Vertex Pharmaceuticals Inc. — Q2 2012 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2012. Unaudited results include Alios BioPharma, a consolidated variable interest entity; some Alios assets and cash are restricted and are not available for Vertex’s general use.
Financial performance
| Metric | Q2 2012 | Six months 2012 | Comparable 2011 |
|---|---|---|---|
| Total revenue | $418.3 million | $857.0 million | $114.4 million and $188.1 million |
| Operating income (loss) | $(10.8) million | $80.9 million | $(165.9) million and $(325.8) million |
| Net income (loss) attributable to Vertex | $(64.9) million | $26.7 million | $(174.1) million and $(350.2) million |
| Diluted earnings (loss) per share | $(0.31) | $0.12 | $(0.85) and $(1.72) |
| Operating cash flow | Not separately presented for the quarter | $121.3 million | $(402.8) million for six months |
- Q2 net product revenue was $373.3 million: INCIVEK $327.7 million and KALYDECO $45.5 million. First-half product revenue was $748.6 million.
- Q2 royalty revenue was $33.5 million, including $28.0 million from Janssen’s INCIVO sales. First-half royalty revenue was $72.5 million.
- Q2 collaborative revenue was $11.6 million; first-half collaborative revenue was $35.9 million, down from $97.5 million in the prior-year period.
- Q2 total costs and expenses were $429.1 million; first-half expenses were $776.2 million. Research and development expense was $196.5 million for Q2 and $392.9 million for six months; SG&A was $117.5 million and $228.7 million, respectively.
- Reported operating margin was approximately (2.6%) in Q2 and 9.4% for the first half. Product gross margin, calculated as product revenue less cost of product revenue, was approximately 72% for Q2 and 83% for six months; the Q2 figure includes the inventory charge described below.
Liquidity, debt and cash flow
- At June 30, Vertex reported $454.1 million of cash and cash equivalents and $769.3 million of marketable securities. Together these totaled $1.223 billion, excluding Alios cash; management cited this as available liquidity, up $254.4 million from year-end 2011.
- Current assets were $1.593 billion and current liabilities $379.7 million. The current ratio was approximately 4.2.
- Vertex had $400 million principal amount of 3.35% convertible senior subordinated notes due October 2015; their reported fair value was approximately $488 million. The company also reported a $160.3 million construction financing obligation.
- First-half cash flow: $121.3 million provided by operations, $301.7 million used in investing, and $159.2 million provided by financing. Cash and cash equivalents decreased $21.3 million to $454.1 million. Investing outflows primarily reflected net purchases of marketable securities; capital expenditures were $21.7 million.
- The $100 million unsecured revolving credit facility expired July 6, 2012; Vertex had not borrowed under it. Management said existing liquidity and product and royalty cash flows were expected to fund operations for at least the next 12 months.
Material changes and unusual items
- Revenue increased substantially year over year following the launches of INCIVEK in 2011 and KALYDECO in January 2012. Q2 product revenue was slightly below Q1 2012: lower INCIVEK sales were largely offset by higher KALYDECO sales.
- Vertex recorded a $78.0 million Q2 charge for excess and obsolete INCIVEK inventory, including estimated costs on non-cancelable purchase commitments. Management cited lower demand, expected further decline in the second half, and intensifying HCV competition. The charge reduced first-half diluted EPS by approximately $0.36, net of tax.
- A $56.2 million increase in the estimated fair value of contingent milestone and royalty obligations to Alios followed positive Phase 1 data for ALS-2200. This non-cash valuation change increased Q2 loss attributable to Vertex and reduced first-half Vertex-attributable income; further increases could be material if the candidates advance.
- Higher product and royalty revenue was partly offset by increased product costs, R&D and SG&A. First-half R&D rose 18% and SG&A rose 36% year over year, reflecting development activity and commercial launch expenses.
- Collaborative revenue declined chiefly because the first half of 2011 included a $50 million Janssen milestone; Vertex said no further Janssen milestones were expected. It also recognized the final deferred revenue from a Mitsubishi Tanabe payment in Q2 2012.
Outlook, management commentary and risks
- Management expected INCIVEK revenue to decline in the second half of 2012 because of competition, partly offset by KALYDECO growth, including its July 2012 EU approval. Additional INCIVEK inventory write-downs remained possible.
- Vertex planned Phase 2 trials in 2012 for ALS-2200-containing all-oral HCV regimens, subject to regulatory discussions. It also planned a pivotal program for VX-809 plus KALYDECO in F508del homozygous CF patients, subject to regulatory discussions, and expected to start in early 2013.
- Management highlighted rapid HCV market change, competing drugs and all-oral regimens, uncertain clinical and regulatory outcomes, and dependence on third-party manufacturers and supply chains. Development timelines and commercial prospects were expressly uncertain.
- Other financial considerations include substantial lease obligations through 2028 and the 2015 notes. The Fan Pier project was recorded as an asset and financing obligation during construction; Vertex expected lease payments to begin in late 2013 or early 2014.
- No material contingent liabilities were accrued at June 30, 2012. Management reported effective disclosure controls and no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether INCIVEK demand and inventory levels deteriorate further, causing additional write-downs, and whether KALYDECO growth offsets the decline.
- Commercial uptake, pricing and royalty trends for KALYDECO and Janssen’s INCIVO, including the effect of competition from existing and emerging HCV therapies.
- Clinical and regulatory progress for ALS-2200, ALS-2158, VX-809/KALYDECO and other pipeline programs; stated trial plans are conditional, not guaranteed.
- Assumptions used to value Alios milestone and royalty obligations, and the potential effect of future remeasurement on Vertex-attributable results.
- Liquidity available for operations after excluding restricted Alios cash, and funding needs for the 2015 notes, Fan Pier construction and ongoing R&D.