Shire 10-Q 2009
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period ended June 30, 2009
Commission File Number: 0-29630
(Exact name of registrant as specified in its charter)
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, and (2) has been subject to such filing requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer.
Large accelerated filer [X] Accelerated filer [ ] Non-accelerated filer [ ] 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]
As at July 31, 2009 the number of outstanding ordinary shares of the Registrant was 560,286,326.
THE “SAFE HARBOR” STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
Statements included herein that are not historical facts are forward-looking statements. Such forward-looking statements involve a number of risks and uncertainties and are subject to change at any time. In the event such risks or uncertainties materialize, the Company’s results could be materially adversely affected. The risks and uncertainties include, but are not limited to, risks associated with: the inherent uncertainty of research, development, approval, reimbursement, manufacturing and commercialization of the Company’s Specialty Pharmaceutical and Human Genetic Therapies products, as well as the ability to secure and integrate new products for commercialization and/or development; government regulation of the Company’s products; the Company’s ability to manufacture its products in sufficient quantities to meet demand; the impact of competitive therapies on the Company’s products; the Company’s ability to register, maintain and enforce patents and other intellectual property rights relating to its products; the Company’s ability to obtain and maintain government and other third-party reimbursement for its products; and other risks and uncertainties detailed from time to time in the Company’s filings with the Securities and Exchange Commission.
The following are trademarks either owned or licensed by Shire plc or its subsidiaries which are the subject of trademark registrations in certain territories, or which are owned by third parties as indicated and referred to in this Form 10-Q:
Form 10-Q for the three months to June 30, 2009
Table of contents
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
UNAUDITED CONSOLIDATED BALANCE SHEETS (continued)
The accompanying notes are an integral part of these unaudited consolidated financial statements.
UNAUDITED CONSOLIDATED STATEMENTS OF INCOME (continued)
The accompanying notes are an integral part of these unaudited consolidated financial statements.
UNAUDITED CONSOLIDATED STATEMENT OF CHANGES IN EQUITY
The accompanying notes are an integral part of these unaudited consolidated financial statements.
Dividends per share
During the six months to June 30, 2009 Shire plc declared and paid dividends of 7.76 US cents per ordinary share (equivalent to 23.28 US cents per American Depositary Share) totaling $43.0 million.
The components of accumulated other comprehensive income as at June 30, 2009 and December 31, 2008 are as follows:
The accompanying notes are an integral part of these unaudited consolidated financial statements.
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS (continued)
The accompanying notes are an integral part of these unaudited consolidated financial statements.
These interim financial statements of Shire plc and its subsidiaries (collectively “Shire” or “the Company”) and other financial information included in this Form 10-Q, are unaudited. They have been prepared in accordance with generally accepted accounting principles in the United States of America (“US GAAP”) and US Securities and Exchange Commission (“SEC”) regulations for interim reporting.
The December 31, 2008 balance sheet was derived from audited financial statements but does not include all disclosures required by US GAAP. However, the Company believes that the disclosures are adequate to make the information presented not misleading.
These interim financial statements should be read in conjunction with the consolidated financial statements and accompanying notes included in the Company’s Annual Report on Form 10-K for the year to December 31, 2008.
Certain information and footnote disclosures normally included in financial statements prepared in accordance with US GAAP have been condensed or omitted from these interim financial statements. However, these interim financial statements include all adjustments, which are, in the opinion of management, necessary to fairly state the results of the interim period. Interim results are not necessarily indicative of results to be expected for the full year.
The preparation of interim financial statements, in conformity with US GAAP and SEC regulations for interim reporting, requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the consolidated financial statements and reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Estimates and assumptions are primarily made in relation to the valuation of intangible assets, sales deductions, the valuation of equity investments, income taxes and provisions for litigation.
Statement of Financial Accounting Standards (“SFAS”) No. 165
In June 2009 the Company adopted SFAS No. 165, “Subsequent Events” (“SFAS No. 165”). SFAS No. 165 establishes general standards of accounting for and disclosure of events that occur after the balance sheet date but before financial statements are issued or are available to be issued. Specifically, SFAS No 165 provides: the period after the balance sheet date during which management should evaluate events or transactions that may occur for potential recognition or disclosure in the financial statements; the circumstances under which an entity should recognize events or transactions occurring after the balance sheet date in its financial statements; and the disclosures that an entity should make about events or transactions that occurred after the balance sheet date. SFAS No. 165 is effective prospectively for the interim and annual periods ending after June 15, 2009. The adoption of SFAS No. 165 did not have an impact on the Company’s consolidated financial position, results of operations or cash flows. The Company has evaluated the subsequent events from July 1, 2009 to August 6, 2009, which is the date when the financial statements were issued.
SFAS No. 161
On January 1, 2009 the Company adopted SFAS No. 161, “Disclosures about Derivative Instruments and Hedging Activities – an amendment of FASB No. 133” (“SFAS No. 161”). SFAS No. 161 requires enhanced disclosures about an entity’s derivative instruments and hedging activities, and these disclosures are included within Note 17.
SFAS No. 160
On January 1, 2009 the Company adopted SFAS No. 160, “Noncontrolling Interests in Consolidated Financial Statements - An Amendment of ARB No. 51” (“SFAS No. 160”). SFAS No. 160 establishes new accounting and reporting standards for the noncontrolling interest in a subsidiary and for the deconsolidation of a subsidiary. Specifically, this statement requires the recognition of a noncontrolling interest (formally known as a minority interest) as equity in the consolidated financial statements, separate from the parent's equity. In addition, the amount of net income attributable to noncontrolling interests is required to be included in consolidated net income on the face of the income statement. SFAS No. 160 also includes expanded disclosure requirements regarding the interests of the parent and its noncontrolling interest. As a consequence of the adoption of SFAS No. 160, the balance of noncontrolling interests has been reclassified within shareholders’ equity and net income attributable to Shire plc shareholders has been shown separately from that attributable to noncontrolling interests in the unaudited consolidated statements of income and the unaudited consolidated statement of changes in equity. The adoption of SFAS No. 160 has not had an impact on the Company’s consolidated cash flows.
SFAS No. 141(R)
On January 1, 2009 the Company adopted SFAS No. 141 (Revised 2007), “Business Combinations” (“SFAS No. 141(R)”). SFAS No. 141(R) significantly changed the accounting for business combinations. Under SFAS No. 141(R), an acquiring entity is required to recognize all the assets acquired, liabilities assumed and noncontrolling interests in a transaction at the acquisition date fair value with limited exceptions. SFAS No. 141(R) also amended the accounting treatment for certain specific items including: the expensing of acquisition costs; the capitalization of in-process research and development; recording of contingent consideration at fair value with subsequent changes in fair value being generally reflected in earnings; and the introduction of a substantial number of new disclosure requirements. The provisions of SFAS No. 141(R) have been applied to those business combinations completed in the six months to June 30, 2009.
Emerging Issues Task Force (“EITF”) 07-5
On January 1, 2009 the Company adopted EITF 07-5 "Determining whether an Instrument (or Embedded Feature) is indexed to an Entity's Own Stock" ("EITF 07-5"). Paragraph 11(a) of SFAS No. 133 "Accounting for Derivatives and Hedging Activities" ("SFAS No. 133") specified that a contract that would otherwise meet the definition of a derivative but is both (a) indexed to the Company's own stock and (b) classified in stockholders' equity in the statement of financial position would not be considered a derivative financial instrument. EITF 07-5 provides a new two-step model to be applied in determining whether a financial instrument or an embedded feature is indexed to an issuer's own stock and thus able to qualify for the SFAS No. 133 paragraph 11(a) scope exception. The adoption of EITF 07-5 did not have an impact on the Company’s consolidated financial position, results of operations or cash flow statements.
On January 1, 2009 the Company adopted EITF 07-1, “Accounting for Collaborative Arrangements” (“EITF 07-1”). EITF 07-1 defines collaborative arrangements and establishes reporting requirements for transactions between participants in a collaborative arrangement and between participants in the arrangement and third parties. The adoption of EITF 07-1 did not have an impact on the Company’s consolidated financial position, results of operations or cash flow statements. The disclosures required by EITF 07-1 have been included in Note 16.
Financial Accounting Standards Board (“FASB”) Staff Position (“FSP”) No. APB 14-1
On January 1, 2009 the Company adopted FSP No. APB 14-1, “Accounting for Convertible Debt Instruments That May Be Settled in Cash upon Conversion (Including Partial Cash Settlement)” (“FSP No. APB 14-1”). This FSP clarified that convertible debt instruments that may be settled in cash upon conversion (including partial cash settlement) do not fall within the scope of paragraph 12 of Accounting Principles Board (“APB”) Opinion No. 14, “Accounting for Convertible Debt and Debt Issued with Stock Purchase Warrants”. It requires issuers of such instruments to separately account for the liability and equity components of those instruments by allocating the proceeds from issuance of the instrument between the liability component and the embedded conversion option (i.e., the equity component). The adoption of FSP No. APB 14-1 did not have an impact on the Company’s consolidated financial position, results of operations or cash flow statements.
FSP No. FAS 157-2
On January 1, 2009 the Company adopted FSP No. FAS 157-2, “Effective Date of FASB Statement No. 157”. This FSP delayed the effective date of SFAS No. 157 “Fair Value Measurements” (“SFAS No. 157”) for non-financial assets and non-financial liabilities, except for items that are recognized or disclosed at fair value in the financial statements on a recurring basis (at least annually). The provisions of SFAS No. 157 have been applied to the fair value measurement of non-financial assets and non-financial liabilities in the six months to June 30, 2009.
FSP No. FAS 142-3
On January 1, 2009 the Company adopted FSP No. FAS 142-3, “Determination of the Useful Life of Intangible Assets” (“FSP No. FAS 142-3”). This FSP amended the factors that should be considered in developing renewal or extension assumptions used to determine the useful life of a recognized intangible asset under FASB Statement No. 142, “Goodwill and Other Intangible Assets”. The adoption of FSP No. FAS 142-3 did not have an impact on the Company’s consolidated financial position, results of operations or cash flow statements.
FSP No. FAS 141(R)-1
In April 2009 the FASB issued FSP No. FAS 141(R)-1, “Accounting for Assets Acquired and Liabilities Assumed in a Business Combination That Arise from Contingencies” (“FSP No. FAS 141(R)-1”). This FSP provides additional guidance on initial recognition and measurement, subsequent measurement and accounting, and disclosure of assets and liabilities arising from contingencies in a business combination.
FSP No. FAS 141(R)-1 is effective from January 1, 2009. The effect of FSP No. FAS 141(R)-1 on the consolidated financial position, results of operations and cash flow statements will depend on the nature and terms of any business combinations that occur after its effective date.
FSP No. FAS 157-4
On June 15, 2009 the Company adopted FSP No. FAS 157-4, “Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly” (“FSP No. FAS 157-4”). This FSP provides additional guidance for estimating fair value in accordance with SFAS No. 157, when the volume and level of activity for the asset or liability have significantly decreased. The adoption of FSP No. FAS 157-4 did not have an impact on the Company’s consolidated financial position, results of operations or cash flow statements.
FSP No. FAS 115-2 and FAS 124-2
On June 15, 2009 the Company adopted FSP No. FAS 115-2 and FAS 124-2, “Recognition and Presentation of Other-Than-Temporary Impairments” (“FSP No. FAS 115-2 and FAS 124-2”). This FSP amends the other-than-temporary guidance for debt securities in existing US GAAP to make the guidance more operational and to improve the presentation and disclosure of other-than-temporary impairments on debt and equity securities in the financial statements. The adoption of FSP No. FAS 115-2 and FAS 124-2 did not have an impact on the Company’s consolidated financial position, results of operations or cash flow statements.
FSP No. FAS 107-1 and APB 28-1
On June 15, 2009 the Company adopted FSP No. FAS 107-1 and APB 28-1, “Interim Disclosures about Fair Value of Financial Instruments” (“FSP No. 107-1 and APB 28-1”). This FSP amends SFAS No. 107, “Disclosures about Fair Value of Financial Instruments”, to require disclosures about fair value of financial instruments for interim reporting periods. The disclosures required by FSP No. FAS 107-1 and APB 28-1 have been included in Note 18.
SFAS No. 168
In June 2009 the FASB issued SFAS No. 168, “The “FASB Accounting Standards CodificationTM” and the Hierarchy of Generally Accepted Accounting Principles” (“SFAS No. 168”). SFAS No. 168 establishes the FASB Accounting Standards CodificationTM (“Codification”) as the single source of authoritative US GAAP recognized by the FASB to be applied by nongovernmental entities.
When effective, the Codification will supersede all existing non-SEC accounting and reporting standards. Following SFAS No. 168, the FASB will issue new guidance in the form of Accounting Standards Updates. SFAS No. 168 and the Codification are effective for financial statements issued for interim and annual periods ending after September 15, 2009.
SFAS No. 167
In June 2009 the FASB issued SFAS No. 167, “Amendments to FASB Interpretation No. 46(R)” (“SFAS No. 167”). SFAS No. 167 is a revision of FASB Interpretation No. 46 (Revised December 2003), “Consolidation of Variable Interest Entities”, and changes how a reporting entity determines when an entity that is insufficiently capitalized or is not controlled through voting (or similar rights) should be consolidated. The determination of whether a reporting entity is required to consolidate another entity is based on, among other things, the other entity’s purpose and design and the reporting entity’s ability to direct the activities of the other entity that most significantly impact the other entity’s economic performance. SFAS No. 167 will also require a reporting entity to provide additional disclosures about its involvement with variable interest entities and any significant changes in risk exposure due to that involvement. SFAS No. 167 is effective for financial statements issued for fiscal years and interim periods within those fiscal years beginning after November 15, 2009. Early adoption is not permitted. The Company is currently evaluating the impact of the adoption of SFAS No. 167.
SFAS No. 166
In June 2009 the FASB issued SFAS No. 166, “Accounting for Transfers of Financial Assets” (“SFAS No. 166”). SFAS No. 166 is a revision of SFAS No. 140, “Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities” and will require more information about transfers of financial assets, including securitization transactions, and where entities have continuing exposure to the risks related to transferred financial assets. It eliminates the concept of a “qualifying special-purpose entity,” changes the requirements for derecognizing financial assets, and requires additional disclosures. SFAS No. 166 is effective for financial statements issued for fiscal years and interim periods within those fiscal years beginning after November 15, 2009. Early adoption is not permitted. The Company is currently evaluating the impact of the adoption of SFAS No. 166.
FASB Accounting Standards Update 2009-01
FASB Accounting Standards Update 2009-01, “Topic 105-Generally Accepted Accounting Principles amendments based on SFAS No. 168”, amends the Codification for the issuance of SFAS No. 168.
FASB Accounting Standards Update 2009-02
FASB Accounting Standards Update 2009-02, “Omnibus Update-Amendments to Various Topics for Technical Corrections” makes a number of technical corrections to various topics in the Codification.
On March 31, 2009 the Company acquired the worldwide rights (excluding the US, Canada and Barbados) to EQUASYM IR and XL for the treatment of attention deficit and hyperactivity disorder (“ADHD”) from UCB for cash consideration of $72.8 million. Included within the recognized purchase price for the acquisition is further consideration of $18.2 million, which may become payable in 2009 and 2010 if certain targets are met. This acquisition will broaden the scope of Shire’s ADHD portfolio and will facilitate immediate access to the European ADHD market as well as provide Shire the opportunity to enter additional markets around the world.
The acquisition of EQUASYM IR and XL has been accounted for as a business combination in accordance with SFAS No. 141(R). The purchase price has been allocated on a preliminary basis to the currently marketed products acquired ($73.0 million), in-process research and development (“IPR&D”) ($5.5 million), other liabilities ($0.7 million) and goodwill ($13.2 million). The goodwill has been assigned to the Specialty Pharmaceuticals segment.
During the third quarter of 2008, the Company launched a voluntary public takeover offer for all outstanding shares in Jerini, a German corporation, at a price of €6.25 per share. By December 31, 2008 the Company had acquired rights to 98.6% of the voting interests in Jerini for a cash consideration of $556.5 million, by (i) subscribing for new Jerini shares; (ii) acquiring voting interests through the completion of sale and purchase agreements entered into with institutional shareholders and certain members of Jerini’s Management and Supervisory Boards; and (iii) acquiring voting interests through market purchases. The acquisition added Jerini’s hereditary angioedema (“HAE”) product FIRAZYR to Shire’s portfolio.
During the six months to June 30, 2009 through on-market purchases the Company acquired additional voting interests totaling 0.2% of Jerini’s issued share capital, for a cash consideration including direct acquisition costs of $2.7 million. These additional voting interests have been accounted for as step-acquisitions using the purchase method of accounting. In respect of the step acquisitions made in 2009, the Company has recognized additional goodwill of $1.7 million, intangible assets in respect of the currently marketed product of $0.7 million, and IPR&D of $0.3 million. By June 30, 2009 Shire had acquired rights to a 98.8% voting interest in Jerini for a total consideration of $559.2 million.
Shire and Jerini continue to follow procedures under German law to effect the acquisition of the remaining shares. On April 24, 2009 Shire (through its wholly owned subsidiary, Shire Deutschland Investments GmbH) informed the Supervisory Board and Management Board of Jerini that it would offer €7.53 per share for the remaining shares. On June 16, 2009 the annual general meeting (“AGM”) of Jerini resolved upon the transfer of the remaining Jerini shares to Shire Deutschland Investments GmbH against an adequate cash settlement of €7.53 per share. Minority shareholders may challenge this 'squeeze out' resolution by filing legal complaints within one month of the AGM.
During the second quarter of 2009, the Management and Supervisory Board of Jerini announced the closure of both Jerini Ophthalmic, Inc. (“JOI”) and certain other pre-clinical operations. Following this announcement the Company adjusted its preliminary purchase price allocation to recognize assumed liabilities for onerous contract costs and employee involuntary termination costs to be incurred on closure of these operations totaling $9.1 million. This adjustment to the preliminary purchase price allocation and additional goodwill recognized on the acquisition of additional voting interests during 2009 has increased the goodwill arising on the acquisition of Jerini to $158.8 million.
In August 2006, Shire and Duramed Pharmaceuticals, Inc., a subsidiary of Teva, (“Duramed”) entered into an agreement related to SEASONIQUE, a number of products using Duramed’s transvaginal ring technology and other oral products (the “Collaboration Products”). Under this agreement, Shire was required to reimburse Duramed for US development expenses incurred on Collaboration Products up to a maximum of $140 million over eight years from September 2006, and Shire had the right to commercialize these products in a number of markets outside of North America, including the larger European markets.
On February 24, 2009 Shire and Duramed amended this agreement so that it will now terminate on December 31, 2009. Pursuant to this amendment, Shire agreed to return to Duramed its rights under the agreement effective February 24, 2009. Shire also agreed to reimburse Duramed for incurred US development expenditures in 2009 up to a maximum of $30.0 million. Shire has no rights with respect to the products on which such development expenditures are incurred. In addition, Shire agreed to a one-time payment to Duramed of $10.0 million, (which was paid during the first quarter of 2009), and to forego royalties receivable from Barr (a subsidiary of Teva) and cost of goods otherwise payable by Barr to Shire in 2009 under the License Agreement between the parties for the supply of authorized generic ADDERALL XR, up to a maximum of $25.0 million. During the six months to June 30, 2009 the Company recorded a charge of $65.0 million to research and development to reflect the cash payment made in Q1 2009 and other termination related costs. At December 31, 2008 Shire’s maximum future reimbursement for Duramed incurred development expenditure was $95.6 million.
A reconciliation of the contract termination liability is presented below:
The charge of $65.0 million has been included within the Specialty Pharmaceuticals segment in the Company’s segmental analysis, see Note 20.
On June 4, 2008 Shire completed the acquisition of the global rights to METAZYM, a clinical candidate arylsulfatase-A, from Zymenex for $135.0 million in cash. Upon completion in 2008, Shire recognized an IPR&D charge of $135.0 million in respect of the acquired development project.
In March 2009 the Company’s management approved and initiated plans to phase out operations and close the Company’s Specialty Pharmaceuticals manufacturing facility at Owings Mills, Maryland. Over the next three years, all products currently manufactured by Shire at this site will transition to DSM Pharmaceutical Products, and operations and employee numbers at the site will wind down over this period. During the six months to June 30, 2009 the Company incurred reorganization costs totaling $5.1 million which relates to employee involuntary termination benefits of $1.9 million, impairment charges for property, plant and equipment of $2.6 million and other costs of $0.6 million. At June 30, 2009 a liability for reorganization costs of $1.1 million was included in accounts payable and accrued expenses.
As a result of the decision to transfer manufacturing from the Owings Mills site the company has revised the life of property, plant and equipment in the facility, and has incurred accelerated depreciation of $3.0 million, which has been charged to cost of product sales in the six months to June 30, 2009. These reorganization costs and accelerated depreciation have been recorded within the Specialty Pharmaceuticals operating segment.
Jerini non-core operations
In the second quarter of 2009 as outlined in Note 2, the operations of JOI and certain other non-core pre-clinical operations acquired with Jerini were closed down. At June 30, 2009 a liability for costs associated with these closures, totaling $9.1 million, relating to employee involuntary termination benefits and other closure costs, has been included within accounts payable and accrued expenses with a corresponding increase to goodwill arising on the acquisition.
The aggregate liability for re-organization costs arising on the Owing Mills and Jerini closures at June 30, 2009 is as follows:
Integration costs of $2.3 million (2008: $nil), primarily relating to the integration of Jerini into Shire, were incurred in the six months to June 30, 2009.
Acquisition costs of $1.5 million (2008: $nil), primarily relating to direct acquisition costs and changes in the fair value of contingent consideration recognized on the acquisition of EQUASYM, were incurred in the six months to June 30, 2009.
Accounts receivable at June 30, 2009 of $424.7 million (December 31, 2008: $395.0 million), are stated net of a provision for discounts and doubtful accounts of $12.9 million (December 31, 2008: $20.2 million).
Provision for discounts and doubtful accounts:
Inventories at June 30, 2009 of $166.6 million (December 31, 2008: $154.5 million) are stated at the lower of cost or market and are analyzed as follows:
At June 30, 2009 inventories included $18.0 million (December 31, 2008: $11.5 million) of costs capitalized prior to the regulatory approval of the relevant product.
At June 30, 2009 assets held for sale had a carrying value of $1.7 million (December 31, 2008: $16.6 million). At December 31, 2008 assets held for sale included $14.9 million for the operations of JOI and Jerini Peptide Technologies GmbH, (“JPT”), which were acquired through the Jerini acquisition but were deemed non-strategic to the combined business. Since the acquisition of Jerini the Company has classified JOI and JPT as disposal groups held for sale and as discontinued operations. In May 2009, JPT was divested for cash consideration of $6.7 million, and a loss on disposal of $0.5 million has been recognized within discontinued operations for the six months to June 30, 2009.
During the second quarter of 2009 it was determined that JOI was no longer going to be divested, and its assets were reclassified as held-and-used, resulting in a re-measurement adjustment of $5.9 million being recognized to record these assets at the lower of their fair value and carrying value. However the Company subsequently closed JOI during the second quarter of 2009 and JOI was reclassified as a discontinued operation. The re-measurement adjustment has accordingly been presented within discontinued operations.
The Company has presented JOI and JPT as discontinued operations, recording a net loss from these operations of $12.4 million in the six months to June 30, 2009 (2008: $nil). Revenues and the pre-tax loss from discontinued operations for the six months to June 30, 2009 were $2.3 million (2008: $nil) and $12.4 million (2008: $nil) respectively.
The remaining held for sale assets are represented by intangible assets and attributed goodwill for certain products divested to Laboratories Almirall S.A. (“Almirall”) in 2007. The recognition of the gains arising on the disposal of these products and the de-recognition of the related assets have been deferred pending the completion of the transfer of the relevant regulatory and other consents to the acquirer. These assets divested to Almirall form part of the Specialty Pharmaceuticals operating segment.
On March 12, 2009 the Company completed the disposal of its minority equity investment in Virochem Pharma, Inc. (“Virochem”) to Vertex in a cash and stock transaction. The disposal was part of a transaction entered into by all the shareholders of Virochem with Vertex. The carrying amount of this minority equity investment on March 12, 2009 was $14.8 million. Shire received total consideration of $19.2 million in cash and two million Vertex shares (valued at $50.8 million) from the disposal, recognizing a gain on disposal of $55.2 million which has been recorded to Other income, net during the six months to June 30, 2009.
Additional consideration of $2.0 million in cash and 0.2 million Vertex shares is being held in escrow until March 11, 2010 pending any warranty claims and breaches of representations made by Virochem and by all selling shareholders, including Shire. The escrow conditions are considered substantive and hence a gain has not been recognized relating to these amounts in the six months to June 30, 2009. The Vertex stock received has been accounted for as an available-for-sale investment and included within non-current investments.
Intellectual property rights relate to currently marketed products and IPR&D for those acquired products which have not yet obtained regulatory approval; following the introduction of SFAS No. 141(R) IPR&D acquired in a business combination is capitalized as an indefinite lived intangible asset. At June 30, 2009 the net book value of these intellectual property rights allocated to the Specialty Pharmaceuticals operating segment was $1,282.8 million (December 31, 2008: $1,244.9 million) and in the Human Genetic Therapies operating segment was $562.6 million (December 31, 2008: $579.3 million).
The increase in the net book value of other intangible assets for the six months to June 30, 2009 is shown in the table below:
During the six months to June 30, 2009 the Company acquired intangible assets totaling $79.2 million being $78.5 million for EQUASYM IR and XL for the treatment of ADHD ($73.0 million for currently marketed products and $5.5 million for IPR&D) and $0.7 million for FIRAZYR for the treatment of acute HAE in the European Union (“EU”) (acquired through the Jerini business combination). The weighted average amortization period for acquired currently marketed products is 13 years.
Following the introduction of SFAS No. 141(R) intellectual property rights relating to IPR&D acquired in a business combination are considered indefinite lived until the completion or abandonment of the associated research and development (“R&D”) efforts. Once the R&D efforts are completed the useful life of the relevant assets will be determined. Management estimates that the annual amortization charge in respect of intangible assets held at June 30, 2009 will be approximately $142 million for each of the five years to June 30, 2014. Estimated amortization expense can be affected by various factors including future acquisitions, disposals of product rights, regulatory approval and subsequent amortization of the acquired IPR&D projects, foreign exchange movements and the technological advancement and regulatory approval of competitor products.
Accrued Medicaid rebates have increased by $38.4 million to $201.0 million at June 30, 2009 (2008: $162.6 million). The higher rebate liability has principally resulted from the impact of price increases for certain products on the unit rebate amount (“URA”), together with increased accrued rebates on ADDERALL XR as a consequence of the shipment of authorized generic ADDERALL XR to Teva from April 2009 and the impact of including these sales in the Medicaid rebate calculation pursuant to the Deficit Reduction Act of 2005 (the “DRA”).
Accrued Managed Care rebates have increased by $76.4 million to $136.3 million (2008: $59.9 million), principally due to higher rebates on ADDERALL XR offered to Managed Care Organisations ("MCO") from April 1, 2009.
The launch by Teva of authorized generic ADDERALL XR in April 2009 has introduced additional uncertainty into management’s estimate of Medicaid and MCO rebate liabilities for ADDERALL XR. During the second quarter of 2009 the Company revised certain assumptions previously used to estimate the Medicaid and Managed Care rebate liability for ADDERALL XR in the wholesaler and retail pipeline at March 31, 2009, as a result of: (i) receiving new information on the amount of URA that could be paid under Medicaid if the Center for Medicare and Medicaid Services were to employ an alternative interpretation of the DRA; and (ii) actual experience of Medicaid and MCO utilization following one quarter’s market share erosion subsequent to authorized generic launch. The combined effect of these revisions decreased ADDERALL XR product sales and operating income from continuing operations during the three months to June 30, 2009 by $21.4 million, and decreased net income and basic earnings per share during the second quarter by $13.7 million and 2.5 cents per ordinary share respectively.
Future minimum lease payments presented below include operating lease payments under lease arrangements as at June 30, 2009:
The Company leases land, facilities, motor vehicles and certain equipment under operating leases expiring through 2025. Lease and rental expense amounted to $16.4 million for the six months to June 30, 2009, which is predominately included in Selling, general and administrative expenses in the accompanying statements of income (2008: $15.6 million).
At June 30, 2009 the Company had irrevocable standby letters of credit with various banks, in the amount of $8.2 million, providing security on the recoverability of insurance claims. The Company has restricted cash of $8.2 million, as required by these letters of credit.
Shire enters into collaborative arrangements to develop and commercialize drug candidates. These collaborative arrangements often require either up-front, milestone, royalty or profit share payments, or a combination of the foregoing, with payments often contingent upon the success of the related development and commercialization efforts. Collaboration agreements entered into by Shire may also include expense reimbursements or other such payments to the collaborative partner.
Shire reports costs incurred and revenue generated from transactions with third parties as well as payments between parties to collaborative arrangements pursuant to the guidance in EITF 99-19 “Reporting Revenue Gross as a principal versus net as an agent”, or, where appropriate, by analogy to other authoritative accounting literature.
Further details of significant collaborative arrangements are included below.
On December 14, 2007 Shire acquired worldwide rights to SPD550 (also known as AT-1001), in markets outside of the US and Japan, from Alba. SPD550 is Alba’s lead inhibitor of barrier dysfunction in various gastrointestinal disorders that is currently in Phase 2 development for the treatment of Celiac disease. Shire has remaining obligations to pay development and sales milestones up to a maximum of $300 million. Shire will also pay single or double digit tiered royalties on net sales of the product.
Alba and Shire have formed a joint development committee to monitor R&D activities of SPD550. Alba will fund all development until SPD550 has completed Proof of Concept, which is expected to be in the second half of 2009, after which Shire and Alba will share equally development costs under a joint development plan.
On November 7, 2007 Shire licensed from Amicus the rights to three pharmacological chaperone compounds in markets outside of the US: AMIGAL (HGT-3310) for Fabry disease, PLICERA (HGT-3410) for Gaucher Disease and HGT-3510 (formerly referred to as AT2220) for Pompe disease which are currently in Phase 2 development. Under the terms of the collaboration Shire will pay development and sales milestones up to a maximum of $390 million, and will also pay tiered, double digit, royalties on net sales of the products. Shire and Amicus will pursue a joint development program toward market approval in the US and Europe; expenses for this program will be shared equally. R&D reimbursements from Amicus to Shire will be credited by Shire to R&D, and reimbursements from Shire to Amicus charged by Shire to R&D. In the six months to June 30, 2009 Shire recorded R&D expenses of $7.2 million for reimbursement of shared development costs (2008: $3.2 million).
On June 19, 2007 Shire signed an agreement with Renovo to develop and commercialize JUVISTA, Renovo’s novel drug candidate being investigated for the reduction of scarring in connection with surgery. Renovo has commenced its first pivotal Phase 3 clinical trial in Europe. Under the terms of the agreement, Shire has the exclusive right to commercialize JUVISTA worldwide, with the exception of the EU member states.
Shire has remaining obligations to pay Renovo $25 million on the filing of JUVISTA with the US Food and Drug Administration (“FDA”); up to $150 million on FDA approval; royalties on net sales of JUVISTA; and up to $525 million on the achievement of very significant sales targets.
Shire will bear the cost of clinical trials designed specifically for obtaining US regulatory approval. Renovo will bear the costs of clinical trials designed specifically for obtaining EU regulatory approval. Shire and Renovo will share equally the costs of conducting global clinical trials that are designed for obtaining both US and EU regulatory approvals. In the six months to June 30, 2009, Shire made payments to Renovo of $0.5 million (2008: $2.1 million) which has been charged by Shire to R&D.
In August 2006, Shire and Duramed entered into an agreement related to certain Collaboration Products. Under this agreement, Shire was required to reimburse Duramed for US development expenses incurred in respect of the Collaboration Products up to a maximum of $140 million over eight years from September 2006, and Shire had the right to commercialize these products in a number of markets outside of North America, including the larger European markets.
On February 24, 2009 Shire and Duramed amended this agreement and it will terminate on December 31, 2009. Pursuant to this amendment, Shire agreed to return to Duramed its rights under the agreement effective February 24, 2009. For further information on this amendment see Note 3.
Shire has entered into various collaborative arrangements under which Shire has out-licensed certain product or intellectual property rights for consideration such as up-front payments, development milestones, sales milestones and/or royalty payments. In certain of these arrangements Shire and the licensee are both actively involved in the development and commercialization of the licensed product and have exposure to risks and rewards dependent on its commercial success. In the six months to June 30, 2009 Shire received milestone payments totaling $4.0 million (2008: $nil) and these payments will be recognized in Other revenues. In the six months to June 30, 2009 Shire also recognized milestone income of $3.1 million (2008: $2.8 million) within Other revenues and Product sales of $12.3 million (2008: $6.5 million) for shipment of product to the relevant licensee.
On March 31, 2009 Shire announced a co-promotion agreement with GSK for VYVANSE with the aim of improving recognition and treatment of ADHD in adults. The three year agreement covers the United States and will more than double the reach and frequency of the current sales effort for VYVANSE. The agreement is based on profit sharing above an agreed upon baseline and these profit share payments will be included within Selling, general and administrative costs.
As of March 31, 2009 Shire terminated the agreement with Takeda Pharmaceuticals North America, Inc., successor to TAP Pharmaceutical Products, Inc., relating to the co-promotion of LIALDA in the US.
In addition to the commitments under the collaborative arrangements set out in (c), at June 30, 2009 the Company had fees and commitments payable on achievement of specified milestones for products under development in-licensed from third parties of $1.0 million (December 31, 2008: $1.0 million).
At June 30, 2009 the Company had committed to pay approximately $125.6 million (December 31, 2008: $99.5 million) to contract vendors for administering and executing clinical trials. The Company expects to pay $83.9 million of these commitments in 2009. However, the timing of these payments is dependent upon actual services performed by the organizations as determined by patient enrollment levels and related activities.
At June 30, 2009 the Company had committed to pay approximately $53.1 million (December 31, 2008: $67.0 million) in respect of contract manufacturing. The Company expects to pay $50.9 million of these commitments in 2009.
At June 30, 2009 the Company had committed to pay approximately $34.5 million (December 31, 2008: $42.6 million) for future purchases and services, predominantly relating to active pharmaceutical ingredients sourcing and IT outsourcing, which may all be payable in 2009.
At June 30, 2009 the Company had outstanding commitments to subscribe for interests in companies and partnerships for amounts totaling $5.7 million (December 31, 2008: $5.7 million) which may all be payable in 2009, depending on the timing of capital calls.
At June 30, 2009 the Company had committed to spend $79.1 million (December 31, 2008: $95.4 million) on capital projects. This includes commitments for the expansion and modification of its offices in Basingstoke, UK and its HGT campus in Lexington, Massachusetts.
The Company recognizes loss contingency provisions for probable losses when management is able to reasonably estimate the loss. Where the estimated loss lies within a range and no particular amount within that range is a better estimate than any other amount, the minimum amount is recorded. In other cases management's best estimate of the loss is recorded. These estimates are developed substantially before the ultimate loss is known and the estimates are refined in each accounting period in light of additional information becoming known. In instances where the Company is unable to develop a reasonable estimate of loss, no litigation loss is recorded at that time. As information becomes known a loss provision is set up when a reasonable estimate can be made. The estimates are reviewed quarterly and the estimates are changed when expectations are revised. Any outcome upon settlement that deviates from the Company’s estimate may result in an additional expense in a future accounting period. At June 30, 2009 provisions for litigation losses, insurance claims and other disputes totaled $22.5 million (December 31, 2008: $20.8 million).
There are various legal proceedings brought by and against Shire that are discussed in Shire’s Annual Report on Form 10-K for the year to December 31, 2008. Material updates to the proceedings discussed in Shire’s Annual Report on Form 10-K are described below. There is no assurance that the Company will be successful in any of these proceedings and if it is not, there may be a material impact on the Company’s results and financial position.
In December 2006, Shire was notified that Sandoz, Inc. (“Sandoz”) had submitted an Abbreviated New Drug Application (“ANDA”) under the Hatch-Waxman Act seeking permission to market its generic versions of the 5mg, 10mg, 15mg, 20mg, 25mg and 30mg strengths of ADDERALL XR prior to the expiration of US Patent No. 6,322,819 (“the ‘819 Patent”) and US Patent No. 6,605,300 (“the ‘300 Patent”), the Shire patents that cover ADDERALL XR. On January 26, 2007 Shire filed suit in the US District Court for the District of Colorado for infringement of the ‘819 and ‘300 Patents. Pursuant to the Hatch-Waxman Act, there was a 30 month stay with respect to Sandoz’ proposed generic products which have now expired. In response to the parties’ summary judgment motions, the court, in a decision dated September 24, 2008, (a) granted Shire’s motion to strike Sandoz’ affirmative defenses of alleged patent misuse and sham litigation; (b) denied Sandoz’ motion of non-infringement; and (c) construed certain terms of the patent claims. Sandoz’ motion for immediate appeal on the issue of whether a patentee who settles an earlier infringement case after a Markman ruling has issued is precluded under the doctrine of collateral estoppel from relitigating claim-construction issues determined in the prior case (in this instance, the prior case was Shire v Impax from the Delaware court) was granted by the Colorado court. On February 6, 2009 the Court of Appeals for the Federal Circuit (“CAFC”) also granted Sandoz’ petition for appeal as to this question. The Colorado case remains administratively closed until there is a decision from the CAFC.
In August 2003, the Company was notified that Nostrum Pharmaceuticals, Inc. (“Nostrum”) had submitted an ANDA under the Hatch-Waxman Act seeking permission to market its generic version of the 300mg strength of CARBATROL (Nostrum’s ANDA product) prior to the expiration date of the Company’s US patents for CARBATROL, US patent No. 5,912,013 (“the ‘013 Patent”) and US patent No. 5,326,570 (“the ‘570 Patent”). On September 18, 2003, Shire filed suit against Nostrum in the US District Court for the District of New Jersey alleging infringement of these two patents by Nostrum’s ANDA and ANDA product. Pursuant to the Hatch-Waxman Act, there was a 30 month stay with respect to Nostrum’s ANDA product which expired in February 2006. Nostrum could be in a position to market its 300mg extended-release carbamazepine product upon FDA final approval of its ANDA. On January 23, 2004 the Company amended the complaint to drop the allegations with respect to the ‘013 Patent while maintaining the suit with respect to the ‘570 Patent. On July 17, 2006 the Court entered an order staying discovery.
In May 2008, the Company was notified that Nostrum had submitted an amendment to the above referenced ANDA seeking permission to market its generic versions of the 100mg and 200mg strengths of CARBATROL prior to the expiration date of the Company’s ‘013 and ‘570 Patents. On July 2, 2008 Shire filed suit against Nostrum in the US District Court for the District of New Jersey alleging infringement of these two patents by Nostrum’s ANDA and ANDA products. Pursuant to the Hatch-Waxman Act, there is a 30 month stay with respect to Nostrum’s 100mg and 200mg ANDA products which will expire in November 2010. This case was referenced as related to the earlier filed case on Nostrum’s 300 mg product and has been assigned to the same Judge as the earlier ongoing case. In a December 15, 2008 decision the court decided that the two cases should proceed separately. No trial date has been set for either case.
On March 30, 2006 the Company was notified that Corepharma LLC (“Corepharma”) had filed an ANDA under the Hatch-Waxman Act seeking permission to market its generic version of carbamazepine extended release products in 100mg, 200mg and 300mg strengths prior to the expiration date of the ‘013 and the ‘570 Patents. On May 17, 2006 Shire filed suit against Corepharma in the US District Court for the District of New Jersey alleging infringement of these two patents by Corepharma’s ANDA and ANDA products. Pursuant to the Hatch-Waxman Act, there was a 30 month stay with respect to Corepharma’s proposed generic products which expired in October 2008. The Court rendered a claim construction ruling on March 26, 2008. On September 23, 2008 the Court issued a decision denying Corepharma’s summary judgment motion for noninfringement of the ‘570 patent. In an order dated October 31, 2008 the Court granted Corepharma’s motion for summary judgment of non-infringement of the ‘013 Patent. The litigation was settled on July 14, 2009. No payments to Corepharma are involved in the settlement. As required by law, the Company has submitted to the US Federal Trade Commission and the US Department of Justice all of the agreements entered into as part of this settlement.
On March 20, 2007 the Company was notified that Teva USA had filed an ANDA under the Hatch-Waxman Act seeking permission to market its generic version of carbamazepine extended release products in 100mg, 200mg and 300mg strengths prior to the expiration date of the ‘013 and the ‘570 Patents. On May 2, 2007 Shire filed suit against Teva in the US District Court for the Southern District of New York alleging infringement of the ‘013 and the ‘570 Patents by Teva’s ANDA and ANDA products. On August 23, 2007 Shire amended the complaint to drop the allegations with respect to the ‘013 Patent while maintaining the suit with respect to the ‘570 Patent. Teva USA raised counterclaims that the ‘570 and ‘013 Patents were not infringed. Shire has offered Teva USA a covenant not to sue with respect to the ‘013 Patent. The Court held a status conference on October 16, 2007. Teva withdrew its counterclaim directed to the ‘013 patent. Fact discovery has been completed and expert delivery is on hold. No trial date has been set.
In May 2008, Shire was notified that Apotex, Inc. had submitted an ANDA under the Hatch-Waxman Act seeking permission to market its generic version of carbamazepine extended release products in 100mg, 200mg and 300mg strengths prior to the expiration date of the ‘013 and the ‘570 Patents. On July 2, 2008 Shire filed a lawsuit in the US District Court for the Eastern District of Texas against Apotex, Inc., Apotex Corp. and Apotex Pharmaceutical Holdings, Inc. (collectively; “Apotex”) alleging infringement of the ‘013 and ‘570 Patents by Apotex ANDA and ANDA products. On July 17, 2008 Apotex, Inc. filed a declaratory judgment complaint against Shire for noninfringement and invalidity of the ‘570 and ‘013 patents in the District of New Jersey. In a December 28, 2008 decision the Texas Court transferred the case to New Jersey. The District Court of New Jersey has accepted the Texas case and consolidated it with the pending case in New Jersey. No trial date has been set.
Shire has been notified that Actavis South Atlantic LLC has submitted an ANDA under the Hatch-Waxman Act seeking permission to market its generic version of carbamazepine extended release products in 200mg and 300mg strengths prior to the expiration date of the ‘013 and the ‘570 Patents. On July 24, 2008 Shire filed a lawsuit in the US District Court for the Eastern District of Texas against Actavis South Atlantic LLC and Actavis, Inc. (collectively “Actavis”) alleging infringement of the ‘013 and ‘570 Patents by the Actavis ANDA and ANDA products. By an Order dated December 30, 2008 the judge in the Texas case sua sponte transferred the case to the District Court of New Jersey. The litigation was settled on February 20, 2009. No payments to Actavis are involved in the settlement. As required by law, Shire has submitted to the US Federal Trade Commission and the US Department of Justice all of the agreements entered into as part of this settlement.
On January 29, 2008 Generics UK Limited (“Generics UK”) commenced a rectification action in the UK seeking a declaration that the duration of the Supplementary Protection Certificate (“SPC”) for EP 236684, the patent that claims the use of galantamine for the treatment of Alzheimer’s disease, is zero (i e. the period of exclusivity conferred by the patent has already expired). This SPC represents the primary patent protection for REMINYL in the EU. The current term of the SPC extension runs to January 2012. This case was heard in December 2008 and the court’s decision upholding the SPC was handed down on May 20, 2009. Generics UK have appealed. The appeal will be heard in October 2009.
Data exclusivity for REMINYL was the subject of a judicial review action commenced by Generics UK Limited against the UK Medicines and Healthcare products Regulatory Agency (“MHRA”) for the MHRA’s refusal to grant Generics a marketing authorization for a generic version of REMINYL. This case was referred to the European Court of Justice (“ECJ”) in November 2007, where the case was heard in November 2008. The ECJ’s decision in favour of the MHRA was handed down on June 18, 2009. Therefore, absent other successful challenges, data exclusivity is upheld until March 2010. On July 13, 2009 Generics UK filed a notice of discontinuance indicating that they would not be pursuing this matter any further.
In February 2009 Shire received three Paragraph IV Notice letters, from Barr, Mylan, Inc., Mylan Pharmaceuticals, Inc. and Matrix Laboratories, Inc. (collectively “Mylan”) and Natco Pharma Limited (“NATCO”) related to ANDA’s for generic versions of 500mg, 750mg and 1,000mg FOSRENOL. Within the requisite 45 day period, Shire filed lawsuits in the US District Court of the Southern District of New York against each of Barr, Mylan, and Natco for infringement of certain of Shire’s FOSRENOL patents, thus prompting a 30-month stay of approval of these ANDAs. No trial date has been set.
On February 24, 2009 Actavis Elizabeth LLC brought a lawsuit against the FDA seeking to overturn the FDA's decision granting new chemical entity exclusivity to VYVANSE. Shire believes the FDA's decision was correct. VYVANSE has new chemical entity exclusivity through February 23, 2012 and patents listed in the Orange Book which expire on June 29, 2023. The lawsuit brought by Actavis has been stayed and the FDA has opened a public docket to enable the public to register comments on the legal and regulatory issues raised by Actavis.
Treasury policies and organization
The Company’s principal treasury operations are coordinated by its corporate treasury function. All treasury operations are conducted within a framework of policies and procedures approved annually by the Board of Directors. As a matter of policy, the Company does not undertake speculative transactions that would increase its currency or interest rate exposure.
Interest rate risk
The Company is exposed to interest rate risk on restricted cash, cash and cash equivalents and on foreign exchange contracts on which interest is at floating rates. This exposure is primarily to US dollar, Euro and Canadian dollar interest rates. As the Company maintains all of its investments and foreign exchange contracts on a short term basis for liquidity purposes, this risk is not actively managed. In the six months to June 30, 2009 the average interest rate received on cash and liquid investments was approximately 0.5% per annum. The largest proportion of investments was in US dollar money market and liquidity funds.
Shire’s financing arrangements at June 30, 2009 comprise of Shire plc’s $1,100 million in principal amount of 2.75% convertible bonds, due 2014 which were issued in May 2007. Shire has also recognized a liability for building financing obligations of $52.3 million in respect of several leases entered into between August 2007 and March 2009, where Shire is in substance the owner of the property during the construction phase and therefore records the asset and corresponding financing obligation. The Company incurs interest at a fixed rate on both the convertible bonds and on the building financing obligations.
No derivative instruments were entered into as of June 30, 2009 or by August 5, 2009 to manage interest rate exposure.
The Company continues to review its interest rate risk and the policies in place to manage the risk.
Market risk of investments
As at June 30, 2009 the Company has $90.2 million of investments comprising available-for-sale investments in publicly quoted companies ($72.8 million), equity method investments ($13.5 million) and cost method investments in private companies ($3.9 million). The investments in public quoted companies and equity method investments, for certain investment funds which contain a mixed portfolio of public and private investments, are exposed to market risk. No financial instruments or derivatives have been employed to hedge this risk.
Cash is invested in short-term money market instruments, including money market and liquidity funds and bank term deposits. The money market and liquidity funds in which Shire invests are all triple A rated by major credit rating agencies.
The Company is exposed to the credit risk of the counterparties with which it enters into derivative contracts. The Company aims to limit this exposure through a system of internal credit limits which require counterparties to have a long term credit rating of A+ / A1 or better from the major rating agencies. The internal credit limits are approved by the Board of Directors and exposure against these limits is monitored by the corporate treasury function. The counterparties to the derivative contracts are major international financial institutions.
The Company has entered into many agreements with third parties for the provision of services to enable it to operate its business. If the third party can no longer provide the service on the agreed basis, the Company may not be able to continue the development or commercialization of its products as planned or on a commercial basis. Additionally, it may not be able to establish or maintain good relationships with suppliers.
Foreign exchange risk
The Company trades in numerous countries and as a consequence has transactional and translational foreign exchange exposure. Transactional exposure arises where transactions occur in currencies different to the functional currency of the relevant subsidiary. The main trading currencies of the Company are the US dollar, the Canadian dollar, Pounds Sterling and the Euro. It is the Company’s policy that these exposures are minimized to the extent practicable by denominating transactions in the subsidiary’s functional currency.
Where significant exposures remain, the Company uses foreign exchange contracts (being spot, forward and swap contracts) to manage the exposure in respect of balance sheet assets and liabilities that are denominated in currencies different to the functional currency of the relevant subsidiary. These assets and liabilities relate predominantly to intercompany financing and accruals for royalty receipts. The Company utilizes these derivative instruments to manage currency risk on balance sheet foreign exchange exposures but the foreign exchange contracts have not been designated as hedging instruments.
Translational foreign exchange exposure arises on the translation into US dollars of the financial statements of non-US dollar functional subsidiaries.
At June 30, 2009 the Company had 15 swap and forward foreign exchange contracts outstanding to manage currency risk with a net fair value at June 30, 2009 of $8.7 million.
These foreign exchange contracts were classified in the unaudited consolidated balance sheet at June 30, 2009 as follows:
Gains and losses (both realized and unrealized) arising on foreign exchange contracts have been classified in the unaudited consolidated statement of income for the six months to June 30, as follows:
These net foreign exchange gains/(losses) are partially offset within Other income/(expense) by net foreign exchange (losses)/gains arising on the balance sheet items that were managed by these contracts. The swaps and forward contracts mature within 90 days. The Company did not have credit risk related contingent features or collateral linked to the derivatives.
Assets and Liabilities that are Measured at Fair Value on a Recurring Basis
The following financial assets and liabilities are measured at fair value on a recurring basis using quoted prices in active markets for identical assets (Level 1); significant other observable inputs (Level 2); and significant unobservable inputs (Level 3).