GILEAD SCIENCES, INC. quarterly report, Q3 FY2014

Gilead Sciences, Inc. — 2014 Third-Quarter Form 10-Q

Reporting period: Three and nine months ended September 30, 2014. Unaudited interim results; amounts below are in U.S. dollars. Gilead is a biopharmaceutical company focused on antiviral medicines, including HIV and hepatitis therapies, as well as oncology and other therapeutic areas.

Financial results

Metric	Q3 2014	Q3 2013	Nine months 2014	Nine months 2013
Total revenue	$6.04B	$2.78B	$17.58B	$8.08B
Product sales	$5.97B	$2.71B	$17.25B	$7.76B
Operating income	$3.48B	$1.15B	$10.93B	$3.33B
Net income attributable to Gilead	$2.73B	$0.79B	$8.61B	$2.28B
Diluted EPS	$1.67	$0.47	$5.18	$1.35

Revenue grew 117% in Q3 and 118% for the first nine months year over year, principally due to Sovaldi, launched in late 2013.
Product gross margin was 83% in Q3 and 84% for the nine months, compared with 75% and 74%, respectively, in 2013. Management attributed the improvement mainly to product mix, partly offset by sofosbuvir intangible amortization.
Q3 R&D expense increased 15% to $630M; nine-month expense increased 15% to $1.81B. SG&A increased 132% to $945M in Q3 and 78% to $2.11B for the nine months.
Effective tax rates were 19.2% for Q3 and 19.1% for the nine months, down from 27.3% and 26.6% in the comparable 2013 periods.

Cash flow, liquidity and debt

Cash, cash equivalents and marketable securities totaled $7.69B at September 30, 2014, versus $2.57B at December 31, 2013. Working capital was $6.51B, up from $948M.
For the first nine months, operating cash flow was $9.80B, investing cash outflow was $1.42B, and financing cash outflow was $4.26B.
Debt, net of issuance discounts and costs, was $9.41B, including $1.48B current and $7.93B long-term. Debt was $6.64B at year-end 2013. Gilead issued $4.00B of senior notes in March and repaid its $600M revolving-credit balance; no revolver borrowings remained at quarter-end. The company reported compliance with debt covenants.
Financing cash uses included $3.35B of share repurchases and $4.09B to settle 2014 warrants. A new repurchase authorization of up to $5.00B was approved; repurchases under it began in October.
Management said existing capital resources and operating cash flows should meet capital needs for the foreseeable future. Approximately $6.89B of quarter-end cash, cash equivalents and marketable securities was generated abroad and intended for foreign operations.

Material changes and business developments

Q3 Sovaldi sales were $2.80B; nine-month sales were $8.55B. Sovaldi accounted for 50% of Q3 and 53% of nine-month antiviral sales. Management estimated about 117,000 patients in the U.S. and Europe had begun treatment since launch.
Sovaldi sales fell $684M, or 20%, sequentially from Q2. Management said this might reflect physicians delaying treatment ahead of Harvoni or competing all-oral HCV regimens, and cautioned that early launch sales may not predict future results.
Harvoni received U.S. approval on October 10, 2014, after the reporting date; Q3 and nine-month sales shown in the filing were limited European early-access sales totaling approximately $20M. The filing also reported a positive European committee opinion.
HIV regimen sales were mixed: Q3 Stribild rose 128% and Complera/Eviplera rose 57% year over year, while Atripla declined 1%. Zydelig received U.S. and European approvals during 2014.
Roche’s arbitration claims relating to sofosbuvir were rejected in August 2014. Other significant patent disputes involving sofosbuvir and Harvoni remained pending.

Outlook, commentary and risks

Management expected R&D expense to increase through the remainder of 2014 to support HCV, HIV and oncology studies. SG&A, excluding the branded-drug fee, was also expected to rise with business expansion. The filing provides no clear numerical revenue or EPS guidance.
Final IRS regulations on the Branded Prescription Drug Fee caused a $337M Q3 cumulative catch-up charge, including $304.5M for the estimated fee on 2014 qualifying sales and $32.5M of previously recorded assets. The quarter-end accrual was $343M; management estimated Gilead’s 2014 fee at $550M–$570M.
HCV demand and revenue remain uncertain due to payer coverage, reimbursement negotiations, pricing pressure, physician treatment timing, competitors and the sequential Sovaldi decline. The Senate Finance Committee requested information on Sovaldi pricing; Gilead said it was cooperating.
Patent litigation could lead to royalties, licensing costs or restrictions on commercialization of Sovaldi or Harvoni. The filing says the possible loss range for these disputes cannot be reasonably estimated.
Southern European receivables were $587M, including $154M more than 120 days past due and $52M more than 365 days past due. Management considered the allowance adequate but continued monitoring collection risk.
Three U.S. wholesalers accounted for 62% of Q3 total revenue (AmerisourceBergen 23%, McKesson 24%, Cardinal Health 15%); the filing also notes inventory and purchasing-pattern volatility. Manufacturing capacity, FDA inspection observations, competition, generic challenges and reliance on suppliers and partners are additional risks.
Management reported disclosure controls and procedures were effective at September 30, 2014, with no material change in internal control over financial reporting during the quarter.

Important facts for investors to verify

Whether Sovaldi and Harvoni demand, payer access, pricing and reimbursement support revenue after the launch period, particularly following the Q3 sequential Sovaldi decline.
Developments and potential financial consequences in the Idenix, Merck and AbbVie intellectual-property cases, and in generic challenges to established products.
Actual branded-drug fee expense and timing of final assessments compared with the $550M–$570M 2014 estimate.
Collection of overdue Southern European receivables and exposure to wholesaler inventory fluctuations.
Debt maturities, cash deployment, share repurchases and the remaining convertible-note warrants, alongside continuing R&D and SG&A growth.