Edgar Filing: INTERCEPT PHARMACEUTICALS, INC.

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

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

For the quarterly period ended March 31, 2018

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: 001-35668

INTERCEPT PHARMACEUTICALS, INC.

(Exact Name of Registrant as Specified in Its Charter)

Delaware

22-3868459

(State or Other Jurisdiction of

Incorporation or Organization)

(I.R.S. Employer

Identification No.)

10 Hudson Yards, 37^th Floor

New York, NY 10001

(Address of Principal Executive Office and Zip Code)

(646) 747-1000

(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 x 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 x No ¨

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

Large accelerated filer	x		Accelerated filer	¨

Non-accelerated filer	¨	(Do not check if a smaller reporting company)	Smaller reporting company	¨

Emerging growth company	¨

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

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

As of March 31, 2018, there were 25,331,808 shares of common stock, $0.001 par value per share, outstanding.

Intercept Pharmaceuticals, Inc.

INDEX

PART I FINANCIAL INFORMATION

Item 1.	Financial Statements

	Condensed Consolidated Balance Sheets at March 31, 2018 (Unaudited) and December 31, 2017 (Audited)	5

	Condensed Consolidated Statements of Operations for the three-month periods ended March 31, 2018 and 2017 (Unaudited)	6

	Condensed Consolidated Statements of Comprehensive Loss for the three-month periods ended March 31, 2018 and 2017 (Unaudited)	7

	Condensed Consolidated Statements of Cash Flows for the three-month periods ended March 31, 2018 and 2017 (Unaudited)	8

	Notes to Condensed Consolidated Financial Statements (Unaudited)	9

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	19

Item 3.	Quantitative and Qualitative Disclosure About Market Risk	25

Item 4.	Controls and Procedures	25

PART II OTHER INFORMATION

Item 1.	Legal Proceedings	26

Item 1A.	Risk Factors	26

Item 6.	Exhibits	62

Exhibit Index		63

Signatures		64

Unless the context otherwise requires, references in this Quarterly Report on Form 10-Q to “we,” “our,” “us” and the “Company” refer, collectively, to Intercept Pharmaceuticals, Inc., a Delaware corporation, and its consolidated subsidiaries.

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

This Quarterly Report on Form 10-Q contains forward-looking statements, including, but not limited to, statements regarding the progress, timing and results of our clinical trials, including our clinical trials for the treatment of nonalcoholic steatohepatitis (“NASH”), the safety and efficacy of our approved product, Ocaliva (obeticholic acid or “OCA”), the potential approval of OCA for indications other than primary biliary cholangitis (“PBC”), the timing and potential commercial success of OCA and any other product candidates we may develop and our strategy, future operations, future financial position, future revenue, projected costs, financial guidance, prospects, plans, objectives of management and expected market growth.

These statements constitute forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”), and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). The words “anticipate,” “believe,” “estimate,” “expect,” “intend,” “may,” “plan,” “predict,” “project,” “target,” “potential,” “will,” “would,” “could,” “should,” “possible,” “continue” and similar expressions are intended to identify forward-looking statements, although not all forward-looking statements contain these identifying words. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of their dates, and we undertake no obligation to update any forward-looking statement except as required by law. These forward-looking statements are based on estimates and assumptions by our management that, although believed to be reasonable, are inherently uncertain and subject to a number of risks.

The following represent some, but not necessarily all, of the factors that could cause actual results to differ materially from historical results or those anticipated or predicted by our forward-looking statements:

our ability to successfully commercialize Ocaliva for PBC;

our ability to maintain our regulatory approval of Ocaliva for PBC in the United States, Europe, Canada, Israel and other jurisdictions in which we have or may receive marketing authorization;

the initiation, timing, cost, conduct, progress and results of our research and development activities, preclinical studies and clinical trials, including any issues, delays or failures in identifying patients, enrolling patients, treating patients or completing and timely reporting the results of our NASH or PBC clinical trials;

our ability to timely and cost-effectively obtain regulatory approval of our product candidates, including OCA for NASH;

conditions that may be imposed by regulatory authorities on our marketing approvals for our products and product candidates, such as the need for clinical outcomes data (and not just results based on achievement of a surrogate endpoint), and any related restrictions, limitations and/or warnings contained in the label of any of our products or product candidates;

any potential side effects associated with Ocaliva for PBC or our product candidates that could delay or prevent approval, require that an approved product be taken off the market, require the inclusion of safety warnings or precautions or otherwise limit the sale of such product or product candidate;

our ability to maintain our relationships with, and the performance of, third-party vendors upon whom we are substantially dependent, including contract research organizations for our clinical trials and our third-party suppliers and manufacturers;

our ability to identify, develop and commercialize our products and product candidates;

our ability to obtain and maintain intellectual property protection for our products and product candidates;

our ability to successfully commercialize our product candidates, if approved;

the size and growth of the markets for our products and product candidates and our ability to serve those markets;

the degree of market acceptance of Ocaliva for PBC and, if approved, our product candidates, which may be affected by the ability of patients and healthcare providers to obtain coverage or reimbursement from payors for our products and the extent to which such coverage or reimbursement is provided;

our ability to establish and maintain an effective sales and marketing infrastructure directly or through collaborations with third parties;

competition from existing drugs or new drugs that become available;

costs and outcomes relating to any securities, intellectual property, employment, product liability or other litigation;

our ability to prevent system failures, data breaches or violations of data protection laws;

our collaborators’ election to pursue research, development and commercialization activities;

our ability to attract and maintain collaborators with development, regulatory and commercialization expertise;

our need for and ability to obtain additional financing;

our estimates regarding expenses, revenues and capital requirements and the accuracy thereof;

our use of cash and short-term investments;

our ability to acquire, license and invest in businesses, technologies, product candidates and products;

our ability to attract and retain key personnel to manage our business effectively;

our ability to manage the growth of our operations, infrastructure, personnel, systems and controls;

our ability to obtain and maintain adequate insurance coverage; and

the other risks and uncertainties identified under the captions “Risk Factors” and “Management's Discussion and Analysis of Financial Condition and Results of Operations” and elsewhere in this Quarterly Report on Form 10-Q and in our other periodic filings filed with the U.S. Securities and Exchange Commission (the “SEC”), including our Annual Report on Form 10-K for the year ended December 31, 2017.

NOTE REGARDING TRADEMARKS

The Intercept Pharmaceuticals^®name and logo and the Ocaliva^® name and logo are either registered or unregistered trademarks or trade names of the Company in the United States and/or other countries. All other trademarks, trade names and service marks appearing in this Quarterly Report on Form 10-Q are the property of their respective owners. Solely for convenience, trademarks and trade names referred to in this Quarterly Report on Form 10-Q may appear without the ^® and ^TM symbols, but those references are not intended to indicate, in any way, that we will not assert, to the fullest extent under applicable law, our rights or that the applicable owner will not assert its rights to these trademarks and trade names.

PART I

Item 1. Financial Statements.

INTERCEPT PHARMACEUTICALS, INC.
Condensed Consolidated Balance Sheets

(In thousands, except share and per share data)

	March 31,			December 31,
	2018			2017
	(Unaudited)			(Audited)

Assets
Current assets:
Cash and cash equivalents	$	48,871		$	70,013
Investment securities, available-for-sale		277,221			344,904
Accounts receivable, net		16,944			16,501
Prepaid expenses and other current assets		20,809			16,889
Total current assets		363,845			448,307
Fixed assets, net		14,074			16,184
Inventory, net		7,938			3,480
Security deposits		7,961			16,376
Total assets	$	393,818		$	484,347
Liabilities and Stockholders’ Equity
Current liabilities:
Accounts payable, accrued expenses and other liabilities	$	74,087		$	94,777
Short-term interest payable		3,737			7,475
Short-term portion of deferred revenue		1,622			1,782
Total current liabilities		79,446			104,034
Long-term liabilities:
Long-term debt		359,449			355,677
Long-term other liabilities		5,171			5,578
Long-term portion of deferred revenue		2,027			2,672
Total liabilities		446,093			467,961
Stockholders’ equity:
Common stock par value $0.001 per share; 45,000,000 shares authorized; 25,331,808 and 25,172,678 shares issued and outstanding as of March 31, 2018 and December 31, 2017, respectively		25			25
Additional paid-in capital		1,499,476			1,486,690
Accumulated other comprehensive loss, net		(643	)		(786	)
Accumulated deficit		(1,551,133	)		(1,469,543	)
Total stockholders’ equity		(52,275	)		16,386
Total liabilities and stockholders’ equity	$	393,818		$	484,347

See accompanying notes to the condensed consolidated financial statements.

INTERCEPT PHARMACEUTICALS, INC.
Condensed Consolidated Statements of Operations

(Unaudited)
(In thousands, except per share amounts)

	Three Months Ended
	March 31,
	2018			2017
Revenue:
Product revenue, net	$	35,158		$	20,603
Licensing revenue		805			445
Total revenue		35,963			21,048

Operating expenses:
Cost of sales		280			97
Selling, general and administrative		62,467			61,082
Research and development		48,672			43,832
Total operating expenses		111,419			105,011
Operating loss		(75,456	)		(83,963	)

Other income (expense):
Interest expense		(7,509	)		(7,207	)
Other income, net		1,375			1,240
		(6,134	)		(5,967	)
Net loss	$	(81,590	)	$	(89,930	)

Net loss per common and potential common share:
Basic and diluted	$	(3.22	)	$	(3.61	)

Weighted average common and potential common shares outstanding:
Basic and diluted		25,309			24,931

See accompanying notes to the condensed consolidated financial statements.

INTERCEPT PHARMACEUTICALS, INC.
Condensed Consolidated Statements of Comprehensive Loss
(Unaudited)
(In thousands)

	Three Months Ended
	March 31,
	2018			2017

Net loss	$	(81,590	)	$	(89,930	)
Other comprehensive loss:
Unrealized gains (losses) on securities:
Unrealized holding gains arising during the period		374			414
Net unrealized gains on marketable investment securities	$	374		$	414
Foreign currency translation adjustments		517			205
Comprehensive loss	$	(80,699	)	$	(89,311	)

See accompanying notes to the condensed consolidated financial statements.

INTERCEPT PHARMACEUTICALS, INC.
Condensed Consolidated Statements of Cash Flows
(Unaudited)
(In thousands)

	Three Months Ended March 31,
	2018			2017


Cash flows from operating activities:
Net loss	$	(81,590	)	$	(89,930	)
Adjustments to reconcile net loss to net cash used in operating activities:
Stock-based compensation		12,305			14,061
Amortization of investment premium		502			1,022
Amortization of deferred financing costs		373			343
Depreciation		1,290			802
Loss on disposal of fixed assets		901			-
Accretion of debt discount		3,399			3,126
Changes in operating assets:
Prepaid expenses and other current assets		(3,920	)		(6,994	)
Accounts receivable		(443	)		(1,499	)
Inventory		(4,458	)		163
Security deposits		8,415			1,414
Changes in operating liabilities:
Accounts payable, accrued expenses and other current liabilities		(20,690	)		(2,628	)
Long-term other liabilities		(407	)		6,268
Interest payable		(3,738	)		(3,529	)
Deferred revenue		(805	)		(119	)
Net cash used in operating activities		(88,866	)		(77,500	)
Cash flows from investing activities:
Purchases of investment securities		(28,466	)		(21,246	)
Sales of investment securities		95,273			125,285
Purchases of equipment, leasehold improvements, and furniture and fixtures		(89	)		(4,025	)
Net cash provided by investing activities		66,718			100,014
Cash flows from financing activities:
Proceeds from exercise of options, net		481			556
Net cash provided by financing activities		481			556
Effect of exchange rate changes		525			205
Net (decrease) increase in cash and cash equivalents		(21,142	)		23,275
Cash and cash equivalents – beginning of period		70,013			43,675
Cash and cash equivalents – end of period	$	48,871		$	66,950

See accompanying notes to the condensed consolidated financial statements.

INTERCEPT PHARMACEUTICALS, INC.
Notes to Condensed Consolidated Financial Statements

(Unaudited)

Overview of Business

Intercept Pharmaceuticals, Inc. (“Intercept” or the “Company”) is a biopharmaceutical company focused on the development and commercialization of novel therapeutics to treat progressive non-viral liver diseases, including primary biliary cholangitis (“PBC”), nonalcoholic steatohepatitis (“NASH”), primary sclerosing cholangitis (“PSC”) and biliary atresia. The Company currently has one marketed product, Ocaliva (obeticholic acid or “OCA”). Founded in 2002 in New York, Intercept has operations in the United States, Europe and Canada.

Basis of Presentation

The Company’s financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America (“U.S. GAAP”). All intercompany accounts and transactions have been eliminated. Certain information that is normally required by U.S. GAAP has been condensed or omitted in accordance with rules and regulations of the Securities and Exchange Commission (“SEC”). Operating results for the three months ended March 31, 2018 are not necessarily indicative of the results that may be expected for any future period or for the year ending December 31, 2018. In the opinion of management, these unaudited condensed consolidated financial statements include all normal and recurring adjustments considered necessary for a fair presentation of these interim unaudited condensed consolidated financial statements.

These unaudited condensed consolidated financial statements should be read in conjunction with the Company's audited consolidated financial statements and the notes thereto for the year ended December 31, 2017, included in the Company’s 2017 Annual Report on Form 10-K filed with the SEC.

Use of Estimates

The preparation of these unaudited consolidated condensed financial statements in accordance with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, expenses, revenues and related disclosures. Significant estimates include: clinical trial accruals, revenues and stock-based compensation expense. The Company bases its estimates on historical experience and other market-specific or other relevant assumptions that it believes to be reasonable under the circumstances. Actual results may differ from those estimates or assumptions.

Summary of Significant Accounting Policies

The Company’s significant accounting policies are described in Note 3 of Notes to Consolidated Financial Statements included in its Annual Report on Form 10-K for the year ended December 31, 2017.

Revenue Recognition

Product Revenue, Net

The Company commenced its commercial launch of Ocaliva for the treatment of PBC in the United States in June 2016. In December 2016, the European Commission granted conditional approval for Ocaliva for the treatment of PBC and the Company commenced its European commercial launch in January 2017. In May 2017, Health Canada granted a conditional approval for Ocaliva for the treatment of PBC and the Company commenced its commercial launch in July 2017. The Company sells Ocaliva to a limited number of specialty pharmacies which dispense the product directly to patients. The specialty pharmacies are referred to as the Company’s customers.

The Company provides the right of return to its customers for unopened product for a limited time before and after its expiration date. Prior to July 2017, given the Company’s limited sales history for Ocaliva and the inherent uncertainties in estimating product returns, the Company determined that the shipments of Ocaliva made to its customers did not meet the criteria for revenue recognition at the time of shipment. Accordingly, the Company recognized revenue when the product was sold through by its customers, provided all other revenue recognition criteria were met. The Company invoiced its customers upon shipment of Ocaliva to them and recorded accounts receivable, with a corresponding liability for deferred revenue equal to the gross invoice price. The Company then recognized revenue when Ocaliva was sold through as specialty pharmacies dispensed product directly to the patients (sell-through basis).

The Company re-evaluated its revenue recognition policy in the third quarter of 2017, which included the accumulation and review of customer related transactions since the Company’s commercial launch in the second quarter of 2016. The Company concluded it had accumulated sufficient data to reasonably estimate product returns and, therefore, began to recognize revenue at the time of shipment to its customers (sell-in basis). During the third quarter of 2017, the Company recorded an adjustment related to this change in estimate to recognize previously deferred revenue. The net effect was an increase in net sales of Ocaliva of $4.1 million for the nine months ended September 30, 2017. The Company also established a new reserve of $0.7 million during the third quarter of 2017 related to future returns from its customers under its various contracts.

Effective January 1, 2018, the Company recognizes revenue under Accounting Standards Codification (“ASC”) Topic 606, Revenue from Contracts with Customers (“ASC 606”). The core principle of the new revenue standard is that a company should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the company expects to be entitled in exchange for those goods or services. The following five steps are applied to achieve that core principle:

•

Step 1: Identify the contract with the customer

•

Step 2: Identify the performance obligations in the contract

•

Step 3: Determine the transaction price

•

Step 4: Allocate the transaction price to the performance obligations in the contract

•

Step 5: Recognize revenue when the company satisfies a performance obligation

In order to identify the performance obligations in a contract with a customer, a company must assess the promised goods or services in the contract and identify each promised good or service that is distinct. A performance obligation meets ASC 606’s definition of a “distinct” good or service (or bundle of goods or services) if both of the following criteria are met:

•

The customer can benefit from the good or service either on its own or together with other resources that are readily available to the customer (i.e., the good or service is capable of being distinct).

•

The entity’s promise to transfer the good or service to the customer is separately identifiable from other promises in the contract (i.e., the promise to transfer the good or service is distinct within the context of the contract).

If a good or service is not distinct, the good or service is combined with other promised goods or services until a bundle of goods or services is identified that is distinct.

The transaction price is the amount of consideration to which an entity expects to be entitled in exchange for transferring promised goods or services to a customer, excluding amounts collected on behalf of third parties (for example, some sales taxes). The consideration promised in a contract with a customer may include fixed amounts, variable amounts, or both. Variable consideration is included in the transaction price only to the extent that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the variable consideration is subsequently resolved.

The transaction price is allocated to each performance obligation on a relative standalone selling price basis. The transaction price allocated to each performance obligation is recognized when that performance obligation is satisfied, at a point in time or over time as appropriate.

Under ASC 606, the Company has written contracts with each of its customers that have a single performance obligation - to deliver products upon receipt of a customer order - and these obligations are satisfied when delivery occurs and the customer receives Ocaliva. The Company evaluates the creditworthiness of each of its customers to determine whether collection is reasonably assured. The Company estimates variable revenue by calculating gross product revenues based on the wholesale acquisition cost that the Company charges its customers for Ocaliva, and then estimating its net product revenues by deducting (i) trade allowances, such as invoice discounts for prompt payment and customer fees, (ii) estimated government rebates and discounts related to Medicare, Medicaid and other government programs, and (iii) estimated costs of incentives offered to certain indirect customers including patients.

Trade Allowances

The Company provides invoice discounts on Ocaliva sales to certain of its customers for prompt payment and records these discounts as a reduction to gross product revenues. These discounts are based on contractual terms.

Rebates and Discounts

The Company contracts with Centers for Medicare & Medicaid Services (“CMS”) and other government agencies to make Ocaliva available to eligible patients. As a result, the Company estimates any rebates and discounts and deducts these estimated amounts from its gross product revenues at the time the revenues are recognized. The Company’s estimates of rebates and discounts are based on the government mandated discounts, which are statutorily-defined and applicable to these government funded programs. These estimates are recorded in accrued liabilities on the consolidated balance sheet.

Other Incentives

Other incentives that the Company offers to indirect customers include co-pay assistance cards provided by the Company for PBC patients whom reside in states that permit co-pay assistance programs. The Company’s co-pay assistance program is intended to reduce each participating patient’s portion of the financial responsibility for Ocaliva purchase price to a specified dollar amount. The Company estimates each period the amount of co-pay assistance provided to eligible patients based on the terms of the program when product is dispensed by the specialty pharmacies to the patients. These estimates are based on redemption information provided by third-party claims processing organizations and are recorded in accrued liabilities on the consolidated balance sheet.

Because the Company changed its revenue recognition polices to the sell-in basis during the third quarter of 2017, the adoption of ASU 2014-09 (as defined below), via a modified retrospective approach applied to all contracts not completed at January 1, 2018, did not result in an adjustment to amounts previously recognized as revenue under ASC Topic 605, Revenue Recognition (“ASC 605”), and there were no other significant changes impacting the timing or measurement of the Company’s revenue or the Company’s business processes and controls.

Licensing Revenue

Under ASC 606, the Company accounts for the development, regulatory and sales milestones within an arrangement as variable consideration that is included in the transaction price only to the extent that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the variable consideration is subsequently resolved. Because the achievement of the milestones triggering these payments is highly susceptible to factors outside the entity’s influence, and the uncertainty about the amount of consideration for some of the milestones is not expected to be resolved for a long period of time, the Company does not expect to record the associated revenue until achievement of each milestone is imminent or has already occurred. Adoption of ASC 606 did not result in any adjustment to licensing revenue previously recognized under ASC 605.

Recent Accounting Pronouncements

In May 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2014-09, “Revenue from Contracts with Customers (Topic 606)” (“ASU 2014-09”), and subsequently issued modifications or clarifications in ASU No. 2015-14, “Revenue from Contracts with Customers (Topic 606): Deferral of the Effective Date,” ASU 2016-08, “Revenue from Contracts with Customers (Topic 606): Principal versus Agent Considerations (Reporting Revenue Gross versus Net),” ASU No. 2016-10, “Revenue from Contracts with Customers (Topic 606): Identifying Performance Obligations and Licensing,” and ASU No. 2016-12, “Revenue from Contracts with Customers (Topic 606): Narrow-Scope Improvements and Practical Expedients.” The revenue recognition principle in ASU 2014-09 and the related guidance is that an entity should recognize revenue to depict the transfer of goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. ASU 2014-09 prescribes a five-step process for evaluating contracts and determining revenue recognition. In addition, new and enhanced disclosures are required. Companies may adopt the new standard either using the full retrospective approach, a modified retrospective approach with practical expedients, or a cumulative effect upon adoption approach. The Company adopted the new standard on January 1, 2018, using the modified retrospective approach, applied only to contracts that were not completed as of January 1, 2018.

In January 2016, FASB issued ASU 2016-01, Recognition and Measurement of Financial Assets and Financial Liabilities (“ASU 2016-01”). ASU 2016-01 requires equity investments to be measured at fair value with changes in fair value recognized in net income; simplifies the impairment assessment of equity investments without readily determinable fair values by requiring a qualitative assessment to identify impairment; eliminates the requirement for public business entities to disclose the method(s) and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at amortized cost on the balance sheet; requires public business entities to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes; requires an entity to present separately in other comprehensive income the portion of the total change in the fair value of a liability resulting from a change in the instrument-specific credit risk when the entity has elected to measure the liability at fair value in accordance with the fair value option for financial instruments; requires separate presentation of financial assets and financial liabilities by measurement category and form of financial assets on the balance sheet or the accompanying notes to the financial statements and clarifies that an entity should evaluate the need for a valuation allowance on a deferred tax asset related to available-for-sale securities in combination with the entity’s other deferred tax assets. ASU 2016-01 is effective for financial statements issued for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years. The Company adopted ASU 2016-01 on January 1, 2018 and its adoption did not have a material impact on the Company’s consolidated financial statements and related disclosures.

In February 2016, the FASB issued ASU 2016-02, Leases (“ASU 2016-02”) which supersedes Topic 840, Leases. ASU 2016-02 requires lessees to recognize a right-of-use asset and a lease liability on their balance sheets for all the leases with terms greater than twelve months. Based on certain criteria, leases will be classified as either financing or operating, with classification affecting the pattern of expense recognition in the income statement. For leases with a term of twelve months or less, a lessee is permitted to make an accounting policy election by class of underlying asset not to recognize lease assets and lease liabilities. If a lessee makes this election, it should recognize lease expense for such leases generally on a straight-line basis over the lease term. ASU 2016-02 is effective for fiscal years beginning after December 15, 2018, and interim periods within those years, with early adoption permitted. In transition, lessees and lessors are required to recognize and measure leases at the beginning of the earliest period presented using a modified retrospective approach. The modified retrospective approach includes a number of optional practical expedients primarily focused on leases that commenced before the effective date of Topic 842, including continuing to account for leases that commence before the effective date in accordance with previous guidance, unless the lease is modified. The Company is evaluating the impact of the adoption of the standard on its consolidated financial statements and related disclosures.

In May 2017, the FASB issued ASU 2017-09, Compensation-Stock Compensation (Topic 718): Scope of Modification Accounting (“ASU 2017-09”), which clarifies when to account for a change to the terms or conditions of a stock-based payment award as a modification. Under the new guidance, modification accounting is required only if the fair value, the vesting conditions, or the classification of the award (as equity or liability) changes as a result of the change in terms or conditions. It is effective prospectively for the annual period ending December 31, 2018 and interim periods within that annual period. Early adoption is permitted. The Company adopted ASU 2017-09 on January 1, 2018 and its adoption did not have a material impact on the consolidated financial statements and related disclosures.

In July 2017, the FASB issued ASU 2017-11, Earnings Per Share (Topic 260), Distinguishing Liabilities from Equity (Topic 480) and Derivatives and Hedging (Topic 815): I. Accounting for Certain Financial Instruments with Down Round Features; II. Replacement of the Indefinite Deferral for Mandatorily Redeemable Financial Instruments of Certain Nonpublic Entities and Certain Mandatorily Redeemable Noncontrolling Interests with a Scope Exception (“ASU 2017-11”). Part I of this update addresses the complexity of accounting for certain financial instruments with down round features. Down round features are features of certain equity-linked instruments (or embedded features) that result in the strike price being reduced on the basis of the pricing of future equity offerings. Current accounting guidance creates cost and complexity for entities that issue financial instruments (such as warrants and convertible instruments) with down round features that require fair value measurement of the entire instrument or conversion option. Part II of this update addresses the difficulty of navigating Topic 480, Distinguishing Liabilities from Equity, because of the existence of extensive pending content in the FASB Accounting Standards Codification. This pending content is the result of the indefinite deferral of accounting requirements about mandatorily redeemable financial instruments of certain nonpublic entities and certain mandatorily redeemable noncontrolling interests. The amendments in Part II of this update do not have an accounting effect. This ASU is effective for fiscal years, and interim periods within those years, beginning after December 15, 2018. The Company is currently assessing the potential impact of adopting ASU 2017-11 on its financial statements and related disclosures, but does not expect it to have a significant impact.

Significant Agreements

Sumitomo Dainippon Pharma Co., Ltd.

In March 2011, the Company entered into an exclusive license agreement (the “Original License Agreement”) with Sumitomo Dainippon Pharma Co., Ltd. (“Sumitomo Dainippon”), pursuant to which the Company granted to Sumitomo Dainippon an exclusive license to research, develop and commercialize OCA for the treatment of PBC and NASH in Japan and China (excluding Taiwan) and an option to research, develop and commercialize OCA in certain countries outside of such territories (the “Country Option”). The Company received an upfront payment from Sumitomo Dainippon of $15.0 million under the terms of the Original License Agreement. In May 2014, Sumitomo Dainippon exercised the Country Option in part to add Korea as part of its licensed territories and paid the Company a $1.0 million upfront fee in connection therewith. In February 2018, the Company and Sumitomo Dainippon entered into Amendment No. 3 (the “Sumitomo Amendment”) to the Original License Agreement (as amended, the “License Agreement”). Pursuant to the Sumitomo Amendment, (i) Sumitomo Dainippon agreed to return the rights to develop and commercialize OCA in Japan and Korea and waived its rights to the Country Option, (ii) the Company agreed to forego any further milestone or royalty payments relating to the development and commercialization of OCA in Japan and Korea and (iii) certain milestone payment obligations with respect to the development and commercialization of OCA were adjusted. In addition, the Company and Sumitomo Dainippon agreed that if certain clinical development milestones in China are not met by December 31, 2020, Sumitomo Dainippon may choose either to make a milestone payment to the Company or terminate the License Agreement. As of March 31, 2018, the Company had achieved $6.0 million of development milestones under the License Agreement. The Company may be eligible to receive additional milestone payments under the License Agreement in an aggregate amount of up to approximately $23.0 million based on the occurrence of certain clinical trial and regulatory-related events and tiered royalty payments up to the mid-twenties in percentage terms based on net sales of OCA products in China (excluding Taiwan). Sumitomo Dainippon is responsible for the costs of developing and commercializing OCA in its territories.

The Company has concluded that Sumitomo Dainippon does not represent a customer of the Company, and therefore the license agreement is outside of the scope of ASC 606. The Company has and continues to account for this agreement under the legacy accounting guidance. Under ASC 605, Revenue Recognition, the Company evaluated the license agreement with Sumitomo Dainippon and determined that it is a revenue arrangement with multiple deliverables, or performance obligations. The Company’s substantive performance obligations under this license include an exclusive license to its technology, technical and scientific support to the development plan and participation on a joint steering committee. The Company determined that these performance obligations represent a single unit of accounting, since, initially, the license does not have stand-alone value to Sumitomo Dainippon without the Company’s technical expertise and steering committee participation during the development of OCA. The development period is currently estimated as continuing through June 2020 and, as such, the $15.0 million upfront payment is being recognized ratably over this period. During the three months ended March 31, 2018 and 2017, the Company recorded licensing revenue of approximately $0.8 million and $0.4 million, respectively, under this agreement. Included in licensing revenue for the three months ended March 31, 2018 is $0.4 million related to the accelerated recognition, as a result of the Sumitomo Amendment, of the remaining portion of deferred revenue associated with the $1.0 million upfront payment that the Company received under the Original License Agreement in connection with Sumitomo Dainippon’s exercise of the Country Option with respect to Korea.

The Company recognizes milestone payments when the associated milestones are achieved. As of March 31, 2018, and December 31, 2017, the Company had recorded deferred revenues of $3.6 million and $4.5 million, respectively, under this agreement.

Cash, Cash Equivalents and Investments

The following table summarizes the Company’s cash, cash equivalents and investments as of March 31, 2018 and December 31, 2017:

	As of March 31, 2018
			Gross		Gross
			Unrealized		Unrealized
	Amortized Cost		Gains		Losses			Fair Value
	(In thousands)
Cash and cash equivalents:
Cash and money market funds	$	48,871	$	-	$	-		$	48,871
Investment securities:
Commercial paper		8,909		-		(31	)		8,878
Corporate debt securities		263,476		-		(1,098	)		262,378
U.S. government and agency securities		5,995		-		(30	)		5,965
Total investments		278,380		-		(1,159	)		277,221
Total cash, cash equivalents and investments	$	327,251	$	-	$	(1,159	)	$	326,092

	As of December 31, 2017
			Gross		Gross
			Unrealized		Unrealized
	Amortized Cost		Gains		Losses			Fair Value
	(In thousands)
Cash and cash equivalents:
Cash and money market funds	$	70,013	$	-	$	-		$	70,013
Investment securities:
Commercial paper		2,986		-		(3	)		2,983
Corporate debt securities		333,958		-		(752	)		333,206
U.S. government and agency securities		8,743		-		(28	)		8,715
Total investments		345,687		-		(783	)		344,904
Total cash, cash equivalents and investments	$	415,700	$	-	$	(783	)	$	414,917

As of March 31, 2018, the Company held a total of nineteen positions that were in a continuous unrealized loss position for more than twelve months. The Company has determined that the unrealized losses are deemed to be temporary impairments as of March 31, 2018. The Company believes that the unrealized losses generally are caused by increases in the risk premiums required by market participants rather than an adverse change in cash flows or a fundamental weakness in the credit quality of the issuer or underlying assets. Because the Company has the ability and intent to hold these investments until a recovery of fair value, which may be maturity, it does not consider the investments to be other-than-temporarily impaired at March 31, 2018.

Fixed Assets, Net

Fixed assets are stated at cost and depreciated or amortized using the straight-line method based on useful lives as follows:

	Useful lives
	(Years)	March 31, 2018			December 31, 2017
		(In thousands)
Office equipment and software	3	$	4,049		$	5,048
Leasehold improvements	Over life of lease		14,722			14,665
Furniture and fixtures	7		4,334			5,257
Subtotal			23,105			24,970
Less: accumulated depreciation			(9,031	)		(8,786	)
Fixed assets, net		$	14,074		$	16,184

Inventory, Net

Inventories are stated at the lower of cost or market. Inventories consisted of the following:

	March 31, 2018		December 31, 2017
	(In thousands)
Work-in-process	$	7,713	$	3,249
Finished goods		225		231
Inventory, net	$	7,938	$	3,480

Accounts Payable, Accrued Expenses and Other Liabilities

Accounts payable, accrued expenses and other liabilities consisted of the following:

	March 31, 2018		December 31, 2017
	(In thousands)
Accounts payable	$	13,545	$	6,965
Accrued contracted services		37,984		51,154
Accrued employee compensation		11,600		27,118
Other liabilities		10,958		9,540
Accounts payable, accrued expenses and other liabilities	$	74,087	$	94,777

Fair Value Measurements

The carrying amounts of the Company’s receivables and payables approximate their fair value due to their short maturities.

Accounting principles provide guidance for using fair value to measure assets and liabilities. The guidance includes a three-level hierarchy of valuation techniques used to measure fair value, defined as follows:

Unadjusted Quoted Prices — The fair value of an asset or liability is based on unadjusted quoted prices in active markets for identical assets or liabilities (Level 1).

Pricing Models with Significant Observable Inputs — The fair value of an asset or liability is based on information derived from either an active market quoted price, which may require further adjustment based on the attributes of the financial asset or liability being measured, or an inactive market transaction (Level 2).

Pricing Models with Significant Unobservable Inputs — The fair value of an asset or liability is primarily based on internally derived assumptions surrounding the timing and amount of expected cash flows for the financial instrument. Therefore, these assumptions are unobservable in either an active or inactive market (Level 3).

The Company considers an active market as one in which transactions for the asset or liability occur with sufficient frequency and volume to provide pricing information on an ongoing basis. Conversely, the Company views an inactive market as one in which there are few transactions for the asset or liability, the prices are not current, or price quotations vary substantially either over time or among market makers. Where appropriate, non-performance risk, or that of a counterparty, is considered in determining the fair values of liabilities and assets, respectively.

The Company’s cash deposits and money market funds are classified within Level 1 of the fair value hierarchy because they are valued using bank balances or quoted market prices. Investments are classified as Level 2 instruments based on market pricing and other observable inputs.

Financial assets carried at fair value are classified in the tables below in one of the three categories described above:

			Fair Value Measurements Using
	Total		Level 1		Level 2		Level 3
	(In thousands)
March 31, 2018
Assets:
Money market funds (included in cash and cash equivalents)	$	10,239	$	10,239	$	-	$	-
Available for sale securities:
Commercial paper		8,878		-		8,878		-
Corporate debt securities		262,378		-		262,378		-
U.S. government and agency securities		5,965		-		5,965		-
Total financial assets:	$	287,460	$	10,239	$	277,221	$	-

December 31, 2017
Assets:
Money market funds (included in cash and cash equivalents)	$	13,361	$	13,361	$	-	$	-
Available for sale securities:
Commercial paper		2,983		-		2,983		-
Corporate debt securities		333,206		-		333,206		-
U.S. government and agency securities		8,715		-		8,715		-
Total financial assets	$	358,265	$	13,361	$	344,904	$	-

The estimated fair value of marketable debt securities (commercial paper, corporate debt securities and U.S. government and agency securities), by contractual maturity, are as follows:

	Fair Value as of
	March 31, 2018		December 31, 2017
	(In thousands)
Due in one year or less	$	222,895	$	282,159
Due after 1 year through 2 years		54,326		62,745
Total investments in debt securities	$	277,221	$	344,904

Actual maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations without call or prepayment penalties.

10.

Long-Term Debt

Debt, net of discounts and deferred financing costs, consists of the following:

	March 31, 2018		December 31, 2017
	(In thousands)
Long-term debt	$	359,449	$	355,677
Less current portion		-		-
Long-term debt outstanding	$	359,449	$	355,677

On July 6, 2016, the Company issued $460.0 million aggregate principal amount of 3.25% Convertible Senior Notes due 2023 (the “Convertible Notes”). The Company received net proceeds of $447.6 million after deducting underwriting discounts and estimated offering expenses of approximately $12.4 million. The Company used approximately $38.4 million of the net proceeds from the offering to fund the payment of the cost of the Capped Call Transactions (as defined below) that were entered into in connection with the issuance of the Convertible Notes.

The Convertible Notes are senior unsecured obligations of the Company. Interest is payable semi-annually on January 1 and July 1 of each year, beginning on January 1, 2017. The Convertible Notes mature on July 1, 2023, unless earlier repurchased, redeemed or converted. The Convertible Notes are convertible at the option of holders, under certain circumstances and during certain periods, into cash, shares of the Company’s common stock or a combination of cash and shares of the Company’s common stock, at the Company’s election. The initial conversion rate of the Convertible Notes is 5.0358 shares of the Company’s common stock per $1,000 principal amount of Convertible Notes, which is equivalent to an initial conversion price of approximately $198.58 per share of the Company’s common stock. The conversion rate is subject to adjustment upon the occurrence of certain events. The Company may redeem for cash all or part of the Convertible Notes, at its option, on or after July 6, 2021, under certain circumstances at a redemption price equal to 100% of the principal amount of the Convertible Notes to be redeemed, plus accrued and unpaid interest to, but excluding, the redemption date.

On June 30, 2016, in connection with the pricing of the Convertible Notes, the Company entered into privately-negotiated capped call transactions (the “Base Capped Call Transactions”) with each of Royal Bank of Canada, UBS AG, London Branch, and Credit Suisse Capital LLC (the “Option Counterparties”). On July 1, 2016, in connection with the underwriters’ exercise of their over-allotment option in full, the Company entered into additional capped call transactions (the “Additional Capped Call Transactions” and, together with the Base Capped Call Transactions, the “Capped Call Transactions”) with the Option Counterparties. The Capped Call Transactions are expected generally to reduce the potential dilution upon conversion of the Convertible Notes in the event that the market price per share of the Company’s common stock, as measured under the terms of the Capped Call Transactions, is greater than the strike price of the Capped Call Transactions, which initially corresponds to the conversion price of the Convertible Notes, and is subject to anti-dilution adjustments generally similar to those applicable to the conversion rate of the Convertible Notes. The cap price of the Capped Call Transactions is initially $262.2725 per share, and is subject to certain adjustments under the terms of the Capped Call Transactions. If, however, the market price per share of the Company’s common stock, as measured under the terms of the Capped Call Transactions, exceeds the cap price of the Capped Call Transactions, there would nevertheless be dilution upon conversion of the Convertible Notes to the extent that such market price exceeds the cap price of the Capped Call Transactions.

In accordance with ASC Subtopic 470-20, “Debt with Conversion and Other Options,” the Company used an effective interest rate of 8.4% to determine the liability component of the Convertible Notes. This resulted in the recognition of $334.4 million as the liability component of the Convertible Notes and the recognition of the residual $113.1 million as the debt discount with a corresponding increase to additional paid-in capital for the equity component of the Convertible Notes.

Interest expense was $7.5 million and $7.2 million for the three months ended March 31, 2018 and 2017, respectively, related to the Convertible Notes. Accrued interest on the Convertible Notes was approximately $3.7 million and $7.5 million as of March 31, 2018 and December 31, 2017, respectively. The Company recorded debt issuance costs of $12.4 million, which are being amortized using the effective interest method. As of March 31, 2018, $10.0 million of debt issuance costs are recorded on the unaudited condensed consolidated balance sheet in Long-Term Debt, in accordance with ASU 2015-03, Interest – Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs. As of March 31, 2018, $460.0 million aggregate principal amount of the Convertible Notes was outstanding.

11.

Product Revenue, Net

The Company recognized net sales of Ocaliva of $35.2 million and $20.6 million for the three months ended March 31, 2018 and 2017, respectively.

The table below summarizes consolidated product revenue, net by region:

	Three Months Ended March 31,
	2018		2017
	(In thousands)
Product revenue, net:
U.S.	$	28,513	$	19,777
ex-U.S.		6,645		826
Total product revenue, net	$	35,158	$	20,603

12.

Stock Compensation

The Company’s 2012 Equity Incentive Plan (“2012 Plan”) became effective upon the pricing of its initial public offering in October 2012. At the same time, the Company’s 2003 Stock Incentive Plan (“2003 Plan”) was terminated and 555,843 shares available under the 2003 Plan were added to the 2012 Plan.

On January 1, 2018, the number of shares available for future grants under the 2012 Plan increased by 1,010,693 shares, as a result of the automatic increase in shares reserved pursuant to the terms thereof.

The estimated fair value of the options that have been granted under the 2003 and 2012 Plans is determined utilizing the Black-Scholes option-pricing model at the date of grant. The fair value of restricted stock units (“RSUs”) and restricted stock awards (“RSAs”) that have been granted under the 2012 Plan is determined utilizing the closing stock price on the date of grant. The fair value of the performance stock units (“PSUs”) and performance share awards (“PSAs”) granted in the three months ended March 31, 2018 is determined utilizing the Monte Carlo pricing model.

The following table summarizes stock option activity during the three months ended March 31, 2018:

						Weighted
						Average
	Number			Weighted		Remaining		Aggregate
	of Shares			Average		Contractual		Intrinsic Value
	(In thousands)			Exercise Price		Term (years)		(In thousands)
Outstanding at December 31, 2017		1,808		$	114.70		7.4	$	14,648
Granted		561		$	58.56		-	$	-
Exercised		(18	)	$	25.57		-	$	-
Cancelled/forfeited		(98	)	$	121.33		-	$	-
Expired		(23	)	$	151.90		-	$	-
Outstanding at March 31, 2018		2,230		$	100.51		7.3	$	17,057
Expected to vest		2,230		$	100.51		7.3	$	17,057
Exercisable		1,034		$	107.14		5.3	$	15,227

As of March 31, 2018, there was approximately $52.4 million of total unrecognized compensation expense related to the unvested stock options shown in the table above, which is expected to be recognized over a weighted average period of 2.8 years.

The fair value of the Company's option awards were estimated using the assumptions below:

	Three Months Ended March 31,
	2018	2017
Volatility	60.9 - 60.9%	60.9 - 65.4%
Expected term (in years)	6.0 - 6.0	6.0 - 9.9
Risk-free rate	2.4 - 2.7%	2.0 - 2.4%
Expected dividend yield	—%	—%

The following table summarizes the aggregate RSU, PSU, PSA and RSA activity during the three months ended March 31, 2018:

				Weighted
	Number of			Average Fair
	Awards			Value
	(In thousands)
Non-vested shares outstanding, December 31, 2017		493		$	113.60
Granted		502		$	58.50
Vested		(97	)	$	127.19
Forfeited		(51	)	$	111.58
Non-vested shares outstanding, March 31, 2018		847		$	79.50

As of March 31, 2018, there was approximately $59.8 million of total unrecognized compensation expense related to unvested RSUs, PSUs, PSAs and RSAs, which is expected to be recognized over a weighted average period of 2.8 years.

On February 5, 2018, the Company granted a total of 51,200 PSUs and 4,300 PSAs to certain of the Company’s executive officers. The performance criterion is based on the Total Shareholder Return (“TSR”) of the Company’s common stock relative to the TSR of the companies comprising the S&P Biotechnology Select Industry Index over a 3-year performance period and is accounted for as a market condition under ASC Topic 718, Compensation – Stock Compensation (“ASC Topic 718”). The TSR is calculated by dividing (a) the difference of the ending average minus the beginning average closing stock price by (b) the beginning average closing stock price. The beginning average stock price equals the average closing stock price over the one calendar month period prior to the beginning of the performance period. The ending average stock price equals the average closing price over the one calendar month period ending on the last day of the performance period. The relative TSR is then used to calculate the payout percentage, which may range from zero percent (0%) to one hundred and fifty percent (150%) of the target award. The Company utilized a Monte Carlo Simulation to determine the grant date fair value of the awards. The Company recorded approximately $169,000 of stock-based compensation related to PSUs and PSAs during the three months ended March 31, 2018.

The Company accounts for forfeitures when they occur. Ultimately, the actual expense recognized over the vesting period will be for only those shares that vest. When certain of the Company’s performance based grants (other than PSUs and PSAs) are issued, the Company recognizes no expense until achievement of the performance requirement is deemed probable.

Stock-based compensation expense has been reported in our statements of operations as follows:

	Three Months Ended March 31,
	2018		2017
	(In thousands)
Selling, general and administrative	$	8,676	$	8,974
Research and development		3,629		5,087
Total stock-based compensation	$	12,305	$	14,061

13.

Net Loss Per Share

The following table presents the historical computation of basic and diluted net loss per share:

	Three Months Ended March 31,
	2018			2017
	(In thousands, except per share amounts)
Historical net loss per share
Numerator:
Net loss attributable to common stockholders	$	(81,590	)	$	(89,930	)
Denominator:
Weighted average shares used in calculating net loss per share - basic and diluted		25,309			24,931

Net loss per share:
Basic and diluted	$	(3.22	)	$	(3.61	)

The following potentially dilutive securities have been excluded from the computations of diluted weighted average shares outstanding:

	Three Months Ended March 31,
	2018		2017
	(In thousands)
Convertible Notes		2,316		2,316
Options		2,230		1,927
Restricted stock units		847		514
Total		5,393		4,757

14.

Subsequent Events

On April 9, 2018, the Company issued and sold (i) 2,695,313 shares of common stock in a registered public offering (including 351,563 shares issued and sold upon the exercise in full of the underwriters’ option to purchase additional shares), at a price to the public of $64.00 per share (the “Public Offering”) and (ii) 1,562,500 shares of common stock (the “Private Placement Shares”) in a private placement (the “Concurrent Private Placement”) exempt from the registration requirements of the Securities Act of 1933, as amended, at a purchase price per share equivalent to the price to the public set in the Public Offering and pursuant to a securities purchase agreement (the “Securities Purchase Agreement”) that the Company entered into with the purchasers in the Concurrent Private Placement (the “Private Placement Purchasers”). Pursuant to the Securities Purchase Agreement, the Company granted to the Private Placement Purchasers certain registration rights requiring the Company, upon request of the Private Placement Purchasers (and/or certain affiliate transferees thereof) on or after June 5, 2018 and subject to certain terms and conditions, to register the resale by such Private Placement Purchasers (and/or such affiliates) of the Private Placement Shares held by them.

The net proceeds to the Company from the Public Offering and the Concurrent Private Placement were approximately $261.4 million, after deducting underwriting discounts, commissions and estimated offering expenses of approximately $11.1 million.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

You should read the following discussion and analysis together with our condensed consolidated financial statements and accompanying notes included elsewhere in this Quarterly Report on Form 10-Q and our audited consolidated financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2017 (the “Annual Report”). This discussion and analysis contains forward-looking statements, which involve risks and uncertainties. As a result of many factors, such as those described under “Cautionary Note Regarding Forward-Looking Statements,” “Risk Factors” and elsewhere in this Quarterly Report on Form 10-Q and in our Annual Report, our actual results may differ materially from those anticipated in these forward-looking statements.

Overview

We are a biopharmaceutical company focused on the development and commercialization of novel therapeutics to treat progressive non-viral liver diseases with high unmet medical need utilizing our proprietary bile acid chemistry. Our one marketed product, Ocaliva (obeticholic acid or “OCA”), and portfolio of clinical product candidates have the potential to treat orphan and more prevalent liver diseases for which, currently, there are limited therapeutic solutions.

OCA was approved in the United States in May 2016 for use in patients with primary biliary cholangitis (“PBC”), under the brand name Ocaliva^® (obeticholic acid). OCA is a bile acid analog, a chemical substance that has a structure based on a naturally occurring human bile acid, that selectively binds to and activates the farnesoid X receptor. We believe OCA has broad liver-protective properties and may effectively counter a variety of chronic insults to the liver that cause fibrosis, or scarring, which can eventually lead to cirrhosis, liver transplant and death. We commenced sales and marketing of Ocaliva in the United States shortly after receiving marketing approval, and Ocaliva is now available to patients primarily through a network of specialty pharmacy distributors. In December 2016, the European Commission granted conditional approval for Ocaliva for the treatment of PBC and we commenced our European commercial launch in January 2017. We have submitted dossiers and obtained, or are otherwise being reviewed for, reimbursement from a number of national authorities in the European Union. Since January 2017, Ocaliva has also received regulatory approval in several of our target markets outside Europe, including Canada and Israel. We also have filed and plan to file for marketing authorization for OCA for PBC in other target markets.

We are currently evaluating our future development strategy for OCA for other indications, including a variety of other progressive non-viral liver diseases such as nonalcoholic steatohepatitis (“NASH”), primary sclerosing cholangitis (“PSC”) and biliary atresia.

OCA achieved the primary endpoint in a Phase 2b clinical trial for the treatment of NASH, known as the FLINT trial, which was sponsored by the U.S. National Institute of Diabetes and Digestive and Kidney Diseases, a part of the National Institutes of Health. The FLINT trial was completed in late July 2014. We have an ongoing Phase 3 clinical trial in non-cirrhotic NASH patients with liver fibrosis, known as the REGENERATE trial. REGENERATE includes a pre-planned histology-based interim analysis after 72 weeks of treatment. In May 2017, we completed enrollment of the interim analysis cohort for the REGENERATE trial. We anticipate top-line results from the interim analysis in the first half of 2019. We have also completed a Phase 2 clinical trial, known as the CONTROL trial, the goal of which was to characterize the lipid metabolic effects of OCA and cholesterol management effects of concomitant statin administration in NASH patients. We announced that this trial met its primary endpoint in July 2017. We continue to work towards expanding our overall NASH development program with additional trials and studies, including our ongoing Phase 3 trial in NASH patients with compensated cirrhosis, known as the REVERSE trial.

In addition to PBC and NASH, we continue to invest in research of OCA for additional patient populations with other liver diseases. For example, in July 2017, we announced top-line results of our Phase 2 AESOP trial in PSC which evaluated the effects of 24 weeks of treatment with varying doses of OCA compared to placebo. This trial achieved its primary endpoint, which we believe establishes a proof-of-concept of OCA in a second cholestatic liver disease. We plan to discuss these results with regulatory authorities to formulate our future development plans for OCA for PSC. OCA has received orphan drug designation in the United States and the European Union for the treatment of PBC and PSC and breakthrough therapy designation from the U.S. Food and Drug Administration (the “FDA”) for the treatment of NASH patients with liver fibrosis.

Our current patents for OCA are scheduled to expire at various times through 2033. We own or have rights to develop and commercialize OCA worldwide except for China (excluding Taiwan), where we have exclusively licensed OCA for PBC and NASH to Sumitomo Dainippon Pharma Co., Ltd. (“Sumitomo Dainippon”).

Recent Developments

Sumitomo Amendment

In February 2018, we entered into Amendment No. 3 (the “Sumitomo Amendment”) to our exclusive license agreement (the “Original License Agreement”) with Sumitomo Dainippon (as amended, the “License Agreement”), under which we had previously granted to Sumitomo Dainippon an exclusive license to research, develop and commercialize OCA for the treatment of PBC and NASH in Korea, Japan and China (excluding Taiwan) and an option to research, develop and commercialize OCA in certain countries outside of such territories (the “Country Option”). Pursuant to the Sumitomo Amendment, (i) Sumitomo Dainippon agreed to return the rights to develop and commercialize OCA in Japan and Korea and waived its rights to the Country Option, (ii) we agreed to forego any further milestone or royalty payments relating to the development and commercialization of OCA in Japan and Korea and (iii) certain milestone payment obligations with respect to the development and commercialization of OCA were adjusted. In addition, we and Sumitomo Dainippon agreed that if certain clinical development milestones in China are not met by December 31, 2020, Sumitomo Dainippon may choose either to make a milestone payment to us or terminate the License Agreement.

Public Offering and Concurrent Private Placement

In April 2018, we issued and sold (i) 2,695,313 shares of common stock in a registered public offering (including 351,563 shares issued and sold upon the exercise in full of the underwriters’ option to purchase additional shares), at a price to the public of $64.00 per share (the “Public Offering”) and (ii) 1,562,500 shares of common stock (the “Private Placement Shares”) in a private placement (the “Concurrent Private Placement”) exempt from the registration requirements of the Securities Act of 1933, as amended, at a purchase price per share equivalent to the price to the public set in the Public Offering and pursuant to a securities purchase agreement (the “Securities Purchase Agreement”) that we entered into with the purchasers in the Concurrent Private Placement (the “Private Placement Purchasers”). Pursuant to the Securities Purchase Agreement, we granted to the Private Placement Purchasers certain registration rights requiring us, upon request of the Private Placement Purchasers (and/or certain affiliate transferees thereof) on or after June 5, 2018 and subject to certain terms and conditions, to register the resale by such Private Placement Purchasers (and/or such affiliates) of the Private Placement Shares held by them.

We received net proceeds from the Public Offering and the Concurrent Private Placement of approximately $261.4 million, after deducting underwriting discounts, commissions and estimated offering expenses of approximately $11.1 million.

Financial Overview

Revenue

We commenced our commercial launch of Ocaliva for use in PBC in the United States in June 2016. In December 2016, the European Commission granted conditional approval for Ocaliva for the treatment of PBC and we commenced our European commercial launch in January 2017. In May 2017, Health Canada granted a conditional approval for Ocaliva for PBC and we commenced our commercial launch in July 2017.

We recognize revenue under Accounting Standards Codification (“ASC”) Topic 606, Revenue from Contracts with Customers (“ASC 606”). The core principle of the new revenue standard is that a company should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the company expects to be entitled in exchange for those goods or services. The following five steps are applied to achieve that core principle:

•

Step 1: Identify the contract with the customer

•

Step 2: Identify the performance obligations in the contract

•

Step 3: Determine the transaction price

•

Step 4: Allocate the transaction price to the performance obligations in the contract

•

Step 5: Recognize revenue when the company satisfies a performance obligation

Product Revenue, Net

We provide the right of return to our customers for unopened product for a limited time before and after its expiration date. Prior to July 2017, given our limited sales history for Ocaliva and the inherent uncertainties in estimating product returns, we had determined that the shipments of Ocaliva made to our customers did not meet the criteria for revenue recognition at the time of shipment. Accordingly, we recognized revenue when the product was sold through by our customers, provided all other revenue recognition criteria were met. We invoiced our customers upon shipment of Ocaliva to them and recorded accounts receivable, with a corresponding liability for deferred revenue equal to the gross invoice price. We then recognized revenue when Ocaliva was sold through as specialty pharmacies dispensed product directly to the patients (sell-through basis).

We recognized net sales of Ocaliva of $35.2 million and $20.6 million for the three months ended March 31, 2018 and 2017, respectively.

We have written contracts with each of our customers that have a single performance obligation – to deliver products upon receipt of a customer order – and these obligations are satisfied when delivery occurs and the customer receives Ocaliva. We evaluate the creditworthiness of each of our customers to determine whether collection is reasonably assured. We estimate variable revenue by calculating gross product revenues based on the wholesale acquisition cost that we charge our customers for Ocaliva, and then estimating our net product revenues by deducting (i) trade allowances, such as invoice discounts for prompt payment and customer fees, (ii) estimated government rebates and discounts related to Medicare, Medicaid and other government programs, and (iii) estimated costs of incentives offered to certain indirect customers including patients.

Licensing Revenue

We recognize revenue derived from our collaborative agreements for the development and commercialization of certain of our product candidates. In March 2011, we entered into the Original License Agreement, pursuant to which we granted to Sumitomo Dainippon an exclusive license to research, develop and commercialize OCA for the treatment of PBC and NASH in Japan and China (excluding Taiwan) and the Country Option. We received an upfront payment from Sumitomo Dainippon of $15.0 million under the terms of the Original License Agreement. In May 2014, Sumitomo Dainippon exercised the Country Option in part to add Korea as part of its licensed territories and paid us a $1.0 million upfront fee in connection therewith. As of March 31, 2018, we had achieved $6.0 million of development milestones under the License Agreement. We may be eligible to receive additional milestone payments under the License Agreement in an aggregate amount of up to approximately $23.0 million based on the occurrence of certain clinical trial and regulatory-related events and tiered royalty payments up to the mid-twenties in percentage terms based on net sales of OCA products in China (excluding Taiwan).

For accounting purposes, the upfront payments are recorded as deferred revenue and amortized over time and milestone payments are recognized once earned. For the three months ended March 31, 2018 and 2017, we recognized $0.8 million and $0.4 million, respectively, in licensing revenue related to the amortization of upfront payments under the License Agreement. Included in licensing revenue for the three months ended March 31, 2018 is $0.4 million related to the accelerated recognition, as a result of the Sumitomo Amendment, of the remaining portion of deferred revenue associated with the $1.0 million upfront payment that we received under the Original License Agreement in connection with Sumitomo Dainippon’s exercise of the Country Option with respect to Korea. We anticipate that we will recognize revenue of approximately $1.6 million per year through 2020, for the amortization of the relevant upfront collaboration payments from Sumitomo Dainippon.

Selling, General and Administrative Expenses

Our selling, general and administrative expenses have increased and we expect to continue to incur significant expenses due to the commercialization of Ocaliva for PBC in the United States, Europe and certain other countries, the potential commercialization of OCA for PBC in other international markets and development activities for OCA for indications other than PBC and other product candidates. We further plan on expanding our operations both in the United States and abroad, which will increase our selling, general and administrative expenses. We believe that these activities will result in costs related to the hiring of additional personnel, fees for outside consultants, lawyers and accountants, and the maintenance of facilities. We have also incurred and expect to continue to incur increased costs to comply with corporate governance, internal controls, compliance and similar requirements applicable to public companies with expanding operations and biopharmaceutical companies undertaking worldwide product launches.

Research and Development Expenses

Since our inception, we have focused significant resources on our research and development activities, including conducting preclinical studies and clinical trials, manufacturing development efforts and activities related to regulatory filings for our product candidates. We recognize research and development expenses as they are incurred.

Our research and development expenses have increased and we expect to continue to incur significant expenses due to our preclinical studies and clinical trials and other research and development efforts. We anticipate that our research and development expenses will be substantial for the foreseeable future as we continue the development of OCA for the treatment of PBC, NASH and other indications and to further advance the development of our other product candidates, subject to the availability of additional funding.

Results of Operations

Comparison of the Three Months Ended March 31, 2018 and 2017

The following table summarizes our results of operations for each of the three months ended March 31, 2018 and 2017, together with the changes in those items in dollars:

	Three Months Ended March 31,						Dollar Change
	2018			2017
	(In thousands)
Revenue:
Product revenue, net	$	35,158		$	20,603		$	14,555
Licensing revenue		805			445			360
Total revenue		35,963			21,048			14,915
Operating expenses:
Cost of sales		280			97			183
Selling, general and administrative		62,467			61,082			1,385
Research and development		48,672			43,832			4,840
Total operating expenses		111,419			105,011			6,408
Operating loss		(75,456	)		(83,963	)		8,507
Other income (expense):
Interest expense		(7,509	)		(7,207	)		(302	)
Other income, net		1,375			1,240			135
		(6,134	)		(5,967	)		(167	)
Net loss	$	(81,590	)	$	(89,930	)	$	8,340

Revenues

Product revenue, net was $35.2 million and $20.6 million for the three months ended March 31, 2018 and 2017, respectively. For the three months ended March 31, 2018 and 2017, product revenue, net was comprised of U.S. Ocaliva net sales of $28.5 million and $19.8 million, respectively, and ex-U.S. Ocaliva net sales of $6.7 million and $0.8 million, respectively. We commenced our commercial launch of Ocaliva for use in PBC in the United States, certain European countries and Canada in June 2016, January 2017 and July 2017, respectively. For the three months ended March 31, 2018 and 2017, licensing revenue was approximately $0.8 million and $0.4 million, respectively, in each case, related to the amortization of upfront payments under the License Agreement. The increase in licensing revenue related to the accelerated recognition of certain upfront payments under the License Agreement resulting from the Sumitomo Amendment, which was entered into in the first quarter of 2018.

Cost of sales

Cost of sales was $0.3 million and $0.1 million for the three months ended March 31, 2018 and 2017, respectively. Prior to the FDA’s approval of Ocaliva, we expensed costs related to the manufacturing and buildup of our Ocaliva commercial launch supplies. As a result, our cost of sales for the quarters ended March 31, 2018 and 2017 included only packaging and labeling expenses incurred during the quarter. We expect our cost of sales to remain negligible until the previously expensed supplies of Ocaliva are sold.

Selling, general and administrative expenses

Selling, general and administrative expenses were $62.5 million and $61.1 million for the three months ended March 31, 2018 and 2017, respectively. The $1.4 million net increase between periods is primarily due to an increase in personnel-related costs of $2.0 million to support our continued commercial and international initiatives, an increase in consultant spend of $1.4 million, a loss related to sub-leases and disposal of fixed assets of $1.3 million and an increase of $0.4 million in legal and indirect costs, partially offset by decreased expenses of approximately $3.7 million in Ocaliva commercialization activities and market research.

Research and development expenses

Research and development expenses were $48.7 million and $43.8 million for the three months ended March 31, 2018 and 2017, respectively, representing a net increase of $4.9 million. The net increase in research and development expenses primarily reflects increases in OCA research and development activities of approximately $10.2 million, partially offset by decreased expenses of approximately $4.6 million in compensation-related costs and $0.7 million of indirect costs.

Interest expense

Interest expense was $7.5 million and $7.2 million for the three months ended March 31, 2018 and 2017, respectively, in each case, related to the $460.0 million aggregate principal amount of 3.25% Convertible Senior Notes due 2023 (the “Convertible Notes”) that we issued in July 2016.

Other income, net

Other income, net was $1.4 million and $1.2 million in the three months ended March 31, 2018 and 2017, respectively. Such income is primarily attributable to interest income earned on cash, cash equivalents and investment securities.

Income taxes

For the three months ended March 31, 2018 and 2017, no income tax expense or benefit was recognized. Our deferred tax assets are comprised primarily of net operating loss carryforwards. We maintain a full valuation allowance on our deferred tax assets since we have not yet achieved sustained profitable operations. As a result, we have not recorded any income tax benefit since our inception.

Liquidity and Capital Resources

Cash Flows

The following table sets forth the significant sources and uses of cash for the periods indicated:

	Three Months Ended March 31,
	2018			2017
	(In thousands)
Net cash provided by (used in):
Operating activities	$	(88,866	)	$	(77,500	)
Investing activities		66,718			100,014
Financing activities		481			556
Effect of exchange rate changes		525			205
Net (decrease) increase in cash and cash equivalents		(21,142	)		23,275

Operating Activities. Net cash used in operating activities of approximately $88.9 million during the three months ended March 31, 2018 was primarily a result of our $81.6 million net loss and a net decrease in operating assets and liabilities of $26.0 million, partially offset by $12.3 million in stock-based compensation, $3.4 million for accretion of the discount on our Convertible Notes, $0.5 million for the amortization of investment premium, $0.9 million for the loss on disposal of fixed assets and $1.3 million of depreciation.

Net cash used in operating activities of approximately $77.5 million during the three months ended March 31, 2017 was primarily a result of our $89.9 million net loss and a net decrease in operating assets and liabilities of $6.9 million, partially offset by $14.1 million in stock-based compensation, $3.1 million for accretion of the discount on our Convertible Notes, $1.0 million for the amortization of investment premium and $0.8 million of depreciation.

Investing Activities. For the three months ended March 31, 2018, net cash provided by investing activities primarily reflects the sale of investment securities of $95.3 million, partially offset by the purchase of investment securities of $28.5 million.

For the three months ended March 31, 2017, net cash provided by investing activities primarily reflects the sale of investment securities of $125.3 million, partially offset by the purchase of investment securities of $21.2 million and $4.0 million of capital expenditures related to the build out of our new corporate office.

Financing Activities. Net cash provided by financing activities in the three months ended March 31, 2018 consisted primarily of $0.5 million from the exercise of options to purchase common stock.

Net cash provided by financing activities in the three months ended March 31, 2017 consisted primarily of $0.6 million from the exercise of options to purchase common stock.

Future Funding Requirements

As of March 31, 2018, we had $326.1 million in cash, cash equivalents and investment securities. In addition, we received approximately $261.4 million of net proceeds in April 2018 from the Public Offering and Concurrent Private Placement. We currently expect to incur significant operating expenses in the fiscal year ending December 31, 2018. These expenses are planned to support, among other initiatives, the continued commercialization of Ocaliva for PBC in the United States and our other markets, our continued clinical development of OCA for PBC and NASH and our other earlier stage research programs. Although we believe that our existing capital resources, together with our net sales of Ocaliva for PBC, will be sufficient to fund our anticipated operating requirements for the next twelve months, we may need to raise additional capital to fund our operating requirements beyond that period. Furthermore, in light of the numerous risks and uncertainties associated with pharmaceutical product development and commercialization, any delays in, or unanticipated costs associated with, our development, regulatory or commercialization efforts could significantly increase the amount of capital required by us to fund our operating requirements. Accordingly, we may seek to access the public or private capital markets whenever conditions are favorable, even if we do not have an immediate need for additional capital at that time. Our forecast regarding the period of time through which our financial resources will be adequate to support our operations is a forward-looking statement that involves risks and uncertainties, and actual results, including the costs to maintain our currently planned operations, could vary materially.

Our forecasts regarding the period of time that our existing capital resources will be sufficient to meet our operating requirements and the timing of our future funding requirements, both near and long-term, will depend on a variety of factors, many of which are outside of our control. Such factors include, but are not limited to: