| Summary of Significant Accounting Policies | 2. Summary of Significant Accounting Policies
Basis of Presentation
The Company’s condensed consolidated financial statements include the accounts of Supernus Pharmaceuticals, Inc., Supernus Europe Ltd., Biscayne Neurotherapeutics, Inc. and its wholly-owned subsidiary, Biscayne Neurotherapeutics Australia Pty Ltd., collectively referred to herein as “Supernus” or “the Company.” All significant intercompany transactions and balances have been eliminated in consolidation.
The Company’s unaudited condensed consolidated financial statements have been prepared in accordance with the requirements of the U.S. Securities and Exchange Commission (SEC) for interim financial information. As permitted under Generally Accepted Accounting Principles in the United States (U.S. GAAP), certain notes and other information have been omitted from the interim unaudited condensed consolidated financial statements presented in this Quarterly Report on Form 10-Q. Therefore, these financial statements should be read in conjunction with the Company’s most recent annual report on Form 10-K for the year ended December 31, 2018, filed with the SEC.
In management’s opinion, the condensed consolidated financial statements include all normal and recurring adjustments necessary for a fair presentation of the Company’s financial position, results of operations and cash flows. The results of operations for any interim period are not necessarily indicative of the Company’s future quarterly or annual results.
The Company, which is primarily located in the United States (U.S.), operates in one operating segment.
Use of Estimates
The Company bases its estimates on: historical experience; various forecasts; information received from its service providers; and other assumptions that the Company believes are reasonable under the circumstances. Actual results could differ materially from the Company’s estimates. The Company evaluates the methodology employed in its estimates on an ongoing basis.
Revenue Recognition
The Company recognizes revenue when control of goods or provision of services are transferred to the Company's customers, in an amount that reflects the consideration the Company expects to receive in exchange for those goods or services. The Company does not adjust revenue for any financing effects for transactions where the Company expects the period between the transfer of the goods or services and collection to be less than one year.
There were no contract assets or liabilities recorded as of March 31, 2019.
Revenue from Product Sales
The Company’s products are distributed through a third party fulfillment center. The Company’s customers, who are primarily pharmaceutical wholesalers and distributors, purchase product to fulfill orders from retail pharmacy chains and independent pharmacies of varying size and buying power. The Company recognizes gross revenue when its products are shipped from its fulfillment center to its customers and the customers take control of the products. The Company’s customers take control of the products, including title and ownership, upon physical receipt of the products at their facilities.
Product sales are recorded net of various forms of variable consideration, including estimated rebates, discounts, allowances, and an estimated liability for future product returns (collectively, “sales deductions”).
Variability in the net transaction price for the Company’s products primarily arises from sales deductions, as described below. Significant judgment is required in estimating sales deductions. In estimating sales deductions the Company considers: historical experience; current contract prices under applicable programs; unbilled claims; processing time lags; and inventory levels in the distribution channel. The Company adjusts its estimates of revenue either when the most likely amount of consideration it expects to receive changes, or when the consideration becomes fixed.
If actual results in the future vary from estimates, the Company adjusts these estimates. These adjustments could materially affect net product sales and earnings in the period that such adjustments become known.
Sales Deductions
Sales deductions are primarily comprised of rebates, product returns and sales discounts. The Company records product sales net of the following sales deductions:
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Rebates : Rebates are discounts which the Company pays under either private sector or public sector health care programs. Public sector rebate programs encompass: various Medicaid Drug Rebate Programs; Medicare Coverage Gap Programs; and programs covering public health service institutions and government entities. All federal employees and agencies purchase drugs under the Federal Supply Schedule. Private sector rebate programs include: contractual agreements with managed care providers, under which the Company pays fees to gain access to that provider's patient drug formulary; Company sponsored programs, under which the Company defrays or eliminates patient co-payment charges that the patient would otherwise pay to their managed care provider. Rebates paid under public sector programs are generally mandated under law, whereas private sector rebates are generally contractually negotiated by the Company with managed care providers.
Rebates are owed upon dispensing product to a patient (i.e., filling a prescription. The accrual balance consists of three components). First, because rebates are generally invoiced and paid quarterly in arrears, the accrual balance consists of an estimate of the amount expected to be incurred for prescriptions dispensed in the current quarter. Second, the accrual balance also includes an estimate for known or estimated prior quarters' unpaid rebates, to cover prescriptions dispensed in past quarters. Third, the accrual balance includes an estimate for rebates that will be prospectively owed, for prescriptions filled in future quarters (i.e., for product which has been sold to wholesalers or distributors, and which resides either as wholesaler/distributor inventory, or is held as inventory at pharmacies).
Because the period from the date on which the prescription is filled to the date the Company receives and pays the invoice varies, the Company's estimates of expected rebate claims vary by program and by type of customer. For each of its products, the Company bases its estimates of expected rebate claims on multiple factors, including historical levels of deductions; contractual terms with managed care providers; actual and anticipated changes in product price; prospective changes in managed care fee for service contractual agreements; prospective changes in co-pay assistance programs; and anticipated changes in program utilization rates (i.e., patient participation rates).
The sensitivity of the Company's estimates can vary by program and by type of customer. If actual rebates vary from estimated amounts, the Company may need to adjust the balances of such accrued rebates to reflect actual expenditures with respect to these programs. These changes could materially affect net product sales and earnings in the period of adjustment. The Company records an estimated liability for rebates at the time the customer takes title to the product (i.e., at the time of sale to wholesalers/distributors), and records this liability as a reduction to gross product sales and an increase in Accrued product returns and rebates in current liabilities.
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Returns : Sale of the Company's products are not subject to a general right of return. Product that has been used to fill patient prescriptions is no longer subject to any right of return. However, the Company will accept return of product that is damaged or defective when shipped from its warehouse. In addition, the Company will accept return of expired product six months prior to and up to 12 months subsequent to the product's expiry date. Expired or defective returned product cannot be re-sold and is therefore destroyed.
The Company estimates the liability for returns based on the actual returns experience for its two commercial products, in conjunction with industry experience for return of similar products (i.e., ambient temperature storage for oral formulations). Because the Company's products have not reached maturity, the return rate of its products has and is expected to continue to vary. The Company records an estimated liability for product returns at the time the customer takes title to the product (i.e., at time of sale) as a reduction to gross product sales and an increase in Accrued product returns and rebates in current liabilities.
The Company's estimated liability for product returns is also affected by price increases taken subsequent to the date of sale. The Company's products have a shelf life of 36 to 48 months from date of manufacture. Because of the extended shelf life coupled with its return policy, there typically is a significant time lag between the time at which the product is sold and when the Company issues credit on expired product. The Company's policy generally permits product returns to be processed at current wholesaler price rather than historical price. Therefore, price increase(s) taken during the current period increase(s) the provision for product returns because it affects the estimated liability for product returns for both sales made in the current period as well as sales made in prior periods. When the Company adjusts its estimates for product returns, either favorably or unfavorably, this affects product sales and earnings in the period of adjustment.
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Sales discounts : Distributors and wholesalers of pharmaceutical products are generally offered various forms of consideration, including allowances, service fees and prompt payment discounts, for distributing products. Distributor and wholesaler allowances and service fees arise from contractual agreements and are estimated as a percentage of the price at which the Company sells product to them. In addition, they are offered a prompt pay discount for payment within a specified period.
The Company accounts for these discounts at the time of sale as a reduction to gross product sales, and records these amounts as an Accounts receivable valuation allowance .
Customer orders are generally fulfilled within a few days of receipt, resulting in minimal order backlog. Open purchase orders for products from customers are expected to be fulfilled within the next 12 months. There are no minimum product purchase requirements.
License Revenues
License and Collaboration Agreements
The Company has entered into collaboration agreements to commercialize both Oxtellar XR and Trokendi XR outside of the U.S., which involve the right to use the Company’s intellectual property as a functional license. These agreements generally include an up-front license fee and ongoing milestone payments upon the achievement of specific events. These agreements may also require minimum royalty payments based on sales of products developed from the applicable intellectual property.
Up-front license fees are recognized once the license has been delivered to the customer.
Milestones are a form of variable consideration that are recognized when either the underlying events have been achieved (i.e., event-based milestone) or the sales-based targets have been met by the collaborative partner (i.e., sales-based milestone). Both types of milestone payments are non-refundable. The Company evaluates whether achieving the milestones is considered probable and estimates the amount to be included in the transaction price using the most likely amount method. This can involve management's judgment that includes assessing factors that are outside of the Company's influence, such as: likelihood of regulatory success; availability of third party information; and expected duration of time until achievement of event. These factors are evaluated based on the specific facts and circumstances. If it is probable that a significant revenue reversal would not occur, the value of the associated milestone is included in the transaction price.
Event-based milestones are recognized in the period that the related event, such as regulatory approval, occurs. Milestone payments that are not within the control of the Company, such as approval from regulatory authorities, or where attainment of the specified event is dependent on the success of a third-party, are not considered probable of being achieved until the specified event occurs. Sales-based milestones are recognized as revenue when the sales-based target is achieved. Revenue is recognized from the satisfaction of performance obligations in the amount billable to the customer.
Revenue associated with future milestones will be recognized when the related event occurs or sales-based target is achieved. There are no guaranteed minimum amounts owed to the Company related to license and collaboration agreements.
Royalty Revenues
The Company recognizes non-cash royalty revenue for amounts earned pursuant to a royalty agreement with United Therapeutics Corporation (United Therapeutics) that involves the right to use the Company’s intellectual property as a functional license. In 2014, the Company sold certain of these royalty rights to Healthcare Royalty Partners III, L.P. (HC Royalty) (see Note 17, Commitments and Contingencies ). Accordingly, the Company records non-cash royalty revenue based on estimated product sales by United Therapeutics, in which those product sales result in payments made from United Therapeutics to HC Royalty in connection with these agreements.
Royalty revenue also includes royalty amounts received from collaboration partners, including from Shire Plc (Shire) (now a subsidiary of Takeda Pharmaceutical Company Ltd), based on net product sales of Shire's product, Mydayis, in the current period. Royalty revenue is only recognized when the underlying product sale by Shire occurs. The Shire arrangement also involves the right to use the Company's intellectual property as a functional license.
There are no guaranteed minimum amounts owed to the Company related to any royalty revenue agreement.
Preclinical Study and Clinical Trial Accruals
The Company estimates preclinical study and clinical trial expenses based on the services performed pursuant to contracts with research institutions, clinical investigators, clinical research organizations (CROs) and other service providers that conduct activities on the Company’s behalf. In recording service fees, the Company estimates the time period over which the related services are performed and compares the level of effort expended through the end of each period with the cumulative expenses recorded and payments made for such services. As appropriate, the Company accrues additional service fees or defers any non-refundable advance payments until the related services are performed. If the actual timing of the performance of services or the level of effort varies from the estimate, the Company adjusts its accrued expenses or its deferred advance payments accordingly. If the Company later determines that it no longer expects the services associated with a nonrefundable advance payment to be rendered, the remaining portion of that advance payment is charged to expense in the period in which such determination is made.
Share-Based Compensation
The Company recognizes share-based compensation expense over the service period using the straight-line method. Employee share-based compensation is measured based on estimated fair value as of the grant date. The Company uses the Black-Scholes option-pricing model in calculating the fair value of option grants as of the grant date. The Company uses the following assumptions for estimating fair value of option grants:
Fair Value of Common Stock —The fair value of the common stock underlying the option grants is determined based on observable market prices of the Company's common stock.
Expected Volatility —Volatility is a measure of the amount by which the Company’s share price has fluctuated (historical volatility) or is expected to fluctuate (expected volatility) during a period. Beginning in the first quarter of 2019, the Company uses the historical volatility of its common stock to measure expected volatility for future option grants. Prior to 2019, the Company used the volatility of the common stock of several public entities of similar size, complexity, and stage of development. Prior to the first quarter of 2019, volatility was estimated using the volatility of the stock of these companies, as well as taking into consideration the Company's actual volatility since the Company's IPO in 2012.
Dividend Yield —The Company has never declared or paid dividends, and has no plans to do so in the foreseeable future.
Expected Term — This is the period of time during which options are expected to remain unexercised. Options have a maximum contractual term of ten years. Beginning in the first quarter of 2019, the Company determines the average expected life of stock options using its historical experience. Prior to the first quarter of 2019, the Company determined the average expected life of stock options according to the "simplified method", as described in Staff Accounting Bulletin 110, which is the mid-point between the vesting date and the end of the contractual term.
Risk-Free Interest Rate —This is the U.S. Treasury note rate as of the week each option grant is issued, with a term that most closely resembles the expected term of the option.
Expected Forfeiture Rate —Forfeitures are accounted for as they occur.
Self-insurance Liabilities
As of January 1, 2019, the Company self-insures its employee medical insurance liability. The self-insurance liability is undiscounted and determined actuarially. It is based on claims filed, historical and industry claims experience, and an estimate of claims incurred but not yet paid. The Company has established stop-loss amounts that limit the Company’s further exposure after a claim reaches the designated stop-loss threshold. The stop-loss limit for self-insured employee medical claims is $150,000 per employee per year.
The Company recorded self-insurance liability of approximately $515,000 as of March 31, 2019 in Accrued expenses and other current liabilities in the condensed consolidated balance sheets.
Advertising Expense
Advertising expense includes costs of promotional materials and activities, such as marketing materials, marketing programs and speaker programs. The costs of the Company’s advertising efforts are expensed as incurred.
The Company incurred approximately $9.9 million and $7.9 million in advertising costs for the three month periods ended March 31, 2019 and 2018, respectively. These expenses are recorded in Selling, general and administrative expenses in the condensed consolidated statements of earnings.
Recently Issued Accounting Pronouncement s
Accounting Pronouncements Adopted
In February 2016, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) No. 2016-02, “Leases (Topic 842)” and its related amendments (New Lease Standard). The New Lease Standard requires a lessee to recognize a right-of-use (ROU) lease asset and a corresponding lease liability on the balance sheet. The Company adopted the New Lease Standard on January 1, 2019 using the modified retrospective method, which applies the provision of the New Lease Standard at the effective date without adjusting comparative periods presented. In addition, the Company elected the package of practical expedients permitted under the transition guidance within the New Lease Standard which, among other things, allowed the Company to carry forward the historical lease classification.
The adoption of the New Lease Standard resulted in the recognition of lease assets and lease liabilities for operating leases as of January 1, 2019 of approximately $4.0 million. Financial reporting for periods on or after January 1, 2019 are presented under the new guidance. Prior period amounts are not adjusted and continue to be reported in accordance with previous guidance. The standard did not materially impact the Company’s condensed consolidated net earnings and had no impact on cash flows (see Note 14, Leases ).
New Accounting Pronouncements Not Yet Adopted
In June 2016, the FASB issued ASU 2016-13 , Financial Instruments—Credit Losses (Topic 326), which requires credit losses on financial assets measured on an amortized cost basis to be presented at the net amount expected to be collected, rather than based on incurred losses. Further, credit losses on available-for-sale debt securities should be recorded through an allowance for credit losses, limited to the amount by which fair value is below amortized cost. The new standard also requires enhanced disclosure of credit risk associated with respective assets.
The standard is effective for fiscal years beginning after December 15, 2019, for interim and annual periods within those years, with early adoption permitted. The Company is currently assessing the impact of this new standard. The Company does not expect it to have a material impact. |
