Fair Value Measurements

3 Months Ended

Mar. 31, 2013

Fair Value Disclosures [Abstract]

Fair value measurements

NOTE 3. FAIR VALUE MEASUREMENTS

The financial instruments recorded in our Condensed Consolidated Balance Sheets include cash and cash equivalents, accounts receivable, marketable securities, equity and cost method investments, accounts payable and accrued expenses, acquisition-related contingent consideration, debt obligations, and derivative instruments. Due to their short-term maturity, the carrying amounts of cash and cash equivalents, accounts receivable, accounts payable and accrued expenses approximate their fair values.

The following table presents the carrying amounts and estimated fair values of our other financial instruments at March 31, 2013 and December 31, 2012 (in thousands):

	March 31, 2013				December 31, 2012
	Carrying Amount		Fair Value		Carrying Amount		Fair Value
Current assets:
Derivative instruments	$	85	$	85	$	—	$	—
	$	85	$	85	$	—	$	—
Long-term assets:
Equity securities	$	2,539	$	2,539	$	1,746	$	1,746
Equity and cost method investments	14,427		N/A		15,195		N/A
	$	16,966			$	16,941
Current liabilities:
Acquisition-related contingent consideration—short-term	$	1,194	$	1,194	$	6,195	$	6,195
Current portion of Term Loan A Facility Due 2018	69,375		69,375		131,250		131,250
3.25% AMS Convertible Notes due 2036	795		795		795		795
4.00% AMS Convertible Notes due 2041	111		111		111		111
Current portion of other long-term debt	1,687		1,687		1,842		1,842
Derivative instruments	191		191		602		602
Minimum Voltaren® Gel royalties due to Novartis—short-term	32,093		32,093		31,878		31,878
Other	1,000		1,000		1,000		1,000
	$	106,446	$	106,446	$	173,673	$	173,673
Long-term liabilities:
Acquisition-related contingent consideration—long-term	$	2,770	$	2,770	$	2,729	$	2,729
1.75% Convertible Senior Subordinated Notes Due 2015, net	327,120		364,478		321,332		364,444
Term Loan A Facility Due 2018, less current portion	1,318,125		1,321,455		1,256,250		1,259,094
Term Loan B Facility Due 2018	60,550		60,992		160,550		162,260
7.00% Senior Notes Due 2019	500,000		535,938		500,000		536,563
7.00% Senior Notes Due 2020, net	396,973		427,500		396,899		429,000
7.25% Senior Notes Due 2022	400,000		429,000		400,000		431,500
Other long-term debt, less current portion	3,294		3,294		2,916		2,916
Minimum Voltaren® Gel royalties due to Novartis—long-term	6,615		6,615		13,846		13,846
Other	5,150		5,150		5,775		5,775
	$	3,020,597	$	3,157,192	$	3,060,297	$	3,208,127

Equity securities consist of publicly traded common stock, the value of which is based on a quoted market price and thus represent Level 1 measurements within the fair value hierarchy. These securities are not held to support current operations and are therefore classified as non-current assets.

The acquisition-related contingent consideration, which is required to be measured at fair value on a recurring basis, consists primarily of contingent cash consideration related to the November 2010 acquisition of Generics International (US Parent), Inc. (doing business as Qualitest Pharmaceuticals). The fair value of our acquisition-related contingent consideration is determined using an income approach (present value technique), which is discussed in more detail below.

The fair value of our 1.75% Convertible Senior Subordinated Notes (Convertible Notes) is based on an income approach known as the binomial lattice model which incorporated certain inputs and assumptions, including scheduled coupon and principal payments, the conversion feature inherent in the Convertible Notes, the put feature inherent in the Convertible Notes, and stock price volatility assumptions of 32% at March 31, 2013 and 32% at December 31, 2012 that were based on historic volatility of the Company’s common stock and other factors. These fair value measurements are based on significant inputs not observable in the market and thus represent Level 3 measurements within the fair value hierarchy.

The fair values of the Term Loan Facilities and 2019, 2020, and 2022 Notes were based on market quotes and transactions proximate to the valuation date. The Company had previously used an income approach to value these debt instruments; however, the valuation methodology was subsequently transitioned to a market-based approach given the volume of observable market transactions and quoted prices for these debt instruments. Based on this valuation methodology, we determined these debt instruments represent Level 2 measurements within the fair value hierarchy.

The total fair value of various foreign exchange forward contracts as of March 31, 2013 includes assets of $0.1 million, reported in Prepaid expenses and other current assets, and liabilities of $0.2 million, reported in Accrued expenses. We measure our derivative instruments at fair value on a recurring basis using significant observable inputs, hence these instruments represent Level 2 measurements within the fair value hierarchy.

At the inception of our License and Supply Agreement with Novartis AG in 2008, we recorded a liability representing the fair value of the minimum Voltaren^® Gel royalty due to Novartis AG. In December 2012, pursuant to the provisions of this agreement, the term was automatically renewed for an additional one year period. At this time, an additional liability of $21.3 million was recorded, representing the fair value of the incremental minimum royalty we expect to pay to Novartis AG over the renewal term. The fair values of these liabilities were determined using an income approach (present value technique) taking into consideration the level and timing of expected cash flows and an assumed discount rate. These assumptions are based on significant inputs not observable in the market and thus represent Level 3 measurements within the fair value hierarchy. The liability is currently being accreted up to the expected minimum payments, less payments made to date. We believe the carrying amount of this minimum royalty guarantee at March 31, 2013 and December 31, 2012 represents a reasonable approximation of the price that would be paid to transfer the liability in an orderly transaction between market participants at the measurement date. Accordingly, the carrying value approximates fair value as of March 31, 2013 and December 31, 2012.

The fair value of equity method and cost method investments is not readily available nor have we estimated the fair value of these investments and disclosure is not required. The Company is not aware of any identified events or changes in circumstances that would have a significant adverse effect on the carrying value of any of our equity or cost method investments included in our Condensed Consolidated Balance Sheets at March 31, 2013 and December 31, 2012.

As of March 31, 2013, the Company held certain assets and liabilities that are required to be measured at fair value on a recurring basis. Fair value guidance establishes a three-tier fair value hierarchy, which prioritizes the inputs used in measuring fair value. These tiers include:

• 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 Company’s financial assets and liabilities measured at fair value on a recurring basis at March 31, 2013 and December 31, 2012 were as follows (in thousands):     

	Fair Value Measurements at Reporting Date using
March 31, 2013	Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Total
Assets:
Equity securities	$	2,539	$	—	$	—	$	2,539
Derivative instruments	—		85		—		85
Total	$	2,539	$	85	$	—	$	2,624
Liabilities:
Derivative instruments	$	—	$	191	$	—	$	191
Acquisition-related contingent consideration—short-term	—		—		1,194		1,194
Acquisition-related contingent consideration—long-term	—		—		2,770		2,770
Total	$	—	$	191	$	3,964	$	4,155

	Fair Value Measurements at Reporting Date using
December 31, 2012	Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Total
Assets:
Equity securities	$	1,746	$	—	$	—	$	1,746
Total	$	1,746	$	—	$	—	$	1,746
Liabilities:
Derivative instruments	$	—	$	602	$	—	$	602
Acquisition-related contingent consideration—short-term	—		—		6,195		6,195
Acquisition-related contingent consideration—long-term	—		—		2,729		2,729
Total	$	—	$	602	$	8,924	$	9,526

Acquisition-Related Contingent Consideration

On November 30, 2010 (the Qualitest Pharmaceuticals Acquisition Date), Endo acquired Qualitest Pharmaceuticals, which was party to an asset purchase agreement with Teva Pharmaceutical Industries Ltd (Teva) (the Teva Agreement). Pursuant to this agreement, Qualitest Pharmaceuticals purchased certain pipeline generic products from Teva and could be obligated to pay consideration to Teva upon the achievement of certain future regulatory milestones (the Teva Contingent Consideration).

The current range of the undiscounted amounts the Company could be obligated to pay in future periods under the Teva Agreement is between zero and $7.5 million. The Company is accounting for the Teva Contingent Consideration in the same manner as if it had entered into that arrangement with respect to its acquisition of Qualitest Pharmaceuticals. Accordingly, the fair value was estimated based on a probability-weighted discounted cash flow model, or income approach. The resultant probability-weighted cash flows were then discounted using a discount rate of U.S. Prime plus 300 basis points. This fair value measurement is based on significant inputs not observable in the market and thus represents a Level 3 measurement within the fair value hierarchy. Using this valuation technique, the fair value of the contractual obligation to pay the Teva Contingent Consideration was determined to be approximately $4.0 million at March 31, 2013 and $8.9 million at December 31, 2012. The decrease in the balance primarily relates to a first quarter 2013 payment of $5.0 million related to the achievement of certain regulatory milestones. The remaining fluctuation resulted from changes in the fair value of the liability, primarily reflecting changes to the present value assumptions associated with our valuation model.

Fair Value Measurements Using Significant Unobservable Inputs

The following table presents changes to the Company’s financial liabilities measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the three months ended March 31, 2013 (in thousands):

	Acquisition- related Contingent Consideration
Liabilities:
January 1, 2013	$	(8,924	)
Amounts (acquired) sold / (issued) settled, net	5,000
Transfers in and/or (out) of Level 3	—
Changes in fair value recorded in earnings	(40		)
March 31, 2013	$	(3,964	)

The following table presents changes to the Company’s financial liabilities measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the three months ended March 31, 2012 (in thousands):

	Acquisition-related Contingent  Consideration
Liabilities:
January 1, 2012	$	(8,687	)
Amounts (acquired) sold / (issued) settled, net	—
Transfers in and/or (out) of Level 3	—
Changes in fair value recorded in earnings	127
March 31, 2012	$	(8,560	)

The following is a summary of available-for-sale securities held by the Company at March 31, 2013 and December 31, 2012 (in thousands):

	Available-for-sale
	Amortized Cost		Gross Unrealized Gains		Gross Unrealized (Losses)		Fair Value
March 31, 2013
Equity securities	$	1,766	$	773	$	—	$	2,539
Long-term available-for-sale securities	$	1,766	$	773	$	—	$	2,539
Total available-for-sale securities	$	1,766	$	773	$	—	$	2,539

	Available-for-sale
	Amortized Cost		Gross Unrealized Gains		Gross Unrealized (Losses)			Fair Value
December 31, 2012
Equity securities	$	1,766	$	—	$	(20	)	$	1,746
Long-term available-for-sale securities	$	1,766	$	—	$	(20	)	$	1,746
Total available-for-sale securities	$	1,766	$	—	$	(20	)	$	1,746

At March 31, 2013 and December 31, 2012, our equity securities consisted of investments in the stock of three publicly traded companies. As of March 31, 2013, one investment had been in an unrealized loss position for more than twelve months. As of December 31, 2012, one investment had been in an unrealized loss position for less than twelve months and one had been in an unrealized loss position for more than twelve months. The Company does not believe the remaining unrealized losses are other-than-temporary at March 31, 2013 or December 31, 2012 primarily because the Company has both the ability and intent to hold these investments for a period of time we believe will be sufficient to recover such losses.