KING PHARMACEUTICALS INC - 8-K/A - 20030826 - NOTES_TO_FINANCIAL_STATEMENT
(Products of Elan Corporation, plc)
Notes to Financial Statements
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(1)
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The Agreement
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Pursuant to an Asset Purchase Agreement, dated January 30, 2003, and
amended on May 19, 2003 (the Amended and Restated Asset Purchase
Agreement), Elan Corporation, plc, Elan Pharma International Limited
(“EPIL”), and Elan Pharmaceuticals, Inc. (Elan/ Elan Group) agreed to sell
to King Pharmaceuticals, Inc., Jones Pharma Incorporated, and Monarch
Pharmaceuticals, Inc. (the King parties) their rights to Sonata
®
and
Skelaxin
®
in the United States of America (U.S.) and Puerto Rico along with related assets
and liabilities, and to transfer to the King parties the U.S. Primary Care
Sales Force (the Disposal). As part of the Disposal, the King parties also
acquired certain intellectual property, regulatory, and other assets
relating to Sonata
®
directly from Wyeth Pharmaceuticals Division (Wyeth).
The Elan Group will continue their development program for enhanced
formulations of Sonata
®
using the Elan Group’s proprietary drug delivery
technologies on behalf of the King parties. This development work, together
with a development program to be initiated for an enhanced formulation of
Skelaxin
®
, will be performed pursuant to formulation development
arrangements with the King parties under which the Elan Group will receive
development fees and milestone payments contingent upon the achievement of
clinical and regulatory milestones. With respect to new formulations of
Sonata
®
, the Elan Group will retain the commercialisation rights to enhanced
formulations utilising the Elan Group’s technology outside the U.S. and may
also manufacture any new Sonata
®
formulation. The Amended and Restated Asset
Purchase Agreement provides that the parties will negotiate in good faith
an arrangement relating to the reformulation of Skelaxin
®
, which may provide
the Elan Group with similar rights.
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(2)
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Basis of Presentation
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The statement of net assets to
be sold and the statement of revenues and direct expenses
have been prepared in accordance with generally accepted accounting
principles in the United States of America.
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The statements have been prepared in order to
represent net assets to be sold, as well as revenues and direct expenses, which have
been derived from the historical accounting records of Elan Corporation,
plc and subsidiaries and reflect significant assumptions and
allocations. The statements have been prepared on this basis for the
purpose of complying with the rules of the Securities and Exchange
Commission.
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Elan did not account for the Skelaxin
®
and
Sonata
®
Product Lines as a
separate entity. They were integrated into the pharmaceutical segment of
Elan Corporation, plc. The statement of net assets to be sold and
revenues
and direct expenses include certain allocations as discussed in note 3 below.
Management of the Elan Group believe that the allocations are reasonable;
however, these allocated expenses are not necessarily indicative of costs
that would have been incurred related to the
Skelaxin
®
and Sonata
®
Product
Lines on a stand-alone basis. Tax expense and interest income have not been
included in the accompanying statement of revenues and direct expenses, as they are
not specifically identifiable to the Skelaxin
®
and
Sonata
®
Product Lines.
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Transaction systems (e.g. payroll, employee benefits, accounts receivable,
accounts payable) used to record and account for cash transactions were not
designed to track assets/liabilities and receipts/payments on a product
specific basis. Given these constraints, and the fact that only certain
assets of the Skelaxin
®
and Sonata
®
Product Lines were sold, a statement of
financial position and a full statement of cash flows have not been prepared.
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F-10
THE SKELAXIN
®
AND SONATA
®
PRODUCT LINES
(Products of Elan Corporation, plc)
Notes to Financial Statements
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(3)
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Summary of Significant Accounting Policies
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(a)
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Revenue Recognition
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Revenue from the sale of
product is recognized at the time the product is shipped. Net sales
represents gross sales less discounts, allowances and other
deductions.
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The four largest customers accounted for approximately
91% of the Skelaxin
®
and Sonata
®
Product Lines’ net product revenue for the
year ended December 31, 2002.
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(b)
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Use of Estimates
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The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America (U.S.
GAAP) requires management to make estimates and assumptions that affect
the amounts reported in the financial statements and accompanying
disclosures. Actual results could differ from these estimates. As
discussed in note 2, the financial statements include allocations and
estimates that are not necessarily indicative of the costs and expenses
that would have resulted if the Skelaxin
®
and Sonata
®
Product Lines had
been operated as a separate entity, or of the future results of the
Skelaxin
®
and Sonata
®
Product Lines.
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(c)
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Fixed Assets
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Fixed assets represent automobiles held under capital leases and are
stated at cost less accumulated depreciation. Depreciation is computed
using the straight-line method based on the shorter of the lease term
or estimated useful lives, generally four years.
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Fixed assets are reviewed for impairment at least annually and whenever
events or changes in circumstance indicate that the total amount of an
asset may not be recoverable. An impairment loss is recognized when
estimated future cash flows expected to result from the use of the
asset and the eventual disposition are less than its carrying amount.
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(d)
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Inventories
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Inventories have been valued at the lower of cost or market value. Cost
in the case of raw materials and supplies is calculated on a first-in,
first-out basis and comprises the purchase price, including import
duties, transport and handling costs and any other directly
attributable costs, less trade discounts. Costs in the case of work in
process and finished goods comprises direct labor, material costs, and
attributable overhead. Inventory on hand is evaluated against
historical and planned usage to determine an appropriate provision for
obsolete, slow-moving, and non-saleable inventory.
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F-11
THE SKELAXIN
®
AND SONATA
®
PRODUCT LINES
(Products of Elan Corporation, plc)
Notes to Financial Statements
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(e)
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Intangible Assets
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Product rights are amortized using the straight-line method over the
useful life of the products, ranging between 15 and 20 years.
Intangible assets are reviewed for impairment at least annually and
whenever events or changes in circumstances indicate that the carrying
amount of an asset may not be recoverable. Recoverability of assets to
be held and used is measured by a comparison of the carrying amount of
an asset to future net cash flows expected to be generated by the
asset. If such assets are considered to be impaired, the impairment to
be recognized is measured by the amount by which the carrying amount of
the assets exceeds the fair value of the assets. Assets to be disposed
of are reported at the lower of the carrying amount or fair value less
costs to sell.
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(f)
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Goodwill
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The Skelaxin
®
and Sonata
®
Product Lines represent a portion of “Core
Elan,” a reporting unit, as defined in Statement of Financial
Accounting Standards (SFAS) No. 142,
Goodwill and Other Intangible
Assets
. Goodwill allocated to Skelaxin
®
and Sonata
®
is based on the
relative fair values of the assets to be disposed of and the portion of
the reporting unit that will be retained in accordance with SFAS
No. 142.
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In accordance with SFAS No. 142, from January 1, 2002, goodwill has not
been amortized and is subject to annual impairment testing.
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(g)
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Selling, Marketing, and Medical Affairs Expenses
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Certain selling, marketing, and medical expenses are specifically
identifiable and others are allocated to the Skelaxin
®
and Sonata
®
Product Lines. The expenses are allocated based on the plan of action
for the sales force and on headcount activity for all other
departments. Such allocated expenses represent management’s best
estimate of the charges that are attributable to the Skelaxin
®
and
Sonata
®
Product Lines, and include expenses such as salaries,
professional fees, marketing and selling expenses, and other expenses.
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(4)
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Fixed Assets
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Fixed assets represent the leased automobiles
used by the U.S. Primary Care Business Unit sales team that have been
assumed by/assigned to King. The net book value
at December 31, 2002 is as follows (in US$, thousands):
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December 31,
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Leased automobiles
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2002
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Cost
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7,149
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Accumulated
depreciation
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(1,297
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Net book value
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5,852
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F-12
THE SKELAXIN
®
AND SONATA
®
PRODUCT LINES
(Products of Elan Corporation, plc)
Notes to Financial Statements
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Inventories at December 31, 2002 consist of the following (in US$, thousands):
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Skelaxin
®
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Sonata
®
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Total
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Raw materials
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20,089
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—
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20,089
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Work in process
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9,623
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—
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9,623
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Finished goods
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7,061
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3,188
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10,249
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36,773
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3,188
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39,961
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(6)
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Intangible Assets and Goodwill
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(a)
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Skelaxin
®
Product Intangible
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Elan Corporation, plc acquired Skelaxin
®
through its acquisition of GWC
Health, Inc. in 1998. For the purpose of the statement of net assets
to be sold, an amount of US $30.6 million representing cost of US $44.0
million and accumulated amortization of US $13.4 million was identified
as the value relating to the Skelaxin
®
product intangible asset at
December 31, 2002.
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(b)
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Sonata
®
Product Intangible
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Sonata
®
was originally launched by Wyeth in 1999. On December 19, 2001,
Elan entered into a strategic alliance with Wyeth pursuant to which it
assumed overall responsibility for the marketing, sale and distribution
of Sonata
®
in the U.S. and Puerto Rico.
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For purposes of the statement of net
assets to be sold, an amount of US
$165.5 million representing cost of US $179.7 million and accumulated
amortization of US $14.2 million was identified as the value relating
to the Sonata
®
product intangible asset at December 31, 2002.
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(c)
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Goodwill
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The Skelaxin
®
and Sonata
®
Product Lines represent a portion of “Core
Elan”, a reporting unit as defined in SFAS No. 142 “Goodwill and Other
Intangible Assets”.
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In accordance with SFAS No. 142, goodwill has been allocated to the Skelaxin
®
and Sonata
®
Product Lines based on the relative fair values of the assets to be
disposed of and the portion of the reporting unit that will be retained by
Elan. The amount of goodwill allocated to the Skelaxin
®
and Sonata
®
Product
Lines amounts to US $34.4 million. This allocation was performed as of
December 31, 2002.
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F-13
THE SKELAXIN
®
AND SONATA
®
PRODUCT LINES
(Products of Elan Corporation, plc)
Notes to Financial Statements
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(7)
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Capital Lease Obligations
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The U.S. Primary Care sales force uses automobiles under capital lease
agreements. These capital leases are secured by a letter of credit and the
leased automobiles. Future minimum lease payments are as follows as of
December 31, 2002 (in US $, thousands):
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2003
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1,924
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2004
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1,841
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2005
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1,599
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2006
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447
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Total minimum lease payments
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5,811
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Less amount representing interest
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(255)
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Present value of minimum lease payments
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5,556
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Interest expense in the
statement of revenues and direct expenses represents
interest expense allocated to the Skelaxin
®
and Sonata
®
Product Lines based
on the percentage of fleet expenses charged to the U.S. Primary Care
Business Unit sales team as compared to the total fleet expense incurred by
Elan Pharmaceuticals, Inc.
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The future minimum lease payments represent payments on automobiles
directly attributable to the Skelaxin
®
and Sonata
®
Product Lines that have
been assumed by/assigned to King per the Amended and Restated Asset
Purchase Agreement.
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(8)
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Accounts Payable
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At December 31, 2002, accounts payable comprises US $20.0 million which was
paid by Elan to Wyeth in January 2003 pursuant to its existing contractual
arrangements and US $41.7 million which will form part of the
product related payments that the King parties will assume on receipt of
the Skelaxin
®
and Sonata
®
Product Lines.
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Future contingent and optional
product payments relating to Sonata
®
amounted to US $231.2 million at
December 31, 2002. These amounts are not included on Elan Corporation,
plc’s U.S. GAAP consolidated balance sheet, as the related contingency had
not been resolved at December 31, 2002.
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(9)
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Net Product Revenue and Cost of Goods Sold
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Net product revenue for the year ended December 31, 2002 represents gross
product sales to third parties less discounts and allowances. Cost of goods
sold for Skelaxin
®
include product costs at a standard cost established
annually by Elan Corporation, plc and warehousing costs.
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F-14
THE SKELAXIN
®
AND SONATA
®
PRODUCT LINES
(Products of Elan Corporation, plc)
Notes to Financial Statements
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(10)
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Selling, Marketing, and Medical Affairs Expenses
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Skelaxin
®
and Sonata
®
are promoted by the Primary Care Business Unit sales
force predominately to primary care physicians.
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The selling, marketing, and medical affairs expenses consist of those costs
directly attributable to the product lines. In addition, selling,
marketing, and medical affairs expenses include amounts allocated related
to non-product specific costs of the U.S. Primary Care Business Unit to the
Skelaxin
®
and Sonata
®
Product Lines which were allocated based on headcount
working on the products.
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(11)
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Restructuring Costs
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In July 2002, Elan announced a recovery plan to restructure its business to
a biopharmaceutical company focused on the discovery, development,
manufacturing, selling, and marketing of novel therapeutic products in
neurology, pain and autoimmune diseases, and to strengthen the group’s
liquidity position.
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As part of its restructuring
process, US $0.4 million for the year ended December 31, 2002 was attributable to
severance costs for employees specifically related to the sale of the
Skelaxin
®
and Sonata
®
Product Lines.
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F-15
THE SKELAXIN
®
AND SONATA
®
PRODUCT LINES
(Products of Elan Corporation, plc)
Unaudited Statement of Net Assets to be Sold
(In US$, Thousands)
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March
28, 2003
(unaudited)
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Fixed
assets, net of accumulated depreciation of $1,572 (note 3)
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5,577
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Inventories (note 4)
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38,341
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Intangible
assets, net of accumulated amortization of $33,700 (note 5)
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300,634
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Goodwill (note 5)
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34,410
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Capital
lease obligations
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(5,109
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Accounts payable (note 7)
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(126,250
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Net assets
to be sold
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247,603
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The accompanying notes are an integral part of these financial statements.
F-16
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