FAIR VALUE

Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. Valuation techniques used to measure fair value must maximize the use of observable inputs and minimize the use of unobservable inputs.


•	Level 1: Quoted prices in active markets for identical assets or liabilities.


•	Level 2: Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.


•	Level 3: Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.

The following table represents the Company’s fair value hierarchy for its financial assets and liabilities measured at fair value on a recurring basis as of December 31, 2019 and December 31, 2018 (in thousands):



December 31, 2019	Financial Statement Classification	Level 1		Level 2		Level 3		Total
Assets:
Collegium warrants	Investments	$	—	$	9,629	$	—	$	9,629
Total		$	—	$	9,629	$	—	$	9,629
Liabilities:
Contingent consideration	Contingent consideration liability	$	—	$	—	$	168	$	168
Total		$	—	$	—	$	168	$	168



December 31, 2018	Financial Statement Classification	Level 1		Level 2		Level 3		Total
Assets:
Money market funds	Cash and cash equivalents	$	11	$	—	$	—	$	11
Commercial paper	Cash and cash equivalents	—		14,028		—		14,028
Agency bond	Cash and cash equivalents	—		1,250		—		1,250
Collegium warrants	Investments	—		8,784		—		8,784
Total		$	11	$	24,062	$	—	$	24,073
Liabilities:
Contingent consideration	Contingent consideration liability	$	—	$	—	$	1,038	$	1,038
Total		$	—	$	—	$	1,038	$	1,038

The Company generally invests its cash in money market funds and marketable securities including U.S. Treasury and government agency securities, and commercial paper. These investments are all highly liquid investments with a maturity at date of purchase of three months or less. These securities are carried at fair value, which is based on readily available quoted market information. Realized gains or losses have been insignificant and are included in Other income, net in the Consolidated Statements of Comprehensive Income.

The fair value of the warrants to purchase Collegium’s common stock was calculated using the Black-Scholes option pricing model. As of November 8, 2018, the significant inputs included the fair value of Collegium’s common stock of $15.56, an expected term of 4 years and a risk-free rate of 3.05%. As of December 31, 2018, the significant inputs included the fair value of Collegium’s common stock of $17.17, an expected term of 3.86 years and a risk-free rate of 2.48%. The expected term was based on the remaining contractual period of 3.86 years, and the volatility was determined using Collegium’s historical common stock volatility over the expected term. For the year ended December 31, 2019, the Company recorded a gain of $0.8 million in “Other income, net” for the change in fair value of the Collegium warrants.

The fair value measurement of the contingent consideration obligations arises from the Zipsor, CAMBIA and Lazanda acquisitions and relates to fair value of the potential future contingent milestone payments and royalties payable under the respective agreements which are determined using Level 3 inputs. The remaining contingent consideration liability following the divestiture of Lazanda in November 2017 was $0.2 million. This liability was settled in the first quarter of 2018. The key assumptions in determining the fair value are the discount rate and the probability assigned to the potential milestones and royalties being achieved. At each reporting date, the Company re-measures the contingent consideration obligation arising from the above acquisitions to their estimated fair values. Any changes in the fair value of contingent consideration resulting from a change in the underlying inputs are recognized in operating expenses until the contingent consideration arrangement is settled. Changes in the fair value of contingent consideration resulting from the passage of time are recorded within interest expense until the contingent consideration is settled.

The table below provides a summary of the changes in fair value recorded in interest expense, selling, general and administrative expense, and gain on divestiture of Lazanda measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the years ended December 31, 2019, 2018 and 2017 (in thousands):



	December 31,
	2019			2018			2017
Fair value, beginning of the period	$	1,038		$	1,613		$	14,825
Changes in fair value recorded in interest expense	113			124			1,079
Changes in fair value recorded in selling, general and administrative expenses	(983		)	(515		)	(7,708		)
Royalties and milestone paid	—			(184		)	(3,068		)
Divestiture of Lazanda	—			—			(3,515		)
Total	$	168		$	1,038		$	1,613

The Company estimates the fair value of its convertible notes based on a market approach which represents a Level 2 valuation. The estimated fair value of the 2.50% Convertible Senior Notes Due 2021, which the Company issued on September 9, 2014, was approximately $108.1 million (par value $145.0 million) and $231.8 million (par value $345.00 million) as of December 31, 2019 and 2018, respectively. The estimated fair value of the 5.00% Convertible Senior Notes Due 2024, which the Company issued on August 13, 2019, was approximately $81.6 million (par value $120.00 million) as of December 31, 2019. The principal amount of the Senior Notes (as defined in “Note 8. Debt”), approximates their fair value as of December 31, 2019 and 2018, respectively and represents a Level 2 valuation. When determining the estimated fair value of the Company’s debt, the Company uses a commonly accepted valuation methodology and market-based risk measurements that are indirectly observable, such as credit risk.

There were no transfers between Level 1, Level 2 or Level 3 of the fair value hierarchy during the years ended December 31, 2019 and 2018.