $227.1 million, and consisted of cash paid at or prior to closing of $221.7 million and contingent consideration of $5.4 million.

The following table summarizes the fair values of the assets acquired and liabilities assumed at January 14, 2011 (in thousands):

 

Intangible assets - IPR&D

   $  117,000   

Goodwill

     134,482   

Deferred tax assets

     17,417   

Deferred tax liabilities

     (41,705

Other net liabilities assumed

     (125
  

 

 

 

Total consideration transferred

   $ 227,069   
  

 

 

 

Intangible Assets

Intangible assets associated with in-process research and development (IPR&D) projects relate to the GS 6224 product candidate. Management determined that the estimated acquisition-date fair value of intangible assets related to IPR&D was $117.0 million. The estimated fair value was determined using the income approach, which discounts expected future cash flows to present value. We estimated the fair value using a present value discount rate of 16%, which is based on the estimated weighted-average cost of capital for companies with profiles substantially similar to that of Arresto. This is comparable to the estimated internal rate of return for the acquisition and represents the rate that market participants would use to value the intangible assets. The projected cash flows from the IPR&D projects were based on key assumptions such as: estimates of revenues and operating profits related to each project considering its stage of development; the time and resources needed to complete the development and approval of the product candidate; the life of the potential commercialized product and associated risks, including the inherent difficulties and uncertainties in developing a product candidate such as obtaining marketing approval from the FDA and other regulatory agencies; and risks related to the viability of and potential alternative treatments in any future target markets. Intangible assets related to IPR&D projects are considered to be indefinite-lived until the completion or abandonment of the associated R&D efforts. During the period the assets are considered indefinite-lived, they will not be amortized but will be tested for impairment on an annual basis as well as between annual tests if we become aware of any events occurring or changes in circumstances that would indicate a reduction in the fair value of the IPR&D projects below their respective carrying amounts. If and when development is complete, which generally occurs if and when regulatory approval to market a product is obtained, the associated assets would be deemed finite-lived and would then be amortized based on their respective estimated useful lives at that point in time.

Goodwill

The excess of the consideration transferred over the fair values assigned to the assets acquired and liabilities assumed is $134.5 million, which represents the goodwill amount resulting from the Arresto acquisition. Management believes that the goodwill mainly represents the synergies expected from combining our research and development operations as well as acquiring Arresto’s assembled workforce and other intangible assets that do not qualify for separate recognition. We recorded the goodwill as an intangible asset in our Condensed Consolidated Balance Sheet as of the acquisition date. Goodwill is tested for impairment on an annual basis as well as between annual tests if we become aware of any events occurring or changes in circumstances that would indicate a reduction in the fair value of the goodwill below its carrying amount.

We do not consider the Arresto acquisition to be a material business combination and therefore have not disclosed the pro forma results of operations as required for material business combinations.

Calistoga Pharmaceuticals, Inc.

In February 2011, we entered into an agreement to acquire Calistoga for $375.0 million plus potential payments of up to $225.0 million based on the achievement of certain milestones. This transaction closed on April 1, 2011, at which time Calistoga became a wholly-owned subsidiary. Calistoga was a privately-held, biotechnology company based in Seattle, Washington, focused on the development of medicines to treat cancer and inflammatory diseases. This acquisition has provided us with a portfolio of proprietary compounds that selectively target isoforms of phosphoinositide-3 kinase (P13K). The lead product candidate, CAL-101, is a first-in-class specific inhibitor of the P13K delta isoform. P13K delta is preferentially expressed in leukocytes involved in a variety of inflammatory and autoimmune diseases and hematological cancers. We believe that the acquisition of Calistoga further broadens our pipeline and expertise in the areas of oncology and inflammation.

The acquisition was accounted for as a business combination. Calistoga’s results of operations since April 1, 2011 have been included in our Condensed Consolidated Statement of Income and were not significant.

The acquisition-date fair value of the total consideration transferred to acquire Calistoga was $484.3 million, and consisted of cash paid at or prior to closing of $373.7 million and contingent consideration of $110.6 million.

 

14


Table of Contents

The following table summarizes the fair values of the assets acquired and liabilities assumed at April 1, 2011 (in thousands):

 

Intangible assets - IPR&D

   $  149,200   

Goodwill

     336,951   

Other net liabilities assumed

     (1,853
  

 

 

 

Total consideration transferred

   $ 484,298   
  

 

 

 

Intangible Assets

Intangible assets associated with IPR&D projects relate to the CAL-101 product candidate. Management determined that the estimated acquisition-date fair value of intangible assets related to IPR&D was $149.2 million. The estimated fair value was determined using the income approach, which discounts expected future cash flows to present value. We estimated the fair value using a present value discount rate of 11%, which considers both the estimated weighted-average cost of capital for companies with profiles substantially similar to that of Calistoga, as well as the acquirer’s estimated weighted-average cost of capital. We believe this is appropriate given the unique characteristics of this acquisition which included a competitive bidding process. This rate is comparable to the estimated internal rate of return for the acquisition and represents the rate that market participants would use to value the intangible assets. The projected cash flows from the IPR&D projects were based on key assumptions such as: estimates of revenues and operating profits related to each project considering its stage of development; the time and resources needed to complete the development and approval of the product candidate; the life of the potential commercialized product and associated risks, including the inherent difficulties and uncertainties in developing a product candidate such as obtaining marketing approval from the FDA and other regulatory agencies; and risks related to the viability of and potential alternative treatments in any future target markets. Intangible assets related to IPR&D projects are considered to be indefinite-lived until the completion or abandonment of the associated R&D efforts. During the period the assets are considered indefinite-lived, they will not be amortized but will be tested for impairment on an annual basis as well as between annual tests if we become aware of any events occurring or changes in circumstances that would indicate a reduction in the fair value of the IPR&D projects below their respective carrying amounts. If and when development is complete, which generally occurs if and when regulatory approval to market a product is obtained, the associated assets would be deemed finite-lived and would then be amortized based on their respective estimated useful lives at that point in time.

Goodwill

The excess of the consideration transferred over the fair values assigned to the assets acquired and liabilities assumed is $337.0 million, which represents the goodwill amount resulting from the Calistoga acquisition. Management believes that the goodwill mainly represents the synergies expected from combining our research and development operations as well as acquiring Calistoga’s assembled workforce and other intangible assets that do not qualify for separate recognition. We recorded the goodwill as an intangible asset in our Condensed Consolidated Balance Sheet as of the acquisition date. Goodwill is tested for impairment on an annual basis as well as between annual tests if we become aware of any events occurring or changes in circumstances that would indicate a reduction in the fair value of the goodwill below its carrying amount.

We do not consider the Calistoga acquisition to be a material business combination and therefore have not disclosed the pro forma results of operations as required for material business combinations.

6. INVENTORIES

Inventories are summarized as follows (in thousands):

 

     June 30,
2011
     December 31,
2010
 

Raw materials

   $ 665,250       $ 408,015   

Work in process

     271,644         454,652   

Finished goods

     384,721         341,142   
  

 

 

    

 

 

 

Total

   $ 1,321,615       $ 1,203,809   
  

 

 

    

 

 

 

As of June 30, 2011 and December 31, 2010, the joint ventures formed by Gilead and BMS, which are included in our Condensed Consolidated Financial Statements, held $955.8 million and $811.9 million in inventory, respectively, of efavirenz active pharmaceutical ingredient purchased from BMS at BMS’s estimated net selling price of efavirenz.

 

15


Table of Contents

7. INTANGIBLE ASSETS

The following table summarizes the carrying amount of our intangible assets (in thousands):

 

     June 30,      December 31,  
     2011      2010  

Goodwill

   $ 1,004,102       $ 532,669   

Finite lived intangible assets

     831,478         863,393   

Indefinite lived intangible assets

     292,830         29,530   
  

 

 

    

 

 

 

Total

   $ 2,128,410       $ 1,425,592   
  

 

 

    

 

 

 

The following table summarizes the changes in the carrying amount of goodwill (in thousands):

 

Balance at December 31, 2010

   $ 532,669   

Goodwill resulting from the acquisition of Arresto

     134,482   

Goodwill resulting from the acquisition of Calistoga

     336,951   
  

 

 

 

Balance at June 30, 2011

   $ 1,004,102   
  

 

 

 
  

The following table summarizes our finite-lived intangible assets (in thousands):

 

     June 30, 2011      December 31, 2010  
     Gross Carrying
Amount
     Accumulated
Amortization
     Gross Carrying
Amount
     Accumulated
Amortization
 

Intangible asset - Ranexa

   $ 688,400       $ 75,948       $ 688,400       $ 54,795   

Intangible asset - Lexiscan

     262,800         56,851         262,800         43,979   

Other

     24,995         11,918         22,095         11,128   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 976,195       $ 144,717       $ 973,295       $ 109,902   
  

 

 

    

 

 

    

 

 

    

 

 

 

Amortization expense related to intangible assets was $17.4 million and $34.8 million for the three and six months ended June 30, 2011, respectively, and was recorded in cost of goods sold in our Condensed Consolidated Statements of Income. Amortization expense related to intangible assets was $15.0 million and $30.0 million for the three and six months ended June 30, 2010, respectively, and was recorded in cost of goods sold in our Condensed Consolidated Statements of Income.

As of June 30, 2011, the estimated future amortization expense associated with our intangible assets for the remaining six months of 2011 and each of the five succeeding fiscal years are as follows (in thousands):

 

Fiscal Year

   Amount  

2011 (remaining six months)

   $ 34,815   

2012

     76,081   

2013

     82,391   

2014

     91,246   

2015

     100,952   

2016

     113,053   
  

 

 

 

Total

   $ 498,538   
  

 

 

 

As of December 31, 2010, we had indefinite-lived intangible assets of $29.5 million, which consisted of $26.6 million and $2.9 million of purchased IPR&D from our acquisitions of CGI and CV Therapeutics, Inc. (CV Therapeutics), respectively. In the first quarter of 2011, the $2.9 million purchased IPR&D project from CV Therapeutics was completed and reclassified as a finite-lived intangible asset, and is currently being amortized over its estimated useful life. As of June 30, 2011, we had indefinite-lived intangible assets of $292.8 million related to purchased IPR&D from our acquisitions of CGI, Arresto and Calistoga.

8. COLLABORATIVE ARRANGEMENTS

From time to time, as a result of entering into strategic collaborations, we may hold investments in non-public companies. We review our interests in investee companies for consolidation and/or appropriate disclosure based on applicable guidance. Contractual terms which provide us control over an entity may require us to consolidate the entity. Entities consolidated because they are controlled by means other than a majority voting interest are referred to as variable interest entities (VIE). We assess whether we are the primary beneficiary of a VIE based on our power to direct the activities of the VIE that most significantly impact the VIE’s economic performance and our obligation to absorb losses or the right to receive benefits from the VIE that could potentially be significant to the VIE. As of June 30, 2011, we determined that certain of our investee companies are VIEs; however, other than with respect to our joint ventures with BMS, we are not the primary beneficiary and therefore do not consolidate these investees.

 

16


Table of Contents

Bristol-Myers Squibb Company

North America

In December 2004, we entered into a collaboration arrangement with BMS in the United States to develop and commercialize a single-tablet regimen containing our Truvada and BMS’s Sustiva (efavirenz), which we sell as Atripla. The collaboration is structured as a joint venture and operates as a limited liability company named Bristol-Myers Squibb & Gilead Sciences, LLC, which we consolidate. The ownership interests of the joint venture and thus the sharing of product revenue and costs reflect the respective economic interests of BMS and Gilead and are based on the proportions of the net selling price of Atripla attributable to efavirenz and Truvada. Since the net selling price for Truvada may change over time relative to the net selling price of efavirenz, both BMS’s and our respective economic interests in the joint venture may vary annually.

We share marketing and sales efforts with BMS and both parties are obligated to provide equivalent sales force efforts for a minimum number of years. Under the terms of the agreement, after the first quarter of 2011, the parties will only share in a limited number of activities in the United States that will be jointly managed. The parties will continue to collaborate on activities such as manufacturing, regulatory, compliance and pharmacovigilance. We are responsible for accounting, financial reporting, tax reporting, manufacturing and product distribution for the joint venture. Both parties provide their respective bulk active pharmaceutical ingredients to the joint venture at their approximate market values. In July 2006, the joint venture received approval from the FDA to sell Atripla in the United States. In September 2006, we and BMS amended the joint venture’s collaboration agreement to allow the joint venture to sell Atripla into Canada and in October 2007, the joint venture received approval from Health Canada to sell Atripla in Canada. As of June 30, 2011 and December 31, 2010, the joint venture held efavirenz active pharmaceutical ingredient which it purchased from BMS at BMS’s estimated net selling price of efavirenz in the U.S. market. These amounts are included in inventories on our Condensed Consolidated Balance Sheets. As of June 30, 2011 and December 31, 2010, total assets held by the joint venture were $1.47 billion and $1.45 billion, respectively, and consisted primarily of cash and cash equivalents, accounts receivable (including intercompany receivables with Gilead) and inventories. As of June 30, 2011 and December 31, 2010, total liabilities held by the joint venture were $1.03 billion and $759.5 million, respectively, and consisted primarily of accounts payable (including intercompany payables with Gilead) and other accrued expenses. These asset and liability amounts do not reflect the impact of intercompany eliminations that are included in our Condensed Consolidated Balance Sheets. Although we are the primary beneficiary of the joint venture, the legal structure of the joint venture limits the recourse that its creditors will have over our general credit or assets.

Europe

In December 2007, Gilead Sciences Limited (GSL), a wholly-owned subsidiary in Ireland, and BMS entered into a collaboration arrangement to commercialize and distribute Atripla in the European Union, Iceland, Liechtenstein, Norway and Switzerland (collectively, the European Territory). The parties formed a limited liability company which we consolidate, to manufacture Atripla for distribution in the European Territory using efavirenz that it purchases from BMS at BMS’s estimated net selling price of efavirenz in the European Territory. We are responsible for product distribution, inventory management and warehousing. Through our local subsidiaries, we have primary responsibility for order fulfillment, collection of receivables, customer relations and handling of sales returns in all the territories where we co-promote Atripla with BMS. We are also responsible for accounting, financial reporting and tax reporting for the collaboration. In December 2007, the European Commission approved Atripla for sale in the European Union. As of June 30, 2011 and December 31, 2010, efavirenz purchased from BMS at BMS’s estimated net selling price of efavirenz in the European Territory is included in inventories on our Condensed Consolidated Balance Sheets.

The parties also formed a limited liability company to hold the marketing authorization for Atripla in Europe. We have primary responsibility for regulatory activities and we share marketing and sales efforts with BMS. In the major market countries, both parties have agreed to provide equivalent sales force efforts. Revenue and cost sharing is based on the relative ratio of the respective net selling prices of Truvada and efavirenz.

Yale School of Medicine

In March 2011, we announced the formation of a multi-year research collaboration with the Yale School of Medicine (Yale), focused on the discovery of novel cancer therapies. The research effort will initially span four years with an option to renew for up to ten years. We will provide $40.0 million in research support and basic science infrastructure development during the initial four-year period, and will provide a total of up to $100.0 million over ten years should the collaboration be extended through that timeframe. We will have the first option to license any Yale inventions that result from the collaboration. Expenses related to this collaboration agreement commenced in April 2011 and will be recorded as part of research and development expenses on our Condensed Consolidated Statement of Income.

 

17


Table of Contents

MicroDose Therapeutx, Inc.

In April 2011, we announced an exclusive worldwide license and collaboration agreement with MicroDose Therapeutx, Inc. (MicroDose) for the development and commercialization of MDT-637, MicroDose’s inhalable small molecule antiviral fusion inhibitor for the treatment of respiratory synctial virus. Under the terms of the agreement, we paid MicroDose an upfront payment of $8.0 million in the second quarter of 2011 which was recorded as part of research and development expenses on our Condensed Consolidated Statement of Income. We will also provide research funding to support MicroDose’s continued development of MDT-637 through Phase 2a clinical trials. We can assume full responsibility for clinical development following Phase 2a. MicroDose could also receive additional payments based upon the achievement of certain development, regulatory and commercial milestones, as well as development fees and royalties on future potential net sales.

9. LONG-TERM OBLIGATIONS

Financing Arrangements

The following table summarizes the carrying amount of our borrowings under various financing arrangements (in thousands):

 

     June 30,      December 31,  
     2011      2010  

2011 convertible senior notes

   $ —         $ 638,991   

2013 convertible senior notes

     591,687         576,884   

2014 convertible senior notes

     1,167,549         1,153,805   

2016 convertible senior notes

     1,119,970         1,107,884   

2021 senior unsecured notes

     991,640         —     
  

 

 

    

 

 

 

Total debt, net

   $ 3,870,846       $ 3,477,564   

Less current portion (2011 convertible senior notes)

     —           638,991   
  

 

 

    

 

 

 

Total long-term debt, net

   $ 3,870,846       $ 2,838,573   
  

 

 

    

 

 

 

2021 Senior Unsecured Notes

In March 2011, we issued the 2021 Notes in a registered offering for an aggregate principal amount of $1.00 billion. The 2021 Notes will mature on April 1, 2021 and pay interest at a fixed annual rate of 4.50%. Debt issuance costs incurred in connection with the issuance of this debt totaled approximately $5.8 million and are being amortized to interest expense over the contractual term of the 2021 Notes.

The 2021 Notes may be redeemed at our option at any time or from time to time, at a redemption price equal to the greater of (i) 100% of the principal amount of the notes to be redeemed and (ii) the sum, as determined by an independent investment banker, of the present values of the remaining scheduled payments of principal and interest on the notes to be redeemed (exclusive of interest accrued to the date of redemption) discounted to the redemption date on a semiannual basis at the Treasury Rate plus 20 basis points, plus, in each case, accrued and unpaid interest on the notes to be redeemed to the date of redemption. At any time on or after January 1, 2021, we may redeem the notes, in whole or in part, at 100% of the principal amount of the notes to be redeemed, plus accrued and unpaid interest to the date of redemption. In addition, in the event of the occurrence of both a change in control and a downgrade in the rating of the 2021 Notes below an investment grade rating by Standard & Poor’s Ratings Services and Moody’s Investors Service, Inc., the holders may require us to purchase all or a portion of their notes at a price equal to 101% of their principal amount, plus accrued and unpaid interest.

We expect to use the net proceeds for general corporate purposes, which include the repayment of existing indebtedness and repurchases of our common stock.

Maturity of 2011 Convertible Senior Notes

In May 2011, our 2011 Notes matured and we repaid the aggregate principal balance of $650.0 million. We also paid $36.1 million in cash related to the conversion spread of the 2011 Notes, which represents the conversion value in excess of the principal amount, and received $36.1 million in cash from our convertible note hedges related to the 2011 Notes. Warrants related to our 2011 Notes will expire in August 2011.

Credit Facility

Under our amended and restated credit agreement, we, along with our wholly-owned subsidiary, Gilead Biopharmaceutics Ireland Corporation, may borrow up to an aggregate of $1.25 billion in revolving credit loans. The credit agreement also includes a sub-facility for swing-line loans and letters of credit. Loans under the credit agreement bear interest at an interest rate of either LIBOR plus a margin ranging from 20 basis points to 32 basis points or the base rate, as described in the credit agreement. We may reduce the commitments and may prepay loans under the credit agreement in whole or in part at any time without penalty, subject to certain conditions. The credit agreement will terminate in December 2012 and all unpaid borrowings thereunder shall be due and payable at that time. As of June 30, 2011, we had $2.4 million in letters of credit outstanding under the $1.25 billion credit agreement. We are required to comply with certain covenants under the credit agreement and as of June 30, 2011, we were in compliance with all such covenants.

 

18


Table of Contents

10. COMMITMENTS AND CONTINGENCIES

Legal Proceedings

In June 2011, we received a subpoena from the United States Attorney’s Office for the Northern District of California requesting documents related to the manufacture, and related quality and distribution practices, of Atripla, Emtriva, Hepsera, Letairis, Truvada, Viread and our investigational fixed-dose combination of Truvada and Edurant. We have been cooperating and will continue to cooperate with this governmental inquiry. It is not possible to predict the outcome of this inquiry.

We are a party to various legal actions that arose in the ordinary course of our business. We do not believe that any of these legal actions will have a material adverse impact on our consolidated business, financial position or results of operations.

11. STOCK-BASED COMPENSATION EXPENSES

The following table summarizes the stock-based compensation expenses included in our Condensed Consolidated Statements of Income (in thousands):

 

     Three Months Ended     Six Months Ended  
     June 30,     June 30,  
     2011     2010     2011     2010  

Cost of goods sold

   $ 2,887      $ 2,967      $ 5,531      $ 5,820   

Research and development expenses

     19,420        21,521        36,140        41,590   

Selling, general and administrative expenses

     27,818        23,559        57,924        47,478   
  

 

 

   

 

 

   

 

 

   

 

 

 

Stock-based compensation expenses included in total costs and expenses

     50,125        48,047        99,595        94,888   

Income tax effect

     (12,210     (13,652     (25,066     (26,080
  

 

 

   

 

 

   

 

 

   

 

 

 

Stock-based compensation expenses included in net income

   $ 37,915      $ 34,395      $ 74,529      $ 68,808   
  

 

 

   

 

 

   

 

 

   

 

 

 

12. STOCKHOLDERS’ EQUITY

Stock Repurchase Programs

Under our current three-year, $5.00 billion stock repurchase program authorized by our Board of Directors (Board) in May 2010, we repurchased $4.29 billion of our common stock through June 30, 2011. As of June 30, 2011, the remaining authorized amount of stock repurchases that may be made under our current repurchase program was $706.8 million. During the three and six months ended June 30, 2011, our total repurchase activities were $723.9 million and $1.27 billion, respectively, which resulted in the repurchase and retirement of 17.8 million and 31.8 million shares of our common stock, respectively, at average purchase prices of $40.61 and $39.95 per share, respectively.

In January 2011, our Board authorized an additional three-year, $5.00 billion stock repurchase program which would be available for us to initiate upon the completion of our existing program authorized in May 2010.

We use the par value method of accounting for our stock repurchases. Under the par value method, common stock is first charged with the par value of the shares involved. The excess of the cost of shares acquired over the par value is allocated to additional paid-in capital (APIC) based on an estimated average sales price per issued share with the excess amounts charged to retained earnings. As a result of our stock repurchases during the six months ended June 30, 2011, we reduced common stock and APIC by an aggregate of $97.3 million and charged $1.19 billion to retained earnings.

 

19


Table of Contents

Comprehensive Income

The components of comprehensive income were as follows (in thousands):

 

     Three Months Ended     Six Months Ended  
     June 30,     June 30,  
     2011     2010     2011     2010  

Net income

   $ 742,459      $ 709,127      $ 1,389,762      $ 1,561,221   

Other comprehensive income (loss):

        

Net foreign currency translation gain (loss)

     (4,358     (2,345     2,836        (11,754

Net unrealized gain (loss) on available-for-sale securities, net of related tax effects

     (723     3,774        (3,842     4,628   

Net unrealized gain (loss) on cash flow hedges, net of related tax effects

     (27,017     104,722        (163,186     202,508   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total other comprehensive income (loss)

     (32,098     106,151        (164,192     195,382   
  

 

 

   

 

 

   

 

 

   

 

 

 

Comprehensive income

     710,361        815,278        1,225,570        1,756,603   

Comprehensive loss attributable to noncontrolling interest

     3,768        2,934        7,606        5,741   
  

 

 

   

 

 

   

 

 

   

 

 

 

Comprehensive income attributable to Gilead

   $ 714,129      $ 818,212      $ 1,233,176      $ 1,762,344   
  

 

 

   

 

 

   

 

 

   

 

 

 

13. SEGMENT INFORMATION

We operate in one business segment, which primarily focuses on the development and commercialization of human therapeutics for life threatening diseases. All products are included in one segment because our major products, Atripla, Truvada and Viread, which together accounted for substantially all of our total product sales for the three and six months ended June 30, 2011 and 2010, have similar economic and other characteristics, including the nature of the products and production processes, type of customers, distribution methods and regulatory environment.

Product sales consisted of the following (in thousands):

 

     Three Months Ended      Six Months Ended  
     June 30,      June 30,  
     2011      2010      2011      2010  

Antiviral products:

           

Atripla

   $ 821,992       $ 715,804       $ 1,566,504       $ 1,408,676   

Truvada

     711,301         641,682         1,384,412         1,299,481   

Viread

     185,717         176,172         354,112         356,858   

Hepsera

     38,656         51,334         76,752         109,458   

Emtriva

     6,732         6,745         13,308         13,901   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total antiviral products

     1,764,398         1,591,737         3,395,088         3,188,374   

AmBisome

     88,625         78,174         167,131         155,223   

Letairis

     73,637         60,348         135,811         115,847   

Ranexa

     86,077         60,460         154,370         111,703   

Other products

     26,851         15,342         50,766         22,977   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total product sales

   $ 2,039,588       $ 1,806,061       $ 3,903,166       $ 3,594,124   
  

 

 

    

 

 

    

 

 

    

 

 

 

The following table summarizes total revenues from external customers and collaboration partners by geographic region (in thousands). Product sales and product-related contract revenues are attributed to countries based on ship-to location. Royalty and non-product related contract revenues are attributed to countries based on the location of the collaboration partner.

 

20


Table of Contents
     Three Months Ended      Six Months Ended  
     June 30,      June 30,  
     2011      2010      2011      2010  

United States

   $ 1,144,621       $ 1,039,883       $ 2,180,415       $ 2,052,367   

Outside of the United States:

           

Switzerland

     76,055         99,838         108,621         361,083   

France

     149,021         125,362         282,918         250,079   

Spain

     129,676         112,965         249,307         237,285   

United Kingdom

     122,765         99,529         243,626         217,699   

Italy

     108,140         86,864         209,576         183,124   

Germany

     94,844         54,995         170,917         125,007   

Other European countries

     145,299         171,981         301,937         331,694   

Other countries

     166,832         135,807         316,030         254,739   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total revenues outside of the United States

     992,632         887,341         1,882,932         1,960,710   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total revenues

   $ 2,137,253       $ 1,927,224       $ 4,063,347       $ 4,013,077   
  

 

 

    

 

 

    

 

 

    

 

 

 

The following table summarizes revenues from each of our customers who individually accounted for 10% or more of our total revenues (as a % of total revenues):

 

     Three Months Ended     Six Months Ended  
     June 30,     June 30,  
     2011     2010     2011     2010  

Cardinal Health, Inc.

     17     18     17     17

McKesson Corp.

     15     14     15     13

AmerisourceBergen Corp.

     12     13     13     12

14. INCOME TAXES

Our income tax rate of 24.4% and 25.2% for the three and six months ended June 30, 2011, respectively, differed from the U.S. federal statutory rate of 35% due primarily to tax credits and certain operating earnings from non-U.S subsidiaries that are considered indefinitely invested outside of the United States, partially offset by state taxes and the non-deductible pharmaceutical excise tax. We do not provide for U.S. income taxes on undistributed earnings of our foreign operations that are intended to be permanently reinvested.

We file federal, state and foreign income tax returns in many jurisdictions in the United States and abroad. For federal income tax purposes, the statute of limitations is open for 2003 and onwards. For certain acquired entities, the statute of limitations is open for all years from inception due to our utilization of their net operating losses and credits carried over from prior years. For California income tax purposes, the statute of limitations is open for 2002 and onwards.

Our income tax returns are audited by federal, state and foreign tax authorities. We are currently under examination by the Internal Revenue Service (IRS) for the 2008 and 2009 tax years and by various state and foreign jurisdictions. There are differing interpretations of tax laws and regulations, and as a result, significant disputes may arise with these tax authorities involving issues of the timing and amount of deductions and allocations of income among various tax jurisdictions. Each quarter we evaluate our exposures associated with our tax filing positions.

In June 2011, we reached agreement with the IRS on several issues related to the examinations of our federal income tax returns for the 2005, 2006 and 2007 tax years. As a result, we reduced our unrecognized tax benefits by $5.8 million.

As of June 30, 2011, we believe it is reasonably possible that our unrecognized tax benefits will not decrease in the next 12 months as we do not expect to have clarification from the IRS and other tax authorities around any of our uncertain tax positions. With respect to the remaining unrecognized tax benefits, we are unable to make a reasonable estimate as to the period of cash settlement, if any, with the respective tax authorities.

We record liabilities related to uncertain tax positions in accordance with the income tax guidance which clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements by prescribing a minimum recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. We do not believe any of our uncertain tax positions will have a material adverse effect on our Condensed Consolidated Financial Statements, although an adverse resolution of one or more of these uncertain tax positions in any period could have a material impact on the results of operations for that period.

 

21


Table of Contents
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

This Quarterly Report on Form 10-Q contains forward-looking statements regarding future events and our future results that are subject to the safe harbors created under the Securities Act of 1933, as amended (the Securities Act), and the Securities Exchange Act of 1934, as amended (the Exchange Act). The forward-looking statements are contained principally in this section entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Risk Factors.” Words such as “expect,” “anticipate,” “target,” “goal,” “project,” “hope,” “intend,” “plan,” “believe,” “seek,” “estimate,” “continue,” “may,” “could,” “should,” “might,” variations of such words and similar expressions are intended to identify such forward-looking statements. In addition, any statements other than statements of historical fact are forward-looking statements, including statements regarding overall trends, operating cost and revenue trends, liquidity and capital needs and other statements of expectations, beliefs, future plans and strategies, anticipated events or trends and similar expressions. We have based these forward-looking statements on our current expectations about future events. These statements are not guarantees of future performance and involve risks, uncertainties and assumptions that are difficult to predict. Our actual results may differ materially from those suggested by these forward-looking statements for various reasons, including those identified below under “Risk Factors.” Given these risks and uncertainties, you are cautioned not to place undue reliance on forward-looking statements. The forward-looking statements included in this report are made only as of the date hereof. Except as required under federal securities laws and the rules and regulations of the Securities and Exchange Commission (SEC), we do not undertake, and specifically decline, any obligation to update any of these statements or to publicly announce the results of any revisions to any forward-looking statements after the distribution of this report, whether as a result of new information, future events, changes in assumptions or otherwise. In evaluating our business, you should carefully consider the risks described in the section entitled “Risk Factors” under Part II, Item 1A below, in addition to the other information in this Quarterly Report on Form 10-Q. Any of the risks contained herein could materially and adversely affect our business, results of operations and financial condition.

You should read the following management’s discussion and analysis of our financial condition and results of operations in conjunction with our audited Consolidated Financial Statements and related notes thereto included as part of our Annual Report on Form 10-K for the year ended December 31, 2010 and our unaudited Condensed Consolidated Financial Statements for the three and six months ended June 30, 2011 and other disclosures (including the disclosures under “Part II. Item 1A. Risk Factors”) included in this Quarterly Report on Form 10-Q. Our Condensed Consolidated Financial Statements have been prepared in accordance with U.S. generally accepted accounting principles (GAAP) and are presented in U.S. dollars.

Management Overview

We are a biopharmaceutical company that discovers, develops and commercializes innovative therapeutics in areas of unmet medical need. Our mission is to advance the care of patients suffering from life threatening diseases worldwide. Headquartered in Foster City, California, we have operations in North America, Europe and Asia Pacific. We market products in the HIV/AIDS, liver disease, respiratory and cardiovascular/metabolic therapeutic areas. Our product portfolio is comprised of Atripla® (efavirenz 600 mg/emtricitabine 200 mg/tenofovir disoproxil fumarate 300 mg), Truvada® (emtricitabine 200 mg/tenofovir disoproxil fumarate 300 mg), Viread® (tenofovir disoproxil fumarate) and Emtriva® (emtricitabine) for the treatment of human immunodeficiency virus (HIV) infection; Hepsera® (adefovir dipivoxil) and Viread for the treatment of chronic hepatitis B; AmBisome® (amphotericin B) liposome for injection for the treatment of severe fungal infections; Letairis® (ambrisentan) for the treatment of pulmonary arterial hypertension (PAH); Ranexa® (ranolazine) for the treatment of chronic angina; Cayston® (aztreonam for inhalation solution) as a treatment to improve respiratory symptoms in cystic fibrosis (CF) patients with Pseudomonas aeruginosa; and Vistide® (cidofovir injection) for the treatment of cytomegalovirus infection.

In addition, we also sell and distribute certain products through our corporate partners under royalty-paying collaborative agreements. For example, F. Hoffmann-La Roche Ltd (together with Hoffmann-La Roche Inc., Roche) markets Tamiflu® (oseltamivir phosphate) for the treatment and prevention of influenza; GlaxoSmithKline Inc. (GSK) markets Hepsera and Viread for the treatment of chronic hepatitis B in certain territories outside of the United States; GSK also markets Volibris® (ambrisentan) outside of the United States for the treatment of PAH; Astellas Pharma US, Inc. markets AmBisome for the treatment of severe fungal infections in the United States and Canada; Astellas US LLC markets Lexiscan® (regadenoson) injection in the United States for use as a pharmacologic stress agent in radionuclide myocardial perfusion imaging; Rapidscan Pharma Solutions, Inc. markets Rapiscan® (regadenoson) in certain territories outside of the United States for the inducement of pharmacological stress and/or vasodilation of the coronary vasculature strictly for purposes of diagnosing cardiovascular disease; Menarini International Operations Luxembourg SA markets Ranexa in certain territories outside of the United States for the treatment of chronic angina; and Japan Tobacco Inc. markets Truvada, Viread and Emtriva in Japan.

Business Highlights

During the second quarter of 2011, our operating results reflected an increase in product sales of 13% over the same quarter in 2010, driven by strong market demand growth across our therapeutic areas and geographies. While growing our business, we continue to invest considerably in research and development (R&D), internally and through acquisitions and strategic collaboration arrangements, positioning us for sustained growth.

 

22


Table of Contents

In April 2011, we announced an exclusive worldwide license and collaboration agreement with MicroDose Therapeutx, Inc. (MicroDose) for the development and commercialization of MDT-637, MicroDose’s inhalable small molecule antiviral fusion inhibitor for the treatment of respiratory synctial virus. Under the terms of the agreement, we paid MicroDose an upfront payment of $8.0 million in the current quarter. We will also provide research funding to support MicroDose’s continued development of MDT-637 through Phase 2a clinical trials. We can assume full responsibility for clinical development following Phase 2a. MicroDose could also receive additional payments based upon the achievement of certain development, regulatory and commercial milestones, as well as development fees and royalties on future potential net sales.

Also in April 2011, we announced the appointment of Muzammil M. Mansuri, PhD. to Senior Vice President, Research and Development Strategy and Corporate Development. In this role, Dr. Mansuri will help define and implement our R&D strategy, explore new business opportunities, drive strategic and portfolio management activities and build and manage our alliances, partnerships and acquisitions. Dr. Mansuri joined us in July 2010 following our acquisition of CGI Pharmaceuticals, Inc., where he served as the Chairman and Chief Executive Officer.

In May 2011, we announced a five-year extension of funding to the Gilead Sciences Research Centre at the Institute of Organic Chemistry and Biochemistry (IOCB) of the Academy of Sciences of the Czech Republic. We will provide a $1.15 million annual donation to IOCB in order to continue to fund the Research Centre’s operations and ongoing research efforts. We first began providing these donations in 2006. We will have the first option to license any inventions that result from the Research Centre’s scientific programs and drug discovery efforts.

In June 2011, we announced our agreement with Tibotec Pharmaceuticals (Tibotec) for the development and commercialization of a new fixed-dose antiretroviral combination product containing our cobicistat, an investigational pharmacoenhancing or “boosting” agent that increases blood levels of certain HIV medicines to allow for once-daily dosing and Tibotec’s protease inhibitor Prezista® (darunavir), indicated in the United States for the treatment of HIV-infected individuals and is co-administered with ritonavir in combination with other antiretroviral agents. Subject to regulatory approval, Tibotec will be responsible for the formulation, manufacturing, registration, distribution and commercialization of the cobicistat and Prezista fixed-dose combination worldwide. We retain sole rights for the manufacture, development and commercialization of cobicistat as a stand-alone product and for use in combination with other agents. In connection with this agreement, the companies are also negotiating terms for the development and commercialization of a future single-tablet regimen (STR) combining Prezista with our Emtriva and our investigational agents GS 7340 and cobicistat. We would be responsible for the development and commercialization of the new STR on a worldwide basis. The agreement to develop the fixed-dose combination of cobicistat and Prezista is contingent upon the signing of the agreement to develop the Emtriva, GS 7340, cobicistat and Prezista STR.

Financial Highlights

Total product sales were $2.04 billion for the second quarter of 2011, an increase of 13% over total product sales of $1.81 billion for the same period last year, driven primarily by the strong fundamentals of our business with antiviral market demand growth in Atripla and Truvada sales in Europe and the United States.

For the three months ended June 30, 2011, Atripla product sales increased 15% over the same period in 2010, primarily driven by sales volume growth in both the United States and Europe, and contributed $822.0 million, or 47%, to our second quarter 2011 antiviral product sales. For the three months ended June 30, 2011, Truvada product sales increased 11% over the same period in 2010, primarily driven by sales volume growth in Europe and the United States, and contributed $711.3 million, or 40% to our second quarter 2011 antiviral product sales. Sequentially, our product sales increased 9% from $1.86 billion in the first quarter of 2011, driven by strong antiviral market demand growth and purchases in advance of the summer holidays in Europe. Foreign currency exchange had a favorable impact of $27.3 million and $9.7 million on our second quarter 2011 revenues and pre-tax earnings, respectively, compared to the second quarter of 2010.

In the second quarter of 2011, product sales in the United States increased 10% compared to the same quarter in 2010, primarily driven by the continued strong market demand growth in our antiviral franchise with major wholesaler inventory levels remaining consistent with levels at the end of the first quarter of 2011. The increase was partially offset by the impact of U.S. healthcare reform. In addition, increased demand contributed to the sales growth in our cardiovascular and respiratory franchises. Ranexa sales in the United States contributed $85.9 million to our second quarter 2011 product sales, an increase of 43% over the same period in 2010. Letairis sales in the United States contributed $73.6 million to our second quarter 2011 product sales, an increase of 22% over the same period in 2010. Also, Cayston sales in the United States contributed $18.5 million to our second quarter 2011 product sales, an increase of 98% over the same period in 2010 as Cayston launched in the first quarter of 2010.

In the second quarter of 2011, product sales in Europe increased 16% compared to the same quarter in 2010, due to continued strong market demand growth in our antiviral franchise, partially offset by the impact of austerity measures in certain European countries. Antiviral product sales in Europe totaled $697.6 million in the second quarter of 2011, an increase of 16% compared to $600.8 million in the second quarter of 2010, driven primarily by sales of Atripla and Truvada. Foreign currency exchange also had a favorable impact on our European product sales in the second quarter of 201l compared to the same quarter in 2010. Sequentially, antiviral product sales in Europe in the second quarter of 2011 increased 7% compared to the first quarter of 2011 driven primarily by underlying patient demand and purchases in advance of the summer holidays.

 

23


Table of Contents

Our R&D and selling, general and administrative (SG&A) expenses increased by $107.6 million, or 22%, for the three months ended June 30, 2011 compared to the same period in 2010. The increase was due primarily to the impact of higher headcount and expenses associated with acquisitions, collaborations and the ongoing growth of our business, costs related to clinical studies performed by contract research organizations and the pharmaceutical excise tax resulting from U.S. healthcare reform.

Cash, cash equivalents and marketable securities increased by $181.2 million during the six months ended June 30, 2011, driven primarily by our operating cash flows of $1.76 billion and proceeds of $987.4 million from the issuance of our 2021 senior unsecured notes (2021 Notes), net of related debt discount and issuance costs, partially offset by $588.6 million used to acquire Arresto Biosciences, Inc. (Arresto) and Calistoga Pharmaceuticals, Inc. (Calistoga), $650.0 million used to repay our convertible senior notes due in 2011 (2011 Notes) and repurchases of our common stock under our stock repurchase program. Under our current three-year, $5.00 billion stock repurchase program, we repurchased $4.29 billion of our common stock through June 30, 2011. During the six months ended June 30, 2011, our total repurchase activity was $1.27 billion which resulted in the repurchase and retirement of 31.8 million shares of our common stock at an average purchase price of $39.95 per share.

Critical Accounting Policies, Estimates and Judgments

There have been no material changes in our critical accounting policies, estimates and judgments during the six months ended June 30, 2011 compared to the disclosures in Part II, Item 7 of our Annual Report on Form 10-K for the year ended December 31, 2010.

Results of Operations

Total Revenues

Total revenues for the three months ended June 30, 2011 were $2.14 billion, compared to $1.93 billion for the same period in 2010. For the six months ended June 30, 2011, total revenues were $4.06 billion, compared to $4.01 billion for the same period in 2010. Included in total revenues were product sales, royalty revenues and contract and other revenues. A significant percentage of our product sales continued to be denominated in foreign currencies and we face exposure to adverse movements in foreign currency exchange rates. We used foreign currency exchange forward and option contracts to hedge a percentage of our forecasted international sales, primarily those denominated in Euro. Foreign currency exchange had a favorable impact of $27.3 million on our second quarter 2011 revenues compared to the second quarter of 2010.

Product Sales

The following table summarizes the period over period changes in our product sales (in thousands):

 

     Three Months Ended            Six Months Ended         
     June 30,            June 30,         
     2011      2010      Change     2011      2010      Change  

Antiviral products:

                

Atripla

   $ 821,992       $ 715,804         15    $ 1,566,504       $ 1,408,676         11 

Truvada

     711,301         641,682         11      1,384,412         1,299,481        

Viread

     185,717         176,172             354,112         356,858         (1 )% 

Hepsera

     38,656         51,334         (25 )%      76,752         109,458         (30 )% 

Emtriva

     6,732         6,745         (0 )%      13,308         13,901         (4 )% 
  

 

 

    

 

 

      

 

 

    

 

 

    

Total antiviral products

     1,764,398         1,591,737         11      3,395,088         3,188,374        

AmBisome

     88,625         78,174         13      167,131         155,223        

Letairis

     73,637         60,348         22      135,811         115,847         17 

Ranexa

     86,077         60,460         42      154,370         111,703         38 

Other products

     26,851         15,342         75      50,766         22,977         121 
  

 

 

    

 

 

      

 

 

    

 

 

    

Total product sales

   $ 2,039,588       $ 1,806,061         13    $ 3,903,166       $ 3,594,124         9
  

 

 

    

 

 

      

 

 

    

 

 

    

Total product sales increased by 13% and 9% for the three and six months ended June 30, 2011, respectively, compared to the same periods in 2010. This increase was due primarily to the growth of Atripla and Truvada sales.

Antiviral Products

Antiviral product sales increased by 11% and 6% for the three and six months ended June 30, 2011, respectively, compared to the same periods in 2010.

 

   

Atripla

Atripla sales increased by 15% and 11% for the three and six months ended June 30, 2011, respectively, compared to the same periods in 2010, driven primarily by sales volume growth in the United States and Europe. Atripla sales include the efavirenz component which has a gross margin of zero. The efavirenz portion of our Atripla sales was approximately

 

24


Table of Contents

$298.4 million and $572.3 million for the three and six months ended June 30, 2011, respectively, and approximately $262.5 million and $518.3 million for the three and six months ended June 30, 2010, respectively. Atripla sales accounted for 47% and 46% of our total antiviral product sales for the three and six months ended June 30, 2011, respectively.

 

   

Truvada

Truvada sales increased by 11% and 7% for the three and six months ended June 30, 2011, respectively, compared to the same periods in 2010, driven primarily by sales volume growth in Europe and the United States. Truvada sales accounted for 40% and 41% of our total antiviral product sales for the three and six months ended June 30, 2011, respectively.

 

   

Other Antiviral Products

Other antiviral product sales, which include product sales of Viread, Hepsera and Emtriva, decreased by 1% for the three months ended June 30, 2011 compared to the same period in 2010, due primarily to decreased sales volume for Hepsera in Europe and the United States, partially offset by increased sales volume for Viread in Europe and the United States. Other antiviral product sales decreased by 8% for the six months ended June 30, 2011 compared to the same period in 2010, due primarily to decreased sales volume for Hepsera in Europe and the United States and for Viread in Europe and Latin America, partially offset by increased sales volume for Viread in the United States.

AmBisome

Sales of AmBisome increased by 13% and 8% for the three and six months ended June 30, 2011, respectively, compared to the same periods in 2010. The increases over both periods were driven primarily by sales volume growth in Europe and Latin America. AmBisome product sales in the United States and Canada relate solely to our sales of AmBisome to Astellas Pharma US, Inc. which are recorded at our manufacturing cost.

Letairis

Sales of Letairis increased by 22% and 17% for the three and six months ended June 30, 2011, respectively, compared to the same periods in 2010, driven primarily by sales volume growth.

Ranexa

Sales of Ranexa increased by 42% and 38% for the three and six months ended June 30, 2011, respectively, compared to the same periods in 2010, driven primarily by sales volume growth.

Royalty Revenues

The following table summarizes the period over period changes in our royalty revenues (in thousands):

 

     Three Months Ended            Six Months Ended         
     June 30,            June 30,         
     2011      2010      Change     2011      2010      Change  

Royalty revenues

   $ 94,321       $ 117,790         (20 )%    $ 152,986       $ 411,471         (63 )% 

Historically, our most significant source of royalty revenues has been from sales of Tamiflu by Roche. We recognize royalties on Tamiflu sales by Roche in the quarter following the quarter in which Tamiflu sales are recognized by Roche.

Royalty revenues for the three months ended June 30, 2011 were $94.3 million, a decrease of 20% or $23.5 million compared to the same period in 2010, due to lower Tamiflu royalties from Roche of $50.6 million in the three months ended June 30, 2011, compared to Tamiflu royalties from Roche of $83.8 million in the same period in 2010. Royalty revenues for the six months ended June 30, 2011 were $153.0 million, a decrease of 63% or $258.5 million compared to the same period in 2010, due to lower Tamiflu royalties from Roche of $61.7 million in the six months ended June 30, 2011, compared to Tamiflu royalties from Roche of $330.1 million in the same period in 2010. Tamiflu royalties declined sharply in the second quarter of 2010 and continued to decline through the first quarter of 2011 due to the fulfillment of many of the existing pandemic orders from governments and corporations.

 

25


Table of Contents

Cost of Goods Sold and Product Gross Margin

The following table summarizes the period over period changes in our product sales (in thousands), cost of goods sold (in thousands) and product gross margin:

 

     Three Months Ended
June 30,
          Six Months Ended
June 30,
       
     2011     2010     Change     2011     2010     Change  

Total product sales

   $ 2,039,588      $ 1,806,061        13   $ 3,903,166      $ 3,594,124        9

Cost of goods sold

   $ 533,863      $ 455,525        17   $ 1,007,974      $ 895,955        13

Product gross margin

     74     75       74     75  

Our product gross margin for the three and six months ended June 30, 2011 was 74%, a decrease of 1% compared to the same periods in 2010, primarily due to the impact of U.S. healthcare reform and pricing pressures in Europe.

Research and Development Expenses

The following table summarizes the period over period changes in our R&D expenses (in thousands):

 

     Three Months Ended
June 30,
           Six Months Ended
June 30,
        
     2011      2010      Change     2011      2010      Change  

Research and development

   $ 282,403       $ 231,066         22   $ 536,849       $ 449,730         19

R&D expenses consist primarily of personnel costs, including salaries, benefits and stock-based compensation, clinical studies performed by contract research organizations, materials and supplies, licenses and fees, milestone payments under collaboration arrangements and overhead allocations consisting of various support and facilities-related costs.

R&D expenses for the three months ended June 30, 2011 increased by $51.3 million, or 22%, compared to the same period in 2010, due primarily to a $16.1 million increase in clinical studies costs, a $10.9 million increase in compensation and benefits expenses related to higher headcount to support our increased R&D activities and a $24.7 million increase in other contract and professional services associated with the ongoing growth of our business.

R&D expenses for the six months ended June 30, 2011 increased by $87.1 million, or 19%, compared to the same period in 2010, due primarily to $9.0 million of R&D expense reimbursements related to our collaboration with Tibotec, a $17.8 million increase in compensation and benefits expenses related to higher headcount to support our increased R&D activities, a $10.9 million increase in clinical studies costs and a $40.7 million increase in other contract and professional services associated with the ongoing growth of our business.

Selling, General and Administrative Expenses

The following table summarizes the period over period changes in our SG&A expenses (in thousands):

 

     Three Months Ended
June 30,
           Six Months Ended
June 30,
        
     2011      2010      Change     2011      2010      Change  

Selling, general and administrative

   $ 304,269       $ 248,006         23   $ 599,837       $ 513,624         17

SG&A expenses for the three months ended June 30, 2011 increased by $56.3 million, or 23%, compared to the same period in 2010. This was due primarily to an $18.0 million increase in compensation and benefits expenses related to higher headcount to support our expanding commercial activities, a $20.9 million increase in contract and professional services expenses and a $6.5 million increase in promotional costs. Additionally, we estimate that the impact of the pharmaceutical excise tax will result in approximately $50 million in SG&A expenses for the full year of 2011 based on the information we have received to date.

SG&A expenses for the six months ended June 30, 2011 increased by $86.2 million, or 17%, compared to the same period in 2010. This was due primarily to a $30.2 million increase in compensation and benefits expenses related to higher headcount to support our expanding commercial activities, a $31.5 million increase in contract and professional expenses and a $9.4 million increase in bad debt expenses associated with slower collections in southern European countries. These increases were partially offset by a $12.2 million decrease in expenses related to our 2010 restructuring activities which were comprised primarily of lease termination costs.

Interest and Other Income, Net

Interest and other income, net, for the three months ended June 30, 2011 decreased by $6.3 million compared to the same period in 2010, due primarily to increased costs related to our hedging activities. Interest and other income, net, for the six months ended June 30, 2011 decreased by $8.1 million compared to the same period in 2010, due primarily to increased costs related to our hedging activities and an unfavorable net foreign currency exchange impact, partially offset by an increase in interest income.

 

26


Table of Contents

Interest Expense

Interest expense for the three and six months ended June 30, 2011 increased by $28.3 million and $52.6 million, respectively, compared to the same periods in 2010, due primarily to the issuance of our 2014 and 2016 convertible senior notes for $2.46 billion, net of issuance costs, in July 2010 and the issuance of our 2021 Notes for $987.4 million, net of related debt discount and issuance costs, in March 2011.

Provision for Income Taxes

Our provision for income taxes was $240.1 million and $467.4 million for the three and six months ended June 30, 2011, respectively, compared to $284.0 million and $591.8 million for the same periods in 2010, respectively. Our effective tax rate was 24.4% and 25.2% for the three and six months ended June 30, 2011, respectively, compared to our effective tax rate of 28.6% and 27.5% for the same periods in 2010, respectively. The effective tax rates for the three and six months ended June 30, 2011 were lower than the effective tax rates for the three and six months ended June 30, 2010 as a result of the federal research tax credit extension, resolution of certain tax positions with taxing authorities and lower state taxes, partially offset by the non-deductible pharmaceutical excise tax.

The effective tax rate for the three and six months ended June 30, 2011 differed from the U.S. federal statutory rate of 35% due primarily to tax credits and certain operating earnings from non-U.S. subsidiaries that are considered indefinitely invested outside of the United States, partially offset by state taxes and the non-deductible pharmaceutical excise tax. We do not provide for U.S. income taxes on undistributed earnings of our foreign operations that are intended to be permanently reinvested.

Liquidity and Capital Resources

The following table summarizes our cash, cash equivalents and marketable secu