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WCRX > SEC Filings for WCRX > Form 10-K on 22-Feb-2013All Recent SEC Filings

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Form 10-K for WARNER CHILCOTT PLC


22-Feb-2013

Annual Report


Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.

You should read the following discussion together with Part II. Item 6. "Selected Financial Data" and our Consolidated Financial Statements and the related notes included elsewhere in this Annual Report. This discussion and analysis contains forward-looking statements, which involve risks and uncertainties. Our actual results may differ materially from those we currently anticipate as a result of many factors, including the factors we describe under Item 1A. "Risk Factors" and elsewhere in this Annual Report.

Unless otherwise noted or the context otherwise requires, references in this Form 10-K to "Warner Chilcott," "the Company," "our company," "we," "us" or "our" refer to Warner Chilcott plc and its direct and indirect subsidiaries.

Overview

We are a leading specialty pharmaceutical company currently focused on the women's healthcare, gastroenterology, urology and dermatology segments of the branded pharmaceuticals market, primarily in North America. We are a fully integrated company with internal resources dedicated to the development, manufacture and promotion of our products. Our franchises are comprised of complementary portfolios of established branded and development-stage products that we actively manage throughout their life cycles. Multiple products make up our existing sales base and several of these provide opportunities for future growth.

2012 Strategic Transactions

During 2012, we announced the following strategic transactions that impacted our results of operations and will continue to have an impact on our future operations.

Current Redemption Program

On August 7, 2012, we announced that our Board of Directors had authorized the Current Redemption Program, which replaced the Prior Redemption Program and allows us to redeem up to an aggregate of $250 million of our ordinary shares in addition to those redeemed under the Prior Redemption Program. The Current Redemption Program will terminate on the earlier of December 31, 2013 or the redemption of an aggregate of $250 million of our ordinary shares. We did not redeem any ordinary shares under the Current Redemption Program in the year ended December 31, 2012, and consequently $250 million remained available for redemption thereunder as of December 31, 2012. The Current Redemption Program does not obligate us to redeem any number of ordinary shares or an aggregate of ordinary shares equal to the full $250 million authorization and may be suspended at any time or from time to time.

2012 Special Dividend Transaction and Related Financing

On September 10, 2012, we paid the 2012 Special Dividend in the amount of $4.00 per share, or $1,002 million in the aggregate. The 2012 Special Dividend reduced our additional paid-in-capital from $63 million to zero as of August 31, 2012 and increased our accumulated deficit by $939 million. The 2012 Special Dividend was funded, in part, by $600 million of additional term loans borrowed under the Additional Term Loan Facilities on August 20, 2012. The incurrence of this indebtedness impacted our interest expense during the year ended December 31, 2012.

New Dividend Policy

On December 14, 2012, we paid our first semi-annual cash dividend under the Dividend Policy in the amount of $0.25 per share, or $62 million in the aggregate. The semi-annual dividend reduced our additional paid-in-capital from $5 million to zero as of November 30, 2012 and increased our accumulated deficit by $57 million. Under the Dividend Policy, we expect to pay a total annual cash dividend to our ordinary


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shareholders of $0.50 per share in equal semi-annual installments of $0.25 per share. Any declaration by the Board of Directors to pay future cash dividends, however, will depend on our earnings and financial condition and other relevant factors at such time.

2011 Strategic Transactions

During 2011, we completed the following strategic transactions that impacted our results of operations and will continue to have an impact on our future operations.

Refinancing of Senior Secured Indebtedness

On March 17, 2011, our subsidiaries, Warner Chilcott Holdings Company III, Limited ("Holdings III"), WC Luxco S. r.l. (the "Luxco Borrower"), Warner Chilcott Corporation ("WCC" or the "US Borrower") and Warner Chilcott Company, LLC ("WCCL" or the "PR Borrower," and together with the Luxco Borrower and the US Borrower, the "Borrowers") entered into the Credit Agreement with a syndicate of lenders (the "Lenders") and Bank of America, N.A. as administrative agent, in order to refinance the Prior Senior Secured Credit Facilities. Pursuant to the Credit Agreement, the Lenders provided the Initial Senior Secured Credit Facilities in an aggregate amount of $3,250 million comprised of $3,000 million in aggregate term loan facilities and a $250 million revolving credit facility available to all Borrowers. At the closing, we borrowed a total of $3,000 million under the term loan facilities and made no borrowings under the revolving credit facility. The proceeds of the term loans, together with approximately $279 million of cash on hand, were used to make an optional prepayment of $250 million in aggregate term loans under the Prior Senior Secured Credit Facilities, repay the remaining $2,969 million in aggregate term loans outstanding under the Prior Senior Secured Credit Facilities, terminate the Prior Senior Secured Credit Facilities and pay certain related fees, expenses and accrued interest.

Western European Restructuring

In April 2011, we announced a plan to restructure our operations in Belgium, the Netherlands, France, Germany, Italy, Spain, Switzerland and the United Kingdom. The restructuring did not impact our operations at our headquarters in Dublin, Ireland, our facilities in Dundalk, Ireland, Larne, Northern Ireland or Weiterstadt, Germany or our commercial operations in the United Kingdom. We determined to proceed with the restructuring following the completion of a strategic review of our operations in our Western European markets where our product ACTONEL lost exclusivity in late 2010. ACTONEL accounted for approximately 70% of our Western European revenues in the year ended December 31, 2010. In connection with the restructuring, we moved to a wholesale distribution model in the affected jurisdictions to minimize operational costs going forward. The implementation of the restructuring plan impacted approximately 500 employees. For a further description of the Western European restructuring, including severance charges and pension-related curtailment gains recorded as a component of restructuring costs in our consolidated statement of operations, see "Note 3" to the Notes to the Consolidated Financial Statements included elsewhere in this Annual Report.

Manati Facility

In April 2011, we announced a plan to repurpose our Manati, Puerto Rico manufacturing facility. This facility now serves primarily as a warehouse and distribution center. As a result of the repurposing, we recorded charges of $23 million for the write-down of certain property, plant and equipment and severance costs of $8 million in the year ended December 31, 2011. The expenses relating to the Manati repurposing were recorded as a component of cost of sales in our consolidated statement of operations.

Prior Redemption Program

In November 2011, we announced that our Board of Directors had authorized the Prior Redemption Program, which allowed for the redemption by us of up to an aggregate of $250 million of our ordinary shares. In


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the years ended December 31, 2012 and 2011, we recorded the redemption of 1.9 million ordinary shares (at an aggregate cost of $32 million) and 3.7 million ordinary shares (at an aggregate cost of $56 million), respectively, pursuant to the Prior Redemption Program. Following the settlement of such redemptions, we cancelled all shares redeemed. As a result of the redemptions recorded during the years ended December 31, 2012 and 2011, in accordance with Financial Accounting Standards Board Accounting Standards Codification ("ASC") Topic 505 "Equity," we recorded a decrease in ordinary shares at par value of $0.01 per share, and an increase/decrease in an amount equal to the aggregate purchase price above par value in accumulated deficit/retained earnings of approximately $32 million and $56 million in the years ended December 31, 2012 and 2011, respectively. The Prior Redemption Program allowed us to redeem up to an aggregate of $250 million of our ordinary shares and was to terminate on the earlier of December 31, 2012 or the redemption by us of an aggregate of $250 million of our ordinary shares.

2010 Strategic Transactions

During 2010, we completed the following strategic transactions that impacted our results of operations and will continue to have an impact on our future operations.

Amendment of the Sanofi Collaboration Agreement

In April 2010, we and Sanofi entered into an amendment to the Collaboration Agreement under which we co-develop and market ACTONEL and ATELVIA products on a global basis, excluding Japan. Pursuant to the terms of the amendment, we took full operational control over the promotion, marketing and R&D decisions for ACTONEL and ATELVIA in the United States and Puerto Rico, and assumed responsibility for all associated costs relating to those activities. Prior to the amendment, we shared such costs with Sanofi in these territories. We remained the principal in transactions with customers in the United States and Puerto Rico and continue to invoice all sales in these territories. In return, it was agreed that for the remainder of the term of the Collaboration Agreement Sanofi would receive, as part of the global collaboration agreement between the parties, payments from us which, depending on actual net sales in the United States and Puerto Rico, are based on an agreed percentage of either United States and Puerto Rico actual net sales or an agreed minimum sales threshold for the territory. For a further description of the Collaboration Agreement see "Note 8" to the Notes to the Consolidated Financial Statements included elsewhere in this Annual Report.

2010 Special Dividend and Related Financing

On September 8, 2010, we paid the 2010 Special Dividend to our shareholders in the amount of $8.50 per share, or $2,144 million in the aggregate. In order to fund the 2010 Special Dividend and pay related fees and expenses, on August 20, 2010, we incurred $1,500 million aggregate principal amount of additional term loans under the Prior Senior Secured Credit Facilities and issued $750 million aggregate principal amount of the 7.75% Notes. The incurrence of this indebtedness and the indebtedness incurred in connection with the ENABLEX Acquisition impacted our interest expense during the years ended December 31, 2012, 2011 and 2010.

ENABLEX Acquisition

On October 18, 2010, we acquired the U.S. rights to ENABLEX from Novartis for an upfront payment of $400 million in cash at closing, plus potential future milestone payments of up to $20 million in the aggregate, subject to the achievement of pre-defined 2011 and 2012 ENABLEX net sales thresholds. At the time of the ENABLEX Acquisition, $420 million was recorded as a component of intangible assets and is being amortized on an accelerated basis over the period of the projected cash flows for the product. Concurrent with the closing of the ENABLEX Acquisition, we and Novartis terminated our existing co-promotion agreement, and we assumed full control of sales and marketing of ENABLEX in the U.S. market. In connection with the ENABLEX Acquisition, Novartis agreed to manufacture ENABLEX for us until October 2013. Novartis also currently packages ENABLEX for us. We issued an additional $500 million aggregate principal amount of the 7.75% Notes on September 29, 2010 in order to fund the ENABLEX Acquisition and for general corporate purposes.


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Factors Affecting Our Results of Operations

Revenue

We generate two types of revenue: revenue from product sales (including contract manufacturing) and other revenue which currently includes royalty revenue and revenue earned under co-promotion and distribution agreements. During the first half of 2010, we recorded revenue and cost of sales of DOVONEX and TACLONEX for LEO at nominal distributor margins under the distribution agreement executed in connection with the LEO Transaction. On June 30, 2010, LEO assumed responsibility for its own distribution services and subsequent thereto we no longer recorded revenues and cost of sales related to DOVONEX or TACLONEX.

Net Sales

We promote a portfolio of branded prescription pharmaceutical products currently focused on the women's healthcare, gastroenterology, urology and dermatology segments of the branded pharmaceuticals market, primarily in North America. To generate demand for our products, our sales representatives make face-to-face promotional and educational presentations to physicians who are potential prescribers of our products. By informing these physicians of the attributes of our products, we generate demand for our products with physicians, who then write prescriptions for their patients, who in turn go to the pharmacy where the prescription is filled. Pharmacies buy our products either through wholesale pharmaceutical distributors or directly from us (for example, retail drug store chains) in certain markets. We recognize revenue when title and risk of loss pass to our customers, net of sales-related deductions.

When our unit sales to our direct customers in any period exceed market demand for our products by end-users (as measured by estimates of filled prescriptions or its equivalent in units), our sales in excess of demand must be absorbed before our direct customers begin to order again, thus potentially reducing our expected future unit sales. Conversely, when market demand by end-users of our products exceeds unit sales to our direct customers in any period, our expected future unit sales to our direct customers may increase. We refer to the estimated amount of inventory held by our direct customers and pharmacies and other organizations that purchase our product from our direct customers, which is generally measured by the estimated number of days of end-user demand on hand, as "pipeline inventory." Pipeline inventories expand and contract in the normal course of business. As a result, our unit sales to our direct customers in any period may exceed or be less than actual market demand for our products by end-users (as measured by estimates of filled prescriptions). When comparing reported product sales between periods, it is important to not only consider market demand by end-users, but also to consider whether estimated pipeline inventories increased or decreased during each period.

We generate revenue primarily from the sale of branded pharmaceutical products in the North American and Western European markets including our osteoporosis products (ACTONEL and ATELVIA), our oral contraceptives (LOESTRIN 24 FE, LO LOESTRIN FE, and others), our HT products (ESTRACE Cream and others), our gastroenterology product (ASACOL), our urology product (ENABLEX) and our oral antibiotic for the adjunctive treatment of severe acne (DORYX). Our revenue from sales of these products consists primarily of sales invoiced less returns and other sales-related deductions (also see Critical Accounting Policies and Estimates-"Revenue Recognition" for a detailed description of our sales-related deductions). In addition to the products listed above, we earn a small portion of revenues from the sale of generic products under profit-sharing supply and distribution agreements with third parties. The revenue we earn under these agreements is included with our related branded product revenue for financial reporting purposes.

Included in net sales are amounts earned under contract manufacturing agreements. Contract manufacturing is not an area of strategic focus for us as the profit margins are significantly below the margins realized on sales of our branded products.


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Changes in revenue from sales of our products from period to period are affected by factors that include the following:

changes in the level of competition faced by our products, including changes due to the launch of new branded products by our competitors and the introduction of generic equivalents of our branded products or those of our competitors prior to, or following, the loss of regulatory exclusivity or patent protection. For example, we lost exclusivity for DORYX 150 in the United States in 2012, FEMCON FE and certain versions of FEMHRT in the United States in early 2011, ACTONEL in Canada in early 2010 and in Western European markets in late 2010;

changes in the level of promotional or marketing support for our products and the size of our sales force;

expansions or contractions of the pipeline inventories of our products held by our customers;

changes in the regulatory environment, including the impact of healthcare reforms in the United States and other markets we serve;

our ability to successfully develop or acquire and launch new products;

our ability to supply product in amounts sufficient to meet customer demand;

changes in the level of demand for our products, including changes based on general economic conditions in North American and Western European economies or industry-specific business conditions;

long-term growth or contraction of our core therapeutic markets, currently women's healthcare, gastroenterology, urology and dermatology;

internal factors, such as changes in business strategies and the impact of restructurings and business combinations;

price changes, which are common in the branded pharmaceutical industry and for the purposes of our period-over-period comparisons, reflect the average gross selling price billed to our customers before any sales-related deductions; and

changes in the levels of sales-related deductions, including those resulting from changes in utilization levels or the terms of our customer loyalty card programs and the utilization and / or rebates paid under commercial and government rebate programs.

We and Sanofi are parties to the Collaboration Agreement, pursuant to which we co-develop and market ACTONEL on a global basis, excluding Japan. ATELVIA, our risedronate sodium delayed-release product launched in January 2011 and currently sold in the United States and Canada, is also marketed pursuant to the Collaboration Agreement. As a result of ACTONEL's loss of patent exclusivity in Western Europe in late 2010 and as part of our transition to a wholesale distribution model in Belgium, the Netherlands, France, Germany, Italy, Spain, Switzerland and the United Kingdom, we and/or Sanofi reduced or discontinued our marketing and promotional efforts in certain territories covered by the Collaboration Agreement. Under the Collaboration Agreement, our and Sanofi's rights and obligations are specified by geographic market. For example, under the Collaboration Agreement, Sanofi generally has the right to elect to participate in the development of ACTONEL-related product improvements, other than product improvements specifically related to the United States and Puerto Rico, where we have full control over all product development decisions. Under the Collaboration Agreement, the ongoing global R&D costs for ACTONEL are shared equally between the parties, except for R&D costs specifically related to the United States and Puerto Rico, which are borne solely by us. In certain geographic markets, we and Sanofi share selling and advertising and promotion ("A&P") costs as well as product profits based on contractual percentages. In the geographic markets where we are deemed to be the principal in transactions with customers and invoice sales, we recognize all revenues from sales of the product along with the related product costs. In these markets, all selling and A&P expenses incurred by us and all contractual payments to Sanofi are recognized in selling, general and administrative ("SG&A") expenses. In geographic markets where Sanofi is deemed to be the principal in transactions with customers and invoices sales, our share of selling and


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A&P expenses is recognized in SG&A expenses, and we recognize our share of income attributable to the contractual payments made by Sanofi to us in these territories, on a net basis, as a component of "other revenue." As discussed above under "-Overview-2010 Strategic Transactions-Amendment of the Sanofi Collaboration Agreement," in April 2010, we and Sanofi entered into an amendment to the Collaboration Agreement. Under the terms of the amendment, we took full operational control over the promotion, marketing and R&D decisions for ACTONEL and ATELVIA in the United States and Puerto Rico, and assumed responsibility for all associated costs and expenses relating to those activities. Prior to the amendment, we shared such costs with Sanofi in these territories. We remained the principal in transactions with customers in the United States and Puerto Rico and continue to invoice all sales in these jurisdictions. In return, it was agreed that for the remainder of the term of the Collaboration Agreement, Sanofi would receive, as part of the global collaboration payments between the parties, payments from us which, depending on actual net sales in the United States and Puerto Rico, are based on an agreed upon percentage of either United States and Puerto Rico actual net sales or an agreed minimum sales threshold for the territory. We will continue to sell ACTONEL and ATELVIA products with Sanofi in accordance with our obligations under the Collaboration Agreement until the termination of the Collaboration Agreement on January 1, 2015, at which time all of Sanofi's rights under the Collaboration Agreement will revert to us. For a discussion of the Collaboration Agreement, see "Part I. Item 1. Business-Alliance with Sanofi."

Other Revenue

We recognize other revenue as a result of licensing our patents and intellectual property rights, based on third-party sales, as earned in accordance with contractual terms when the third-party sales can be reasonably estimated and collection is reasonably assured. These amounts are included as a component of "other revenue." In addition, we recognize revenue earned based on a percentage of our co-promotion partners' net sales on a net basis in "other revenue" when the co-promotion partners ship the products and title passes to their customers.

Cost of Sales (excluding amortization and impairment of intangible assets)

Cost of sales represents the total costs associated with our inventory that we sell to our customers. We currently have manufacturing capabilities in our facilities in Fajardo, Puerto Rico, Weiterstadt, Germany and Larne, Northern Ireland. We also have supply contracts with our third-party product suppliers, including manufacturers, packagers and API suppliers, as well as development partners. Our third-party manufacturing partners include CPL (ESTRACE Cream), Mayne (DORYX), Novartis (ENABLEX) and NPI (ACTONEL and ATELVIA). Currently our most significant API suppliers are Lonza Inc., Cambrex Corporation, Bayer and Merck, and our most significant third party packagers are NPI and AmerisourceBergen Corporation. Our supply agreements with these third-party product suppliers and development partners may include minimum purchase requirements and may provide that the price we pay for the products we sell can be increased based on factors outside of our control such as inflation, increases in the third-party manufacturer costs or other factors.

For products that we manufacture and package in our facilities (including as of December 31, 2012, LOESTRIN 24 FE and LO LOESTRIN FE), our direct material costs include the costs of purchasing raw materials and packaging materials. For products that we only package (including as of December 31, 2012, DORYX and a portion of ACTONEL), our direct material costs include the costs of purchasing packaging materials. For products that we only manufacture (including as of December 31, 2012, ASACOL and DELZICOL), our direct material costs include the costs of purchasing materials. Direct labor costs for these products consist of payroll costs (including benefits) of employees engaged in production, packaging and quality control in our manufacturing plants. The largely fixed indirect costs of our manufacturing plants consist of production, overhead and certain laboratory costs. We record provisions for inventory obsolescence, which may include inventory manufactured in anticipation of future FDA approvals, as a component of cost of sales. We do not include amortization or impairments of intangible assets as components of cost of sales.

A significant factor that influences the cost of sales, as a percentage of product net sales, is the terms of our license and supply agreements with our third-party licensors and manufacturers. For example, we pay a royalty


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fee to Medeva, the owner of certain patents protecting our ASACOL products, based on our net sales of ASACOL in the United States and Canada which is included as a component of our cost of sales.

The application of purchase accounting increased the opening value of the inventories acquired in the PGP Acquisition resulting in non-recurring charges which were recorded in our cost of sales as that inventory was sold to our customers. The write-up of the opening value of the PGP inventory reduced our gross margin on product sales. This expense was reflected in our statements of operations during the years ended December 31, 2010 and 2009.

In April 2011, we announced a plan to repurpose our Manati, Puerto Rico manufacturing facility. This facility now serves primarily as a warehouse and distribution center. As a result of the repurposing, we recorded charges in the year ended December 31, 2011 for the write-down of certain property, plant and equipment and severance costs. These expenses were included as components of cost of sales in our consolidated statements of operations.

Selling, General and Administrative Expenses

SG&A expenses are comprised of selling and distribution expenses, A&P and general and administrative expenses ("G&A"). Selling and distribution and A&P expenses consist of all expenditures incurred in connection with the sales and marketing of our products, including warehousing costs. Our share of selling and distribution, A&P, and contractual expenses under the Collaboration Agreement are also recognized in SG&A expenses.

The major items included in selling and distribution and A&P expenses are:

co-promotion expenses related to the Collaboration Agreement;

costs associated with employees in the field sales forces and sales force management, including salaries, benefits and incentive bonuses;

promotional and advertising costs, including samples, medical education programs and direct-to-consumer campaigns; and

distribution and warehousing costs reflecting the transportation and . . .

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