Amphastar Pharmaceuticals, Inc. quarterly report, Q2 FY2017

Amphastar Pharmaceuticals, Inc. — Q2 2017 Form 10-Q

Reporting period: Three and six months ended June 30, 2017. Unaudited results; dollar amounts below are in millions unless noted. Amphastar develops, manufactures and sells specialty injectable, inhalation and intranasal medicines, as well as insulin active pharmaceutical ingredients (API).

Financial performance

Metric	Q2 2017	Q2 2016	Six months 2017	Six months 2016
Net revenue	$65.2	$68.0	$121.9	$127.4
Gross profit / margin	$26.7 / 41%	$31.7 / 47%	$49.6 / 41%	$56.6 / 44%
Operating income	$2.2	$10.3	$3.6	$14.4
Net income	$2.0	$6.9	$2.9	$9.4
Diluted EPS	$0.04	$0.15	$0.06	$0.21
Operating cash flow	Not separately reported	Not separately reported	$27.0	$23.3

• Q2 revenue decreased 4% year over year; six-month revenue decreased 4%. Finished-product revenue was broadly flat in Q2 but down 2% for the half; API revenue fell 67% in Q2 and 58% for the half.
• Q2 gross profit declined 16%. The company recorded a $4.7 million inventory valuation charge in the quarter, including $2.9 million for enoxaparin based on a lower forecast selling price. The six-month inventory charge was $5.1 million.
• Q2 operating expenses rose to $24.6 million from $21.4 million. General and administrative expense increased, primarily from legal costs ahead of the July patent trial. Six-month research and development expense rose 14% to $22.0 million.

Financial position and liquidity

• At June 30, cash and cash equivalents were $82.5 million, versus $72.4 million at year-end; working capital was $129.9 million, up from $123.5 million. Current assets were $193.6 million and current liabilities $63.7 million.
• Total debt and capital leases were $46.3 million, up $8.6 million from December 31, 2016. The company reported $43.0 million of unused capacity under revolving credit lines and compliance with debt covenants.
• Six-month investing cash outflow was $15.7 million, including $13.6 million of property and equipment purchases. Financing cash outflow was $1.4 million, including $17.2 million of share repurchases, partly offset by equity-plan proceeds and new borrowings. Cash increased $10.2 million over the period.
• Management stated that cash reserves, operating cash flow and borrowing availability should fund operations for at least 12 months. Foreign subsidiaries held $16.4 million in cash; management said it did not plan to repatriate foreign earnings.

Material changes and operating developments

• Enoxaparin revenue fell 52% in Q2 and 48% for the first half, driven by lower volume and selling prices amid competition. Since Actavis’s retail distribution agreement ended in December 2016, Amphastar has distributed the product directly in the U.S. retail market.
• Naloxone revenue fell 34% in Q2 and 18% for the half, reflecting lower volume and price; management cited potential further competitive pressure. API sales declined because there were no Q2 sales to MannKind.
• Epinephrine revenue increased year over year, but FDA requested discontinuation of the company’s grandfathered epinephrine vial product; sales ended in Q2. The product contributed $17.9 million of first-half revenue in 2017 and $18.6 million in 2016.
• Other finished-product revenue benefited in Q2 from fulfillment of backlog after reduced production at the IMS facility in the prior quarter. Management cautioned that backlog is generally not a reliable indicator of future revenue.
• In February 2017, Amphastar sold 14 injectable product applications for $6.4 million, including $4.4 million payable upon milestones or by year-end 2017. The company recognized a $2.6 million gain in the first half and recorded the remaining amount as a receivable.

Outlook, risks and contingencies

• No specific numerical revenue or earnings guidance was provided. Management expects gross margin to remain variable with product mix; enoxaparin price and volume volatility and epinephrine discontinuation may pressure margins, partly offset by growth in other products.
• Management expects continued substantial R&D investment, with costs likely to rise over coming quarters and years. It also expects G&A expense to increase over time, including compliance and enoxaparin litigation costs.
• FDA inspections at IMS, Amphastar’s Rancho Cucamonga site and its Nanjing facility resulted in Form 483 observations. The company reported submitting responses and believed no significant further action would be necessary; outcomes remain subject to FDA review. Primatene Mist had received a further complete response letter in December 2016, requiring additional packaging, labeling and user studies; approval and timing are uncertain.
• After quarter-end, the July 2017 enoxaparin patent trial jury found infringement of an asserted patent but also found the patent invalid and awarded plaintiffs zero damages; it found for Amphastar on equitable defenses. The court must issue final judgment, and the plaintiffs may appeal. Amphastar intends to defend the verdict and seek recovery of the plaintiffs’ $100.1 million bond, subject to final judgment.
• In the separate False Claims Act matter, the Ninth Circuit affirmed dismissal and reversed denial of Aventis’s attorneys’ fee motion; Aventis applied for fees in July 2017. Amphastar also reported a pending antitrust case on remand. Other risks include dependence on major wholesalers, limited-source suppliers, foreign exchange exposure without hedging, and regulatory restrictions on unapproved legacy products.

Most important facts for investors to verify

• Whether enoxaparin pricing and volumes stabilize, and how direct retail distribution performs after the Actavis agreement ended.
• The lasting revenue and margin effect of stopping epinephrine vial sales and the FDA’s disposition of the inspection observations and pending applications.
• Final court judgment and any appeal in the enoxaparin patent litigation, including the potential to collect the $100.1 million bond; separately, the outcome of Aventis’s fee request.
• Timing and collectability of the $4.4 million product-sale milestone receivable, and whether MannKind purchases resume under the amended API commitments.
• Execution of planned capital spending and R&D programs, and whether liquidity remains adequate given debt growth, share repurchases and cash held overseas.