Ligand Pharmaceuticals Incorporated — Q2 2018 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2018. Amounts below are in U.S. dollars; financial statement figures are in millions unless otherwise noted. Ligand is a biopharmaceutical company whose revenues principally comprise partner-product royalties, Captisol material sales, and license and milestone payments.
Financial performance
| Metric | Q2 2018 | Q2 2017 | Six months 2018 | Six months 2017 |
|---|---|---|---|---|
| Revenue | $90.0 | $28.0 | $146.2 | $57.3 |
| Operating income | $70.2 | $13.0 | $107.2 | $23.2 |
| Net income | $73.2 | $6.1 | $118.4 | $11.1 |
| Diluted EPS | $2.99 | $0.26 | $4.81 | $0.48 |
| Operating costs and expenses | $19.9 | $15.0 | $39.0 | $34.0 |
Q2 operating margin was approximately 78% (70.2/90.0), versus 46% a year earlier; first-half operating margin was approximately 73%, versus 41%. These margins reflect substantial license revenue, including the WuXi payment, and are not necessarily indicative of recurring performance.
- Revenue mix: Q2 royalties were $31.4 million, material sales $7.6 million, and license fees, milestones and other revenue $51.0 million. The latter included a $47 million OmniAb platform license payment from WuXi Biologics. First-half license fees, milestones and other revenue also included $20 million from Roivant for the LGD-6972 GRA license agreement.
- Royalty growth: Q2 reported royalties increased 121% year over year; first-half royalties increased 36%. Promacta and Kyprolis partner sales were key drivers. Reported royalty revenue also reflects the new recognition timing described below.
- Cash flow: First-half operating cash flow was $134.4 million, versus $29.6 million in 2017. Investing cash outflow was $620.3 million, chiefly reflecting net purchases of short-term investments; financing cash inflow was $616.8 million, chiefly from the 2023 notes and warrant transactions. Cash and cash equivalents rose to $151.5 million from $20.6 million at year-end.
- Liquidity: At June 30, cash, cash equivalents, short-term investments and the Viking equity investment totaled about $1.017 billion; working capital was $847.6 million. Management said available funds, operating cash generation and financing access should be sufficient for anticipated operating, capital and debt-service needs.
- Debt: The company had $223.2 million principal outstanding on 0.75% convertible notes due 2019 and issued $750 million of 0.75% convertible notes due 2023. The reported carrying amounts were $210.4 million and $595.9 million, respectively, after unamortized discounts and issuance costs. The 2019 notes were classified as current.
- Balance sheet: Total assets were $1.858 billion and stockholders’ equity was $619.8 million at June 30, 2018. Current assets included a $399.4 million derivative asset; current liabilities included a $401.3 million derivative liability.
Material changes and comparability
- Ligand adopted ASC 606 on January 1, 2018 using the modified-retrospective method. It now estimates and recognizes partner royalties in the quarter of partner product sales, rather than one quarter later. Comparative 2017 figures were not restated. The company said this adoption increased Q2 2018 revenue and operating income by $10.4 million, but reduced first-half 2018 revenue and operating income by $1.5 million, compared with the former standard. Adoption also reduced opening accumulated deficit by $25.4 million, primarily due to accelerated royalty recognition net of tax.
- The $47 million WuXi license amendment was the principal driver of the year-over-year revenue increase. Revenue growth also reflected the $20 million Roivant license payment in the first half.
- Ligand’s Viking ownership fell to about 12.4% after Viking financing events. Ligand discontinued equity-method accounting and recorded fair-value changes in earnings. Q2 included a $32.3 million unrealized gain on Viking shares and a $7.7 million unrealized gain on Viking warrants; first-half gains were $53.5 million and $8.5 million, respectively. These gains materially boosted reported earnings and are non-cash fair-value items.
- In May, Ligand issued the 2023 notes for approximately $733.1 million net proceeds, paid $140.3 million for convertible note hedges, and received $90 million from associated warrants. The company said proceeds were intended for acquisitions, working capital and general corporate purposes. It also repurchased 260,000 shares in connection with the offering; first-half cash-flow reporting shows $52.7 million of share repurchases in total.
- Ligand made an irrevocable election to settle 2019-note conversions entirely in cash for conversion notices received on or after May 22, 2018. In Q2 it settled $21.8 million principal of conversions; the conversion premium was paid in shares and offset by shares reacquired under the related hedge. The filing reports subsequent July conversion notices inconsistently: $64.7 million in the note disclosure versus $49.9 million in MD&A. Verify the amount and expected settlement.
Outlook, risks and unusual items
- No numerical revenue or earnings guidance is provided. Management stated it believes liquidity and expected cash generation are adequate, while cautioning that future results, partner sales, development progress and financing access are uncertain.
- Key business risks include reliance on partner programs and royalties, especially Promacta and Kyprolis; Captisol demand and sole-source supply; partner termination or underperformance; clinical and regulatory setbacks; patent challenges and generic competition; and the uncertain commercial progression of OmniAb programs.
- Material litigation includes Teva’s patent challenge relating to Captisol and Evomela, which Ligand is defending, and a July 2018 Delaware lawsuit by 2019-note holders challenging the validity of a supplemental indenture concerning the notes’ conversion calculation. Ligand said it considers the claims without merit and intends to defend them.
- Reported earnings include material non-cash Viking fair-value gains and note-related derivative valuation effects. Q2 interest expense was $13.5 million, reflecting non-cash discount accretion as well as coupon interest. The effective tax rate was approximately 23% for Q2 and 22% for the first half; the company said its Tax Act accounting remained incomplete and could be refined during 2018.
- Management identified no material changes in internal control over financial reporting during the quarter and concluded disclosure controls were effective. The filing states there were no off-balance-sheet arrangements at June 30, 2018.
Most important facts for investors to verify
- How much of the revenue and earnings increase is recurring royalty growth versus the one-time WuXi and Roivant license payments and ASC 606 timing effects.
- The sustainability and valuation sensitivity of Viking-related gains, and the effect of those non-cash items on reported net income.
- The July 2019-note conversion amount and settlement timing, given the $64.7 million and $49.9 million figures in different parts of the filing.
- The potential financial, liquidity and dilution consequences of the 2019- and 2023-note terms, hedge and warrant arrangements, and the noteholder lawsuit.
- Partner product sales, Captisol demand and supply continuity, patent-defense outcomes, and the progress of partnered development programs.