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EBS > SEC Filings for EBS > Form 10-Q on 12-May-2014All Recent SEC Filings

Show all filings for EMERGENT BIOSOLUTIONS INC.

Form 10-Q for EMERGENT BIOSOLUTIONS INC.


12-May-2014

Quarterly Report


ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

You should read the following discussion and analysis of our financial condition and results of operations together with our financial statements and the related notes and other financial information included elsewhere in this quarterly report on Form 10-Q. Some of the information contained in this discussion and analysis or set forth elsewhere in this quarterly report on Form 10-Q, including information with respect to our plans and strategy for our business and financing, includes forward-looking statements that involve risks and uncertainties. You should review the "Special Note Regarding Forward-Looking Statements" and "Risk Factors" sections of this quarterly report on Form 10-Q for a discussion of important factors that could cause actual results to differ materially from the results described in or implied by the forward-looking statements contained in the following discussion and analysis.

Overview

Product Portfolio

Emergent BioSolutions Inc. is a specialty pharmaceutical company seeking to protect and enhance life by offering specialized products to healthcare providers and governments for use in addressing medical needs and emerging health threats. We have two operating divisions: Biodefense and Biosciences. For financial reporting purposes, we operate in two business segments that correspond to these two divisions.

On February 21, 2014, we acquired Cangene Corporation, or Cangene, for approximately $222 million. As part of the acquisition, we received the following revenue-generating products: BATTM (Botulism Antitoxin Heptavalent (A, B, C, D, E, F, G)-Equine) , AIGIV (Anthrax Immune Globulin Intravenous (Human)) and VIGIV (Vaccinia Immune Globulin Intravenous (Human)) in the Biodefense segment; and WinRho® SDF (Rho(D) Immune Globulin Intravenous (Human)), HepaGam B® (Hepatitis B Immune Globulin Intravenous (Human)), VARIZIG® (Varicella Zoster Immune Globulin (Human)) and episil® in the Biosciences segment.

Our Biodefense division is a specialty pharmaceutical business focused on countermeasures that address Chemical, Biological, Radiological and Nuclear, or CBRN, threats. The U. S. government is the primary purchaser of our Biodefense products, and often provides us with substantial funding for the development of our Biodefense product candidates. Our Biodefense portfolio consists of five revenue-generating products, including BioThrax® (Anthrax Vaccine Adsorbed), the only vaccine approved by the U.S. Food and Drug Administration, or the FDA, for the prevention of anthrax disease, RSDL® (decontamination lotion), BAT, AIGIV and VIGIV, and various investigational stage product candidates. Operations that support this division include manufacturing, regulatory affairs, quality assurance, quality control, international sales and marketing, and domestic government affairs in support of our marketed products, as well as product development and manufacturing infrastructure in support of our investigational stage product candidates.

Our Biosciences division is a specialty pharmaceutical business focused on therapeutics and vaccines in hematology/oncology, transplantation and infectious disease. Our Biosciences portfolio consists of four revenue generating products, including WinRho, HepaGam B, VARIZIG, and episil, as well as various investigational stage product candidates and a contract manufacturing services business, which we acquired in our recent acquisition of Cangene. Operations that support this division include manufacturing, quality, regulatory, medical affairs, and sales and marketing in support of our marketed products, as well as additional product development capabilities in support of our investigational stage product candidates.

Our Biodefense segment has generated net income for each of the last five fiscal years. Over this same time frame, our Biosciences segment has generated revenue through development contracts and collaborative funding, but has not generated any product sales revenues. As a result, our Biosciences segment has incurred a net loss for each of the last five fiscal years.

Product Sales

We have derived substantially all of our historical product sales revenues from BioThrax sales to the U.S. government. We are currently a party to a contract with the Centers for Disease Control and Prevention, or CDC, an operating division of the U.S. Department of Health and Human Services, or HHS, to supply up to 44.75 million doses of BioThrax for placement into the Strategic National Stockpile, or SNS, over a five-year period ending September 30, 2016. We expect that we will continue to derive substantial product sales revenues from our sales of BioThrax to the U.S. government. Our total revenues from BioThrax sales were $24.5 million and $30.4 million for three months ended March 31, 2014 and 2013, respectively. We are focused on increasing sales of BioThrax and RSDL to U.S. government customers, expanding the market for BioThrax and RSDL to other customers domestically and internationally and pursuing label expansions and improvements and increasing sales of the products acquired in our acquisition of Cangene.

Contract Manufacturing

We provide contract manufacturing services, including biopharmaceutical product development and filling services for injectable and other sterile products, as well as process design, technical transfer, manufacturing validations, laboratory support, aseptic filling, lyophilization and accelerated and ongoing stability studies. We produce finished units of commercial drugs for a variety of customers ranging from small biopharmaceutical companies to major multinationals. We are focused on increasing services to third party biopharmecutical companies, both domestically and internationally.

Contracts and Grants

We seek to advance development of our product candidates through external funding arrangements. We may slow down development programs or place them on hold during periods that are not covered by external funding. In addition, we performed certain ongoing product-related services for which we receive funding. We have received funding from the U.S. government for the following programs:

§ BioThrax as a post-exposure prophylaxis, or PEP;

§ NuThrax;

§ Large-scale manufacturing for BioThrax;

§ PreviThrax;

§ BAT;

§ AIGIV; and

§ VIGIV.

We continue to actively pursue additional government sponsored development contracts and grants and commercial collaborative relationships. We also encourage both governmental and non-governmental agencies and philanthropic organizations to provide funding or to conduct clinical studies of our product candidates.

Financial Operations Overview

Revenues

We entered into a contract with the CDC effective as of September 30, 2011 to supply up to 44.75 million doses of BioThrax to the CDC over a five-year period. The period of performance under the award is from September 30, 2011 through September 30, 2016. The maximum amount that could be paid to us under the contract is up to $1.25 billion, subject to availability of funding by the U.S. government. To date, the U.S. government has committed approximately $704 million for the procurement of BioThrax doses under this contract. Through March 31, 2014, we have delivered and, upon CDC acceptance, recognized revenue on approximately 19 million doses, representing approximately $504 million in revenue under this contract.

We have received contract and grant funding from the National Institute of Allergy and Infectious Diseases, or NIAID, and the Biomedical Advanced Research and Development Authority, or BARDA, for the following development programs:

Development Programs                              Funding Source Award Date Performance Period
Post-Exposure Prophylaxis indication for BioThrax BARDA            9/2007    9/2007 - 3/2016
Large-scale manufacturing for BioThrax            BARDA            7/2010    7/2010 - 7/2015
NuThrax                                           NIAID            7/2010    8/2010 - 8/2014
PreviThrax                                        BARDA            9/2010    9/2010 - 9/2015
CIADM                                             BARDA            6/2012    6/2012 - 6/2037
BAT                                               BARDA            1/2003    1/2003 - 1/2015
BAT                                               BARDA            5/2006    5/2006 - 5/2018
AIGIV                                             BARDA            9/2005    9/2005 - 4/2021
AIGIV                                             BARDA            9/2002    9/2002 - 12/2015
AIGIV                                             BARDA            9/2013    9/2013 - 9/2018
VIGIV                                             BARDA            8/2012    8/2012 - 2/2015

Our revenue, operating results and profitability have varied, and we expect they will continue to vary on a quarterly basis, primarily due to the timing of sales of our products and timing of reimbursement under our contracts and grants.

Cost of Product Sales

The primary expense that we incur to deliver our vaccines and therapeutics to our customers is manufacturing cost, consisting of fixed and variable costs. Variable manufacturing costs consist primarily of costs for materials and personnel-related expenses for direct and indirect manufacturing support staff, contract manufacturing and filling operations, and sales-based royalties. Fixed manufacturing costs include facilities, utilities and amortization of intangible assets. We determine the cost of product sales for products sold during a reporting period based on the average manufacturing cost per unit in the period those units were manufactured. In addition to the fixed and variable manufacturing costs described above, the cost of product sales depends on utilization of available manufacturing capacity.

The primary expense that we incur to deliver our medical device, RSDL, to our customers is the cost per unit of production from our third-party contract manufacturer. Other associated expenses include sales-based royalties, amortization of intangible assets, shipping, logistics and the cost of support functions.

Research and Development Expenses

We expense research and development costs as incurred. Our research and development expenses consist primarily of:

§ personnel-related expenses;

§ fees to professional service providers for, among other things, analytical testing, independent monitoring or other administration of our clinical trials and obtaining and evaluating data from our clinical trials and non-clinical studies;

§ costs of contract manufacturing services for clinical trial material;

§ costs of materials used in clinical trials and research and development;

§ depreciation of capital assets used to develop our products; and

§ operating costs, such as the operating costs of facilities and the legal costs of pursuing patent protection of our intellectual property.

We intend to focus our product development efforts on promising late-stage candidates that we believe satisfy well-defined criteria and seek to utilize collaborations or non-dilutive funding. We plan to seek funding for development activities from external sources and third parties, such as governments and non-governmental organizations. We expect that our research and development spending will be dependent upon such factors as the results from our clinical trials, the availability of reimbursement of research and development spending, the number of product candidates under development, the size, structure and duration of any follow-on clinical programs that we may initiate, the costs associated with manufacturing our product candidates on a large-scale basis for later stage clinical trials, and our ability to use or rely on data generated by government agencies, such as studies involving BioThrax conducted by the CDC.

Selling, General and Administrative Expenses

Selling, general and administrative expenses consist primarily of personnel-related costs and professional fees in support of our executive, sales and marketing, business development, government affairs, finance, accounting, information technology, legal and human resource functions. Other costs include facility costs not otherwise included in cost of product sales and contract manufacturing or research and development expense.

In-process Research and Development

Intangible assets associated with in-process research and development, or IPR&D, acquired from Cangene related to the IXinity product candidate. As part of the preliminary purchase price allocation with respect to the Cangene acquisition, management determined that the estimated acquisition-date fair value related to IPR&D was $8.5 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 Cangene. 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 IPR&D. The projected cash flows from the IPR&D projects were based on key assumptions including: estimates of revenues and operating profits related to each project considering its stage of development on the acquisition date; 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. IPR&D assets will be considered to be indefinite-lived until the completion or abandonment of the associated research and development efforts.

Inventory Step-up

As part of the preliminary purchase price allocation with respect to the Cangene acquisition, management determined that acquired inventory includes a $6.2 million adjustment to record inventory at fair value, referred to as a step-up adjustment. The $6.2 million step-up was estimated to be amortized through cost of product sales and contract manufacturing over the next five years based on estimated inventory turnover, which will increase costs of product sales and contract manufacturing during such period.

Provisions for Rebates, Chargebacks, Administrative Fees and Other

The table below includes a reconciliation of the accounts associated with
estimated rebates, chargebacks and other fees:

                                                              Distributor fees,
                                                                Commissions,
                                                                Sales returns
(in thousands)                                 Rebates          and Discounts         Chargebacks        Total

Balance January 1, 2014                       $        -     $                 -     $           -     $       -
   Liabilities assumed from Cangene                  246                     373             3,321         3,940
Provisions attributed to sales in:
Current period                                        26                     543               835         1,404
Prior periods                                          -                       -                 -             -
Payments or credits attributed to sales in:
Current period                                         -                       -                 -             -
Prior periods                                        (26 )                  (194 )          (1,025 )      (1,245 )
Balance, March 31, 2014                       $      246     $               722     $       3,131     $   4,099

Critical Accounting Policies and Estimates

Our discussion and analysis of our financial condition and results of operations are based on our financial statements, which have been prepared in accordance with accounting principles generally accepted in the U.S. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses. There have been no significant changes to our summary of significant accounting policies, contained in the our Annual Report on Form 10-K for the year ended December 31, 2013, as filed with the Securities and Exchange Commission, or SEC, during the three months ended March 31, 2014, except for additions to our accounting policy for revenue recognition related to the Cangene acquisition.

Revenue Recognition

We recognize revenues from product sales if four basic criteria have been met:

§ there is persuasive evidence of an arrangement;

§ delivery has occurred or title has passed to our customer;

§ the fee is fixed or determinable; and

§ collectibility is reasonably assured.

All revenues from product sales are recorded net of applicable allowances for sales returns, rebates, special promotional programs, and discounts. We estimate allowances for deductions from revenue using a combination of information received from third parties including market data, inventory reports from major wholesalers, historical information and analysis. These estimates are subject to the inherent limitations of estimates that rely on third-party data, as certain third-party information may itself rely on estimates and reflect other limitations. Provisions for estimated rebates and other allowances, such as discounts and promotional and other credits, are estimated based on historical payment experience, historical relationship to revenues, estimated customer inventory levels and contract terms, and actual discounts offered. Management believes that such provisions are determinable because of the limited number of assumptions involved and the consistency of historical experience.

We market and sell our Biosciences products through commercial wholesalers (direct customers) who purchase the products at a price referred to as the wholesale acquisition cost, or WAC. Additionally, we enter into agreements with indirect customers for a contracted price that is less than the WAC. The indirect customers, such as group-purchasing organizations, physician practice-management groups and hospitals, purchase the Company's products from the wholesalers. Under these agreements with the wholesalers, we guarantee that it will credit them for the difference between the WAC and the indirect customers' contracted price. This credit is referred to as a chargeback. Wholesalers provide detailed information regarding indirect customer purchases as part of the justification for their credit request. Once received by us, these requests are standardized and tracked within a software system that adjudicates and reconciles all indirect claims coming from wholesalers. The database with these claims is used for historical trending and estimating future indirect sales, which are used to estimate accruals. Adjustments to these provisions are made periodically to reflect new facts and circumstances that may indicate that historical experience may not be indicative of current and/or future results. We make subjective judgments primarily based on its evaluation of current market conditions and trade inventory levels related to the products. This evaluation may result in an increase or decrease in the experience rate that is applied to current and future sales, or as an adjustment to past sales, or both. We estimate allowances for revenue- reducing obligations such as rebates, special promotional programs, and discounts, using a combination of historical trends, contractual obligations and information received from third parties. The accuracy of these estimates is dependent upon the inherent limitations of extrapolating estimates from historical trends and upon the quality of the third-party information.

Results of Operations

Quarter Ended March 31, 2014 Compared to Quarter Ended March 31, 2013

Revenues

Product sales revenues increased by $5.4 million, or 18%, to $35.8 million for the three months ended March 31, 2014 from $30.4 million for the three months ended March 31, 2013. Product revenue is as follows:

§ BioThrax - $24.5 million for 2014 as compared to $30.4 million for 2013;

§ RSDL (acquired in August 2013) - $7.5 million for 2014;

§ WinRho (acquired in February 2014) - $1.7 million;

§ HepaGam (acquired in February 2014) - $1.3 million;

§ BAT (acquired in February 2014) - $434,000; and

§ other products (acquired in February 2014) - $270,000.

The decrease in BioThrax sales was primarily due to a 20% decrease in the number of doses of BioThrax delivered, attributable to the timing of deliveries to the SNS.

Contract manufacturing revenue was $2.7 million for the three months ended March 31, 2014. Contract manufacturing (which we acquired in February 2014) revenues primarily consists of contract services to third parties and the U.S. government.

Contracts and grants revenues increased by $2.7 million, or 21%, to $15.4 million for the three months ended March 31, 2014 from $12.7 million for the three months ended March 31, 2013. The increase in contracts and grants revenues was primarily due to the following:

§ a payment of $1.9 million received in 2014 for our PEP indication for BioThrax related to the progress of development activities;

§ development funding of $3.1 million for BAT (which we acquired in February 2014);

§ increased revenue related to the establishment of our CIADM, an increase of $1.1 million from 2013; and

§ decreased revenue of $3.4 million for our large scale manufacturing of BioThrax and PreviThrax, due to the timing of development efforts.

Cost of Product Sales and Contract Manufacturing

Cost of product sales and contract manufacturing increased by $13.3 million to $19.0 million for the three months ended March 31, 2014 from $5.7 million for the three months ended March 31, 2013. The increase was primarily attributable to the following:

§ increase of $1.9 million related to BioThrax;

§ RSDL (acquired in August 2013) - $4.5 million for 2014; and

§ product and contract manufacturing costs associated with Cangene sales (acquired in February 2014) - $6.9 million for 2014.

The increase in cost of sales associated with BioThrax was attributable to an increase in the costs per dose associated with lower production yields in the period in which the doses sold during the three months ended March 31, 2014 were produced, along with a lower cost per dose in the three months ended March 31, 2013 associated with an adjustment to certain BioThrax testing specifications that allowed us to sell doses for which the related costs were previously expensed.

Research and Development Expenses

Research and development expenses decreased by $468,000, or 2%, to $30.3 million for the three months ended March 31, 2014 from $30.7 million for the three months ended March 31, 2013. This decrease primarily reflects lower contract service costs, and includes decreased expenses of $38,000 for product candidates and manufacturing development categorized in the Biodefense segment, decreased expenses of $275,000 for product candidates and technology platform development activities categorized in the Biosciences segment and decreased expenses of $155,000 in other research and development, which are in support of central research and development activities. Net of development contract and grant reimbursements along with the net loss attributable to noncontrolling interests, we incurred research and development expenses of $14.9 million and $17.2 million, respectively, during three months ended March 31, 2014 and 2013.

Our principal research and development expenses for the three months ended March 31, 2014 and 2013 are shown in the following table:

                                             Three Months ended
                                                  March 31,
 (in thousands)                               2014          2013
Biodefense:
  Large-scale manufacturing for BioThrax   $    3,484     $  4,726
  BioThrax related programs                     2,327        2,793
  PreviThrax                                    2,530        4,238
  NuThrax                                       2,407        2,248
  Botulinum Antitoxin                             646            -
  Anthrax Immune Globulin                         700            -
  Other Biodefense                              3,561        1,688
Total biodefense                               15,655       15,693
Biosciences:
  Tuberculosis vaccine                              -        3,906
  otlertuzumab (formerly TRU-016)               3,245        4,627
  ES414 (formerly T-Scorp)                      4,499        2,032
  IXinity                                       1,247            -
  Other biosciences                             3,837        2,538
Total biosciences                              12,828       13,103
Other                                           1,773        1,928
Total                                      $   30,256     $ 30,724

The decrease in spending for our large-scale manufacturing for BioThrax was primarily due to the timing of manufacturing development activities. The decrease in spending for BioThrax related programs was primarily related to the timing of clinical studies to support applications for label expansion for BioThrax. The decrease in spending for PreviThrax was primarily due to the timing of model optimization and non-clinical studies. The increase in spending for NuThrax was primarily due to the timing of clinical trial activities. The spending for our Botulinum Antitoxin program (which we acquired from Cangene) was primarily due to stability testing. The spending for our Anthrax Immune Globulin program (which we acquired from Cangene) was due to stability testing. The increase in spending for our other Biodefense activities was primarily due to increased spending related to manufacturing development.

The spending for our tuberculosis vaccine product candidate during 2013 was for manufacturing development activities. The decrease in spending for our otlertuzumab (formerly TRU-016) product candidate was primarily related to the timing of clinical trial activities. The increase in spending for our ES414 (formerly T-Scorp) product candidate was primarily due to manufacturing development. The spending for our IXinity product candidate in 2014 was primarily for clinical trial activities. The increase in spending for our other Biosciences activities was primarily due to increased costs associated with the development of platform technologies and for programs acquired in our acquisition of Cangene.

The spending for other research and development activities was primarily due to centralized research and development activities not attributable to product candidates.

Selling, General and Administrative Expenses

Selling, general and administrative expenses increased by $10.1 million, or 50%, to $30.1 million for the three months ended March 31, 2014 from $20.0 million for the three months ended March 31, 2013. This increase included increased spending for transaction costs of $4.2 million associated with the acquisition and integration of Cangene, which we acquired in February 2014, along with additional post-acquisiton selling, general and administrative costs of $4.0 million associated with the operations of Cangene and in support of RSDL.

Selling, general and administrative expenses attributable to the Biodefense segment increased by $2.9 million, or 21%, to $16.9 million during the three months ended March 31, 2014 from $14.0 million during the three months ended March 31, 2013. Selling, general and administrative expenses related to our Biosciences segment increased by $7.1 million, or 118%, to $13.2 million for the three months ended March 31, 2014 from $6.1 million for the three months ended March 31, 2014. The increase in the Biosciences selling, general and . . .

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