Insmed (INSM) 10-Q 2019 Q3 Quarterly report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2019

OR

☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                to

Commission File Number 000-30739

INSMED INCORPORATED

(Exact name of registrant as specified in its charter)

Virginia	54-1972729
(State or other jurisdiction of incorporation or organization)	(I.R.S. employer identification no.)
10 Finderne Avenue, Building 10
Bridgewater, New Jersey	08807
(Address of principal executive offices)	(Zip Code)

(908) 977-9900

(Registrant’s telephone number including area code)

Not Applicable

(Former name, former address and former fiscal year, if changed since last report)

Securities registered pursuant to Section12(b) of the Act:

Title of each class	Trading symbols	Name of each exchange on which registered
Common stock, par value $0.01 per share	INSM	Nasdaq Global Select Market

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes x No ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer x	Accelerated filer o
Non-accelerated filer o	Smaller reporting company ☐
Emerging growth company ☐

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No x

As of October 28, 2019, there were 89,343,718 shares of the registrant’s common stock outstanding.

INSMED INCORPORATED

FORM 10-Q

FOR THE QUARTER ENDED SEPTEMBER 30, 2019

INDEX

PART I.  FINANCIAL INFORMATION
ITEM 1	Consolidated Financial Statements
	Consolidated Balance Sheets as of September 30, 2019 (unaudited) and December 31, 2018	3
	Consolidated Statements of Comprehensive Loss (unaudited) for the three and nine months ended September 30, 2019 and 2018	4
	Consolidated Statements of Shareholders' Equity (unaudited) for the three and nine months ended September 30, 2019 and 2018	5
	Consolidated Statements of Cash Flows (unaudited) for the nine months ended September 30, 2019 and 2018	7
	Notes to Consolidated Financial Statements (unaudited)	8
ITEM 2	Management’s Discussion and Analysis of Financial Condition and Results of Operations	19
ITEM 3	Quantitative and Qualitative Disclosures about Market Risk	31
ITEM 4	Controls and Procedures	31
PART II.  OTHER INFORMATION
ITEM 1	Legal Proceedings	32
ITEM 1A	Risk Factors	32
ITEM 2	Unregistered Sales of Equity Securities and Use of Proceeds	32
ITEM 6	Exhibits	33
SIGNATURE			34

Unless the context otherwise indicates, references in this Form 10-Q to “Insmed Incorporated” refers to Insmed Incorporated, a Virginia corporation, and “Company,” “Insmed,” “we,” “us” and “our” refer to Insmed Incorporated together with its consolidated subsidiaries. INSMED, ARIKAYCE, and CONVERT are trademarks of Insmed Incorporated. This Form 10-Q also contains trademarks of third parties. Each trademark of another company appearing in this Form 10-Q is the property of its owner.

2

PART I.  FINANCIAL INFORMATION

ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS

INSMED INCORPORATED

Consolidated Balance Sheets

(in thousands, except par value and share data)

	As of		As of
	September 30, 2019		December 31, 2018
	(unaudited)
Assets
Current assets:
Cash and cash equivalents	$	535,632	$	495,072
Accounts receivable	15,346		5,515
Inventory	23,313		7,032
Prepaid expenses and other current assets	21,313		11,327
Total current assets	595,604		518,946
Intangibles, net	54,930		58,675
Fixed assets, net	52,991		22,636
Operating lease right-of-use assets	39,949		—
Other assets	19,643		4,299
Total assets	$	763,117	$	604,556
Liabilities and shareholders’ equity
Current liabilities:
Accounts payable	$	20,415	$	17,741
Accrued expenses	38,908		38,254
Accrued compensation	13,954		22,208
Lease liabilities	11,985		—
Other current liabilities	130		1,529
Total current liabilities	85,392		79,732
Debt, long-term	331,003		316,558
Long-term lease liabilities	31,417		—
Other long-term liabilities	11,264		—
Total liabilities	459,076		396,290
Shareholders’ equity:
Common stock, $0.01 par value; 500,000,000 authorized shares, 89,310,684 and 77,307,521 issued and outstanding shares at September 30, 2019 and December 31, 2018, respectively	893		773
Additional paid-in capital	1,786,667		1,489,664
Accumulated deficit	(1,483,511)		(1,282,162)
Accumulated other comprehensive loss	(8)		(9)
Total shareholders’ equity	304,041		208,266
Total liabilities and shareholders’ equity	$	763,117	$	604,556

See accompanying notes to consolidated financial statements

3

INSMED INCORPORATED

Consolidated Statements of Comprehensive Loss (unaudited)

(in thousands, except per share data)

	Three Months Ended September 30,						Nine Months Ended September 30,
	2019		2018		2019		2018
Revenues, net	$	38,885	$	—	$	90,759	$	—
Costs and expenses:
Cost of product revenues (excluding amortization of intangible assets)	6,437		—		15,506		—
Research and development	34,340		39,538		99,081		105,358
Selling, general and administrative	53,347		44,445		160,590		114,258
Amortization of intangible assets	1,249		—		3,745		—
Total costs and expenses	95,373		83,983		278,922		219,616
Operating loss	(56,488)		(83,983)		(188,163)		(219,616)
Investment income	2,885		2,741		7,879		7,510
Interest expense	(6,846)		(6,675)		(20,357)		(18,805)
Loss on extinguishment of debt	—		—		—		(2,209)
Other (expense) income, net	(85)		220		(255)		550
Loss before income taxes	(60,534)		(87,697)		(200,896)		(232,570)
Provision for income taxes	148		46		453		134
Net loss	$	(60,682)	$	(87,743)	$	(201,349)	$	(232,704)
Basic and diluted net loss per share	$	(0.68)	$	(1.14)	$	(2.43)	$	(3.03)
Weighted average basic and diluted common shares outstanding	89,245		77,066		82,907		76,819
Net loss	$	(60,682)	$	(87,743)	$	(201,349)	$	(232,704)
Other comprehensive income:
Foreign currency translation (losses) gains	(1)		2		1		23
Total comprehensive loss	$	(60,683)	$	(87,741)	$	(201,348)	$	(232,681)

See accompanying notes to consolidated financial statements

4

INSMED INCORPORATED

Consolidated Statements of Shareholders' Equity (unaudited)

(in thousands)

	Common Stock							Additional Paid-in Capital		Accumulated Deficit		Accumulated Other Comprehensive Income (Loss)		Total
		Shares			Amount
Balance at July 1, 2018	77,039		$	770		$	1,472,699	$	(1,102,846)	$	18	$	370,641
Comprehensive loss:
Net loss								(87,743)				(87,743)
Other comprehensive income										2		2
Exercise of stock options	47		1			603						604
Issuance of common stock for vesting of RSUs												—
Stock compensation expense						7,903						7,903
Balance at September 30, 2018	77,086		$	771		$	1,481,205	$	(1,190,589)	$	20	$	291,407
Balance at July 1, 2019	89,207		$	892		$	1,778,517	$	(1,422,829)	$	(7)	$	356,573
Comprehensive loss:
Net loss								(60,682)				(60,682)
Other comprehensive income										(1)		(1)
Exercise of stock options and ESPP shares	103		1			1,460						1,461
Net proceeds from issuance of common stock						(104)						(104)
Issuance of common stock for vesting of RSUs	1		—									—
Stock compensation expense						6,794						6,794
Balance at September 30, 2019	89,311		$	893		$	1,786,667	$	(1,483,511)	$	(8)	$	304,041

See accompanying notes to consolidated financial statements

5

INSMED INCORPORATED

Consolidated Statements of Shareholders' Equity (unaudited) (continued)

(in thousands)

	Common Stock							Additional Paid-in Capital		Accumulated Deficit		Accumulated Other Comprehensive Income (Loss)		Total
		Shares			Amount
Balance at January 1, 2018	76,611		$	766		$	1,318,181	$	(957,885)	$	(3)	$	361,059
Comprehensive loss:
Net loss								(232,704)				(232,704)
Other comprehensive income										23		23
Exercise of stock options	428		4			6,385						6,389
Equity component of convertible debt issuance						136,434						136,434
Issuance of common stock for vesting of RSUs	47		1									1
Stock compensation expense						20,205						20,205
Balance at September 30, 2018	77,086		$	771		$	1,481,205	$	(1,190,589)	$	20	$	291,407
Balance at January 1, 2019	77,308		$	773		$	1,489,664	$	(1,282,162)	$	(9)	$	208,266
Comprehensive loss:
Net loss								(201,349)				(201,349)
Other comprehensive income										1		1
Exercise of stock options and ESPP shares	1,266		12			14,953						14,965
Net proceeds from issuance of common stock	10,658		107			260,967						261,074
Issuance of common stock for vesting of RSUs	79		1									1
Stock compensation expense						21,083						21,083
Balance at September 30, 2019	89,311		$	893		$	1,786,667	$	(1,483,511)	$	(8)	$	304,041

See accompanying notes to consolidated financial statements

6

INSMED INCORPORATED

Consolidated Statements of Cash Flows (unaudited)

(in thousands)

	Nine Months Ended September 30,
	2019		2018
Operating activities
Net loss	$	(201,349)	$	(232,704)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation	3,249		2,652
Amortization of intangible assets	3,745		—
Stock-based compensation expense	21,083		20,205
Loss on extinguishment of debt	—		2,209
Amortization of debt issuance costs	1,047		1,000
Accretion of debt discount and back-end fee	13,398		11,591
Changes in operating assets and liabilities:
Accounts receivable	(9,831)		—
Inventory	(16,281)		—
Prepaid expenses and other current assets	(10,156)		(4,315)
Other assets	(15,305)		—
Accounts payable	1,410		2,536
Accrued expenses and other	10,999		9,823
Accrued compensation	(8,254)		(810)
Net cash used in operating activities	(206,245)		(187,813)
Investing activities
Purchase of fixed assets	(29,230)		(10,063)
Net cash used in investing activities	(29,230)		(10,063)
Financing activities
Proceeds from exercise of stock options, ESPP, and RSU vesting	14,966		6,390
Proceeds from issuance of common stock, net	261,074		—
Payment on extinguishment of debt	—		(2,835)
Payment of debt	—		(55,000)
Proceeds from issuance of 1.75% convertible senior notes due 2025	—		450,000
Payment of debt issuance costs	—		(14,235)
Net cash provided by financing activities	276,040		384,320
Effect of exchange rates on cash and cash equivalents	(5)		(35)
Net increase in cash and cash equivalents	40,560		186,409
Cash and cash equivalents at beginning of period	495,072		381,165
Cash and cash equivalents at end of period	$	535,632	$	567,574
Supplemental disclosures of cash flow information:
Cash paid for interest	$	7,880	$	4,975
Cash paid for income taxes	$	320	$	127

 See accompanying notes to consolidated financial statements

7

INSMED INCORPORATED

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

1.                                   The Company and Basis of Presentation

Insmed is a global biopharmaceutical company on a mission to transform the lives of patients with serious and rare diseases. The Company's first commercial product, ARIKAYCE (amikacin liposome inhalation suspension), received accelerated approval in the United States (US) in September 2018 for the treatment of Mycobacterium avium complex (MAC) lung disease as part of a combination antibacterial drug regimen for adult patients with limited or no alternative treatment options. MAC lung disease is a rare and often chronic infection that can cause irreversible lung damage and can be fatal. The Company's clinical-stage pipeline includes INS1007 and INS1009. INS1007 is a novel oral, reversible inhibitor of dipeptidyl peptidase 1 (DPP1) with therapeutic potential in non-cystic fibrosis (non-CF) bronchiectasis and other inflammatory diseases. INS1009 is an inhaled formulation of a treprostinil prodrug that may offer a differentiated product profile for rare pulmonary disorders, including pulmonary arterial hypertension (PAH).

The Company was incorporated in the Commonwealth of Virginia on November 29, 1999 and its principal executive offices are in Bridgewater, New Jersey. The Company has legal entities in the US, France, Germany, Ireland, Italy, the Netherlands, the United Kingdom (UK), Switzerland, Japan and Bermuda.

The accompanying unaudited interim consolidated financial statements have been prepared pursuant to the rules and regulations for reporting on Form 10-Q. Accordingly, certain information and disclosures required by accounting principles generally accepted in the US for complete consolidated financial statements are not included herein. The unaudited interim consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2018.

The results of operations of any interim period are not necessarily indicative of the results of operations for the full year. The unaudited interim consolidated financial information presented herein reflects all normal adjustments that are, in the opinion of management, necessary for a fair statement of the financial position, results of operations and cash flows for the periods presented. All intercompany transactions and balances have been eliminated in consolidation and certain prior year amounts have been reclassified to conform to the current year presentation.

The Company had $535.6 million in cash and cash equivalents as of September 30, 2019 and reported a net loss of $201.3 million for the nine months ended September 30, 2019. Historically, the Company has funded its operations through public offerings of equity securities and debt financings. The Company commenced commercial shipments of ARIKAYCE in October 2018. The Company expects to continue to incur operating losses both at its US and certain international entities while funding research and development (R&D) activities for ARIKAYCE and its other pipeline programs, continuing commercial launch activities for ARIKAYCE in the US, continuing to invest in pre-commercial and regulatory activities for ARIKAYCE in Europe and Japan, and funding other general and administrative activities.

The Company expects its future cash requirements to be substantial, and the Company may need to raise additional capital to fund operations, including the commercialization of ARIKAYCE and additional clinical trials related to ARIKAYCE, to develop INS1007 and INS1009 and to develop, acquire, in-license or co-promote other products or product candidates, including those that address orphan or rare diseases. The source, timing and availability of any future financing or other transaction will depend principally upon continued progress in the Company’s commercial, regulatory and development activities. Any equity or debt financing will also be contingent upon equity and debt market conditions and interest rates at the time. If the Company is unable to obtain sufficient additional funds when required, the Company may be forced to delay, restrict or eliminate all or a portion of its development programs, commercialization or business development efforts.

2.                                     Summary of Significant Accounting Policies

The following are the required interim disclosure updates to the Company's significant accounting policies described in Note 2 of the notes to the consolidated financial statements in the Company’s Annual Report on Form 10-K for the year ended December 31, 2018:

Fair Value Measurements - The Company categorizes its financial assets and liabilities measured and reported at fair value in the financial statements on a recurring basis based upon the level of judgment associated with the inputs used to measure their fair value. Hierarchical levels, which are directly related to the amount of subjectivity associated with the inputs used to determine the fair value of financial assets and liabilities, are as follows:

8

•Level 1 — Inputs are unadjusted, quoted prices in active markets for identical assets or liabilities at the measurement date.

•Level 2 — Inputs (other than quoted prices included in Level 1) are either directly or indirectly observable for the assets or liability through correlation with market data at the measurement date and for the duration of the instrument’s anticipated life.

•Level 3 — Inputs reflect management’s best estimate of what market participants would use in pricing the asset or liability at the measurement date. Consideration is given to the risk inherent in the valuation technique and the risk inherent in the inputs to the model.

Each major category of financial assets and liabilities measured at fair value on a recurring basis is categorized based upon the lowest level of significant input to the valuations. The fair value hierarchy also requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. Financial instruments in Level 1 generally include US treasuries and mutual funds listed in active markets.

The Company’s only financial assets and liabilities which were measured at fair value as of September 30, 2019 and December 31, 2018 were Level 1 assets comprised of cash and cash equivalents. The Company's cash and cash equivalents permit daily redemption and the fair values of these investments are based upon the quoted prices in active markets provided by the holding financial institutions. The following table shows assets and liabilities that are measured at fair value on a recurring basis and their carrying value (in millions):

	As of September 30, 2019
			Fair Value
	Carrying Value		Level 1		Level 2		Level 3
Cash and cash equivalents	$	535.6	$	535.6	$	—	$	—

The Company recognizes transfers between levels within the fair value hierarchy, if any, at the end of each quarter. There were 0 transfers in or out of Level 1, Level 2 or Level 3 during the nine months ended September 30, 2019 and 2018, respectively.

As of September 30, 2019 and December 31, 2018, the Company held 0 securities that were in an unrealized gain or loss position.

The Company reviews the status of each security quarterly to determine whether an other-than-temporary impairment has occurred. In making its determination, the Company considers a number of factors, including: (1) the significance of the decline; (2) whether the securities were rated below investment grade; (3) how long the securities have been in an unrealized loss position; and (4) the Company’s ability and intent to retain the investment for a sufficient period of time for it to recover.

The estimated fair value of the liability component of the Company's 1.75% convertible senior notes due 2025 (the Convertible Notes) (categorized as a Level 2 liability for fair value measurement purposes) as of September 30, 2019 was $375.3 million, determined using current market factors and the ability of the Company to obtain debt on comparable terms to the Convertible Notes. The $331.0 million carrying value of the Convertibles Notes as of September 30, 2019 excludes the $111.6 million of the unamortized portion of the debt discount.

Net Loss Per Share - Basic net loss per share is computed by dividing net loss by the weighted average number of common shares outstanding during the period. Diluted net loss per share is computed by dividing net loss by the weighted average number of common shares and other dilutive securities outstanding during the period. Potentially dilutive securities from stock options, restricted stock units (RSUs) and convertible debt securities would be anti-dilutive as the Company incurred a net loss. Potentially dilutive common shares resulting from the assumed exercise of outstanding stock options and from the assumed conversion of the Convertible Notes are determined based on the treasury stock method.

The following table sets forth the reconciliation of the weighted average number of common shares used to compute basic and diluted net loss per share for the three and nine months ended September 30, 2019 and 2018:

9

	Three Months Ended September 30,						Nine Months Ended September 30,
	2019		2018		2019		2018
	(in thousands, except per share amounts)
Numerator:
Net loss	$	(60,682)	$	(87,743)	$	(201,349)	$	(232,704)
Denominator:
Weighted average common shares used in calculation of basic net loss per share:	89,245		77,066		82,907		76,819
Effect of dilutive securities:
Common stock options	—		—		—		—
RSUs	—		—		—		—
Convertible debt securities	—		—		—		—
Weighted average common shares outstanding used in calculation of diluted net loss per share	89,245		77,066		82,907		76,819
Net loss per share:
Basic and diluted	$	(0.68)	$	(1.14)	$	(2.43)	$	(3.03)

The following potentially dilutive securities have been excluded from the computations of diluted weighted average common shares outstanding as of September 30, 2019 and 2018 as their effect would have been anti-dilutive (in thousands):

	As of September 30,
	2019	2018
Stock options to purchase common stock	10,773	9,608
Unvested RSUs	460	245
Convertible debt securities	11,492	11,492

Concentration of Credit Risk—Financial instruments that potentially subject the Company to concentrations of credit risk consist primarily of cash and cash equivalents. The Company places its cash equivalents with high credit-quality financial institutions and may invest its short-term investments in US treasury securities, mutual funds and government agency bonds. The Company has established guidelines relative to credit ratings and maturities that seek to maintain safety and liquidity.

The Company is exposed to risks associated with extending credit to customers related to the sale of products. The Company does not require collateral to secure amounts due from its customers. The following table presents the percentage of gross product revenue represented by the Company's three largest customers as of the nine months ended September 30, 2019.

	Percentage of Total Gross Product Revenue
Customer A	31%
Customer B	28%
Customer C	21%

The Company did not have product revenue prior to US FDA approval of ARIKAYCE in September 2018. The Company relies on third-party manufacturers and suppliers for manufacturing and supply of its products. The inability of the suppliers or manufacturers to fulfill supply requirements of the Company could materially impact future operating results. A change in the relationship with the suppliers or manufacturer, or an adverse change in their business, could materially impact future operating results.

Revenue Recognition—In accordance with Accounting Standards Codification (ASC) 606, Revenue from Contracts with Customers, the Company recognizes revenue when a customer obtains control of promised goods or services, in an amount that reflects the consideration the Company expects to receive in exchange for the goods or services provided. To determine revenue recognition for arrangements within the scope of ASC 606, the Company performs the following five steps: (1) identify the contracts with a customer; (2) identify the performance obligations in the contract; (3) determine the transaction price; (4)

10

allocate the transaction price to the performance obligations in the contract; and (5) recognize revenue when or as the entity satisfies a performance obligation. At contract inception, the Company assesses the goods or services promised within each contract and determines those that are performance obligations and assesses whether each promised good or service is distinct. The Company then recognizes as revenue the amount of the transaction price that is allocated to the respective performance obligation when or as the performance obligation is satisfied. For all contracts that fall into the scope of ASC 606, the Company has identified one performance obligation: the sale of ARIKAYCE to its customers. The Company has not incurred or capitalized any incremental costs associated with obtaining contracts with customers.

Product revenues consist primarily of sales of ARIKAYCE in the US. Product revenues are recognized once the Company performs and satisfies all five steps mentioned above. In October 2018, the Company began shipping ARIKAYCE to its customers in the US, which include specialty pharmacies and specialty distributors. The Company recognizes revenues for product received by its customers, net of allowances for customer credits, including prompt pay discounts, service fees, estimated rebates, including government rebates such as Medicaid rebates and Medicare Part D coverage gap reimbursements in the US, chargebacks and returns.

Customer credits: The Company’s customers are offered various forms of consideration, including service fees and prompt payment discounts. The Company anticipates that its customers will earn prompt payment discounts and, therefore, deducts the full amount of these discounts from total gross product revenues when revenues are recognized. Service fees are also deducted from total gross product revenues as they are earned.

Rebates: The Company contracts with Medicaid, other government agencies and various private organizations, or collectively, third-party payors, so that ARIKAYCE will be eligible for purchase by, or partial or full reimbursement from, such third-party payors. The Company estimates the rebates it will provide to third-party payors and deducts these estimated amounts from total gross product revenues at the time the revenues are recognized.

Chargebacks: Chargebacks are discounts that occur when certain contracted customers, currently public health service institutions and federal government entities purchasing via the Federal Supply Schedule, purchase directly from the Company's specialty distributor. Contracted customers generally purchase the product at a discounted price and the specialty distributor, in turn, charges back to the Company the difference between the price initially paid by the specialty distributor and the discounted price paid by the contracted customers. The Company estimates the chargebacks it provides to the specialty distributor and deducts these estimated amounts from total gross product revenues at the time the revenues are recognized.

Co-payment assistance: Patients who have commercial insurance and meet certain eligibility requirements may receive co-payment assistance. The Company accrues a liability for co-payment assistance based on actual program participation and estimates of program redemption using data provided by a third-party administrator.

If any, or all, of the Company’s actual experience varies from the estimates above, the Company may need to adjust prior period accruals, affecting revenue in the period of adjustment.

The Company has initiated early access programs (EAPs) in Europe and other countries, some of which may be fully reimbursed. EAPs are intended to make products available on a named patient basis before they are commercially available in accordance with local regulations.

Cost of product revenues (excluding amortization of intangible assets) - Cost of product revenues (excluding amortization of intangible assets) consist primarily of direct and indirect costs related to the manufacturing of ARIKAYCE sold, including third-party manufacturing costs, packaging services, freight, and allocation of overhead costs, in addition to royalty expenses and milestone payments. Prior to FDA approval of ARIKAYCE, the Company expensed all inventory related costs in the period incurred. Inventory used for clinical development purposes is expensed to research and development (R&D) expense when consumed.

Leases - In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842) in order to increase transparency and comparability among organizations by recognizing lease assets and lease liabilities on the balance sheet for those leases classified as operating leases under previous generally accepted accounting principles. ASU 2016-02 requires a lessee to recognize a liability to make lease payments (the lease liability) and a right-of-use (ROU) asset representing its right to use the underlying asset for the lease term on the balance sheet.

A lease is a contract, or part of a contract, that conveys the right to control the use of explicitly or implicitly identified property, plant or equipment in exchange for consideration. Control of an asset is conveyed to the Company if the Company obtains the right to obtain substantially all of the economic benefits of the asset or the right to direct the use of the asset. The

11

Company recognizes ROU assets and lease liabilities at the lease commencement date based on the present value of future, fixed lease payments over the term of the arrangement. ROU assets are amortized on a straight-line basis over the term of the lease. Lease liabilities accrete to yield and are reduced at the time when the lease payment is payable to the vendor. Variable lease payments are recognized at the time when the event giving rise to the payment occurs and are recognized in the statement of comprehensive income in the same line item as expenses arising from fixed lease payments.

In accordance with Topic 842, leases are measured at present value using the rate implicit in the lease or, if the implicit rate is not determinable, the lessee's implicit borrowing rate. As the implicit rate is not typically available, the Company uses its implicit borrowing rate based on the information available at the lease commencement date to determine the present value of future lease payments. The implicit borrowing rate approximates the rate the Company would pay to borrow on a collateralized basis over a similar term an amount equal to the lease payments.

Financial information presented prior to January 1, 2019 has not been adjusted and is presented in accordance with ASC 840. Refer to the Recently Adopted Accounting Pronouncements section within this note below and Note 7 - Leases for details about the Company's lease portfolio, including Topic 842 required disclosures.

Recently Adopted Accounting Pronouncements - Topic 842 was effective for fiscal years beginning after December 15, 2018 (including interim periods within those years) and early adoption was permitted. In August 2018, the FASB issued ASU 2018-11, Targeted Improvements to ASC 842, which provided a transition option in which an entity would initially apply ASU 2016-02 at the adoption date and recognize a cumulative-effect adjustment to the opening balance of retained earnings in the period of adoption. The Company used the new transition option and the package of practical expedients that allowed it to not reassess: (1) whether any expired or existing contracts are or contain leases; (2) lease classification for any expired or existing leases; and (3) initial direct costs for any expired or existing leases. The Company also used the practical expedient that allows it to treat the lease and non-lease components of its leases as a single component. The Company adopted ASU 2016-02 effective January 1, 2019. The impact of the adoption of ASU 2016-02 on the consolidated balance sheet was $47.4 million.

New Accounting Pronouncements (Not Yet Adopted)—In June 2016, the FASB issued ASU 2016-13, Financial Instruments - Credit Losses which requires financial assets measured at an amortized cost basis to be presented at the net amount expected to be collected. The measurement of expected credit losses is based on relevant information about past events, including historical experience, current conditions, and reasonable and supportable forecasts that affect the collectability of the reported amount. ASU 2016-13 is effective for fiscal years beginning after December 15, 2019 and the Company will adopt the standard effective January 1, 2020. Different aspects of the guidance require modified retrospective or prospective adoption. The Company has performed a preliminary assessment and anticipates adoption will not have a material impact on its consolidated financial statements.

3.        Inventory

As of September 30, 2019 and December 31, 2018, the Company's inventory balance consists of the following (in thousands):

	September 30, 2019		December 31, 2018
Raw materials	$	10,556	$	2,145
Work-in-process	6,199		4,567
Finished goods	6,558		320
	$	23,313	$	7,032

Inventory is stated at the lower of cost and net realizable value and consists of raw materials, work-in-process and finished goods. Cost is determined using a standard cost method, which approximates actual cost, and assumes a FIFO flow of goods. The Company began capitalizing inventory costs following FDA approval of ARIKAYCE in September 2018. The Company has not recorded any inventory write downs since that time. The Company currently uses a limited number of third-party contract manufacturing organizations (CMOs) to produce its inventory.

4.                                     Intangibles, net

As of September 30, 2019, the Company's identifiable intangible assets consisted of acquired ARIKAYCE R&D and a milestone paid to PARI for the license to use PARI's Lamira® Nebulizer System for the delivery of ARIKAYCE to patients as

12

a result of the FDA approval of ARIKAYCE in September 2018. Total intangible assets, net was $54.9 million as of September 30, 2019 and $58.7 million as of December 31, 2018.

Intangible assets are measured at their respective fair values on the date they were recorded and, with respect to the acquired ARIKAYCE milestone, at the date of subsequent adjustments of fair value. The Company began amortizing its intangible assets in October 2018, over ARIKAYCE's initial regulatory exclusivity period of 12 years. A rollforward of the Company's intangible assets for the nine months ended September 30, 2019 follows (in thousands):

	2019
Intangible Asset	January 1,		Additions		Amortization		September 30,
Acquired ARIKAYCE R&D	$	56,988	$	—	$	(3,637)	$	53,351
PARI milestone upon FDA approval	1,687		—		(108)		1,579
Intangible assets	$	58,675	$	—	$	(3,745)	$	54,930

Amortization of intangible assets during each of the next five years is estimated to be approximately $5.0 million per year. The Company reviews the recoverability of these finite-lived intangible assets whenever events or changes in circumstances indicate that the carrying value of such assets may not be recoverable. During the quarter ended September 30, 2019, no indicators of impairment were identified.

5. Fixed Assets, net

Fixed assets are stated at cost and depreciated using the straight-line method, based on useful lives as follows (in thousands):

Asset Description	Estimated Useful Life (years)	As of September 30, 2019		As of December 31, 2018
Lab equipment	7	$	8,646	$	7,935
Furniture and fixtures	7	2,559		2,320
Computer hardware and software	3-5	4,839		3,796
Office equipment	7	65		65
Manufacturing equipment	7	1,535		1,166
Leasehold improvements	lease term	8,861		7,202
Construction in Progress (CIP)	—	44,003		14,325
		70,508		36,809
Less: accumulated depreciation		(17,517)		(14,173)
Fixed assets, net		$	52,991	$	22,636

Fixed assets, net of depreciation increased to $53.0 million as of September 30, 2019 from $22.6 million as of December 31, 2018. The increase was primarily due to $29.7 million in CIP for the manufacturing equipment related to the long-term capacity build-out at the Patheon UK Limited (Patheon) facility and the Company's new corporate headquarters.

13

6.                                     Accrued Expenses

As of September 30, 2019 and December 31, 2018, the Company's accrued expenses balance consists of the following (in thousands): 

	September 30, 2019		December 31, 2018
Accrued clinical trial expenses	$	4,988	$	6,635
Accrued professional fees	9,421		13,398
Accrued technical operation expenses	10,176		9,371
Accrued royalty payable	1,830		409
Accrued interest payable	1,663		3,631
Accrued sales allowances and related costs	4,640		818
Accrued construction costs	4,693		2,946
Other accrued expenses	1,497		1,046
	$	38,908	$	38,254

7.     ��                             Leases

The Company's lease portfolio consists primarily of office space, manufacturing facilities and fleet vehicles. Currently, all of the Company's leases that have commenced are classified as operating leases. The terms of the Company's lease agreements that have commenced range from less than one year to seven years. In its assessment of the term of each such lease, the Company has not included any options to extend or terminate the lease due to the absence of economic incentives in its lease agreements. As permitted by the practical expedient in ASU 2016-02, leases that qualify for treatment as a short-term lease are expensed as incurred. These short-term leases are not material to the Company's financial position. Furthermore, the Company has elected the practical expedient to not separate lease and non-lease components for all classes of underlying assets. The Company's leases do not contain residual value guarantees and it does not sublease any of its leased assets.

The Company outsources its manufacturing operations to CMOs. Upon review of the agreements with its CMOs, the Company determined that these contracts contain embedded leases for dedicated manufacturing facilities. The Company obtains substantially all of the economic benefits from the use of the manufacturing facilities, has the right to direct how and for what purpose the facility is used throughout the period of use, and the supplier does not have the right to change the operating instructions of the facility. The operating lease right-of-use assets and corresponding lease liabilities associated with the manufacturing facilities is the sum of the minimum guarantees over the life of the production contracts.

In order to determine the appropriate discount rate for each lease, the Company determined its public credit rating and constructed debt yield curves. The debt yield curves were adjusted to reflect a collateral borrowing and differences in foreign currencies, where applicable, as well as to match the term of each lease.

The table below summarizes the Company's total lease costs included in its consolidated financial statements, as well as other required quantitative disclosures (in thousands).

14

	Three Months Ended			Nine Months Ended
	September 30, 2019			September 30, 2019
Lease cost
Operating lease cost	$	3,072		$	9,225
Total lease cost	$	3,072		$	9,225
Other information:
Cash paid for amounts included in the measurement of lease liabilities:
Operating cash flows for operating leases	$	3,140		$	9,415
Right-of-use assets obtained in exchange for new operating lease liabilities	$	—		$	47,389
Weighted average remaining lease term - operating leases (years)	5.2 years			5.2 years
Weighted average discount rate - operating leases	7.4		%	7.4		%

The table below presents the maturity of lease liabilities on an annual basis for the remaining years of the Company's commenced lease agreements (in thousands).

Year ending December 31,
2019 (remaining)	$	6,435
2020	10,984
2021	10,287
2022	6,000
2023	6,000
Thereafter	12,000
Total	51,706
Less: present value discount	8,304
Present value of lease liabilities	$	43,402
Balance sheet classification at September 30, 2019:
Current lease liabilities	$	11,985
Long-term lease liabilities	31,417
Total lease liabilities	$	43,402

In addition to the Company's lease agreements that have previously commenced and are reflected in the consolidated financial statements, the Company has entered into additional lease agreements that have not yet commenced. In September 2018, the Company entered into an agreement to lease its new corporate headquarters in Bridgewater, NJ for which the initial lease term expires in June 2030. Upon commencement of the lease, which is anticipated to occur in the fourth quarter of 2019, the lease will be accounted for as a finance lease and the Company estimates the impact on its consolidated balance sheet will be approximately $20 million to $25 million.

Additionally, in October 2017, the Company entered into certain agreements with Patheon related to increasing its long-term production capacity for ARIKAYCE commercial inventory. Similar to the CMO arrangements previously described, the Company has determined that this agreement with Patheon contains an embedded lease for the manufacturing facility and the specialized equipment contained therein. Certain costs incurred by the Company under the agreement of $15.5 million, subsequent to the adoption of ASU 2016-02, have been classified within other assets in the Company's consolidated balance sheet. Upon the commencement date, the lease will be accounted for as an operating lease and prepaid costs and minimum guarantees specified in the agreement will be combined to establish an operating lease right-of-use asset and related lease liability.

15

8.                                   Debt

In January 2018, the Company completed an underwritten public offering of the Convertible Notes, in which the Company sold $450.0 million aggregate principal amount of Convertible Notes, including the exercise in full of the underwriters' option to purchase additional Convertible Notes of $50.0 million. The Company's net proceeds from the offering, after deducting underwriting discounts and commissions and other offering expenses of $14.2 million, were approximately $435.8 million. The Convertible Notes bear interest payable semiannually in arrears on January 15 and July 15 of each year, beginning on July 15, 2018. The Convertible Notes mature on January 15, 2025, unless earlier converted, redeemed, or repurchased.

On or after October 15, 2024, until the close of business on the second scheduled trading day immediately preceding January 15, 2025, holders may convert their Convertible Notes at any time. Upon conversion, holders may receive cash, shares of the Company's common stock or a combination of cash and shares of the Company's common stock, at the Company's option. The initial conversion rate is 25.5384 shares of common stock per $1,000 principal amount of Convertible Notes (equivalent to an initial conversion price of approximately $39.16 per share of common stock). The conversion rate will be subject to adjustment in some events but will not be adjusted for any accrued and unpaid interest.

Holders may convert their Convertible Notes prior to October 15, 2024, only under the following circumstances, subject to the conditions set forth in an indenture, dated as of January 26, 2018, between the Company and Wells Fargo Bank, National Association (Wells Fargo), as trustee, as supplemented by the first supplemental indenture, dated January 26, 2018, between the Company and Wells Fargo (as supplemented, the Indenture): (i) during the 5 business day period immediately after any 5 consecutive trading day period (the measurement period) in which the trading price per $1,000 principal amount of convertible notes, as determined following a request by a holder of the convertible notes, for each trading day of the measurement period was less than 98% of the product of the last reported sale price of the common stock and the conversion rate on such trading day, (ii) the Company elects to distribute to all or substantially all holders of the common stock (a) any rights, options or warrants (other than in connection with a stockholder rights plan for so long as the rights issued under such plan have not detached from the associated shares of common stock) entitling them, for a period of not more than 45 days from the declaration date for such distribution, to subscribe for or purchase shares of common stock at a price per share that is less than the average of the last reported sale prices of the common stock for the 10 consecutive trading day period ending on, and including, the trading day immediately preceding the declaration date for such distribution, or (b) the Company’s assets, debt securities or rights to purchase securities of the Company, which distribution has a per share value, as reasonably determined by the board of directors, exceeding 10% of the last reported sale price of the common stock on the trading day immediately preceding the declaration date for such distribution, (iii) if a transaction or event that constitutes a fundamental change or a make-whole fundamental change occurs, or if the Company is a party to (a) a consolidation, merger, combination, statutory or binding share exchange or similar transaction, pursuant to which the common stock would be converted into, or exchanged for, cash, securities or other property or assets, or (b) any sale, conveyance, lease or other transfer or similar transaction in one transaction or a series of transactions of all or substantially all of the consolidated assets of the Company and its subsidiaries, taken as a whole, all or any portion of the Convertible Notes may be surrendered by a holder for conversion at any time from or after the date that is 30 scheduled trading days prior to the anticipated effective date of the transaction, (iv) if during any calendar quarter commencing after the calendar quarter ending on March 31, 2018 (and only during such calendar quarter), the last reported sale price of the common stock for at least 20 trading days (whether or not consecutive) during the period of 30 consecutive trading days ending on the last trading day of the immediately preceding calendar quarter is greater than or equal to 130% of the conversion price on each applicable trading day, or, (v) if the Company sends a notice of redemption, a holder may surrender all or any portion of its Convertible Notes, to which the notice of redemption relates, for conversion at any time on or after the date the applicable notice of redemption was sent until the close of business on (a) the second business day immediately preceding the related redemption date or (b) if the Company fails to pay the redemption price on the redemption date as specified in such notice of redemption, such later date on which the redemption price is paid.

The Convertible Notes can be settled in cash, common stock, or a combination of cash and common stock at the Company's option, and thus, the Company determined the embedded conversion options in the convertible notes are not required to be separately accounted for as a derivative. However, since the Convertible Notes are within the scope of the accounting guidance for cash convertible instruments, the Company is required to separate the Convertible Notes into liability and equity components. The carrying amount of the liability component as of the date of issuance was calculated by measuring the fair value of a similar liability that did not have an associated equity component. The fair value was based on data from readily available pricing sources which utilize market observable inputs and other characteristics for similar types of instruments. The carrying amount of the equity component representing the embedded conversion option was determined by deducting the fair value of the liability component from the gross proceeds of the Convertible Notes. The excess of the principal amount of the liability component over its carrying amount is amortized to interest expense over the expected life of a similar liability that does not have an associated equity component using the effective interest method. The equity component is not

16

remeasured as long as it continues to meet the conditions for equity classification in the accounting guidance for contracts in an entity’s own equity. The fair value of the liability component of the Convertible Notes on the date of issuance was estimated at $309.1 million using an effective interest rate of 7.6%, and accordingly, the residual equity component on the date of issuance was$140.9 million. The discount is being amortized to interest expense over the term of the Convertible Notes and has a remaining period of approximately 5.3 years. The following table presents the carrying value of the Company’s debt balance (in thousands):

	September 30, 2019		December 31, 2018
1.75% convertible senior notes due 2025	$	450,000	$	450,000
Debt issuance costs, unamortized	(7,392)		(8,440)
Discount on debt	(111,605)		(125,002)
Long-term debt, net	$	331,003	$	316,558

As of September 30, 2019, future principal repayments of the debt for each of the fiscal years through maturity were as follows (in thousands):

Year Ending December 31:
2019	$	—
2020	—
2021	—
2022	—
2023	—
2024 and thereafter	450,000
	$	450,000

In February 2018, the Company used part of the net proceeds from the issuance of the Convertible Notes to pay off its outstanding debt to Hercules Capital (Hercules). The payments to Hercules consisted of $55.0 million for the principal amount and an additional $3.2 million in back-end fees, outstanding interest, and prepayment penalty fees, which resulted in a $2.2 million loss on extinguishment of debt in the quarter ended March 31, 2018. 

Interest Expense

Interest expense related to the Convertible Notes for the three and nine months ended September 30, 2019 and September 30, 2018, which includes the contractual interest coupon payable semi-annually in cash, the amortization of the issuance costs, and accretion of debt discount is as follows (in thousands):

	Three Months Ended September 30,						Nine Months Ended September 30,
	2019		2018		2019		2018
Contractual interest expense	$	1,971	$	1,971	$	5,912	$	6,214
Amortization of debt issuance costs	349		415		1,047		1,000
Accretion of back-end fee on debt	—		—		—		50
Accretion of debt discount	4,526		4,289		13,398		11,541
Total interest expense	$	6,846	$	6,675	$	20,357	$	18,805

9.                                     Shareholders’ Equity

Common Stock — As of September 30, 2019, the Company had 500,000,000 shares of common stock authorized with a par value of $0.01 per share and 89,310,684 shares of common stock issued and outstanding. In addition, as of September 30, 2019, the Company had reserved 10,773,384 shares of common stock for issuance upon the exercise of outstanding stock options and 459,747 shares of common stock for issuance upon the vesting of RSUs. The Company has also reserved

17

11,492,280 shares of common stock for issuance upon conversion of the Convertible Notes, subject to adjustment in accordance with the Indenture.

In the second quarter of 2019, the Company completed an underwritten public offering of 10,657,692 shares of the Company's common stock, which included the underwriters' exercise in full of their over-allotment option of 1,042,307 shares from the Company at a price to the public of $26.00, less underwriting discounts and commissions. The Company's net proceeds from the sale of the shares, after deducting the underwriting discounts and commissions and offering expenses of $16.0 million, were $261.1 million. The offering also included the sale of 400,000 shares from the Company's Chairman and Chief Executive Officer, from which the Company received no proceeds.

In January 2018, the Company completed an underwritten public offering of $450.0 million aggregate principal amount of Convertible Notes, including the exercise in full of the underwriter's option to purchase additional Convertible Notes. The fair value of the liability component of the Convertible Notes on the date of issuance was estimated at $309.1 million, and accordingly, the equity component (included in additional paid-in capital) on the date of issuance was calculated as $140.9 million using the residual method, as further described in Note 8 Debt.

Preferred Stock — As of September 30, 2019, the Company had 200,000,000 shares of preferred stock authorized with a par value of $0.01 per share and 0 shares of preferred stock were issued and outstanding.

10.                                     Stock-Based Compensation

The Company’s current equity compensation plan, the 2019 Incentive Plan, was approved by shareholders at the Company’s Annual Meeting of Shareholders on May 16, 2019. The 2019 Incentive Plan is administered by the Compensation Committee of the Board of Directors of the Company. Under the terms of the 2019 Incentive Plan, the Company is authorized to grant a variety of incentive awards based on its common stock, including stock options (both incentive stock options and non-qualified stock options), RSUs, performance options/shares and other stock awards to eligible employees and non-employee directors. On May 16, 2019, upon the approval of the 2019 Incentive Plan by shareholders, 3,500,000 shares were authorized for issuance thereunder, plus any shares subject to then-outstanding awards under the 2017 Incentive Plan, 2015 Incentive Plan and the 2013 Incentive Plan that subsequently were canceled, terminated unearned, expired, were forfeited, lapsed for any reason or were settled in cash without the delivery of shares. As of September 30, 2019, 4,032,845 shares remained for future issuance under the 2019 Incentive Plan. The 2019 Incentive Plan will terminate on May 16, 2029 unless it is extended or terminated earlier pursuant to its terms. In addition, from time to time, the Company makes inducement grants of stock options to new hires, which awards are made pursuant to the NASDAQ inducement grant exception. During the nine months ended September 30, 2019, the Company granted inducement stock options covering 198,530 shares of the Company's common stock to new employees.

On May 15, 2018, the 2018 Employee Stock Purchase Plan (2018 ESPP) was approved by shareholders at the Company’s Annual Meeting of Shareholders. The Company has reserved the following for issuance under the 2018 ESPP: (i) 1,000,000 shares of common stock, plus (ii) commencing on January 1, 2019 and ending on December 31, 2023, an additional number of shares to be added on the first day of each calendar year equal to the lesser of (A) 1,200,000 shares of common stock, (B) 2% of the number of outstanding shares of common stock on such date and (C) an amount determined by the administrator.

Stock Options - As of September 30, 2019, there was $34.2 million of unrecognized compensation expense related to unvested stock options, which is expected to be recognized over a weighted average period of 2.7 years. During the quarter ended September 30, 2018, performance-condition options totaling $1.1 million, or 133,334 shares, met their recognition criteria as a result of the FDA approval of ARIKAYCE and vested in full. As of September 30, 2019, there were 0 performance-condition options outstanding.

Restricted Stock Units — As of September 30, 2019, there was $8.6 million of unrecognized compensation expense related to unvested RSU awards, which is expected to be recognized over a weighted average period of 3.0 years.

The following table summarizes the aggregate stock-based compensation expense recorded in the consolidated statements of comprehensive loss related to stock options and RSUs during the three and nine months ended September 30, 2019 and 2018, respectively (in millions): 

18

	Three Months Ended September 30,						Nine Months Ended September 30,
	2019		2018		2019		2018
Research and development	$	2.2	$	2.8	$	6.6	$	7.4
Selling, general and administrative	4.6		5.1		14.5		12.8
Total	$	6.8	$	7.9	$	21.1	$	20.2

11.                                     Income Taxes

The Company’s provision for income taxes was $0.1 million and $0.0 million for the three months ended September 30, 2019 and September 30, 2018, respectively and $0.5 million and $0.1 million for the nine months ended September 30, 2019 and September 30, 2018, respectively. The provision for income taxes in both periods was a result of certain of the Company’s international subsidiaries, which had taxable income during the three and nine months ended September 30, 2019 and 2018. In jurisdictions where the Company has net losses, there was a full valuation allowance recorded against the Company’s deferred tax assets and therefore 0 tax benefit was recorded.

The Company is subject to US federal and state income taxes and the statute of limitations for tax audit is open for the Company's federal tax returns for the years ended 2014 and later, and is generally open for certain states for the years 2013 and later. The Company has incurred net operating losses since inception, except for the year ended December 31, 2009. Such loss carryforwards would be subject to audit in any tax year in which those losses are utilized, notwithstanding the year of origin. As of September 30, 2019 and December 31, 2018, the Company had recorded reserves for unrecognized income tax benefits against certain deferred tax assets in the United States. However, given the Company’s valuation allowance position these reserves do not have an impact on the balance sheet as of September 30, 2019 and December 31, 2018 or the income statement for the three and nine months ended September 30, 2019 and September 30, 2018. The Company has not recorded any accrued interest or penalties related to uncertain tax positions. The Company does not anticipate any material changes in the amount of unrecognized tax positions over the next 12 months.

12.                                     Commitments and Contingencies

Rent expense charged to operations was $0.4 million and $0.4 million for the three months ended September 30, 2019 and 2018, respectively, and was $2.0 million and $1.2 million for the nine months ended September 30, 2019 and 2018, respectively.

Legal Proceedings

From time to time, the Company is a party to various lawsuits, claims and other legal proceedings that arise in the ordinary course of business. While the outcomes of these matters are uncertain, management does not expect that the ultimate costs to resolve these matters will have a material adverse effect on the Company’s consolidated financial position, results of operations or cash flows.

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

Cautionary Note Regarding Forward-Looking Statements

This Quarterly Report on Form 10-Q contains forward-looking statements that involve substantial risks and uncertainties. "Forward-looking statements," as that term is defined in the Private Securities Litigation Reform Act of 1995, are statements that are not historical facts and involve a number of risks and uncertainties. Words herein such as "may," "will," "should," "could," "would," "expects," "plans," "anticipates," "believes," "estimates," "projects," "predicts," "intends," "potential," "continues," and similar expressions (as well as other words or expressions referencing future events, conditions or circumstances) identify forward-looking statements.

              Forward-looking statements are based on our current expectations and beliefs, and involve known and unknown risks, uncertainties and other factors, which may cause our actual results, performance and achievements and the timing of certain events to differ materially from the results, performance, achievements or timing discussed, projected, anticipated or indicated in any forward-looking statements. Such risks, uncertainties and other factors include, among others, the following:

19

•failure to successfully commercialize or maintain United States (US) approval for ARIKAYCE (amikacin liposome inhalation suspension), our only approved product;

•uncertainties in the degree of market acceptance of ARIKAYCE by physicians, patients, third-party payors and others in the health care community;

•our inability to obtain full approval of ARIKAYCE from the US Food and Drug Administration (FDA), including the risk that we will not timely and successfully complete the study to verify a patient reported outcome (PRO) tool and the confirmatory post-marketing study required for full approval;

•inability of us, PARI Pharma GmbH (PARI) or our other third-party manufacturers to comply with regulatory requirements related to ARIKAYCE or the Lamira Nebulizer System (Lamira);

•our inability to obtain adequate reimbursement from government or third-party payors for ARIKAYCE or acceptable prices for ARIKAYCE;

•development of unexpected safety or efficacy concerns related to ARIKAYCE;

•inaccuracies in our estimates of the size of the potential markets for ARIKAYCE or in data we have used to identify physicians, expected rates of patient uptake, duration of expected treatment, or expected patient adherence or discontinuation rates;

•our inability to create an effective direct sales and marketing infrastructure or to partner with third parties that offer such an infrastructure for distribution of ARIKAYCE;

•failure to obtain regulatory approval to expand ARIKAYCE’s indication to a broader patient population;

•failure to successfully conduct future clinical trials for ARIKAYCE and our product candidates, including due to our limited experience in conducting preclinical development activities and clinical trials necessary for regulatory approval and our inability to enroll or retain sufficient patients to conduct and complete the trials or generate data necessary for regulatory approval;

•risks that our clinical studies will be delayed or that serious side effects will be identified during drug development;

•failure to obtain, or delays in obtaining, regulatory approvals for ARIKAYCE outside the US or for our product candidates in the US, Europe, Japan or other markets, including in the United Kingdom as a result of the United Kingdom’s planned exit from the European Union;

•failure of third parties on which we are dependent to manufacture sufficient quantities of ARIKAYCE or our product candidates for commercial or clinical needs, to conduct our clinical trials, or to comply with laws and regulations that impact our business or agreements with us;

•our inability to attract and retain key personnel or to effectively manage our growth;

•our inability to adapt to our highly competitive and changing environment;

•our inability to adequately protect our intellectual property rights or prevent disclosure of our trade secrets and other proprietary information and costs associated with litigation or other proceedings related to such matters;

•restrictions or other obligations imposed on us by agreements related to ARIKAYCE or our product candidates, including our license agreements with PARI and AstraZeneca AB (AstraZeneca), and failure to comply with our obligations under such agreements;

•the cost and potential reputational damage resulting from litigation to which we are or may become a party, including product liability claims;

•limited experience operating internationally;

•changes in laws and regulations applicable to our business, including any pricing reform, and failure to comply with such laws and regulations;

•inability to repay our existing indebtedness and uncertainties with respect to our ability to access future capital; and

•delays in the execution of plans to build out and move into the leased space at our new headquarters and to build out an additional FDA-approved third-party manufacturing facility and unexpected expenses associated with those plans.

We caution readers not to place undue reliance on any such forward-looking statements, which speak only as of the date they are made. Any forward-looking statement is based on information current as of the date of this Quarterly Report on Form 10-Q and speaks only as of the date on which such statement is made. Actual events or results may differ materially from the results, plans, intentions or expectations anticipated in these forward-looking statements as a result of a variety of factors, many of which are beyond our control. More information on factors that could cause actual results to differ materially from those anticipated is included from time to time in our reports filed with the Securities and Exchange Commission (SEC), including, but not limited to, those described in the sections titled “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included in our Annual Report on Form 10-K for the fiscal year ended

20

December 31, 2018. We disclaim any obligation, except as specifically required by law, and the rules of the SEC, to publicly update or revise any such statements to reflect any change in our expectations or in events, conditions or circumstances on which any such statements may be based, or that may affect the likelihood that actual results will differ from those set forth in the forward-looking statements.

The following discussion should be read in conjunction with our consolidated financial statements and related notes thereto included elsewhere in this Quarterly Report on Form 10-Q and the consolidated financial statements and related notes thereto in our Annual Report on Form 10-K for the year ended December 31, 2018.

OVERVIEW

  We are a global biopharmaceutical company on a mission to transform the lives of patients with serious and rare diseases. Our first commercial product, ARIKAYCE (amikacin liposome inhalation suspension), received accelerated approval in the US in September 2018 for the treatment of Mycobacterium avium complex (MAC) lung disease as part of a combination antibacterial drug regimen for adult patients with limited or no alternative treatment options in a refractory setting, as defined by patients who do not achieve negative sputum cultures after a minimum of 6 consecutive months of a multidrug background regimen therapy. MAC lung disease is a rare and often chronic infection that can cause irreversible lung damage and can be fatal. Our clinical-stage pipeline includes INS1007 and INS1009. INS1007 is a novel oral, reversible inhibitor of dipeptidyl peptidase 1 (DPP1) with therapeutic potential in non-cystic fibrosis (non-CF) bronchiectasis and other inflammatory diseases. INS1009 is an inhaled formulation of a treprostinil prodrug that may offer a differentiated product profile for rare pulmonary disorders, including pulmonary arterial hypertension (PAH).

The table below summarizes the current status and anticipated milestones for ARIKAYCE and our product candidates INS1007 and INS1009.

Principal Product/Product Candidate	Status	Next Expected Milestones
ARIKAYCE for MAC lung disease	• We continue to focus on the execution of a successful commercial launch of ARIKAYCE in the US. The product was granted accelerated approval by the FDA for the treatment of refractory MAC lung disease as part of a combination antibacterial drug regimen for adult patients who have limited or no alternative treatment options. We began commercial shipments of ARIKAYCE in October 2018. • In July 2019, we filed a marketing authorization application (MAA) with the European Medicines Agency (EMA) for ARIKAYCE for the treatment of patients with persistent MAC lung infection. The MAA filing was subsequently validated. The proposed indication reflects the same population of refractory MAC lung disease patients for which ARIKAYCE is approved in the US. • The FDA has designated ARIKAYCE as an orphan drug and a qualified infectious disease product (QIDP) for nontuberculous mycobacterial (NTM) lung disease, and the European Commission has granted an orphan designation for ARIKAYCE for the treatment of NTM lung disease.	• In addition to our MAA, we intend to submit regulatory filings for ARIKAYCE in Japan in the first half of 2020. If approved by the relevant regulatory authorities, we expect ARIKAYCE would be the first inhaled therapy specifically indicated for the treatment of MAC lung disease in Europe and Japan. • If approved by the relevant regulatory authorities, we plan to commercialize ARIKAYCE in certain countries in Europe, Japan and certain other countries. • We continue to collaborate with the FDA on the post-approval confirmatory clinical trial required for full approval. We have initiated efforts to evaluate an appropriate patient reported outcome (PRO) tool that will enable the assessment of therapies for the treatment of NTM lung disease. If a PRO tool is verified through a short-term study, we plan to begin the confirmatory clinical study of ARIKAYCE in a front-line setting of patients with MAC lung disease. In addition, we intend to conduct a separate study in patients with NTM lung disease caused by M. abscessus.
INS1007 (oral reversible inhibitor of DPP1) for non-CF bronchiectasis and other rare diseases	• In May 2019, we completed enrollment of patients in the WILLOW study, a global phase 2, randomized, double-blind, placebo-controlled, parallel-group, multi-center clinical study to assess the efficacy, safety and tolerability, and pharmacokinetics of INS1007 administered once daily for 24 weeks in subjects with non-CF bronchiectasis.	• We expect top-line data from the WILLOW clinical study of INS1007 in the first quarter of 2020. • We are also exploring the potential of INS1007 in various neutrophil-driven inflammatory conditions, including treating granulomatosis with polyangiitis
INS1009 (inhaled formulation of a treprostinil prodrug) for rare pulmonary disorders	• The results of a phase 1 study of INS1009 were presented at the European Respiratory Society international congress in September 2016.	• We believe INS1009 may offer a differentiated product profile for rare pulmonary disorders, including PAH, and we are currently evaluating our options to advance its development including exploring its use as an inhaled dry powder formulation.

21

Our earlier-stage pipeline includes preclinical compounds that we are evaluating in multiple rare diseases of unmet medical need, including gram positive pulmonary infections in CF, NTM lung disease and refractory localized infections involving biofilm. To complement our internal research and development, we actively evaluate in-licensing and acquisition opportunities for a broad range of rare diseases.

Our Strategy

Our strategy focuses on the needs of patients with rare diseases. We secured accelerated approval from the FDA of ARIKAYCE for the treatment of refractory MAC lung disease in patients with limited or no alternative treatment options, and currently are primarily focused on the US commercial launch of ARIKAYCE. We are also seeking regulatory approval in Europe and Japan. We are not aware of any other approved inhaled therapies specifically indicated to treat MAC lung disease in North America, Europe or Japan. We believe that ARIKAYCE has the potential to prove beneficial in other patients with MAC, as well as in other infections. We are also advancing earlier-stage programs in other rare pulmonary disorders.

Our current priorities are as follows:

•Continue our efforts to ensure a successful US launch of ARIKAYCE;

•Develop and validate a PRO tool for NTM lung disease to be used in, among other trials, the required confirmatory clinical trial required for the full US approval of ARIKAYCE by the FDA in patients with MAC lung disease;

•Continue our global expansion efforts in Europe and Japan to support pre-commercial activities in those regions and support the potential regulatory filings for ARIKAYCE in Japan in the first half of 2020;

•Advance our pipeline, which is intended to bring additional therapies to market for patients with serious and rare diseases, including conducting the WILLOW study, our six-month Phase 2 trial of INS1007 in patients with non-CF bronchiectasis;

•Ensure our product supply chain will support the global commercialization and potential future lifecycle management programs of ARIKAYCE;

•Develop the core value dossier to support the reimbursement for ARIKAYCE in the US, Europe and Japan;

•Obtain determinations of coverage and reimbursement in the US for ARIKAYCE from governmental and other third-party payors;

•Support further research and lifecycle management strategies for ARIKAYCE, including the potential use of ARIKAYCE as part of a front-line, multi-drug regimen and as a maintenance therapy to prevent recurrence (defined as true relapse or reinfection) of MAC lung disease;

•Explore INS1009 for use as an inhaled dry powder formulation in PAH and generate preclinical findings from our earlier-stage programs; and

•Expand our rare disease pipeline through corporate development.

ARIKAYCE for Patients with MAC Lung Disease

ARIKAYCE is our first approved product. ARIKAYCE received accelerated approval in the US in September 2018 for the treatment of refractory MAC lung disease as part of a combination antibacterial drug regimen for adult patients with limited or no alternative treatment options. MAC lung disease is a rare and often chronic infection that can cause irreversible lung damage and can be fatal. Amikacin solution for parenteral administration is an established drug that has activity against a variety of NTM; however, its use is limited by the need to administer it intravenously and by toxicity to hearing, balance, and kidney function (Peloquin et al., 2004). Unlike amikacin solution for intravenous administration, our proprietary Pulmovance™ technology uses charge-neutral liposomes to deliver amikacin directly to the lungs where liposomal amikacin is taken up by the lung macrophages where the MAC infection resides. This technology also prolongs the release of amikacin in the lungs, while minimizing systemic exposure, thereby offering the potential for decreased systemic toxicities. ARIKAYCE's ability to deliver high levels of amikacin directly to the lung and sites of MAC infection via the use of our Pulmovance technology, distinguishes it from intravenous amikacin. ARIKAYCE is administered once-daily, using Lamira®, an inhalation device developed and manufactured by PARI. Lamira is a portable nebulizer that enables aerosolization of liquid medications via a vibrating, perforated membrane, and was designed specifically for ARIKAYCE delivery.

22

The FDA has designated ARIKAYCE as an orphan drug and a QIDP for NTM lung disease. Orphan designated drugs are eligible for seven years of exclusivity for the orphan indication. QIDP designation features an additional five years of exclusivity for the designated indication. The FDA granted a total of 12 years of regulatory exclusivity in the indication for which ARIKAYCE was approved.

Accelerated Approval

In March 2018, we submitted a new drug application (NDA) for ARIKAYCE to the FDA to request accelerated approval. Accelerated approval allows drugs that (i) are being developed to treat a serious or life-threatening disease or condition and (ii) provide a meaningful therapeutic benefit over existing treatments to be approved substantially based on an intermediate endpoint or a surrogate endpoint that is reasonably likely to predict clinical benefit, rather than a clinical endpoint such as survival or irreversible morbidity. In September 2018, the FDA granted approval for ARIKAYCE under the Limited Population Pathway for Antibacterial and Antifungal Drugs (LPAD) for the treatment of refractory MAC lung disease as part of a combination antibacterial drug regimen for adult patients with limited or no alternative treatment options via the accelerated approval pathway. LPAD, which was enacted as part of the 21st Century Cures Act, serves to advance the development of new antibacterial drugs to treat serious or life-threatening infections in limited populations of patients with unmet needs. As required for drugs approved under the LPAD pathway, labeling for ARIKAYCE includes certain statements to convey that the drug has been shown to be safe and effective only for use in a limited population.

As a condition of accelerated approval, we must conduct a post-approval confirmatory clinical trial. The required confirmatory trial, which is currently under discussion with the FDA, will be designed to assess and describe the clinical benefit of ARIKAYCE in patients with MAC lung disease. The trial will evaluate the effect of ARIKAYCE on a clinically meaningful endpoint, as compared to an appropriate control, in the intended patient population of patients with MAC lung disease. We have initiated efforts to evaluate an appropriate PRO tool that will enable the assessment of therapies for the treatment of NTM lung disease. If the PRO is verified through a short-term study, we plan to begin a confirmatory clinical study of ARIKAYCE in a front-line setting of patients with MAC lung disease. In addition, we intend to conduct a separate study in patients with NTM lung disease caused by M. abscessus. We continue to collaborate with the FDA on the timetable as well as the design and validation of the PRO and the post-approval confirmatory clinical trial. The full approval of ARIKAYCE will be contingent upon verification and description of clinical benefit in this study.

Regulatory Pathway Outside of the US

Our regulatory filing in Europe was submitted in July 2019 and subsequently validated by the EMA. The primary efficacy endpoint is the proportion of patients who maintained durable culture conversion for three months off all therapy on ARIKAYCE plus GBT compared to GBT only. We intend to submit regulatory filings for ARIKAYCE in Japan in the first half of 2020.

Clinical Trials

Accelerated approval of ARIKAYCE was supported by preliminary data from the CONVERT study, a global Phase 3 study evaluating the safety and efficacy of ARIKAYCE in adult patients with refractory MAC lung disease, using achievement of sputum culture conversion (defined as three consecutive negative monthly sputum cultures) by Month 6 as the primary endpoint. Patients who achieved sputum culture conversion by Month 6 continued in the CONVERT study for an additional 12 months of treatment following the first monthly negative sputum culture in order to assess the durability of culture conversion, as defined by patients that have completed treatment and continued in the CONVERT study off all therapy for three months. In May 2019, we presented at the American Thoracic Society meeting that 41/65 (63.1%) of patients on ARIKAYCE plus GBT had maintained durable culture conversion for three months off all therapy compared to 0/10 (0%) on GBT only (p<0.0002). Safety data for these patients were consistent with safety data previously reported for patients by Month 6 of the CONVERT study.

Patients who did not culture convert by Month 6 may have been eligible to enroll in the 312 study, an open-label extension study for these non-converting patients who completed six months of treatment in the CONVERT study. The primary objective of the 312 study was to evaluate the long-term safety and tolerability of ARIKAYCE in combination with a standard multi-drug regimen. The secondary objectives of the 312 study included evaluating the proportion of subjects achieving culture conversion (defined in the same way as the CONVERT study) by Month 6 and the proportion of subjects achieving culture conversion by Month 12, which was the end of treatment. We previously reported interim data as of December 2017 for patients in the 312 study, with 28.4% of patients who received GBT only in the CONVERT study (19/67) and 12.3% of patients who had received ARIKAYCE plus GBT in the CONVERT study (7/57) achieving culture conversion by Month 6 of the 312

23

study. Final efficacy data regarding culture conversion were consistent with these interim data. We have analyzed the safety and efficacy data from the 312 study, and we have not observed any new safety signals. The 312 study has concluded.

Further Research and Lifecycle Management

We are currently exploring and supporting research and lifecycle management programs for ARIKAYCE beyond treatment of refractory MAC lung disease as part of a combination antibacterial regimen for adult patients who have limited or no treatment options. Specifically, we are evaluating study designs focusing on the MAC lung disease treatment pathway, including front-line treatment and maintenance to prevent recurrence (defined as true relapse or reinfection) of MAC lung disease. As noted above, if a PRO tool is verified through a short-term study, we plan to conduct our required confirmatory trial to assess and describe the clinical benefit of ARIKAYCE in patients with MAC lung disease.

Subsequent lifecycle management studies could also potentially enable us to reach more patients. For instance, the use of ARIKAYCE to treat infections caused by non-MAC NTM species, such as M. abscessus, is being evaluated. If a PRO tool is verified, we plan to conduct a study in patients with NTM lung disease caused by M. abscessus. These initiatives also include investigator-initiated studies, which are clinical studies initiated and sponsored by physicians or research institutions with funding from us and may also include new clinical studies sponsored by us.

Product Pipeline

INS1007

INS1007 is a small molecule, oral, reversible inhibitor of DPP1, which we licensed from AstraZeneca in October 2016. DPP1 is an enzyme responsible for activating neutrophil serine proteases in neutrophils when they are formed in the bone marrow. Neutrophils are the most common type of white blood cell and play an essential role in pathogen destruction and inflammatory mediation. Neutrophils contain the neutrophil serine proteases (including neutrophil elastase, proteinase 3, and cathepsin G) that have been implicated in a variety of inflammatory diseases. In chronic inflammatory lung diseases, neutrophils accumulate in the airways and release active neutrophil serine proteases in excess that cause lung destruction and inflammation. INS1007 may decrease the damaging effects of inflammatory diseases, such as non-CF bronchiectasis, by inhibiting DPP1 and its activation of neutrophil serine proteases. Non-CF bronchiectasis is a progressive pulmonary disorder in which the bronchi become permanently dilated due to chronic inflammation and infection. Currently, there is no cure, and we are not aware of any FDA-approved therapies specifically indicated for non-CF bronchiectasis. We are exploring the potential of INS1007 in various neutrophil-driven inflammatory conditions, including treating granulomatosis with polyangiitis.

The WILLOW Study

The WILLOW study is a global phase 2, randomized, double-blind, placebo-controlled, parallel group, multi-center clinical study to assess the efficacy, safety and tolerability, and pharmacokinetics of INS1007 administered once daily for 24 weeks in subjects with non-CF bronchiectasis. We completed enrollment in the WILLOW study in May 2019 and top-line data are expected in the first quarter of 2020. We enrolled 256 patients who had at least two documented pulmonary exacerbations in the twelve months prior to screening. Patients were randomized to receive INS1007 10mg once-daily, INS1007 25mg once-daily, or placebo for a period of 24 weeks. The primary endpoint for the study is time to first pulmonary exacerbation, with secondary endpoints covering a range of pulmonary measures including frequency of pulmonary exacerbations.

Further Research

In August 2019, we received notice from the FDA that we were awarded a development grant of $1.8 million for specific work to be performed on a PRO tool over the next two years. The grant funding is for the development of a novel PRO tool for use in clinical trials to measure symptoms in patients with non-CF bronchiectasis with and without NTM lung infection.

INS1009

INS1009 is an investigational inhaled treprostinil prodrug formulation that has the potential to address certain of the current limitations of existing prostanoid therapies. We believe that INS1009 prolongs duration of effect and may provide PAH patients with greater consistency in pulmonary arterial pressure reduction over time. Current inhaled prostanoid therapies must be dosed four to nine times per day for the treatment of PAH. Reducing dose frequency has the potential to ease patient burden and improve compliance. Additionally, we believe that INS1009 may be associated with fewer side effects, including elevated heart rate, low blood pressure, and severity and/or frequency of cough, associated with high initial drug levels and local upper airway exposure when using current inhaled prostanoid therapies. We believe INS1009 may offer a differentiated product

24

profile for rare pulmonary disorders, including PAH, and we are currently evaluating our options to advance its development, including exploring its use as an inhaled dry powder formulation.  

KEY COMPONENTS OF OUR RESULTS OF OPERATIONS

Revenues, net

Product revenues consist primarily of net sales of ARIKAYCE in the US. In October 2018, we began shipping ARIKAYCE to our customers in the US, which include specialty pharmacies and specialty distributors. We recognize revenue for product received by our customers net of allowances for customer credits, including prompt pay discounts, service fees, estimated rebates, including government rebates, such as Medicaid rebates and Medicare Part D coverage gap reimbursements in the US, chargebacks and returns. We also began recognizing revenue related to early access programs (EAPs) in Europe, consisting of sales to the French National Agency for Medicines and Health Products Safety (ANSM), which has granted ARIKAYCE a Temporary Authorization for Use (Autorisation Temporaire d'Utilisation or ATU) and from the named patient program in Germany, both compassionate use programs.

Cost of Product Revenues (excluding amortization of intangible assets)

Cost of product revenues (excluding amortization of intangible assets) consist primarily of direct and indirect costs related to the manufacturing of ARIKAYCE sold, including third-party manufacturing costs, packaging services, freight, and allocation of overhead costs, in addition to royalty expenses and milestone payments. We began capitalizing inventory upon FDA approval of ARIKAYCE. All costs related to inventory for ARIKAYCE prior to FDA approval were expensed as incurred and therefore not included in cost of product revenues.

Research and Development (R&D) Expenses

R&D expenses consist of salaries, benefits and other related costs, including stock-based compensation, for personnel serving in our research and development functions, including medical affairs. Expenses also include other internal operating expenses, the cost of manufacturing our product candidate(s) for clinical study, the cost of conducting clinical studies, and the cost of conducting preclinical and research activities. In addition, our R&D expenses include payments to third parties for the license rights to products in development (prior to marketing approval), such as for INS1007. Our expenses related to manufacturing our product candidate(s) for clinical study are primarily related to activities at contract manufacturing organizations (CMOs) that manufacture our product candidates for our use, including purchases of active pharmaceutical ingredients. Our expenses related to clinical trials are primarily related to activities at contract research organizations that conduct and manage clinical trials on our behalf.

Selling, General and Administrative (SG&A) Expenses

SG&A expenses consist primarily of salaries, benefits and other related costs, including stock-based compensation, for our non-employee directors and personnel serving in our executive, finance and accounting, legal and compliance, commercial and pre-commercial, corporate development, field sales, information technology, program management and human resource functions. SG&A expenses also include professional fees for legal services, consulting services, including commercial activities, insurance, board of director fees, tax and accounting services and milestone payments related to ARIKAYCE.

Amortization of Intangible Assets

Upon commercialization of ARIKAYCE, our intangible assets began to be amortized over their estimated useful lives. The fair values assigned to our intangible assets are based on estimates and assumptions we believe are reasonable based on available facts and circumstances. Unanticipated events or circumstances may occur that require us to review the assets for impairment.

Investment Income and Interest Expense

Investment income consists of interest and dividend income earned on our cash and cash equivalents. Interest expense consists primarily of the accretion of debt discount, contractual interest costs and the amortization of debt issuance costs related to our accretion of debt. Debt discount is accreted, and debt issuance costs are amortized, to interest expense using the effective interest rate method over the term of the debt. Our balance sheet reflects debt, net of the debt discount, debt issuance costs paid to the lender, and other third-party costs. Unamortized debt issuance costs associated with extinguished debt are expensed in the period of the extinguishment.

25

RESULTS OF OPERATIONS

Comparison of the Three Months Ended September 30, 2019 and 2018

Overview - Operating Results

Our operating results for the quarter ended September 30, 2019, included the following:

•Total revenues from sales of ARIKAYCE of $38.9 million during the quarter ended September 30, 2019;

•Cost of product revenues (excluding amortization of intangibles) of $6.4 million during the quarter ended September 30, 2019 related to sales of ARIKAYCE;

•Decreased R&D expenses of $5.2 million as compared to the same period in the prior year primarily resulting from construction costs relating to the build-out of the Patheon production facility being included in other assets in 2019 and external manufacturing expenses for ARIKAYCE being included as a component of inventory in 2019;

•Increased SG&A expenses of $8.9 million as compared to the same period in the prior year resulting from milestone payments and other external expenses related to ARIKAYCE;

•Amortization of intangible assets of $1.2 million during the quarter ended September 30, 2019; and

•Increased interest expense of $0.2 million as compared to the same period in the prior year related to accretion of the debt discount on the $450.0 million aggregate principal amount of 1.75% convertible senior notes due 2025 (the Convertible Notes).

Revenues, net

Total revenue consists of net sales of ARIKAYCE, which was approved by the FDA in September 2018 and launched in the US in October 2018. The following table summarizes the sources of revenue for the three months ended September 30, 2019 (in thousands):

	For the Three Months Ended September 30, 2019
Net product revenues, US	$	37,804
Net product revenues, EAPs	1,081
Total revenues, net	$	38,885

Cost of Product Revenues (excluding amortization of intangibles)

Cost of product revenues (excluding amortization of intangible assets) consists primarily of direct and indirect costs related to the manufacturing of ARIKAYCE sold, including third-party manufacturing costs, packaging services, freight, and production-related overhead costs, in addition to royalty and milestone payments. We began capitalizing inventory upon FDA approval of ARIKAYCE. Cost of product revenues (excluding amortization of intangible assets) was $6.4 million during the quarter ended September 30, 2019.

All product costs incurred prior to FDA approval of ARIKAYCE in September 2018 were expensed as R&D expenses. We expect our cost of product revenues (excluding amortization of intangible assets) to continue to be positively impacted during 2019, as we sell through certain inventory that was expensed prior to FDA approval of ARIKAYCE in September 2018.

R&D Expenses

R&D expenses for the quarters ended September 30, 2019 and September 30, 2018 were comprised of the following (in thousands):

26

	Quarters Ended September 30,						Increase (decrease)
	2019		2018		$		%
External Expenses
Clinical development & research	$	8,235	$	8,047	$	188	2.3	%
Manufacturing	3,006		13,130		(10,124)		(77.1)	%
Regulatory, quality assurance, and medical affairs	4,778		2,969		1,809		60.9	%
Subtotal—external expenses	$	16,019	$	24,146	$	(8,127)	(33.7)	%
Internal Expenses
Compensation and benefit related expenses	$	13,177	$	10,064	$	3,113	30.9	%
Stock-based compensation	2,218		2,799		(581)		(20.8)	%
Other internal operating expenses	2,926		2,529		397		15.7	%
Subtotal—internal expenses	$	18,321	$	15,392	$	2,929	19.0	%
Total	$	34,340	$	39,538	$	(5,198)	(13.1)	%

R&D expenses decreased to $34.3 million during the quarter ended September 30, 2019 from $39.5 million in the same period in 2018. The $5.2 million decrease was primarily due to a $10.1 million decrease in external manufacturing expenses, as (i) construction costs relating to the build-out of the Patheon production facility during the quarter ended September 30, 2019 were recorded as other assets, and (ii) raw materials purchased and CMO costs during the quarter ended September 30, 2019 were classified as inventory. This decrease was partially offset by an increase of $3.1 million in compensation and related expenses due to an increase in headcount and an increase of $1.8 million primarily due to increases in regulatory, quality assurance, and medical affairs expenses.

During the quarter ended September 30, 2019, external R&D expenses of $16.0 million consisted of $9.9 million related to ARIKAYCE, $5.0 million related to INS1007, and $1.1 million related to other research expenses. During the quarter ended September 30, 2018, external R&D expenses of $24.1 million consisted of $19.8 million related to ARIKAYCE, $3.3 million related to INS1007, and $1.0 million related to other research expenses.

  SG&A Expenses 

SG&A expenses for the quarters ended September 30, 2019 and September 30, 2018 were comprised of the following (in thousands):

	Quarters Ended September 30,									Increase (decrease)
			2019			2018			$			%
Compensation and benefit related expenses	$	14,836		$	14,513		$	323		2.2	%
Stock-based compensation	4,575			5,103			(528)			(10.3)	%
Professional fees and other external expenses	26,935			20,412			6,523			32.0	%
Facility related and other internal expenses	7,001			4,417			2,584			58.5	%
Total SG&A expenses	$	53,347		$	44,445		$	8,902		20.0	%

SG&A expenses increased to $53.3 million during the quarter ended September 30, 2019 from $44.4 million in the same period in 2018. The $8.9 million increase was primarily due to a $6.5 million increase in professional fees and other external expenses, primarily for milestone payments related to ARIKAYCE, and $2.6 million in facility related and other internal expenses.

Amortization of Intangible Assets

Amortization of intangible assets for the quarter ended September 30, 2019 was $1.2 million and is comprised of amortization of acquired ARIKAYCE R&D and amortization of the milestone paid to PARI for the FDA approval of ARIKAYCE. 

27

Interest Expense

Interest expense was $6.8 million for the quarter ended September 30, 2019 as compared to $6.7 million in the same period in 2018. The $0.2 million increase in interest expense in the quarter ended September 30, 2019 as compared to the prior year period relates to accretion of the debt discount on the Convertible Notes.

Comparison of the Nine Months Ended September 30, 2019 and 2018

Overview - Operating Results

Our operating results for the nine months ended September 30, 2019, included the following:

•Total revenues from sales of ARIKAYCE of $90.8 million during the nine months ended September 30, 2019;

•Cost of product revenues (excluding amortization of intangibles) of $15.5 million during the nine months ended September 30, 2019 related to sales of ARIKAYCE;

•Decreased R&D expenses of $6.3 million as compared to the same period in the prior year primarily resulting from construction costs relating to the build-out of the Patheon production facility being included in other assets in 2019 and external manufacturing expenses for ARIKAYCE being included as a component of inventory in 2019;

•Increased SG&A expenses of $46.3 million as compared to the same period in the prior year resulting from an increase in professional fees and other external expenses related to ARIKAYCE and higher compensation and related expenses due to an increase in headcount;

•Amortization of intangible assets of $3.7 million during the nine months ended September 30, 2019; and

•Increased interest expense of $1.6 million as compared to the same period in the prior year related to interest on the Convertible Notes and accretion of the debt discount.

Revenues, net

Total revenue consists of net sales of ARIKAYCE, which was approved by the FDA in September 2018 and launched in the US in October 2018. The following table summarizes the sources of revenue for the nine months ended September 30, 2019 (in thousands):

	For the Nine Months Ended September 30, 2019
Net product revenues, US	$	87,751
Net product revenues, EAPs	3,008
Total revenues, net	$	90,759

Cost of Product Revenues (excluding amortization of intangibles)

Cost of product revenues (excluding amortization of intangible assets) was $15.5 million during the nine months ended September 30, 2019. All product costs incurred prior to FDA approval of ARIKAYCE in September 2018 were expensed as R&D expenses. We expect our cost of product revenues (excluding amortization of intangible assets) to continue to be positively impacted during 2019, as we sell through certain inventory that was expensed prior to FDA approval of ARIKAYCE in September 2018.

R&D Expenses

R&D expenses for the nine months ended September 30, 2019 and September 30, 2018 were comprised of the following (in thousands):

28

	Nine Months Ended  September 30,						Increase (decrease)
	2019		2018		$		%
External Expenses
Clinical development & research	$	26,301	$	22,785	$	3,516	15.4	%
Manufacturing	7,500		32,010		(24,510)		(76.6)	%
Regulatory, quality assurance, and medical affairs	10,033		8,128		1,905		23.4	%
Subtotal—external expenses	$	43,834	$	62,923	$	(19,089)	(30.3)	%
Internal Expenses
Compensation and benefit related expenses	$	38,909	$	26,985	$	11,924	44.2	%
Stock-based compensation	6,580		7,354		(774)		(10.5)	%
Other internal operating expenses	9,758		8,096		1,662		20.5	%
Subtotal—internal expenses	$	55,247	$	42,435	$	12,812	30.2	%
Total	$	99,081	$	105,358	$	(6,277)	(6.0)	%

R&D expenses decreased to $99.1 million during the nine months ended September 30, 2019 from $105.4 million in the same period in 2018. The $6.3 million decrease was primarily due to a $24.5 million decrease in external manufacturing expenses, as (i) construction costs relating to the build-out of the Patheon production facility during the quarter ended September 30, 2019 were recorded as other assets, and (ii) raw materials purchased and CMO costs during the quarter ended September 30, 2019 were classified as inventory. Partially offsetting the decrease was an $11.9 million increase in compensation and related expenses due to an increase in headcount and an increase of $3.5 million in clinical trial expenses, primarily related to the phase 2 WILLOW trial for INS1007.

During the nine months ended September 30, 2019, external R&D expenses of $43.8 million consisted of $22.9 million related to ARIKAYCE, $16.6 million related to INS1007, and $4.3 million related to other research expenses. During the nine months ended September 30, 2018, external R&D expenses of $62.9 million consisted of $52.4 million related to ARIKAYCE, $8.4 million related to INS1007, and $2.1 million related to other research expenses.

  SG&A Expenses 

SG&A expenses for the nine months ended September 30, 2019 and September 30, 2018 were comprised of the following (in thousands):

	Nine Months Ended September 30,									Increase (decrease)
			2019			2018			$			%
Compensation and benefit related expenses	$	50,573		$	40,286		$	10,287		25.5	%
Stock-based compensation	14,503			12,851			1,652			12.9	%
Professional fees and other external expenses	74,566			47,947			26,619			55.5	%
Facility related and other internal expenses	20,948			13,174			7,774			59.0	%
Total SG&A expenses	$	160,590		$	114,258		$	46,332		40.6	%

SG&A expenses increased to $160.6 million during the nine months ended September 30, 2019 from $114.3 million in the same period in 2018. The $46.3 million increase was primarily due to a $26.6 million increase in professional fees and other external expenses related to ARIKAYCE, including disease awareness, patient support activities, field operations, other professional fees, and milestone payments related to ARIKAYCE. In addition, SG&A increased $10.3 million due to higher compensation and related expenses from an increase in headcount.

Amortization of Intangible Assets

Amortization of intangible assets for the nine months ended September 30, 2019 was $3.7 million and is comprised of amortization of acquired ARIKAYCE R&D and amortization of the milestone paid to PARI for the FDA approval of ARIKAYCE. 

29

Interest Expense

Interest expense was $20.4 million for the nine months ended September 30, 2019 as compared to $18.8 million in the same period in 2018. The $1.6 million increase in interest expense in the nine months ended September 30, 2019 as compared to the prior year period relates to interest on the Convertible Notes issued in late January 2018 and accretion of the debt discount. The interest expense on the Convertible Notes is based on an effective interest rate of 7.6%.

LIQUIDITY AND CAPITAL RESOURCES

Overview

There is considerable time and cost associated with developing a potential pharmaceutical product to the point of regulatory approval and commercialization. In recent years, we have funded our operations through public offerings of equity securities and debt financings. We commenced commercial shipments of ARIKAYCE beginning in October 2018. We expect to continue to incur operating losses at our US and certain international entities, as we plan to fund R&D for ARIKAYCE and our other pipeline programs, continue commercial launch activities for ARIKAYCE in the US, continue to invest in pre-commercial and regulatory activities for ARIKAYCE in Europe and Japan, and other general and administrative activities.

In the second quarter of 2019, we completed an underwritten public offering of 10,657,692 shares of common stock, which included the underwriters' exercise in full of its over-allotment option of 1,042,307 shares from the Company at a price to the public of $26.00, less underwriting discounts and commissions. Our net proceeds from the sale of the shares, after deducting the underwriting discounts and commissions and offering expenses of $16.0 million, were $261.1 million. The offering also included the sale of 400,000 shares from our Chairman and Chief Executive Officer, from which we received no proceeds.

In January 2018, we completed an underwritten public offering of $450.0 million aggregate principal amount of Convertible Notes, including the exercise in full of the underwriter's option to purchase additional Convertible Notes. Our net proceeds from the offering, after deducting underwriting discounts and commissions and other offering expenses of $14.2 million, were $435.8 million.

We may need to raise additional capital to fund our operations, including continued commercialization of ARIKAYCE and future clinical trials related to ARIKAYCE, to develop INS1007 and INS1009, and to develop, acquire, in-license or co-promote other products, including those that address orphan or rare diseases. We believe we currently have sufficient funds to meet our financial needs for at least the next 12 months. We expect to opportunistically raise additional capital and may do so through equity or debt financing(s), strategic transactions or otherwise. We expect such additional funding, if any, would be used to continue to commercialize ARIKAYCE, to conduct further trials of ARIKAYCE, to develop our product candidates, or to pursue the license or purchase of other technologies or products and product candidates. During the next twelve months, we plan to support the ongoing commercial launch of ARIKAYCE in the US, to continue to fund further clinical development of ARIKAYCE and INS1007, and to fund our global expansion efforts to support pre-commercial activities in Europe and Japan including obtaining regulatory approvals for ARIKAYCE in those regions. Our cash requirements for the next twelve months will be impacted by a number of factors, the most significant of which we expect to be expenses related to the commercialization efforts for ARIKAYCE, expenses related to the WILLOW trial for INS1007, and to a lesser extent, future ARIKAYCE clinical trials.

Cash Flows

As of September 30, 2019, we had cash and cash equivalents of $535.6 million, as compared with $495.1 million as of December 31, 2018. The $40.6 million increase was due to cash provided by financing activities related to cash proceeds received from our underwritten public offering offset, in large part, by cash used in operating activities and, to a lesser extent, cash used in investing activities. Our working capital was $510.2 million as of September 30, 2019 as compared with $439.2 million as of December 31, 2018.

Net cash used in operating activities was $206.2 million and $187.8 million for the nine months ended September 30, 2019 and 2018, respectively. The net cash used in operating activities during the nine months ended September 30, 2019 and 2018 was primarily for the commercial (in 2019), pre-commercial (in 2018), clinical and manufacturing activities related to ARIKAYCE, as well as other SG&A expenses. In addition, net cash used in operating activities during both the nine months ended September 30, 2019 and 2018 included clinical trial expenses related to INS1007. Beginning in 2019, certain payments related to the long-term production capacity build-out at Patheon that are currently classified as other assets will be reclassified to operating lease right-of-use assets on our balance sheet upon the lease inception date.

30

Net cash used in investing activities was $29.2 million and $10.1 million for the nine months ended September 30, 2019 and 2018, respectively. The net cash used in investing activities during the nine months ended September 30, 2019 and 2018 was primarily related to our new corporate headquarters and the purchase of fixed assets for our long-term production capacity build-out at Patheon. We expect our cash used in investing activities to increase for the year ended December 31, 2019 compared to the year ended December 31, 2018 due primarily to these two strategic investments.

Net cash provided by financing activities was $276.0 million and $384.3 million for the nine months ended September 30, 2019 and 2018, respectively. Net cash provided by financing activities for the nine months ended September 30, 2019 was primarily due to cash proceeds from our underwritten public offering, as well as stock option exercises and our employee stock purchase plan. Net cash provided by financing activities for the nine months ended September 30, 2018 included net cash proceeds of $435.8 million from our issuance of Convertible Notes in January 2018, partially offset by the February 2018 pay-off of our outstanding debt to Hercules Capital in the amount of $55.0 million.

Contractual Obligations

There were no material changes outside of the ordinary course of business in our contractual obligations during the nine months ended September 30, 2019 from those disclosed in Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Contractual Obligations” in our Annual Report on Form 10-K for the year ended December 31, 2018. 

Off-Balance Sheet Arrangements

We do not have any off-balance sheet arrangements that have or are reasonably likely to have a current or future material effect on our financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources. We do not have any interest in special purpose entities, structured finance entities or other variable interest entities.

CRITICAL ACCOUNTING POLICIES

There have been no material changes to our critical accounting policies as disclosed in our Annual Report on Form 10-K for the year ended December 31, 2018. For the required interim disclosure updates related to our accounting policies, see Note 2 to our consolidated financial statements — Summary of Significant Accounting Policies in this Quarterly Report on Form 10-Q.

ITEM 3.                                               QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

As of September 30, 2019, our cash and cash equivalents were in cash accounts and money market funds. Our investments in money market funds are not insured by the federal government.

As of September 30, 2019, we had $450.0 million of Convertible Notes outstanding which bear interest at a coupon rate of 1.75%. If a 10% change in interest rates had occurred on September 30, 2019, it would not have had a material effect on the fair value of our debt as of that date, nor would it have had a material effect on our future earnings or cash flows.

The majority of our business is conducted in US dollars. However, we do conduct certain transactions in other currencies, including Euros, British Pounds, and Japanese Yen. Historically, fluctuations in foreign currency exchange rates have not materially affected our results of operations and during the nine months ended September 30, 2019 and 2018, our results of operations were not materially affected by fluctuations in foreign currency exchange rates.

ITEM 4.                                               CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

Our management, under the supervision and with the participation of our Chief Executive Officer and Principal Financial Officer, evaluated the effectiveness of our disclosure controls and procedures as of September 30, 2019. The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Securities and Exchange Act of 1934, as amended (the Exchange Act), means controls and other procedures that are designed to provide reasonable assurance that information required to be disclosed by us in the reports that we file or submit with the SEC is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms, and to ensure that such information is accumulated and communicated to our management, including our Chief Executive Officer and Principal Financial Officer, as appropriate to allow timely decisions regarding required disclosure. Based on that evaluation as of September 30, 2019, our

31

Chief Executive Officer and Principal Financial Officer have concluded that our disclosure controls and procedures were effective at the reasonable assurance level.

Changes in Internal Control Over Financial Reporting

During the nine months ended September 30, 2019, we implemented processes and internal controls related to the January 1, 2019 adoption of ASU 2016-02. The implementation of these processes resulted in material changes to our internal control over financial reporting. The operating effectiveness of these changes will be evaluated as part of our annual assessment of the effectiveness of internal control over financial reporting for the fiscal year ended December 31, 2019.

PART II. OTHER INFORMATION

ITEM 1.                                               LEGAL PROCEEDINGS

From time to time, we are party to various lawsuits, claims and other legal proceedings that arise in the ordinary course of our business. While the outcomes of these matters are uncertain, management does not expect that the ultimate costs to resolve these matters will have a material adverse effect on our consolidated financial position, results of operations or cash flows.

ITEM 1A.                                      RISK FACTORS

There have been no material changes during the quarter ended September 30, 2019 to our risk factors as previously disclosed in our Annual Report on Form 10-K for the year ended December 31, 2018.

ITEM 2.  UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

There were no unregistered sales of the Company’s equity securities by the Company during the quarter ended September 30, 2019.

32

ITEM 6. EXHIBITS

Exhibit Index

3.1	Articles of Incorporation of Insmed Incorporated, as amended through June 14, 2012 (incorporated by reference from Exhibit 3.1 to Insmed Incorporated’s Annual Report on Form 10-K filed on March 18, 2013).
3.2	Amended and Restated Bylaws of Insmed Incorporated (incorporated by reference from Exhibit 3.1 to Insmed Incorporated’s Quarterly Report on Form 10-Q filed on August 6, 2015).
31.1	Certification of William H. Lewis, Chairman and Chief Executive Officer (Principal Executive Officer) of Insmed Incorporated, pursuant to Rules 13a-14(a) and 15d-14(a) promulgated under the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes Oxley Act of 2002.
31.2	Certification of John Goll, Chief Accounting Officer (Principal Financial Officer) of Insmed Incorporated, pursuant to Rules 13a-14(a) and 15d-14(a) promulgated under the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes Oxley Act of 2002.
32.1	Certification of William H. Lewis, Chairman and Chief Executive Officer (Principal Executive Officer) of Insmed Incorporated, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes Oxley Act of 2002.
32.2	Certification of John Goll, Chief Accounting Officer (Principal Financial Officer) of Insmed Incorporated, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes Oxley Act of 2002.
101	The following materials from Insmed Incorporated’s quarterly report on Form 10-Q for the quarter ended September 30, 2019 formatted in iXBRL (Inline eXtensible Business Reporting Language): (i) Consolidated Balance Sheets as of September 30, 2019 and December 31, 2018, (ii) Consolidated Statements of Comprehensive Loss for the three and nine months ended September 30, 2019 and 2018, (iii) Consolidated Statements of Shareholders' Equity for the three and nine months ended September 30, 2019 and 2018, (iv) Consolidated Statements of Cash Flows for the nine months ended September 30, 2019 and 2018, (v) Notes to the Unaudited Consolidated Financial Statements, and (vi) Cover Page.
104	The cover page from the Quarterly Report on Form 10-Q for the quarter ended September 30, 2019, formatted in iXBRL and contained in Exhibit 101.

33

SIGNATURE

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

		INSMED INCORPORATED
Date: October 30, 2019	By	/s/ John Goll
		John Goll
		Chief Accounting Officer
		(Principal Financial and Accounting Officer)

34