NOTE 4. REVENUE

Disaggregated Revenue

The following table summarizes revenue from contracts with customers for the three and six months ended June 30, 2018 and 2017 (in thousands):


	Three Months Ended June 30,				Six Months Ended June 30,
	2018		2017		2018		2017
Product sales, net
Gralise	$	13,815	$	18,122	$	28,642	$	35,722
CAMBIA		8,089		8,495		14,505		15,685
Zipsor		3,988		4,403		8,734		9,054
Total neurology product sales, net		25,892		31,020		51,881		60,461
NUCYNTA products		626		63,938		18,771		120,857
Lazanda		320		5,274		540		9,199
Total product sales, net		26,838		100,232		71,192		190,517
Commercialization agreement:
Commercialization rights and facilitation services		31,179		—		59,274		—
Revenue from transfer of inventory		—		—		55,705		—
Royalties and Milestone Revenue		5,257		225		5,507		387
Total revenues	$	63,274	$	100,457	$	191,678	$	190,904

During the three and six months ended June 30, 2018, the Company released certain reserves related to the transfer of financial responsibility for certain reserves to Collegium and related to the sales reserve estimate adjustments. During the three months ended June 30, 2018 the Company recognized sales reserve estimate adjustments which increased revenues by $0.6 million related to NUCYNTA and $0.3 million related to Lazanda. Such adjustments relate to sales recognized for NUCYNTA and Lazanda in prior periods. During the first quarter of 2018, in connection with the Collegium transaction, the Company recognized revenue of $12.5 million related to the release of NUCYNTA sales reserves which were primarily recorded in the fourth quarter of 2017, as financial responsibility for those reserves transferred to Collegium upon closing of the Commercialization Agreement.

Commercialization Agreement with Collegium

In January 2018, the Company entered into a Commercialization Agreement with Collegium (Commercialization Agreement), pursuant to which the Company granted Collegium the right to commercialize the NUCYNTA pain products in the U.S. Under the Commercialization Agreement, Collegium assumed all commercialization responsibilities for NUCYNTA effective January 9, 2018, including sales and marketing. The Company will receive a royalty on all NUCYNTA revenues based on certain net sales thresholds, with a minimum royalty of $132 million for the year ended December 31, 2018 and $135 million per year for the years ended December 31, 2019, to December 31, 2021. In addition to the minimum royalties, the Company will also receive (i) a 25% royalty on annual net sales of NUCYNTA between $233.0 million to $258.0 million and (ii) 17.5% on annual net sales of NUCYNTA above $258.0 million for the years ended December 31, 2018 to December 31, 2021. From and after January 1, 2022, the Company will receive (i) a 58% royalty on annual net sales of NUCYNTA up to $233.0 million (ii) 25% royalty on annual net sales of NUCYNTA of $233.0 million to $258.0 million and (iii) 17.5% on annual net sales of NUCYNTA above $258.0 million. The Company received an upfront payment of $10.0 million as well as $6.2 million with respect to the inventory of finished goods which was transferred to Collegium on closing of the transaction in January 2018.

The Company identified the following three performance obligations under the Commercialization Agreement:

License to commercialize the NUCYNTA pain products,

Services to arrange for supplies of NUCYNTA pain products using the Company’s existing contract manufacturing contracts with third parties; and

Transfer of control of all NUCYNTA finished goods held at closing.

The Company determined the total transaction price to be $553.2 million, which consists of $537.0 million in total annual minimum royalty payments, the $10.0 million upfront fee, and a $6.2 million payment for NUCYNTA finished goods inventory at cost. In accordance with the relevant Accounting Standard, the Company determined that the duration of the Commercialization Agreement begins on the effective date of January 9, 2018 and lasts through December 31, 2021, which is consistent with the contractual period in which the Company and Collegium has enforceable rights and obligations which include the minimum royalty period and the period in which Collegium would incur a $25.0 million termination penalty on terminating the agreement.

The transaction price was allocated to the performance obligations noted above in proportion to their standalone selling prices and will be recognized as these performance obligations are satisfied by the Company. The transaction price allocated to the inventory transferred to Collegium on closing was $55.7 million and was recognized on the closing date as the control of such inventory was transferred to Collegium. The transaction price allocated to the other remaining performance obligations of the license to commercialize NUCYNTA and the related services to arrange for supplies was $497.5 million. This amount will be recognized ratably over the time through December 31, 2021, which represents the period over which enforceable rights and obligations exist after considering the various termination rights for either parties that exist in the contract. For the three and six months ended June 30, 2018, the Company recognized $31.2 million and $59.3 million, respectively, related to the right to commercialize NUCYNTA and related facilitation services. Total revenue recognized for the three and six months ended June 30, 2018 were $31.2 million and $115.0 million, respectively. Any amounts receivable in excess of the minimum royalties due up to December 31, 2021, will be recognized during the period that NUCYNTA net sales by Collegium exceed $233.0 million. Royalties receivable after January 1, 2022 will be recognized based on subsequent NUCYNTA net sales recorded by Collegium.

The annual minimum royalty amounts are payable by Collegium in equal quarterly installments of $33.8 million, and are initially received through a lockbox sweep mechanism. Remittances from customers on product sales of NUCYNTA made by Collegium are deposited to a designated lockbox account, separate from Collegium’s other receivables. On a daily basis, 35% of the cash receipts in this lockbox account are swept to Depomed’s bank accounts up to the minimum cash royalty amounts which are $30.8 million for the three months ended March 31, 2018 and $33.8 million per quarter, thereafter. If the cash receipts received by Depomed in a quarter are lower than the minimum quarterly royalty, or if the royalty receivable to Depomed is above the minimum quarterly amount, Collegium is responsible to remit the remaining royalty payment within 45 days after the end of the each quarter. For the six months ended June 30, 2018, $64.6 million was received by Depomed.

Contract Assets and Liabilities

The following table presents changes in the Company’s contract assets and liabilities for the six months ended June 30, 2018 (in thousands):


	Balance						Balance
	as of						as of
	December 31. 2017		Additions		Deductions		June 30, 2018
Contract assets:
Contract asset - Collegium	$	—	$	55,705	$	(21,426)	$	34,279
Contract asset - Ironwood		—		5,000		—		5,000
		—		60,705		(21,426)		39,279

Collegium

The Company receives payments from Collegium based on the above described schedule as established in the Company’s contracts. Contract asset relates to conditional right to consideration for completed performance under the Commercialization Agreement. This contract asset relates to the revenue recognized by the company from the transfer of inventory to Collegium on the date of closing of the agreement in January 2018 net of the contract liability of $10 million resulting from the upfront payment received. Accounts receivable are recorded when the right to consideration becomes unconditional. As of June 30, 2018, $9.9 million and $24.4 million of the contract asset has been recorded within “Prepaid and other current assets” and “Other long-term assets,” respectively.

The Company acquired the U.S. rights to NUCYNTA from Janssen Pharmaceuticals, Inc. (Janssen) in April 2015. As part of that transaction, the Company also acquired the related royalty obligations for NUCYNTA to Grünenthal, the originator of tapentadol. Pursuant to the terms of the Commercialization Agreement, Collegium is now responsible for those royalty obligations. However, as a condition of giving its consent to the Commercialization Agreement with Collegium, Grünenthal amended the terms of the original royalty agreement to require payment of a minimum royalty of $34.0 million per year on net sales of NUCYNTA greater than $180.0 million and equal to, or less than, $243.0 million for each of the years ended December 31, 2018 through 2021. Collegium is responsible for payments of royalties to Grünenthal and the Company is obligated to cover any shortfall between the minimum royalty amount of $34.0 million and the amounts paid to Grünenthal by Collegium for each of the years ended December 31, 2018 through 2021. Under the terms of this amended royalty agreement, the maximum amount that the Company could be obligated to pay is $8.8 million per year for each of the years ended December 31, 2018 through 2021. In return for this agreement to pay minimum royalties, the Company received the right to share royalties with Grünenthal on net sales of NUCYNTA above $243.0 million during the same period.

The Company reviews the net sales of NUCYNTA by Collegium and recognizes an estimated liability for the amount it believes is likely to be paid for the year. As this estimation process requires a significant amount of judgment and is based on expected net sales of NUCYNTA by Collegium, the liability recorded as of a reporting period may not necessarily be reflective of the amount ultimately due to Grünenthal for the year.

Collaboration and License Agreements

Ironwood Pharmaceuticals, Inc. In July 2011, the Company entered into a collaboration and license agreement with Ironwood (Ironwood Agreement) granting Ironwood a license for worldwide rights to certain patents and other intellectual property rights to the Company’s Acuform drug delivery technology for IW 3718, an Ironwood product candidate under development for refractory GERD. The Company has received $3.4 million under the agreement, including a contingent milestone payment of $1.0 million in March 2014 as a result of the initiation of clinical trials relating to IW 3718 by Ironwood. The Company is entitled to receive additional contingent milestone payments upon the occurrence of certain development milestones and royalties on net sales of the product if approved.

The Company identified the following two performance obligations under the Ironwood Agreement: (1) the license to the Acuform technology and (2) formulation work associated with IW-3718. The license was granted in 2011 and the formulation work was completed in 2012. The Company has no ongoing performance obligations and has recognized all proceeds received to date as revenue.

The future contingent milestones under the Ironwood Agreement are considered variable consideration and are estimated using the most likely method. As part of implementation of ASC 606, the Company evaluated whether the future milestones under the Ironwood Agreement should have been included as part of the transaction price in periods before January 1, 2018. The Company concluded that because of development and regulatory risks at the time, it was probable that a significant revenue reversal could have occurred. Accordingly, the associated future contingent milestone values were not included in the transaction price for periods before January 1, 2018. At the end of each subsequent reporting period, the Company re-evaluates the probability or achievement of each such milestone and any related constraint, and if necessary, adjusts its estimates of the overall transaction price. Any such adjustments are recorded on a cumulative catch-up basis, which would affect revenues and earnings in the period of adjustment. During the three months ended June 30, 2018, Depomed recognized a $5.0 million milestone payment related to the dosing of the first patient in a Phase 3 trial. The dosing of the patient was considered probable at the commencement of the trial. There was no revenue recognized under this agreement for the three and six months ended June 30, 2017.