United Therapeutics Corporation
UNITED THERAPEUTICS CORP (Form: 10-Q, Received: 10/29/2009 07:01:20)

Table of Contents

 

=

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

(Mark One)

 

x

 

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

 

For the quarterly period ended September 30, 2009

 

OR

 

o

 

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 0-26301

 

United Therapeutics Corporation

(Exact Name of Registrant as Specified in Its Charter)

 

Delaware

 

52-1984749

(State or Other Jurisdiction of

 

(I.R.S. Employer

Incorporation or Organization)

 

Identification No.)

 

 

 

1110 Spring Street, Silver Spring, MD

 

20910

(Address of Principal Executive Offices)

 

(Zip Code)

 

(301) 608-9292

(Registrant’s Telephone Number, Including Area Code)

 

 

(Former Name, Former Address and Former Fiscal Year, If Changed Since Last Report)

 

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  o

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted 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 and post such files).  Yes  o No  o

 

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

 

Large accelerated filer x

 

Accelerated filer o

 

 

 

Non-accelerated filer o

 

Smaller reporting company o

(do not check if a smaller reporting company)

 

 

 

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

 

The number of shares outstanding of the issuer’s common stock, par value $.01 per share, as of October 25, 2009 was 53,839,788.

 

 

 



Table of Contents

 

INDEX

 

 

 

Page

 

 

 

Part I.

FINANCIAL INFORMATION (UNAUDITED)

3

 

 

 

Item 1.

Consolidated Financial Statements

3

 

 

 

 

Consolidated Balance Sheets

3

 

 

 

 

Consolidated Statements of Operations

4

 

 

 

 

Consolidated Statements of Cash Flows

5

 

 

 

 

Notes to Consolidated Financial Statements

6

 

 

 

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

20

 

 

 

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

32

 

 

 

Item 4.

Controls and Procedures

33

 

 

 

Part II.

OTHER INFORMATION

33

 

 

 

Item 1.

Legal Proceedings

33

 

 

 

Item 1A.

Risk Factors

33

 

 

 

Item 6.

Exhibits

44

 

 

 

SIGNATURES

45

 

2



Table of Contents

 

PART I. FINANCIAL INFORMATION

Item 1. Consolidated Financial Statements

 

UNITED THERAPEUTICS CORPORATION

CONSOLIDATED BALANCE SHEETS

(In thousands, except per share data)

 

 

 

September 30,
2009

 

December 31,
2008

 

 

 

(Unaudited)

 

(As Adjusted)(1)

 

Assets

 

 

 

 

 

Current assets:

 

 

 

 

 

Cash and cash equivalents

 

$

134,502

 

$

129,452

 

Marketable investments

 

100,994

 

106,596

 

Accounts receivable, net of allowance of $60 and none at September 30, 2009 and December 31, 2008

 

45,645

 

28,311

 

Other receivable

 

3,323

 

2,289

 

Prepaid expenses

 

8,137

 

11,600

 

Inventories, net

 

24,814

 

14,372

 

Deferred tax assets

 

4,736

 

4,827

 

Total current assets

 

322,151

 

297,447

 

Marketable investments

 

129,493

 

100,270

 

Marketable investments and cash—restricted

 

39,807

 

45,755

 

Goodwill and other intangibles, net

 

19,416

 

7,838

 

Property, plant, and equipment, net

 

299,260

 

222,717

 

Deferred tax assets

 

178,007

 

178,842

 

Other assets ($7,184 and $7,685 at September 30, 2009 and December 31, 2008, respectively, measured under the fair value option)

 

16,593

 

21,665

 

Total assets

 

$

1,004,727

 

$

874,534

 

 

 

 

 

 

 

Liabilities and Stockholders’ Equity

 

 

 

 

 

Current liabilities:

 

 

 

 

 

Accounts payable

 

$

17,688

 

$

20,334

 

Accrued expenses

 

27,000

 

20,853

 

Other current liabilities

 

39,814

 

16,506

 

Convertible senior notes

 

216,525

 

 

Total current liabilities

 

301,027

 

57,693

 

Convertible senior notes

 

 

205,691

 

Lease obligation

 

30,057

 

29,261

 

Other liabilities

 

23,204

 

15,673

 

Total liabilities

 

354,288

 

308,318

 

Commitments and contingencies:

 

 

 

 

 

Common stock subject to repurchase

 

10,882

 

10,882

 

Stockholders’ equity:

 

 

 

 

 

Preferred stock, par value $.01, 10,000,000 shares authorized, no shares issued

 

 

 

Series A junior participating preferred stock, par value $.01, 100,000 authorized, no shares issued

 

 

 

Common stock, par value $.01, 100,000,000 shares authorized, 56,262,808 and 55,324,302 shares issued at September 30, 2009, and December 31, 2008, respectively, and 53,801,218 and 52,862,712 outstanding at September 30, 2009, and December 31, 2008, respectively

 

282

 

276

 

Additional paid-in capital

 

781,435

 

722,293

 

Accumulated other comprehensive loss

 

(3,630

)

(5,913

)

Treasury stock at cost, 2,461,590 shares at September 30, 2009 and December 31, 2008

 

(67,395

)

(67,395

)

Accumulated deficit

 

(71,135

)

(93,927

)

Total stockholders’ equity

 

639,557

 

555,334

 

Total liabilities and stockholders’ equity

 

$

1,004,727

 

$

874,534

 

 

See accompanying notes to consolidated financial statements.

 


(1) Adjusted retrospectively for the adoption of guidance pertaining to convertible debt instruments that may be settled in cash upon conversion included in Financial Accounting Standards Board (FASB) Accounting Standards Codification™ (ASC) 470-20, Debt with Conversion Options and Other Options (FASB ASC 470-20) . Prior to the introduction of FASB ASC 470-20, this guidance was formerly provided under FASB Staff Position No. APB 14-1, Accounting for Convertible Debt Instruments That May Be Settled in Cash Upon Conversion (Including Partial Cash Settlement) (FSP APB 14-1). See Note 9 —Debt—Adoption of FASB ASC 470-20 (Formerly FSP APB 14-1).

 

3



Table of Contents

 

UNITED THERAPEUTICS CORPORATION

CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands, except per share data)

 

 

 

Three Months Ended
September 30,

 

Nine Months Ended
September 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

 

 

 

 

As Adjusted (1)

 

 

 

As Adjusted (1)

 

 

 

(Unaudited)

 

(Unaudited)

 

Revenues:

 

 

 

 

 

 

 

 

 

Net product sales

 

$

94,058

 

$

72,149

 

$

251,925

 

$

196,799

 

Service sales

 

2,876

 

2,324

 

8,054

 

6,944

 

License fees

 

281

 

559

 

946

 

1,892

 

Total revenues

 

97,215

 

75,032

 

260,925

 

205,635

 

 

 

 

 

 

 

 

 

 

 

Operating expenses:

 

 

 

 

 

 

 

 

 

Research and development

 

31,551

 

19,213

 

81,156

 

59,430

 

Selling, general and administrative

 

41,172

 

30,018

 

119,761

 

72,442

 

Cost of product sales

 

11,576

 

6,950

 

28,657

 

19,689

 

Cost of service sales

 

1,179

 

791

 

3,168

 

2,270

 

Total operating expenses

 

85,478

 

56,972

 

232,742

 

153,831

 

Income from operations

 

11,737

 

18,060

 

28,183

 

51,804

 

 

 

 

 

 

 

 

 

 

 

Other (expense) income:

 

 

 

 

 

 

 

 

 

Interest income

 

1,085

 

2,311

 

4,141

 

8,723

 

Interest expense

 

(3,331

)

(2,624

)

(9,216

)

(8,909

)

Equity (loss) income in affiliate

 

(42

)

1

 

(99

)

(155

)

Other, net

 

(403

)

(493

)

491

 

32

 

Total other (expense) income, net

 

(2,691

)

(805

)

(4,683

)

(309

)

Income before income tax

 

9,046

 

17,255

 

23,500

 

51,495

 

Income tax benefit (expense)

 

2,891

 

(6,285

)

(708

)

(18,752

)

Net income

 

$

11,937

 

$

10,970

 

$

22,792

 

$

32,743

 

Net income per common share:

 

 

 

 

 

 

 

 

 

Basic

 

$

0.22

 

$

0.24

 

$

0.43

 

$

0.72

 

Diluted

 

$

0.21

 

$

0.22

 

$

0.41

 

$

0.66

 

Weighted average number of common shares outstanding:

 

 

 

 

 

 

 

 

 

Basic

 

53,455

 

45,868

 

53,108

 

45,248

 

Diluted

 

57,653

 

50,964

 

55,297

 

49,414

 

 

See accompanying notes to consolidated financial statements.

 


(1) Adjusted for the retrospective adoption of guidance set forth under FASB ASC 470-20, formerly FSP APB 14-1. See Note 9— Debt—Adoption of FASB ASC 470-20 (Formerly FSP APB 14-1).

 

4



Table of Contents

 

UNITED THERAPEUTICS CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

 

 

 

Nine Months Ended
September 30,

 

 

 

2009

 

2008

 

 

 

 

 

(as adjusted)(1)

 

 

 

(Unaudited)

 

 

 

 

 

 

 

Cash flows from operating activities:

 

 

 

 

 

Net income

 

$

22,792

 

$

32,743

 

Adjustments to reconcile net income to net cash provided by operating activities:

 

 

 

 

 

Depreciation and amortization

 

6,673

 

3,146

 

Provision for bad debt and inventory obsolescence

 

985

 

499

 

Deferred tax expense

 

708

 

18,752

 

Share-based compensation

 

73,712

 

27,158

 

Amortization of debt discount and debt issue costs

 

11,685

 

10,907

 

Amortization of discount or premium on investments

 

1,132

 

(993

)

Equity loss in affiliate and other

 

(3,248

)

(1,724

)

Excess tax benefits from share-based compensation

 

(2,710

)

(19,105

)

Changes in operating assets and liabilities:

 

 

 

 

 

Accounts receivable

 

(17,345

)

(7,541

)

Inventories

 

(8,965

)

(1,007

)

Prepaid expenses

 

3,478

 

(1,052

)

Other assets

 

(5,889

)

(8,540

)

Accounts payable

 

(2,723

)

14,113

 

Accrued expenses

 

6,182

 

3,691

 

Other liabilities

 

(12,826

)

6,695

 

Net cash provided by operating activities

 

73,641

 

77,742

 

 

 

 

 

 

 

Cash flows from investing activities:

 

 

 

 

 

Purchases of property, plant and equipment

 

(73,893

)

(87,855

)

Acquisition of Tyvaso Inhalation System business

 

(3,378

)

 

Purchases of held-to-maturity investments

 

(212,230

)

(288,878

)

Purchases of available-for-sale investments

 

 

(24,600

)

Sales of available-for-sale investments

 

 

36,850

 

Redemptions of trading investments

 

225

 

 

Maturities of held-to-maturity investments

 

183,099

 

197,356

 

Restrictions on cash

 

11,591

 

1,780

 

Net cash used by investing activities

 

(94,586

)

(165,347

)

 

 

 

 

 

 

Cash flows from financing activities:

 

 

 

 

 

Proceeds from the exercise of stock options

 

23,036

 

37,456

 

Excess tax benefits from share-based compensation

 

2,710

 

19,105

 

Principal payments on debt

 

(240

)

(32

)

Net cash provided by financing activities

 

25,506

 

56,529

 

 

 

 

 

 

 

Effect of exchange rate changes on cash and cash equivalents

 

489

 

(274

)

Net increase (decrease) in cash and cash equivalents

 

5,050

 

(31,350

)

Cash and cash equivalents, beginning of period

 

129,452

 

139,323

 

Cash and cash equivalents, end of period

 

$

134,502

 

$

107,973

 

 

 

 

 

 

 

Supplemental schedule of cash flow information:

 

 

 

 

 

Cash paid for interest

 

$

1,250

 

$

1,250

 

Cash paid for income taxes

 

$

11,304

 

$

1,628

 

Non-cash investing and financing activities:

 

 

 

 

 

 

 

Lease obligation incurred

 

$

 

$

29,000

 

Acquisition of Tyvaso Inhalation System business

 

$

5,063

 

$

 

Non-cash additions to property, plant and equipment

 

$

3,935

 

$

 

 

See accompanying notes to consolidated financial statements.

 


(1) Adjusted for the retrospective adoption of FASB ASC 470-20, formerly FSP APB 14-1. See Note 9— Debt — Adoption of FASB ASC 470-20 (Formerly FSP APB 14-1).

 

5


 


Table of Contents

 

UNITED THERAPEUTICS CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2009
(UNAUDITED)

 

1. Business Description

 

United Therapeutics Corporation is a biotechnology company focused on the development and commercialization of unique products to address the unmet medical needs of patients with chronic and life-threatening cardiovascular and infectious diseases and cancer. We were incorporated in 1996 under the laws of the State of Delaware and our wholly-owned subsidiaries include Lung Rx, LLC, Unither Pharmaceuticals, LLC, Unither Telmed, Ltd., Unither.com, Inc., United Therapeutics Europe, Ltd., Unither Therapeutik GmbH, Unither Pharma, LLC, Medicomp, Inc., Unither Neurosciences, Inc., LungRx Limited, Unither Biotech Inc., and Unither Virology, LLC. As used in these notes to the consolidated financial statements, unless the context requires otherwise, the terms “we,” “us,” “our,” and similar terms refer to United Therapeutics Corporation and its consolidated subsidiaries.

 

Our lead product is Remodulin ®  (treprostinil sodium) Injection (Remodulin), which was initially approved in 2002 by the United States Food and Drug Administration (FDA).

 

We have generated pharmaceutical revenues and license fees in the United States, Canada, the European Union (EU), South America and Asia. In addition, we have generated non-pharmaceutical revenues from telemedicine products and services in the United States.

 

2. Basis of Presentation

 

The accompanying unaudited consolidated financial statements have been prepared in accordance with the rules and regulations of the United States Securities and Exchange Commission (SEC) for interim financial information. Accordingly, they do not include all of the information and footnotes required by United States generally accepted accounting principles (GAAP) for complete financial statements. These consolidated financial statements should be read in conjunction with the audited consolidated financial statements and the accompanying notes contained in our Annual Report on Form 10-K for the year ended December 31, 2008. The financial statements as of December 31, 2008, and for the three- and nine-month periods ended September 30, 2008, presented in this Quarterly Report on Form 10-Q have been adjusted for the retrospective adoption of FASB ASC 470-20 (formerly FSP APB 14-1) on January 1, 2009. See Note 9 to these consolidated financial statements for further discussion.

 

In our management’s opinion, the accompanying consolidated financial statements contain all adjustments, including normal recurring adjustments, necessary to present fairly our financial position as of September 30, 2009, results of operations for the three- and nine-month periods ended September 30, 2009 and 2008, and cash flows for the nine months ended September 30, 2009 and 2008. Interim results are not necessarily indicative of annual results. We have evaluated subsequent events through October 29, 2009, which is the date our financial statements were issued. No material events have occurred during the period from September 30, 2009, to October 29, 2009, that would require recognition in these financial statements.

 

3. Inventories

 

Inventories are stated at the lower of cost (first-in, first-out method) or market (current replacement cost) and consist of the following, net of reserves (in thousands):

 

 

 

September 30,
2009

 

December 31,
2008

 

Raw materials

 

$

4,040

 

$

3,387

 

Work-in-progress

 

11,457

 

6,558

 

Finished goods

 

8,541

 

4,085

 

Delivery pumps, cardiac monitoring equipment and medical supplies

 

776

 

342

 

Total inventories

 

$

24,814

 

$

14,372

 

 

6



Table of Contents

 

4. Fair Value Measurements

 

FASB ASC Topic 820, Fair Value Measurement and Disclosures (FASB ASC Topic 820) (formerly Statement of Financial Accounting Standards (SFAS) No. 157, Fair Value Measurements ), defines fair value and establishes a fair value hierarchy based on the quality and reliability of the inputs or assumptions used in fair value measurements. Assets and liabilities that are measured, or permitted to be measured at fair value, are required to be classified and disclosed in one of the following categories based on the lowest level input that is significant to a fair value measurement:

 

Level 1—Fair value is determined by using unadjusted quoted prices that are available in active markets for identical assets and liabilities.

 

Level 2—Fair value is determined by using inputs other than Level 1 quoted prices that are directly or indirectly observable.

 

Level 3—Fair value is determined by inputs that are unobservable and not corroborated by market data.

 

Financial assets and liabilities subject to fair value measurements are as follows (in thousands):

 

 

 

As of September 30, 2009

 

 

 

Level 1

 

Level 2

 

Level 3

 

Balance

 

Assets

 

 

 

 

 

 

 

 

 

Auction-rate securities(1)

 

$

 

$

 

$

29,079

 

$

29,079

 

Auction-rate securities put option(2)

 

 

 

7,184

 

7,184

 

Available-for-sale equity investment

 

148

 

 

 

148

 

Money market funds(3)

 

80,969

 

 

 

80,969

 

Federally-sponsored and corporate debt securities(4)

 

 

236,897

 

 

236,897

 

Total Assets

 

$

81,117

 

$

236,897

 

$

36,263

 

$

354,277

 

Liabilities

 

 

 

 

 

 

 

 

 

Convertible senior notes

 

$

342,470

 

$

 

$

 

$

342,470

 

Contingent consideration—Tyvaso Inhalation System acquisition(5)

 

 

 

3,907

 

3,907

 

Total liabilities

 

$

342,470

 

$

 

$

3,907

 

$

346,377

 

 

 

 

As of December 31, 2008

 

 

 

Level 1

 

Level 2

 

Level 3

 

Balance

 

Assets

 

 

 

 

 

 

 

 

 

Auction-rate securities(1)

 

$

 

$

 

$

27,976

 

$

27,976

 

Auction-rate securities put option(2)

 

 

 

7,685

 

7,685

 

Available-for-sale equity investment

 

97

 

 

 

97

 

Money market funds(3)

 

96,179

 

 

 

96,179

 

Federally-sponsored and corporate debt securities(4)

 

 

209,313

 

 

209,313

 

Total Assets

 

$

96,276

 

$

209,313

 

$

35,661

 

$

341,250

 

Liabilities

 

 

 

 

 

 

 

 

 

Convertible senior notes

 

$

239,429

 

$

 

$

 

$

239,429

 

 


(1)                               Included in non-current marketable investments on the accompanying consolidated balance sheets—refer to the section below entitled Auction-Rate Securities for a discussion of the valuation techniques used to estimate the fair value of these securities.

 

(2)                               Included within non-current other assets on the accompanying consolidated balance sheets—see the section below entitled Auction-Rate Securities for further information regarding the approach used to estimate the fair value of this option.

 

(3)                               Included in cash and cash equivalents and marketable investments and cash—restricted on the accompanying consolidated balance sheets.

 

(4)                               Included in current and non-current marketable investments on the accompanying consolidated balance sheets. The fair value of these securities is derived from pricing models using observable market data including interest rates, yield curves, recently reported trades of comparable securities, credit spreads and benchmark securities. See also Note 5— Held-to-Maturity Investments .

 

(5)                               Included in non-current liabilities on the accompanying consolidated balance sheet.  See also Note 16— Acquisition.

 

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Table of Contents

 

A reconciliation of the beginning and ending balances of assets measured at fair value using significant unobservable inputs (Level 3) for the three- and nine-month periods ended September 30, 2009, respectively, is presented below (in thousands):

 

 

 

Auction-rate
Securities

 

Auction-Rate
Securities Put
Option

 

Contingent
Consideration—
Tyvaso
Inhalation
System
Acquisition

 

Total

 

Balance July 1, 2009

 

$

28,000

 

$

8,344

 

$

 

$

36,344

 

Transfers to (from) Level 3

 

 

 

 

 

Total gains/(losses) realized/unrealized included in earnings(1)

 

1,254

 

(1,160

)

 

94

 

Total gains/(losses) included in other comprehensive income

 

 

 

 

 

Purchases/issuances/settlements, net

 

(175

)

 

3,907

 

3,732

 

Balance September 30, 2009

 

$

29,079

 

$

7,184

 

$

3,907

 

$

40,170

 

 

 

 

Auction-rate
Securities

 

Auction-Rate
Securities Put
Option

 

Contingent
Consideration—
Tyvaso
Inhalation
System
Acquisition

 

Total

 

Balance January 1, 2009

 

$

27,976

 

$

7,685

 

$

 

$

35,661

 

Transfers to (from) Level 3

 

 

 

 

 

Total gains/(losses) realized/unrealized included in earnings(1)

 

1,328

 

(501

)

 

827

 

Total gains/(losses) included in other comprehensive income

 

 

 

 

 

Purchases/issuances/settlements, net

 

(225

)

 

3,907

 

3,682

 

Balance September 30, 2009

 

$

29,079

 

$

7,184

 

$

3,907

 

$

40,170

 

 


(1)                               Gains of $94,000 and $827,000 for the three- and nine-month periods ended September 30, 2009, respectively, were included in earnings and are attributable to the change in unrealized gains from securities still held at September 30, 2009 (recognized within other income on the consolidated statements of operations).

 

Auction-Rate Securities

 

Our marketable investments include AAA-rated, auction-rate securities (ARS) collateralized by student loans that are approximately 91% guaranteed by the federal government. Since February 2008, our ARS have been rendered illiquid as a result of the collapse of the credit markets. Consequently, the fair value of our ARS has been estimated using both a discounted cash flow (DCF) approach and a market comparables method. For the market comparables method, we consider market data pricing to estimate the discount being applied to similar securities upon sale in the secondary market. Although the volume of secondary market activity has been increasing, we do not believe it occurs with sufficient frequency to rely solely on such data to determine the fair value of our ARS. As such, we also utilize a DCF model to estimate their fair value. The key assumptions of the DCF model are subjective and include the following: a reference, or benchmark rate of interest based on the London Interbank Offered Rate (LIBOR), the amounts and timing of cash flows, and the weighted average expected life of a security and its underlying collateral. In addition, the model considers the risks associated with: (i) the creditworthiness of the issuer; (ii) the quality of the collateral underlying the investment; and (iii) illiquidity. The benchmark interest rate is then adjusted upward depending on the degree of risk associated with each security within our auction-rate portfolio. We estimate illiquidity premiums based on an analysis of the average discounts applied to recent sales of comparable ARS within the secondary market.

 

To mitigate the risks associated with our ARS, we entered into an Auction-Rate Securities Rights Offer (Rights Offer) in November 2008 with the investment firm that maintains our ARS account. Pursuant to the Rights Offer, we can sell our ARS to the investment firm for a price equal to their par value (approximately $36.5 million) at any time between June 30, 2010, and July 2, 2012 (Put Option). To help meet any immediate liquidity needs, the Rights Offer permits us to borrow up to the par value of our ARS; however, we do not expect to exercise this right. The Put Option represents a freestanding, non-transferable financial instrument that is being accounted for under the fair value option set forth under FASB ASC Topic 825, Financial Instruments (formerly SFAS No.159, The Fair Value Option for Financial Assets and Financial Liabilities—Including an amendment of FASB Statement No. 115 ). Accordingly, all changes in fair value of the Put Option will be recognized within earnings. For the three- and nine-month periods ended September 30, 2009, we recognized losses of $1.2 million and $501,000, respectively, related to the Put Option, which has been

 

8



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included in other income on the consolidated statements of operations. Since there is not an observable market for the Put Option, its fair value has been estimated using significant unobservable inputs; therefore, it has been categorized as a Level 3 asset within the fair value hierarchy.

 

We employed a DCF model to estimate the fair value of the Put Option. We believe that the estimated fair value of the Put Option represents the incremental value associated with the ability to recover the full cost of our ARS at a significantly earlier date than would be otherwise possible, if at all, and the ability to obtain an immediate loan under the Rights Offer, as this right possesses value regardless of whether we expect to borrow under the Rights Offer. Key assumptions used in the DCF model are subjective and include the following: (i) a discount factor equal to the rate of interest consistent with the expected term of the Put Option and risk profile of the investment firm subject to the Put Option; (ii) the amount and timing of expected cash flows; (iii) the expected life of the Put Option prior to its exercise; and (iv) assumed loan amounts. This DCF methodology considered two scenarios. The first scenario assumed that we would borrow up to 50% of the par value of our ARS and the second scenario assumed that we would borrow up to 75% of the par value of our ARS. Under the DCF model, increases in the assumed loan balance would result in an increase in the fair value of the Put Option because the risk of counterparty non-performance diminishes. The estimated fair values generated under both scenarios were given equal weight in estimating the fair value of the Put Option.

 

Fair Value of Financial Instruments

 

The carrying amounts of cash and cash equivalents, accounts receivables, accounts payable, and accrued expenses approximate fair value because of their short maturities. The fair value of marketable investments is presented in Note 5 and the fair value of the 0.50% Convertible Senior Notes due October 2011 (Convertible Senior Notes) is reported above.

 

5. Investments

 

Held-to-Maturity Investments

 

Marketable investments classified as held-to-maturity consist of the following (in thousands):

 

 

 

Amortized
Cost

 

Gross
Unrealized
Gains

 

Gross
Unrealized
Losses

 

Fair
Value

 

Government-sponsored enterprises at September 30, 2009

 

$

168,241

 

$

985

 

$

(9

)

$

169,217

 

Corporate notes and bonds at September 30, 2009

 

67,492

 

202

 

(14

)

67,680

 

Total

 

$

235,733

 

$

1,187

 

$

(23

)

$

236,897

 

As reported on the consolidated balance sheets at September 30, 2009:

 

 

 

 

 

 

 

 

 

Current marketable securities

 

$

100,994

 

 

 

 

 

 

 

Noncurrent marketable securities

 

134,739

 

 

 

 

 

 

 

 

 

$

235,733

 

 

 

 

 

 

 

 

 

 

Amortized
Cost

 

Gross
Unrealized
Gains

 

Gross
Unrealized
Losses

 

Fair
Value

 

Government-sponsored enterprises at December 31, 2008

 

$

154,115

 

$

1,718

 

$

(18

)

$

155,815

 

Corporate notes and bonds at December 31, 2008

 

53,509

 

140

 

(151

)

53,498

 

Total

 

$

207,624

 

$

1,858

 

$

(169

)

$

209,313

 

As reported on the consolidated balance sheets at December 31, 2008:

 

 

 

 

 

 

 

 

 

Current marketable securities

 

$

106,596

 

 

 

 

 

 

 

Noncurrent marketable securities

 

101,028

 

 

 

 

 

 

 

 

 

$

207,624

 

 

 

 

 

 

 

 

Certain held-to-maturity investments have been pledged as collateral to Wachovia Development Corporation under the laboratory lease described in Note 10 to these consolidated financial statements, and are classified as restricted marketable investments and cash on our consolidated balance sheets as of September 30, 2009, and December 31, 2008.

 

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The following table summarizes gross unrealized losses and the length of time marketable investments have been in a continuous unrealized loss position (in thousands):

 

 

 

As of September 30, 2009

 

As of December 31, 2008

 

 

 

Fair
Value

 

Gross
Unrealized
Loss

 

Fair
Value

 

Gross
Unrealized
Loss

 

Government sponsored:

 

 

 

 

 

 

 

 

 

Less than one year

 

$

12,001

 

$

(9

)

$

9,886

 

$

(18

)

Greater than one year

 

 

 

 

 

 

 

12,001

 

(9

)

9,886

 

(18

)

Corporate notes:

 

 

 

 

 

 

 

 

 

Less than one year

 

$

26,743

 

$

(14

)

$

21,278

 

$

(151

)

Greater than one year

 

 

 

 

 

 

 

26,743

 

(14

)

21,278

 

(151

)

Total

 

$

38,744

 

$

(23

)

$

31,164

 

$

(169

)

 

We attribute the unrealized losses on held-to-maturity securities as of September 30, 2009, to the variability in related market interest rates. We do not intend to sell these securities, nor is it more likely than not that we will be required to sell them prior to the end of their contractual term. Furthermore, we believe these securities do not subject us to undue market risk or counterparty credit risk. As such, we do not consider these securities to be other than temporarily impaired.

 

The following table summarizes the contractual maturities of held-to-maturity marketable investments at September 30, 2009 (in thousands):

 

 

 

September 30, 2009

 

 

 

Amortized
Cost

 

Fair
Value

 

Due in less than one year

 

$

134,961

 

$

135,736

 

Due in one to two years

 

100,772

 

101,161

 

Due in three to five years

 

 

 

Due after five years

 

 

 

Total

 

$

235,733

 

$

236,897

 

 

Trading Investments

 

Trading securities consist of the following (in thousands):

 

 

 

Par Value

 

Cumulative Gross
Trading
Gains

 

Cumulative Gross
Trading
Losses

 

Other
Than
Temporary
Impairment(1)

 

Estimated Fair
Value(2)

 

Municipal notes (ARS) at September 30, 2009

 

$

36,525

 

$

1,466

 

$

(2,604

)

$

(6,308

)

$

29,079

 

Municipal notes (ARS) at December 31, 2008

 

$

36,750

 

$

 

$

(2,466

)

$

(6,308

)

$

27,976

 

 


(1)                               Recognized during the year ended December 31, 2008.

(2)                               Included in non-current marketable investments on our consolidated balance sheets.

 

Equity Investments

 

We own less than 1% of the common stock of Twin Butte Energy Ltd. (Twin Butte). Our investment in Twin Butte is classified as available-for-sale and reported at fair value based on the quoted market price.

 

As of September 30, 2009, we maintain an investment totaling approximately $4.9 million in the preferred stock of a privately held corporation. We account for this investment at cost, as its fair value is not readily determinable. The fair value of our investment has not been estimated at September 30, 2009, as there have been no events or developments indicating that the investment may be impaired. This investment is included within non-current other assets on our consolidated balance sheets.

 

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6. Goodwill and Other Intangible Assets

 

Goodwill and other intangible assets comprise the following (in thousands):

 

 

 

As of September 30, 2009

 

As of December 31, 2008

 

 

 

Gross

 

Accumulated
Amortization

 

Net

 

Gross

 

Accumulated
Amortization

 

Net

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Goodwill

 

$

10,529

 

$

 

$

10,529

 

$

7,465

 

$

 

$

7,465

 

Other intangible assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

Technology and patents

 

9,253

 

(4,274

)

4,979

 

4,532

 

(4,159

)

373

 

Other

 

3,908

 

 

3,908

 

 

 

 

Total

 

$

23,690

 

$

(4,274

)

$

19,416

 

$

11,997

 

$

(4,159

)

$

7,838

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total estimated amortization relating to other intangible assets for the five succeeding years and thereafter is presented below (in thousands):

 

Years ending December 31,

 

 

 

2010

 

$

1,655

 

2011

 

1,528

 

2012

 

1,311

 

2013

 

1,289

 

2014

 

1,281

 

Thereafter

 

1,270

 

 

 

$

8,334

 

 

7 . Supplemental Executive Retirement Plan

 

We maintain the United Therapeutics Corporation Supplemental Executive Retirement Plan (SERP) to provide retirement benefits to certain members of our management team. In connection with the SERP, we maintain the United Therapeutics Corporation Supplemental Executive Retirement Plan Rabbi Trust Document (Rabbi Trust) entered into with the Wilmington Trust Company. The balance in the Rabbi Trust was approximately $5.1 million as of September 30, 2009, and December 31, 2008. The Rabbi Trust is irrevocable and SERP participants will have no preferred claim on, nor any beneficial ownership interest in, any assets of the Rabbi Trust. The investments in the Rabbi Trust are classified as restricted marketable investments and cash on our consolidated balance sheets.

 

The table below presents the components of net pension expense (in thousands):

 

 

 

Three Months Ended 
September 30,

 

Nine Months Ended 
September 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

Service cost

 

$

661

 

$

666

 

$

1,983

 

$

1,836

 

Interest cost

 

140

 

96

 

420

 

111

 

Amortization of prior period service costs

 

36

 

36

 

108

 

45

 

Net pension expense

 

$

837

 

$

798

 

$

2,511

 

$

1,992

 

 

8. Share Tracking Awards Plan

 

In June 2008, we adopted the United Therapeutics Corporation Share Tracking Awards Plan (STAP). Awards granted under the STAP (Awards) are non-dilutive as they are not settled in shares of our common stock but rather convey the right to receive in cash an amount equal to the appreciation of our common stock, which is calculated as the positive difference between the closing price of our common stock on the date of exercise and the date of grant. Awards generally vest in one-third increments on each of the first three anniversaries of the date of grant and expire on the tenth anniversary of the date of grant. On September 14, 2009, the Compensation Committee of our Board of Directors approved an amendment to the STAP increasing the number of Awards available for grant from 6,000,000 to 9,000,000, as adjusted for the two-for-one split of our common stock (See Note 11).

 

We account for outstanding Awards as a liability pursuant to FASB ASC 718-20, Stock Compensation — Awards Classified as Liabilities (formerly covered within FASB SFAS No. 123 (revised 2004), Share-Based Payment ), due to their cash-settlement provision. Accordingly, we estimate the fair value of Awards using the Black-Scholes-Merton valuation model at each financial reporting date until settlement occurs or Awards are otherwise no longer outstanding. The STAP liability balance was $48.5 million and $8.5 million at September 30, 2009, and December 31, 2008, respectively, and has been included in other current liabilities on our consolidated balance sheets.

 

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In estimating the fair value of Awards, we are required to use inputs that materially impact fair value measurements and the resulting compensation expense recognized. These inputs include the expected volatility of the price of our common stock, the risk-free interest rate, the expected term of Awards, the expected forfeiture rate and the expected dividend yield.

 

The table below presents the inputs used to re-measure the fair value of Awards at September 30, 2009 and 2008:

 

 

 

September 30, 2009

 

September 30, 2008

 

Expected volatility

 

48.6

%

41.2

%

Risk-free interest rate

 

2.5

%

3.2

%

Expected term of Awards (in years)

 

5.9

 

5.8

 

Expected forfeiture rate

 

5.4

%

6.3

%

Expected dividend yield

 

0.0

%

0.0

%

 

Presented below is a summary of the activity and status of Awards, adjusted for the two-for-one split of our common stock (See Note 11):

 

 

 

Number of
Awards

 

Weighted-
Average
Exercise
Price

 

Weighted
Average
Remaining
Contractual
Term
(Years)

 

Aggregate
Intrinsic
Value
(in 000s)

 

Outstanding at January 1, 2009

 

3,622,996

 

$

25.32

 

 

 

 

 

Granted

 

3,321,388

 

38.70

 

 

 

 

 

Exercised

 

(292,145

)

25.32

 

 

 

 

 

Forfeited

 

(89,550

)

28.07

 

 

 

 

 

Outstanding at September 30, 2009

 

6,562,689

 

$

32.05

 

9.2

 

$

112,293

 

Awards exercisable at September 30, 2009

 

865,347

 

$

25.32

 

8.8

 

$

20,487

 

Awards expected to vest at September 30, 2009

 

5,345,626

 

$

33.12

 

9.3

 

$

84,844

 

 

The weighted average fair value of Awards granted during the nine months ended September 30, 2009, was $19.38 per Award.

 

Share-based compensation expense related to the STAP was as follows (in thousands):

 

 

 

Three Months Ended
September 30,

 

Nine Months Ended
September 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

Cost of service sales

 

$

125

 

$

7

 

$

194

 

$

9

 

Research and development

 

9,200

 

1,422

 

17,801

 

1,736

 

Selling, general and administrative

 

10,555

 

2,072

 

23,044

 

2,566

 

Share-based compensation expense before taxes

 

19,880

 

3,501

 

41,039

 

4,311

 

Related income tax benefits

 

(3,678

)

(1,278

)

(7,592

)

(1,574

)

Share-based compensation expense, net of taxes

 

$

16,202

 

$

2,223

 

$

33,447

 

$

2,737

 

Share-based compensation capitalized as part of inventory

 

$

514

 

$

34

 

$

1,364

 

$

72

 

 

We paid approximately $6.4 million in connection with the exercise of Awards during the nine months ended September 30, 2009.

 

9. Debt

 

Convertible Notes

 

On October 30, 2006, we issued at par value $250.0 million of Convertible Senior Notes. We pay interest on the Convertible Senior Notes semi-annually on April 15 and October 15 of each year. The Convertible Senior Notes are unsecured, unsubordinated debt obligations that rank equally with all of our other unsecured and unsubordinated indebtedness. The conversion price is $37.6129 per share and the number of shares on which the aggregate consideration is to be determined upon conversion is approximately 6,646,000. Pursuant to the terms of the Convertible Senior Notes, the conversion price and number of shares underlying the debt have been proportionately adjusted for the two-for-one split of our common stock.

 

Conversion can occur: (i) anytime after July 15, 2011; (ii) during any calendar quarter that follows a calendar quarter in which the price of our common stock exceeded 120% of the conversion price for at least 20 days during the 30 consecutive trading-

 

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day period ending on the last trading day of the quarter; (iii) during the ten consecutive trading-day period following any five consecutive trading-day period in which the trading price of the Convertible Senior Notes was less than 95% of the closing price of our common stock multiplied by the then current number of shares underlying the Convertible Senior Notes; (iv) upon specified distributions to our shareholders; (v) in connection with corporate transactions; or (vi) in the event that our common stock ceases to be listed on the NASDAQ Global Select Market and is not listed for trading on another U.S. national or regional securities exchange.

 

Upon conversion, a holder of our Convertible Senior Notes will receive: (i) cash equal to the lesser of the principal amount of the note or the conversion value (equal to the number of shares underlying the Convertible Senior Notes multiplied by the then current conversion price per share); and (ii) to the extent the conversion value exceeds the principal amount of the Convertible Senior Notes, shares of our common stock. In the event of a change in control, as defined in the indenture under which the Convertible Senior Notes have been issued, holders can require us to purchase from them all or a portion of their Convertible Senior Notes for 100% of the principal value plus any accrued and unpaid interest. At September 30, 2009, the aggregate conversion value of the Convertible Senior Notes exceeded their principal value by approximately $75.6 million using a conversion price of $48.99, the closing price of our common stock on that date. We have reserved sufficient shares of our common stock to satisfy the conversion requirements related to the Convertible Senior Notes.

 

The closing price of our common stock exceeded 120% of the conversion price of the Convertible Senior Notes for more than 20 trading days during the 30 consecutive trading day period ending on September 30, 2009. Consequently, the Convertible Senior Notes were convertible at the election of their holders. As this conversion right is outside of our control, the Convertible Senior Notes have been classified as a current liability on our consolidated balance sheet as of September 30, 2009. This contingent conversion measurement is calculated at the end of each quarterly reporting period. Therefore, the classification of the Convertible Senior Notes may be subject to change depending on the price of our common stock.

 

Adoption of FASB ASC 470-20 (Formerly FSP APB 14-1)

 

On January 1, 2009, we adopted the guidance set forth under FASB ASC 470-20, which applies to certain convertible debt instruments that may be settled in cash or other assets, or partially in cash, upon conversion. Issuers of such convertible debt instruments are required to account for the liability and equity components of these instruments separately in a manner that reflects the issuer’s nonconvertible debt borrowing rate when interest expense is subsequently recognized . FASB ASC 470-20 requires retrospective application.

 

The Convertible Senior Notes fall within the scope of FASB ASC 470-20 because their terms include partial cash settlement. Pursuant to FASB ASC 470-20, we estimated the fair value of the Convertible Senior Notes without the conversion feature as of the date of issuance (Liability Component). The estimated fair value of the Liability Component was approximately $177.6 million and was determined using a discounted cash flow approach. Key inputs used to estimate the fair value of the Liability Component included the following:

 

·                   Our estimated non-convertible borrowing rate as of October 2006—the date the Convertible Senior Notes were issued;

 

·                   The amount and timing of cash flows; and

 

·                   The expected life of the Convertible Senior Notes.

 

The excess of the proceeds received over the estimated fair value of the Liability Component totaling $72.4 million was allocated to the conversion feature (Equity Component) and a corresponding offset was recognized as a discount to reduce the net carrying value of the Convertible Senior Notes. The discount is being amortized to interest expense over a five-year period ending October 2011 (the expected life of the debt) using the interest method and an effective rate of interest of 7.5%.

 

Interest expense associated with the Convertible Senior Notes’ coupon rate of interest and discount amortization consisted of the following (in thousands):

 

 

 

Three Months Ended September 30,

 

Nine Months Ended September 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

Contractual coupon rate of interest

 

$

312

 

$

312

 

$

937

 

$

937

 

Discount amortization

 

3,679

 

3,415

 

10,834

 

10,058

 

Interest expense—Convertible Senior Notes

 

$

3,991

 

$

3,727

 

$

11,771

 

$

10,995

 

 

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Amounts comprising the carrying amount of the Convertible Senior Notes are as follows (in thousands):

 

 

 

September 30,
2009

 

December 31,
2008

 

Principal balance

 

$

249,978

 

$

249,978

 

Discount, net of accumulated amortization of $38,950 and $28,116

 

(33,453

)

(44,287

)

Carrying amount

 

$

216,525

 

$

205,691

 

 

The impact of the adoption of FASB ASC 470-20 on the results of operations for the three- and nine-month periods ended September 30, 2009 and 2008, is presented below (in thousands, except for per share data):

 

 

 

Three Months Ended September 30, 2009

 

Three Months Ended September 30, 2008

 

 

 

Before the
Impact of 
ASC 470-20

 

Incremental
Impact of
Adoption of
ASC 470-20

 

As Reported

 

As
Previously
Reported

 

Incremental
Impact of
Adoption of
ASC 470-20

 

As Adjusted

 

Interest expense

 

$

 

$

(3,331

)

$

(3,331

)

$

 

$

(2,624

)

$

(2,624

)

Income tax benefit (expense)

 

2,275

 

616

 

2,891

 

(7,256

)

971

 

(6,285

)

Net income

 

14,652

 

$

(2,715

)

11,937

 

12,623

 

(1,653

)

10,970

 

Earnings per share:

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

$

0.27

 

$

(0.05

)

$

0.22

 

$

0.28

 

$

(0.04

)

$

0.24

 

Diluted

 

$

0.25

 

$

(0.04

)

$

0.21

 

$

0.25

 

$

(0.03

)

$

0.22

 

 

 

 

Nine Months Ended September 30, 2009

 

Nine Months Ended September 30, 2008

 

 

 

Before the
Impact of 
ASC 470-20

 

Incremental
Impact of
Adoption of
ASC 470-20

 

As Reported

 

As
Previously
Reported

 

Incremental
Impact of
Adoption of
ASC 470-20

 

As Adjusted

 

Interest expense

 

$

 

$

(9,216

)

$

(9,216

)

$

 

$

(8,909

)

$

(8,909

)

Income tax (expense) benefit

 

(2,413

)

1,705

 

(708

)

(22,048

)

3,296

 

(18,752

)

Net income

 

30,303

 

(7,511

)

22,792

 

38,356

 

(5,613

)

32,743

 

Earnings per share:

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

$

0.57

 

$

(0.14

)

$

0.43

 

$

0.85

 

$

(0.13

)

$

0.72

 

Diluted

 

$

0.55

 

$

(0.14

)

$

0.41

 

$

0.78

 

$

(0.12

)

$

0.66

 

 

The impact of the adoption of FASB ASC 470-20 on balance sheet line items as of December 31, 2008, is presented below (in thousands):

 

 

 

December 31, 2008

 

 

 

As Previously
Reported

 

Incremental
Impact of
Adoption of
ASC 470-20

 

As Adjusted

 

Property, plant and equipment, net

 

$

221,066

 

$

1,651

(1)

$

222,717

 

Deferred tax assets—non-current

 

175,969

 

2,873

 

178,842

 

Other non-current assets

 

22,974

 

(1,309

)

21,665

 

Total

 

$

420,009

 

$

3,215

 

$

423,224

 

 

 

 

 

 

 

 

 

Other current liabilities

 

$

16,639

 

$

(133

)

$

16,506

 

Notes payable, net

 

249,978

 

(44,287

)

205,691

 

Total

 

$

266,617

 

$

(44,420

)

$

222,197

 

 

 

 

 

 

 

 

 

Additional paid-in capital

 

$

659,245

 

$

63,048

 

$

722,293

 

Accumulated deficit

 

(78,514

)

(15,413

)

(93,927

)

Total

 

$

580,731

 

$

47,635

 

$

628,366

 

 


(1)                                   Additional capitalized interest relating to our construction projects in Maryland and North Carolina resulting from the incremental interest expense recognized upon the retrospective adoption of FASB ASC 470-20.

 

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Table of Contents

 

Call Spread Option

 

Concurrent with the issuance of the Convertible Senior Notes, we purchased call options on our common stock in a private transaction with Deutsche Bank AG London (Call Option). The Call Option allows us to purchase up to approximately 6.6 million shares of our common stock at a price of $37.6129 per share, which is equal to the amount of our common stock related to the conversion value that we could deliver to holders of the Convertible Senior Notes upon conversion. We will be required to issue shares of our common stock upon conversion if the price of our common stock exceeds $37.6129 per share upon conversion. The Call Option will terminate upon the earlier of the maturity date of the Convertible Senior Notes or the first day all of the Convertible Senior Notes are no longer outstanding due to conversion or otherwise. We paid approximately $80.8 million for the Call Option, which was recorded as a reduction to additional paid-in-capital.

 

In a separate transaction that took place simultaneously with the issuance of the Convertible Senior Notes, we sold a warrant to Deutsche Bank AG London under which Deutsche Bank AG London has the right to purchase approximately 6.6 million shares of our common stock at an exercise price of $52.845 per share (Warrant). Proceeds received from the Warrant totaled approximately $45.4 million and were recorded as additional paid-in-capital.

 

The shares deliverable to us under the Call Option must be obtained from existing shareholders. Any shares that we may be required to deliver under the Warrant can consist of registered or unregistered shares, subject to potential adjustments to the settlement amount. The maximum number of shares of our common stock that we may be required to deliver in connection with the Warrant is approximately 6.6 million. We have reserved approximately 6.6 million shares for the settlement of the Warrant and had sufficient shares available as of September 30, 2009, to effect such settlement.

 

The combination of the Call Option and Warrant effectively reduces the potential dilutive impact of the Convertible Senior Notes. The Call Option has a strike price equal to the conversion price of the Convertible Senior Notes and the Warrant has a higher strike price per share that caps the amount of potential dilution. The Call Option and Warrant can be settled on a net share basis. All share and per share data related to the Call Option and Warrant have been adjusted for the two-for-one split of our common stock (see Note 11).

 

In accordance with the guidance provided under FASB ASC 815, Derivatives and Hedging , these instruments are considered both indexed to our common stock and classified as equity; therefore, the Call Option and Warrant are not accounted for as derivative instruments.

 

Interest Expense

 

Details of interest expense for the three- and nine-month periods ended September 30, 2009 and 2008, are presented below (in thousands):

 

 

 

Three Months Ended September 30,

 

Nine Months Ended September 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

Interest expense

 

$

4,543

 

$

4,012

 

$

13,420

 

$

11,041

 

Capitalized interest

 

(1,212

)

(1,388

)

(4,204

)

(2,132

)

Total interest expense

 

$

3,331

 

$

2,624

 

$

9,216

 

$

8,909

 

 

10.  Lease Obligation

 

We lease our laboratory facility in Silver Spring, Maryland (Phase I Laboratory), pursuant to a synthetic lease arrangement (Lease) entered into in June 2004 with Wachovia Development Corporation and its affiliates (Wachovia). Under the Lease, Wachovia funded $32.0 million toward the construction of the Phase I Laboratory on land we own. Subsequent to the completion of construction in May 2006, Wachovia leased the Phase I Laboratory to us. Monthly rent is equal to the 30-day LIBOR plus 55 basis points (0.86% as of September 30, 2009) applied to the amount Wachovia funded toward construction. The base term of the Lease ends in May 2011 (Base Term). Upon the expiration of the Base Term, we will have the right to exercise one of the following options under the Lease: (i) renew the lease for an additional five-year term (subject to the approval of both parties); (ii) purchase the Phase I Laboratory from Wachovia for approximately $32.0 million; or (iii) sell the Phase I Laboratory and repay Wachovia’s construction costs with the proceeds from the sale. If the sale proceeds are insufficient to repay Wachovia’s construction costs, we must fund the shortfall up to the maximum residual value guarantee of approximately $27.5 million. From the inception of the Lease through August 2008, we accounted for the Lease as an operating lease.

 

Since December 2007, we have been constructing a combination office and laboratory facility that will attach to the Phase I Laboratory (Phase II Facility) with funds generated from our operations. As of September 30, 2008, we received Wachovia’s acknowledgement of our plan to make structural modifications to the Phase I Laboratory in order to connect it to the Phase II Facility. As a result, we could no longer consider the Phase I Laboratory a standalone structure, which was required to maintain off-balance sheet accounting for the Lease. Consequently, as of September 30, 2008, we were considered the owners of the Phase I Laboratory for accounting purposes and are accounting for the Lease as a financing obligation. Accordingly, we capitalized $29.0 million, the

 

15


 

 


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estimated fair value of the Phase I Laboratory, and recognized a corresponding lease obligation on our consolidated balance sheets. We are accreting the lease obligation to $32.0 million, the purchase price of the Phase I Laboratory, through the recognition of periodic interest charges using the effective interest method. The accretion period will run through the end of the Base Term. Related interest charges for the three- and nine-month periods ended September 30, 2009, were approximately $268,000 and $796,000, respectively. In addition, we are depreciating the Phase I Laboratory over the estimated useful lives of its various components.

 

11. Stockholders’ Equity

 

Stock split

 

On September 1, 2009, our Board of Directors authorized a stock split to be effected in the form of a stock dividend pursuant to which one share of our common stock would be distributed for each share issued and outstanding (or held in treasury) at the close of business on the record date, September 14, 2009.  Accordingly, the stock dividend was distributed to eligible shareholders on September 22, 2009.  All references in the consolidated financial statements and elsewhere in this Quarterly Report on Form 10-Q to the price and number of shares of our common stock and per share data, including data pertaining to share-based awards, have been restated to reflect the effects of the stock split for all periods presented.

 

Earnings per share

 

Earnings per share is computed by dividing net income by the weighted average number of shares of common stock outstanding during the period. Diluted earnings per common share is computed by dividing net income by the weighted average number of shares of common stock outstanding during the period, plus the potential dilutive effect of other securities if such securities were converted or exercised.

 

The components of basic and diluted earnings per share are presented below (in thousands, except per share amounts):

 

 

 

Three Months Ended
September 30,

 

Nine Months Ended
September 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

Net income (numerator)

 

$

11,937

 

$

10,970

 

$

22,792

 

$

32,743

 

Shares (denominator):

 

 

 

 

 

 

 

 

 

Weighted average outstanding shares for basic EPS

 

53,455

 

45,868

 

53,108

 

45,248

 

Convertible Senior Notes(1)

 

1,158

 

1,976

 

83

 

1,398

 

Dilutive effect of stock options(2)

 

3,040

 

3,120

 

2,106

 

2,768

 

Adjusted weighted average shares for diluted EPS

 

57,653

 

50,964

 

55,297

 

49,414

 

Earnings per share

 

 

 

 

 

 

 

 

 

Basic

 

$

0.22

 

$

0.24

 

$

0.43

 

$

0.72

 

Diluted

 

$

0.21

 

$

0.22

 

$

0.41

 

$

0.66

 

 

 

 

 

 

 

 

 

 

 

Stock options and warrants excluded from calculation(3)

 

6,714

 

8,456

 

6,774

 

9,324

 

 


(1)

 

Pursuant to FASB ASC Topic 260, Earnings per Share (formerly SFAS No. 128, Earnings per Share , and related guidance), we cannot consider the impact of shares that we could receive under the terms of the Call Option (see Note 9 —Debt—Call Spread Option to these consolidated financial statements) in the calculation of diluted earnings per share as their impact would be anti-dilutive. For the three- and nine-month periods ended September 30, 2009 and 2008, the effects of the Call Option would have offset the dilutive impact of the Convertible Senior Notes.

 

 

 

(2)

 

Calculated using the treasury stock method.

 

 

 

(3)

 

Certain stock options, warrants and shares potentially issuable upon conversion of the Convertible Senior Notes were excluded from the computation of diluted earnings per share because their impact would be anti-dilutive.

 

Stock Option Plan

 

We account for stock option awards in accordance with FASB ASC Topic 718, Compensation—Stock Compensation (formerly SFAS No. 123—revised 2004, Share-Based Payment , and related interpretive guidance). Accordingly, we utilize the Black-Scholes-Merton valuation model for estimating the fair value of stock option awards as of their grant dates. Option valuation models,

 

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including Black-Scholes-Merton, require the input of subjective assumptions. Changes in these assumptions can materially affect the grant date fair value of an award.

 

Presented below are the weighted average assumptions used to estimate the grant date fair value of stock options granted during the three- and nine-month periods ended September 30, 2009 and 2008:

 

 

 

Three Months Ended
September 30,

 

Nine Months Ended
September 30,

 

 

 

2009(1)

 

2008

 

2009

 

2008

 

Expected volatility

 

 

41.6

%

49.1

%

42.3

%

Risk-free interest rate

 

 

3.4

%

2.4

%

3.2

%

Expected term of options (years)

 

 

6.0

 

5.5

 

5.6

 

Expected dividend yield

 

 

0.0

%

0.0

%

0.0

%

Forfeiture rate

 

 

8.4

%

0.0

%

2.1

%

 


(1)

No stock options were granted during the three months ended September 30, 2009.

 

 

 

Presented below is a summary of the activity and status of employee stock options:

 

 

 

Number of
Shares

 

Weighted-
Average
Exercise
Price

 

Weighted
Average
Remaining
Contractual
Term
(Years)

 

Aggregate
Intrinsic
Value
 (in 000s)

 

Outstanding at January 1, 2009

 

9,173,382

 

$

27.38

 

 

 

 

 

Granted

 

167,500

 

38.27

 

 

 

 

 

Exercised

 

(913,758

)

24.47

 

 

 

 

 

Forfeited

 

(40,084

)

30.51

 

 

 

 

 

Outstanding at September 30, 2009

 

8,387,040

 

$

27.90

 

6.3

 

$

176,976

 

Options exercisable at September 30, 2009

 

5,156,888

 

$

26.09

 

5.5

 

$

118,109

 

Expected to vest at September 30, 2009

 

3,126,592

 

$

30.81

 

7.7

 

$

56,827

 

 

Employee share-based compensation expense related to stock options was as follows (in thousands):

 

 

 

Three Months Ended
September 30,

 

Nine Months Ended
September 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

Cost of service sales

 

$

12

 

$

13

 

$

37

 

$

42

 

Research and development

 

2,377

 

2,681

 

7,364

 

7,751

 

Selling, general and administrative

 

3,024

 

10,195

 

25,272

 

17,642

 

Share-based compensation expense before taxes

 

5,413

 

12,889

 

32,673

 

25,435

 

Related income tax benefits

 

(1,001

)

(4,704

)

(6,045

)

(9,284

)

Share-based compensation expense, net of taxes

 

$

4,412

 

$

8,185

 

$

26,628

 

$

16,151

 

Share-based compensation capitalized as part of inventory

 

$

170

 

$

64

 

$

669

 

$

520

 

 

Employee and non-employee stock option exercise data is summarized below (dollars in thousands):

 

 

 

Three Months Ended
September 30,

 

Nine Months Ended 
September 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

Number of options exercised

 

648,518

 

846,492

 

938,506

 

1,864,170

 

Cash received

 

$

16,925

 

$

19,454

 

$

23,036

 

$

37,456

 

 

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Table of Contents

 

12. Comprehensive Income

 

For the three- and nine-month periods ended September 30, 2009 and 2008, comprehensive income comprised the following (in thousands):

 

 

 

Three Months Ended 
September 30,

 

Nine Months Ended 
September 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

Net income

 

$

11,937

 

$

10,970

 

$

22,792

 

$

32,743

 

Other comprehensive income:

 

 

 

 

 

 

 

 

 

Foreign currency translation gain (loss)

 

(935

)

(736

)

2,176

 

(1,093

)

Unrecognized prior period pension service cost, net of tax

 

25

 

24

 

71

 

(437

)

Unrecognized actuarial pension loss, net of tax

 

 

 

 

(227

)

Unrealized gain (loss) on available-for-sale securities, net of tax

 

7

 

(861

)

36

 

(2,161

)

Comprehensive income

 

$

11,034

 

$

9,397

 

$

25,075

 

$

28,825

 

 

13. Income Taxes

 

Income tax expense for the three- and nine-month periods ended September 30, 2009 and 2008, is based on the estimated annual effective tax rate. The estimated annual effective tax rate can be adjusted in subsequent quarterly reporting periods as projections of pre-tax income for the year are revised. The estimated annual effective tax rate for the three- and nine-month periods ended September 30, 2009 and 2008 was approximately 19 percent and 25 percent, respectively.

 

During the three months ended September 30, 2009, we increased previous estimated business tax credits expected to be generated and utilized for the year, which reduced the estimated annual effective tax rate. In addition, effective September 30, 2009, we completed a corporate restructuring related to certain of our wholly-owned subsidiaries. Consequently, as of September 30, 2009, we reduced our valuation allowance maintained against certain state net operating losses in the amount of $5.7 million because we determined that it is more-likely-than-not that related deferred tax assets would be realized. Collectively, these two transactions significantly contributed to the decrease in the effective tax rate for the three- and nine-month periods ended September 30, 2009.

 

As of September 30, 2009, we had available for federal income tax purposes approximately $61.6 million in business tax credit carryforwards that will expire at various dates through 2028. Certain business tax credit carryforwards that were generated prior to December 2007 may be subject to limitations on their use pursuant to Internal Revenue Code Section 382 as a result of ownership changes as defined therein. However, we do not expect these business tax credits to expire unused.

 

We file U.S. federal income tax returns and various state and foreign income tax returns. All of our U.S. federal income tax returns remain open for examination since we began utilizing our business tax credits in 2008. State jurisdictions that remain subject to examination relate to our filings for the years 2006 through 2008.  During the three months ended September 30, 2009, we increased our reserve for unrecognized tax benefits by approximately $538,000.  This adjustment to the reserve related to potentially disallowable expenses associated with our business tax credits.  We are unaware of any uncertain tax positions for which it is reasonably possible that the total amounts of our unrecognized tax benefits would significantly increase or decrease within the next twelve months.

 

14. Segment Information

 

We have two reportable business segments: pharmaceutical and telemedicine.  The pharmaceutical segment includes all activities associated with the research, development, manufacturing and commercialization of our pharmaceutical products. The telemedicine segment includes all activities associated with the development and manufacturing of patient monitoring products and the delivery of patient monitoring services. The telemedicine segment is managed separately because diagnostic services require different technologies and marketing strate