UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

 

FORM 10-Q

 

For the quarterly period ended September 30, 2017

or

For the transition period from            to           

Commission File Number 001-36668

 

DERMIRA, INC.

(Exact name of registrant as specified in its charter)

 

 

 

275 Middlefield Road, Suite 150

Menlo Park, CA 94025

(Address of principal executive offices) (Zip Code)

(650) 421-7200

(Registrant’s telephone number, including area code)

 

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  ☒    No  ☐

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  ☒    No  ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, 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. (Check one):

 

 

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 Act).    Yes ☐    No ☒

As of November 1, 2017, the registrant had 41,674,138 shares of common stock outstanding.

 

 

 

 

 

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Dermira, Inc.

Quarterly Report on Form 10-Q

Index

 

 

 

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PART I. FINANCIAL INFORMATION

DERMIRA, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(in thousands)

 

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

 

 

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DERMIRA, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except share and per share amounts)

(unaudited)

 

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

 

 

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DERMIRA, INC.

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS

(in thousands)

(unaudited)

 

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

 

 

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DERMIRA, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

(unaudited)

 

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

 

 

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DERMIRA, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(unaudited)

 

1. Organization

We are a biopharmaceutical company dedicated to bringing biotech ingenuity to medical dermatology by delivering differentiated, new therapies to the millions of patients living with chronic skin conditions. We are committed to understanding the needs of both patients and physicians and using our insight to identify and develop leading-edge medical dermatology clinical programs. Our pipeline includes three late-stage product candidates that could have a profound impact on the lives of patients: glycopyrronium tosylate (formerly DRM04), for which a New Drug Application is under review by the U.S. Food and Drug Administration (“FDA”) for the treatment of primary axillary hyperhidrosis (excessive underarm sweating beyond what is needed for normal body temperature regulation); olumacostat glasaretil (formerly DRM01), in Phase 3 development for the treatment of acne vulgaris; and lebrikizumab, for which we plan to initiate a Phase 2b dose-ranging study for the treatment of moderate-to-severe atopic dermatitis. We are headquartered in Menlo Park, California.

In March 2017, we sold 5,750,000 shares of our common stock (“2017 Public Offering”) pursuant to an automatic shelf registration statement on Form S-3 and received gross proceeds of $193.8 million and net proceeds of $181.5 million, after deducting underwriting discounts and commissions of $11.6 million and offering expenses of $0.7 million.

In May 2017, we sold $287.5 million aggregate principal amount of 3.00% Convertible Senior Notes due 2022 (“Notes”) in a private placement to qualified institutional buyers and received net proceeds of $278.3 million, after deducting the initial purchasers’ discounts of $8.6 million and issuance costs of $0.6 million.

 

2. Summary of Significant Accounting Policies

Basis of Presentation

Our condensed consolidated financial statements have been prepared in conformity with U.S. generally accepted accounting principles (“U.S. GAAP”) and applicable rules and regulations of the U.S. Securities and Exchange Commission (“SEC”) for interim reporting. As permitted under those rules and regulations, certain footnotes or other financial information normally included in financial statements prepared in accordance with U.S. GAAP have been condensed or omitted. These condensed consolidated financial statements have been prepared on the same basis as our annual consolidated financial statements and, in the opinion of our management, reflect all adjustments, consisting only of normal recurring adjustments, which are necessary for a fair presentation of our financial information. The results of operations for the three- and nine-month periods ended September 30, 2017 are not necessarily indicative of the results to be expected for the full year ending December 31, 2017 or any other future period. The condensed consolidated balance sheet as of December 31, 2016 has been derived from audited consolidated financial statements at that date but does not include all of the information required by U.S. GAAP for complete financial statements.

The accompanying condensed consolidated financial statements include the accounts of our wholly owned subsidiary, Dermira Canada. All intercompany accounts and transactions have been eliminated in consolidation.

The accompanying condensed consolidated financial statements and related financial information should be read in conjunction with our audited consolidated financial statements and the related notes thereto for the year ended December 31, 2016 included in our Annual Report on Form 10-K, filed with the SEC on February 28, 2017.

Use of Estimates

The preparation of condensed consolidated financial statements in conformity with U.S. GAAP requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the condensed consolidated financial statements and reported amounts of revenues and expenses during the reporting periods. On an ongoing basis, we evaluate our estimates, including those related to revenue recognition, acquired in-process research and development, investments, accrued research and development expenses, goodwill, intangible assets, other long-lived assets, stock-based compensation and the valuation of deferred tax assets. We base our estimates on our historical experience and also on assumptions that we believe are reasonable; however, actual results could significantly differ from those estimates.

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Revenue Recognition

We generate revenue from collaboration and license agreements related to the development and commercialization of our product candidates. We recognize revenue when persuasive evidence of an arrangement exists, services have been performed or products have been delivered, the fee is fixed and determinable and collection is reasonably assured. Collaboration and license agreements may include non-refundable upfront payments or reimbursement of research and development costs, contingent consideration payments based on achievement of defined milestones, and royalties on sales of commercialized products. Our responsibilities under collaboration and license agreements may include the transfer of intellectual property rights, such as licenses, obligations to provide research and development services, product supply and regulatory approval services, and participation on certain development and commercialization committees. For upfront payments that are recorded as deferred revenue and being recognized over the estimated period of performance, we regularly review the estimated periods of performance based on the progress made under each arrangement. The estimated performance period may change over the course of an arrangement’s term. Such a change could have a material impact on the amount of revenue recorded in future periods.

Multiple Element Arrangements

To determine the appropriate revenue recognition for payments to us under our collaboration and license agreements with multiple element arrangements, we evaluate whether the non-contingent deliverables of an arrangement represent separate units of accounting or a single unit of accounting. For non-contingent deliverables of an arrangement to represent separate units of accounting, the delivered elements each must have standalone value to the customer. Factors to determine standalone value include whether the deliverable is proprietary to us, whether the customer can use the license or other deliverables for their intended purpose without the receipt of the remaining elements and whether there are other vendors that can provide the undelivered items. Deliverables that meet these criteria are considered separate units of accounting. Deliverables that do not meet these criteria are combined and accounted for as a single unit of accounting.

Milestones and Other Contingent Payments

We have adopted the milestone method as described in Accounting Standards Codification 605-28, Milestone Method of Revenue Recognition. Under the milestone method, contingent consideration received from the achievement of a substantive milestone is recognized in its entirety in the period in which the milestone is achieved. A milestone is defined as an event having all of the following characteristics: (1) there is substantive uncertainty at the date the arrangement is entered into that the event will be achieved; (2) the event can only be achieved based in whole or in part on either our performance or a specific outcome resulting from our performance; and (3) if achieved, the event would result in additional payments being due to us. Contingent payments that do not meet the definition of a milestone are recognized in the same manner as the consideration for the combined unit of accounting. If we have no remaining performance obligations under the combined unit of accounting, any contingent payments would be recognized as revenue upon the achievement of the triggering event.

We evaluate whether milestones meet all of the following conditions to be considered substantive: (1) the consideration is commensurate with either of (a) our performance to achieve the milestone or (b) the enhancement of the value of the delivered item or items as a result of a specific outcome resulting from our performance to achieve the milestone; (2) the consideration relates solely to past performance; and (3) the consideration is reasonable relative to all the deliverables and payment terms within the arrangement. Substantive milestones are recognized as revenue upon achievement of the milestone and when collectability is reasonably assured.

Acquired In-Process Research and Development Expenses

We expense in-process research and development projects acquired as part of asset acquisitions that have no alternative future use. The fair value assigned to incomplete research projects that have not reached technological feasibility and are acquired in business combinations are capitalized and accounted for as indefinite-lived intangible assets, subject to impairment testing until completion or abandonment of the applicable project.

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Accrued Research and Development Expenses

We record accruals for estimated costs of research, preclinical, non-clinical and clinical studies and manufacturing activities, which are a significant component of research and development expenses. A substantial portion of our ongoing research and development activities is conducted by third-party service providers, including contract research organizations (“CROs”). Our contracts with CROs generally include pass-through fees such as regulatory expenses, investigator fees, travel costs and other miscellaneous costs, including shipping and printing fees. The financial terms of these contracts are subject to negotiations, which vary from contract to contract and may result in payment flows that do not match the periods over which materials or services are provided to us. We accrue the costs incurred under agreements with these third parties based on our estimate of actual work completed in accordance with the respective agreements. In the event we make advance payments, the payments are recorded as a prepaid expense and recognized as the services are performed. We determine the estimated costs through discussions with internal personnel and external service providers as to the progress or stage of completion of the services and the agreed-upon fees to be paid for such services. We accrue for costs associated with unused drug supplies that are both probable and estimable.

We make significant judgments and estimates in determining the accrual balance in each reporting period. As actual costs become known, we adjust our accruals. Although we do not expect our estimates to be materially different from amounts actually incurred, such estimates for the status and timing of services performed relative to the actual status and timing of services performed may vary and could result in us reporting amounts that are too high or too low in any particular period. Our accrual is dependent, in part, upon the receipt of timely and accurate reporting from CROs and other third-party vendors. Variations in the assumptions used to estimate accruals including, but not limited to, the number of patients enrolled, the rate of patient enrollment and the actual services performed, may vary from our estimates, resulting in adjustments to clinical trial expenses in future periods. Changes in these estimates that result in material changes to our accruals could materially affect our condensed consolidated financial condition and results of operations.

Amortization of Debt Discount and Issuance Costs

Debt discount and issuance costs, consisting of legal and other fees directly related to the Notes, are offset against gross proceeds from the issuance of the Notes and are amortized to interest expense over the estimated life of the Notes based on the effective interest method.

Net Loss Per Share

Basic net loss per share is calculated by dividing the net loss by the weighted-average number of shares of common stock outstanding during the period, without consideration for dilutive potential shares of common stock. Diluted net loss per share is the same as basic net loss per share, since the effects of potentially dilutive securities are antidilutive for all periods presented.

The following common stock equivalent shares were not included in the computation of diluted net loss per share for the periods presented because their effect was antidilutive:

 

 

Recent Accounting Pronouncements

In January 2017, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2017-01, Business Combinations (Topic 805): Clarifying the Definition of a Business (“ASU 2017-01”). ASU 2017-01 provides clarification on the definition of a business with the objective of adding guidance to assist entities with evaluating whether transactions should be accounted for as acquisitions of assets or business combinations. ASU 2017-01 is effective for fiscal years beginning after December 15, 2017 and interim periods within those years. Early adoption is permitted. We early adopted ASU 2017-01 in the third quarter of 2017. Pursuant to the guidance of ASU 2017-01, we concluded that our acquisition of intellectual property during the three months ended September 30, 2017 was an asset acquisition.

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In February 2016, the FASB issued ASU 2016-02, Leases (“ASU 2016-02”). ASU 2016-02 is aimed at making leasing activities more transparent and comparable, and requires lessees to recognize substantially all leases on their balance sheet as a right-of-use asset and a corresponding lease liability, including leases currently accounted for as operating leases. ASU 2016-02 is effective for fiscal years beginning after December 15, 2018 and interim periods within those fiscal years. Early adoption is permitted. We are currently evaluating the impact that the adoption of ASU 2016-02 will have on our consolidated financial statements and related disclosures.

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606) (“ASU 2014-09”), which outlines a single comprehensive model for entities to use in accounting for revenue arising from contracts with customers and supersedes most current revenue recognition guidance, including industry-specific guidance. Areas of revenue recognition that will be affected include, but are not limited to, transfer of control, variable consideration including milestones, allocation of transfer pricing, licenses, time value of money, contract costs and disclosures.

ASU 2014-09 outlines a five-step process for revenue recognition that focuses on transfer of control, as opposed to transfer of risk and rewards, and also requires enhanced disclosures regarding the nature, amount, timing and uncertainty of revenues and cash flows from contracts with customers. Major provisions include determining which goods and services are distinct and require separate accounting (performance obligations), how variable consideration (which may include change orders and claims) is recognized, whether revenue should be recognized at a point in time or over time and ensuring the time value of money is considered in the transaction price.

The FASB issued supplemental adoption guidance and clarification to ASU 2014-09 in March 2016, April 2016 and May 2016 within ASU 2016-08, Revenue from Contracts with Customers: Principal vs. Agent Considerations, ASU 2016-10, Revenue from Contracts with Customers: Identifying Performance Obligations and Licensing, and ASU 2016-12, Revenue from Contracts with Customers: Narrow-Scope Improvements and Practical Expedients, respectively. ASU 2014-09 and the related supplemental ASUs are effective for us as of January 1, 2018. We currently anticipate adopting these ASUs using the modified retrospective method. We believe the key changes in the standard that could impact our revenue recognition relate to the determination of distinct performance obligations, material rights, constraints related to the estimation of variable consideration and accounting for licenses of intellectual property and the timing of when those revenues are recognized. We currently anticipate that we will record a cumulative adjustment to decrease accumulated deficit, as of January 1, 2018, to reflect the impact of the adoption of these ASUs. We are in the process of analyzing each of our collaboration agreements to determine the future impact that these ASUs will have on our consolidated financial statements.

 

3. Fair Value Measurements

Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. Valuation techniques used to measure fair value should maximize the use of observable inputs and minimize the use of unobservable inputs. The accounting guidance for fair value establishes a three-level hierarchy for disclosure of fair value measurements, as follows:

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 market prices included in Level 1) that are either directly or indirectly observable, such as quoted prices for similar assets or liabilities, quoted prices in markets that are not active or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the instrument’s anticipated life.

Level 3—Unobservable inputs that are supported by little or no market activity and reflect our 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.

A financial instrument’s categorization within the valuation hierarchy is based upon the lowest level of input that is significant to the fair value measurement.

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The following tables set forth the fair value of our financial instruments that were measured on a recurring basis (in thousands):

 

 

 

The estimated fair value of our Notes was $308.9 million as of September 30, 2017 and was based upon observable, Level 2 inputs, including pricing information from recent trades of the Notes as of September 30, 2017.

See Note 8 for information relating to payments which were measured using unobservable, Level 3 inputs, including a discount rate.

Where quoted prices are available in an active market, securities are classified as Level 1. When quoted market prices are not available for the specific security, then we estimate fair value by using quoted prices for identical or similar instruments in markets that are not active and model‑based valuation techniques for which all significant inputs are observable in the market or can be corroborated by observable market data for substantially the full term of the assets. Where applicable, these models project future cash flows and discount the future amounts to a present value using market‑based observable inputs obtained from various third‑party data providers, including but not limited to benchmark yields, reported trades and broker/dealer quotes.

 

4. Investments

Investments include available-for-sale securities and investment securities classified as cash equivalents. Investment securities consisted of the following (in thousands):

 

 

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As of September 30, 2017, we did not hold any investments with a maturity exceeding one year. We do not intend to sell the securities that are in an unrealized loss position and it is more likely than not that the investments will be held until recovery of the amortized cost bases. We have determined that the gross unrealized losses on our securities as of September 30, 2017 were temporary in nature.

 

5. Accrued Liabilities

Accrued liabilities consisted of the following (in thousands):

 

 

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6. Convertible Notes

In May 2017, we sold $287.5 million aggregate principal amount of 3.00% Convertible Senior Notes due 2022 in a private placement. We received net proceeds of $278.3 million, after deducting the initial purchasers’ discounts of $8.6 million and issuance costs of $0.6 million. The Notes were issued pursuant to an Indenture, dated as of May 16, 2017 (the “Indenture”), between us and U.S. Bank National Association, as trustee. The Notes are senior, unsecured obligations and bear interest at a rate of 3.00% per year, payable in cash semi-annually in arrears on May 15 and November 15 of each year, beginning on November 15, 2017. The Notes mature on May 15, 2022, unless earlier converted or repurchased in accordance with their terms.

The Notes are convertible into shares of our common stock, par value $0.001 per share, at an initial conversion rate of 28.2079 shares of common stock per $1,000 principal amount of the Notes, which is equivalent to an initial conversion price of approximately $35.45 per share of common stock. The conversion rate and the corresponding conversion price are subject to adjustment upon the occurrence of certain events, but will not be adjusted for any accrued and unpaid interest. Holders of the Notes who convert their Notes in connection with a make-whole fundamental change (as defined in the Indenture) are, under certain circumstances, entitled to an increase in the conversion rate. Additionally, in the event of a fundamental change, holders of the Notes may require us to repurchase all or a portion of their Notes at a price equal to 100% of the principal amount of Notes, plus any accrued and unpaid interest, including any additional interest to, but excluding, the repurchase date. Holders of the Notes may convert all or a portion of their Notes at their option at any time prior to the close of business on the business day immediately prior to May 15, 2022, in multiples of $1,000 principal amount.

As of September 30, 2017, there were unamortized issuance costs and debt discounts of $8.6 million, which were recorded as a direct deduction from the Notes on the condensed consolidated balance sheets.

 

7. Commitments

Facility Lease

We lease our corporate headquarters in Menlo Park, California under a non-cancelable operating lease agreement initially entered into in July 2014 and amended in September 2014 (“Initial Lease”). Pursuant to the Initial Lease, we leased 18,651 square feet of space in a multi-suite building (the “Building”). Rent payments under the Initial Lease included base rent of $97,918 per month during the first year of the Initial Lease with an annual increase of three percent, and additional monthly fees to cover our share of certain facility expenses, including utilities, property taxes, insurance and maintenance.

The Initial Lease was amended in December 2015 to provide for our lease of an additional 26,541 square feet of space in the building, commencing December 2016 (“Amended Lease”). Rent payments for the additional space included base rent of $135,426 per month during the first year of the Amended Lease period with an annual increase of three percent, and additional monthly fees to cover our share of certain facility expenses, including utilities, property taxes, insurance and maintenance.

The Amended Lease was further amended in April 2016 to accelerate our lease commencement date for the additional space, subject to certain conditions, from December 2016 to (1) May 2016 with respect to 2,882 square feet of the additional space, and (2) October 2016 with respect to 23,659 square feet of the additional space (as further amended, “Lease”). The Lease will expire on December 31, 2021, subject to our option to renew the Lease for an additional five-year term.

Pursuant to the terms of the Lease, we provided the lessor with a $500,000 letter of credit in August 2014, which is collateralized by a money market account. The letter of credit may be used by or drawn upon by the lessor in the event of our default of certain terms of the Lease. If no such event of default has occurred or then exists, the letter of credit may be reduced to $350,000 after June 1, 2019. The collateralized money market account is restricted cash and recorded in our condensed consolidated balance sheets in other assets.

In September 2017, to accommodate our expected growth, we entered into a sublease agreement (“Sublease”) pursuant to which we will sublease an additional 23,798 square feet of space in the Building. Rent payments for the Sublease include base rent of $139,218 per month during the first year of the Sublease with an annual increase of three percent, and additional monthly fees to cover our share of certain facility expenses, including utilities, property taxes, insurance and maintenance. The Sublease term will commence on the earlier to occur of (1) January 1, 2018, and (2) the date on which we complete our tenant improvements to the Sublease premises, and end on April 30, 2024, unless terminated early pursuant to the terms of the Sublease. We expect to commence making rent payments in March 2018.

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Pursuant to the terms of the Sublease, in October 2017, we provided the sublessor with a $300,000 irrevocable commercial letter of credit, which is collateralized by a money market account. The letter of credit may be used by or drawn upon by the sublessor in the event of our default of certain terms of the Sublease.

Rent expense was $1.0 million and $0.5 million for the three months ended September 30, 2017 and 2016, respectively, and $3.1 million and $1.3 million for the nine months ended September 30, 2017 and 2016, respectively. The terms of the Lease and the Sublease provide for rental payments on a monthly basis on a graduated scale. We recognize rent expense on a straight-line basis over the lease period and have accrued for rent expense incurred but not paid.

As of September 30, 2017, the aggregate total future minimum lease payments under the Lease and Sublease were as follows (in thousands):

The table above excludes approximately $10.4 million of additional rent due over the period of the Lease and Sublease to cover our share of facility expenses, including utilities, property taxes, insurance and maintenance.

 

8. Technology and Financing Agreements

Maruho Agreements

In March 2013, we entered into a Right of First Negotiation Agreement with Maruho Co., Ltd. (“Maruho Right of First Negotiation Agreement”), pursuant to which we provided Maruho with certain information and the right to negotiate an exclusive license to develop and commercialize certain of our products in specified territories. In connection with the entry into this agreement, Maruho paid us $10.0 million (“Maruho Payment”), which will be credited against certain payments payable by Maruho to us if we enter into a license agreement for any of our products. Maruho’s right of first negotiation expired in December 2016 but the right to credit the Maruho Payment against certain payments under any future license agreement for our products remains. As of September 30, 2017 and December 31, 2016, we recorded the $10.0 million payment related to the Maruho Right of First Negotiation Agreement as deferred revenue, non-current in our consolidated balance sheets. The revenue would be recognized in connection with and pursuant to a future license arrangement, if any, or at the time the parties decide not to enter into such a license, at which point the entire amount would be recognized as revenue.

In September 2016, we entered into an Exclusive License Agreement with Maruho, which grants Maruho an exclusive license to develop and commercialize glycopyrronium tosylate for the treatment of hyperhidrosis in Japan (“Maruho G.T. Agreement”). Pursuant to the terms of the Maruho G.T. Agreement, we received an upfront payment of $25.0 million from Maruho in October 2016 and are eligible to receive additional payments totaling up to $70.0 million, contingent upon the achievement of certain milestones associated with submission and approval of a marketing application in Japan and certain sales thresholds, as well as royalty payments based on a percentage of net product sales in Japan. The Maruho G.T. Agreement further provides that Maruho will be responsible for funding all development and commercial costs for the program in Japan and, until such time, if any, as Maruho elects to establish its own source of supply of drug product, Maruho will purchase product supply from us for development and, if applicable, commercial purposes at cost. The Maruho G.T. Agreement is unrelated to, and the exclusive license of glycopyrronium tosylate in Japan to Maruho was not subject to the terms of, the existing Maruho Right of First Negotiation Agreement.

We identified the following non-contingent deliverables under the Maruho G.T. Agreement: (1) the transfer of intellectual property rights (the “license”) and (2) the supply of drug materials for clinical development purposes. We concluded that the license is not a separate unit of accounting because Maruho cannot obtain benefit from the use of the license rights for their intended purpose without the product supplied by us. Even if Maruho elects to establish its own supply of drug product, it must rely upon us to supply the drug substance necessary for Maruho’s development because Maruho does not have the right to manufacture the drug substance. We determined that neither of the deliverables has standalone value and, therefore, the deliverables are accounted for as one combined unit of accounting, with the upfront payment recognized as revenue on a straight-line basis over the estimated period of performance. We regularly evaluate the reasonableness of the estimated period of performance and revise the amortization of deferred revenue as deemed appropriate on a prospective basis.

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Milestone payments under the Maruho G.T. Agreement could total up to $70.0 million. The achievement of any and all milestones is dependent solely upon the results of Maruho’s activities and, therefore, the milestones are not deemed to be substantive. If regulatory approval for glycopyrronium tosylate is achieved and the product is commercialized in Japan, we would recognize any royalty revenue received from Maruho based on Maruho’s net sales of the drug product in Japan.

Unless earlier terminated, the Maruho G.T. Agreement will remain in effect until the later of: (1) expiration or abandonment of the last valid claim of the applicable patent rights in Japan; (2) expiration of any market exclusivity in Japan granted by the applicable regulatory authority; and (3) 15 years following the date of the first commercial sale of the drug product in Japan.

For the three months ended September 30, 2017 and 2016 and nine months ended September 30, 2017 and 2016, we recognized collaboration and license revenue related to the Maruho G.T. Agreement of $1.1 million, $0.1 million, $3.2 million and $0.1 million, respectively, in connection with the $25.0 million upfront payment. In addition, as of September 30, 2017, we have a deferred revenue balance related to the Maruho G.T. Agreement of $20.6 million, of which $4.3 million is recorded in deferred revenue, current on the condensed consolidated balance sheets.

Roche Agreement

In August 2017, we entered into a licensing agreement (“Roche Agreement”) with F. Hoffmann-La Roche Ltd and Genentech, Inc. (together, “Roche”), pursuant to which we obtained exclusive, worldwide rights to develop and commercialize lebrikizumab, an injectable, humanized antibody targeting interleukin 13, for atopic dermatitis and all other indications, except Roche retains certain rights, including exclusive rights to develop and promote lebrikizumab for interstitial lung diseases, such as idiopathic pulmonary fibrosis (“Retained Field”) and certain rights to use lebrikizumab for internal research purposes and for in vitro diagnostic purposes. The Roche Agreement became effective in September 2017 upon the early termination of the waiting period under the Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended. Unless earlier terminated, the Roche Agreement will remain in effect until no royalty or other payment obligations are or may become due.

Under the terms of the Roche Agreement, we made an initial payment of $80.0 million to Roche in October 2017 and will make additional payments to Roche in 2018 totaling $55.0 million. We will also be obligated to make payments upon the achievement of certain milestones, comprising $40.0 million upon the initiation of the first Phase 3 clinical study, up to $210.0 million upon the achievement of regulatory and first commercial sale milestones in certain territories and up to $1.0 billion based on the achievement of certain thresholds for net sales of lebrikizumab for indications other than interstitial lung disease. Upon regulatory approval, if obtained, we will make royalty payments representing percentages of net sales that range from the high single-digits to the high teens. Royalty payments will be made from the first commercial sale date in a country (other than for the Retained Field) in such country and end on the later of the date that is (a) ten years after the date of the first commercial sale of lebrikizumab (other than for the Retained Field) in such country, (b) the expiration of the last to expire valid claim of the applicable licensed compound patent rights, Dermira patent rights or joint patent rights in such country covering the use, manufacturing, import, offering for sale, or sale of lebrikizumab (other than for the Retained Field) in such country, (c) the expiration of the last to expire valid claim of the applicable licensed non-compound patent rights in such country covering the use, import, offering for sale, or sale of the product in such country, or (d) the expiration of the last to expire regulatory exclusivity conferred by the applicable regulatory authority in such country for lebrikizumab (other than for the Retained Field).

We determined that the acquired in-process research and development related to the Roche Agreement had no alternative future use and recorded an expense of $128.6 million during the three and nine months ended September 30, 2017 in the condensed consolidated statements of operations as acquired in-process research and development expense. This expense was comprised of the initial payment of $80.0 million, which was made in October 2017, and the payments due in 2018 totaling $55.0 million. The payments due in 2018 were measured on a non-recurring basis using unobservable, Level 3 inputs, including a discount rate used to value the payments at present value as of the effective date of the Roche Agreement. As of September 30, 2017, on the condensed consolidated balance sheets, we recorded $102.5 million to accrued payments related to acquired in-process research and development, current, for the $80.0 million initial payment and the $25.0 million payment due by September 2018, and $26.3 million to accrued payment related to acquired in-process research and development, non-current, for the $30.0 million payment due by December 2018. The remaining milestone payments will be recognized when the contingency related to the milestone is resolved and the consideration is paid or becomes payable.

 

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9. Stock-Based Compensation

In 2010, we adopted the 2010 Equity Incentive Plan (the “2010 Plan”), which provided for the granting of stock options to our employees, directors and consultants. In September 2014, our board of directors approved the 2014 Equity Incentive Plan (the “2014 EIP”), which became effective on October 1, 2014. As of the effective date of the 2014 EIP, the 2010 Plan was terminated and no further stock awards will be granted pursuant to the 2010 Plan. Outstanding stock options granted under the 2010 Plan will continue to be governed by the provisions of the 2010 Plan until the earlier of the stock option’s expiration or exercise. In September 2014, our board of directors approved the 2014 Employee Stock Purchase Plan (the “2014 ESPP”), which became effective on October 2, 2014.

The following table reflects a summary of stock option activity and related information for the period from December 31, 2016 through September 30, 2017:

 

 

The following table reflects a summary of restricted stock unit (“RSU”) activity under our 2014 EIP and related information for the period from December 31, 2016 through September 30, 2017:

 

 

Total stock-based compensation expense related to the 2010 Plan, the 2014 EIP and the 2014 ESPP was allocated as follows (in thousands):

 

10. Subsequent Events

In March 2014, we and UCB Pharma S.A., a limited liability corporation incorporated under the laws of Belgium (“UCB”), entered into a Development and Commercialisation Agreement, dated March 21, 2014 (“UCB Agreement”), which provided that we would (a) develop Cimzia (certolizumab pegol) for the treatment of psoriasis in order for UCB to seek regulatory approval from the FDA, European Medicines Agency and the Canadian federal department for health, and (b) upon the grant of regulatory approval in the United States and Canada, promote sales of Cimzia to dermatologists and conduct related medical affairs activities in the United States and Canada. The UCB Agreement also provided either party with the right to terminate the agreement under certain terms. We expressed our intent to terminate the UCB Agreement in accordance with its terms.

As a result, we and UCB entered into an agreement on November 6, 2017 to effect the termination of the UCB Agreement and an orderly transition of the development and commercialization activities under the UCB Agreement (“Transition Agreement”). The Transition Agreement, among other things, (a) provides that the UCB Agreement will terminate on February 15, 2018, (b) provides for the repurchase by UCB of all product rights, licenses and intellectual property relating to Cimzia, (c) specifies the responsibilities

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and obligations of us and UCB in connection with the transition of certain activities under the UCB Agreement from us to UCB as a result of the termination of the UCB Agreement, (d) terminates UCB’s right to designate a director nominee to our Board of Directors and (e) provides for the resignation of UCB’s designee from our Board of Directors.

Pursuant to the UCB Agreement, there are no termination or penalty payments required by either party. In consideration for the repurchase of all product rights, licenses and intellectual property relating to Cimzia, UCB will pay us $11.0 million by November 13, 2017 and, upon approval of Cimzia in psoriasis in the United States, an additional $39.0 million within 30 days of such approval. We are obligated to reimburse UCB for up to $10.0 million of development costs incurred by UCB in connection with the development of Cimzia between January 1, 2018 and June 30, 2018. If the aggregate development costs reimbursed by us to UCB during this six-month period are less than $10.0 million, we will pay to UCB the difference between such aggregate costs and $10.0 million. These terms replace the provisions of the UCB Agreement pursuant to which we would have been eligible to recoup our external development costs incurred related to the Cimzia program, net of milestones received, through a royalty on future net sales of Cimzia.

We incurred expenses related to clinical materials supplied by UCB totaling $0.9 million and $0.7 million for the three months ended September 30, 2017 and 2016, respectively, and $2.9 million and $5.1 million for the nine months ended September 30, 2017 and 2016, respectively. As of September 30, 2017, we recorded $2.3 million in prepaid expense and other current assets, $0.6 million in accounts payable and $1.1 million in accrued liabilities related to the UCB Agreement. As of December 31, 2016, we recorded $2.8 million in prepaid expense and other current assets and $1.2 million in accounts payable related to UCB.

As of October 31, 2017, entities affiliated with UCB beneficially owned 1,841,234 shares of our outstanding common stock, representing approximately 4% of our outstanding common stock.

 

 

 

The interim financial statements included in this Quarterly Report on Form 10-Q and this Management’s Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with the consolidated financial statements and notes thereto for the year ended December 31, 2016, included as part of our Annual Report on Form 10-K for the year ended December 31, 2016, and our unaudited Condensed Consolidated Financial Statements for the three- and nine-month periods ended September 30, 2017 and other disclosures (including the disclosures under “Part II — Other Information, Item 1A. Risk Factors”) included in this Quarterly Report on Form 10-Q. In addition to historical information, this discussion and analysis contains forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended (“Exchange Act”). These statements are often identified by the use of words such as “may,” “will,” “expect,” “believe,” “anticipate,” “intend,” “could,” “should,” “potential,” “predict,” “project,” “estimate,” or “continue,” and similar expressions or variations. Forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause our actual results, performance or achievements to be materially different from any future results, performance or achievements expressed or implied by the forward-looking statements. Factors that could cause or contribute to these differences include those set forth elsewhere in this Quarterly Report on Form 10-Q, particularly in Part II — Other Information, Item 1A. Risk Factors below, that could cause actual results to differ materially from historical results or anticipated results. Except as may be required by law, we disclaim any obligation to update any forward-looking statements to reflect events or circumstances after the date of such statements.

Overview

We are a biopharmaceutical company dedicated to bringing biotech ingenuity to medical dermatology by delivering differentiated, new therapies to the millions of patients living with chronic skin conditions. We are committed to understanding the needs of both patients and physicians and using our insight to identify and develop leading-edge medical dermatology clinical programs. Our management team has extensive experience in product development and commercialization, having served in leadership roles at several leading dermatology companies. Our pipeline includes three late-stage product candidates that could have a profound impact on the lives of patients: glycopyrronium tosylate (formerly DRM04), for which a New Drug Application (“NDA”) is under review by the U.S. Food and Drug Administration (“FDA”) for the treatment of primary axillary hyperhidrosis, (excessive underarm sweating beyond what is needed for normal body temperature regulation); olumacostat glasaretil (formerly DRM01), in Phase 3 development for the treatment of acne vulgaris; and lebrikizumab, for which we plan to initiate a Phase 2b dose-ranging study for the treatment of moderate-to-severe atopic dermatitis.

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Our three late-stage product candidates are:

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Key Developments

Below is a summary of selected key developments affecting our business that have occurred since December 31, 2016:

Glycopyrronium Tosylate

Olumacostat Glasaretil

Lebrikizumab

Non-Program Developments

Other

Financial Overview

For the three months ended September 30, 2017, net loss increased 602% to $179.2 million from $25.5 million for the same period in 2016. The increase is primarily due to our recognition of acquired in-process research and development expenses of $128.6 million for the three months ended September 30, 2017 related to the costs to acquire exclusive worldwide rights to develop and commercialize lebrikizumab for atopic dermatitis and all other indications except the Retained Field. Research and development expenses increased 73% to $30.8 million for the three months ended September 30, 2017 compared to the same period in 2016, driven primarily by growth in clinical trial activities for our olumacostat glasaretil product candidate and by headcount growth and associated expenses. General and administrative expenses increased 139% to $19.8 million for the three months ended September 30, 2017 compared to the same period in 2016, driven primarily by headcount growth and associated expenses, as well as expenses related to commercial readiness activities.

For the nine months ended September 30, 2017, net loss increased 203% to $247.2 million from $81.7 million for the same period in 2016. The increase is primarily due to our recognition of acquired in-process research and development expenses of $128.6 million for the nine months ended September 30, 2017 pursuant to the Roche Agreement. Research and development expenses increased 23% to $76.6 million for the nine months ended September 30, 2017 compared to the same period in 2016, driven primarily by growth in clinical trial activities for our olumacostat glasaretil product candidate and by headcount growth and associated expenses, partially offset by a reduction in clinical trial activities for Cimzia and our glycopyrronium tosylate product candidate. General and administrative expenses increased 117% to $44.7 million for the nine months ended September 30, 2017 compared to the same period in 2016, driven primarily by headcount growth and associated expenses, as well as expenses related to commercial readiness activities.

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As of September 30, 2017, we had cash and cash equivalents and investments of $662.9 million.

Since our inception, we have devoted substantially all of our efforts to developing our product candidates, including conducting preclinical and clinical trials and manufacturing activities, and providing general and administrative support for our operations. We have financed our operations primarily through the sale of equity securities and convertible debt securities. We do not have any approved products and have never generated any revenue from product sales. Other than the revenue we may generate in connection with our agreements with UCB and Maruho, we do not expect to generate any revenue from any product candidates that we develop unless and until we obtain regulatory approval and commercialize our products or enter into other collaboration or license agreements with third parties for the development or license of those product candidates.

We have never been profitable and may never be profitable. As of September 30, 2017, we had an accumulated deficit of $497.4 million. We expect to continue to incur net losses for the foreseeable future as we advance our current and potential additional product candidates through clinical development, seek regulatory approval for them and prepare for and proceed to commercialization. We expect to incur significant commercialization costs in advance of any of our product candidates receiving regulatory approval. As a result, we will need substantial additional funding to support our operating activities. Adequate funding may not be available to us on acceptable terms, or at all. We currently anticipate that we will seek to fund our operations through public or private equity or debt financings or other sources, such as potential collaboration or license agreements. Our failure to obtain sufficient funds on acceptable terms as and when needed could have a material adverse effect on our business, results of operations and financial condition.

Critical Accounting Policies and Significant Estimates

Our management’s discussion and analysis of financial condition and results of operations are based upon our unaudited condensed consolidated financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses. On an ongoing basis, we evaluate our critical accounting policies and estimates. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions and conditions.

While our significant accounting policies are described in the notes to our condensed consolidated financial statements, we believe that the following changes to our critical accounting policies are most important to understanding and evaluating our reported condensed consolidated financial results, as these policies relate to the more significant areas involving management’s judgments and estimates.

Acquired In-Process Research and Development Expenses

We expense in-process research and development projects acquired as part of asset acquisitions that have no alternative future use. The fair value assigned to incomplete research projects that have not reached technological feasibility and are acquired in business combinations are capitalized and accounted for as indefinite-lived intangible assets, subject to impairment testing until completion or abandonment of the applicable project. We determined that the acquired in-process research and development related to the Roche Agreement had no alternative future use and recorded an expense of $128.6 million during the three and nine months ended September 30, 2017 in the condensed consolidated statements of operations as acquired in-process research and development expense. This expense was comprised of the initial payment of $80.0 million, which was made in October 2017, and the payments due in 2018 totaling $55.0 million that were measured on a non-recurring basis using unobservable, Level 3 inputs, including a discount rate used to value the payments at present value as of the effective date of the Roche Agreement.

Amortization of Debt Discount and Issuance Costs

Debt discount and issuance costs, consisting of legal and other fees directly related to the 3.00% Convertible Senior Notes due 2022, are offset against gross proceeds from the issuance of the Notes and are amortized to interest expense over the estimated life of the Notes based on the effective interest method. As of September 30, 2017, there were unamortized issuance costs and debt discounts of $8.6 million, which were recorded as a direct deduction from the Notes on the condensed consolidated balance sheets.

Except for the policies described above, there were no other material changes in our critical accounting policies and significant estimates as disclosed in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” contained in our Annual Report on Form 10-K filed with the U.S. Securities and Exchange Commission (“SEC”) on February 28, 2017. 

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Results of Operations