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Fair Value of Financial Instruments

3 Months Ended

Mar. 31, 2023

Note 7. Fair Value of Financial Instruments

In connection with the Sunosi acquisition, the Company pays a royalty on net sales of Sunosi to Jazz. The discounted cash flow method used to value this contingent consideration includes inputs of not readily observable market data, which are Level 3 inputs. The fair value of the contingent consideration is reflected as current accrued contingent consideration of $6.0 million and non-current contingent consideration liability of $29.1 million in the consolidated balance sheet as of March 31, 2023.

The fair value of financial instruments measured on a recurring basis is as follows:


March 31, 2023	Level 1		Level 2		Level 3		Total
Liabilities:
Contingent consideration	$	—	$	—	$	35,100	$	35,100


December 31, 2022	Level 1		Level 2		Level 3		Total
Liabilities:
Contingent consideration	$	—	$	—	$	37,000	$	37,000

The fair value of the contingent consideration are marked-to-market each reporting period and was remeasured at March 31, 2023. Changes in the fair value of the contingent considerations as of March 31, 2023 is as follows:




	Contingent Consideration
Balance at December 31, 2022	$	37,000
Gain in fair value of contingent consideration		(162	)
Payments		(1,738	)
Balance at March 31, 2023 (Level 3)	$	35,100

The recurring Level 3 fair value measurements of contingent consideration for which a liability is recorded include the following significant unobservable inputs:


			As of March 31, 2023	As of December 31, 2022
	Valuation Methodology	Significant Unobservable Input	Weighted Average (range, if applicable)	Weighted Average (range, if applicable)
Contingent consideration	Probability weighted income approach	Discount rate	13.8%	12.0%
		Revenue discount rate	20.9%	20.9%

The fair value measurement of the contingent consideration is sensitive to the change in discount rates. As of March 31, 2023, if the discount rate increases or decreases by approximately 1%, the fair value of the contingent consideration would range from $33.6 million to $36.8 million. As of March 31, 2023, if the revenue discount rate increases or decreases by approximately 1%, the fair value of the contingent consideration would range from $34.0 million to $36.3 million.

- Definition

The entire disclosure for the fair value of financial instruments (as defined), including financial assets and financial liabilities (collectively, as defined), and the measurements of those instruments as well as disclosures related to the fair value of non-financial assets and liabilities. Such disclosures about the financial instruments, assets, and liabilities would include: (1) the fair value of the required items together with their carrying amounts (as appropriate); (2) for items for which it is not practicable to estimate fair value, disclosure would include: (a) information pertinent to estimating fair value (including, carrying amount, effective interest rate, and maturity, and (b) the reasons why it is not practicable to estimate fair value; (3) significant concentrations of credit risk including: (a) information about the activity, region, or economic characteristics identifying a concentration, (b) the maximum amount of loss the entity is exposed to based on the gross fair value of the related item, (c) policy for requiring collateral or other security and information as to accessing such collateral or security, and (d) the nature and brief description of such collateral or security; (4) quantitative information about market risks and how such risks are managed; (5) for items measured on both a recurring and nonrecurring basis information regarding the inputs used to develop the fair value measurement; and (6) for items presented in the financial statement for which fair value measurement is elected: (a) information necessary to understand the reasons for the election, (b) discussion of the effect of fair value changes on earnings, (c) a description of [similar groups] items for which the election is made and the relation thereof to the balance sheet, the aggregate carrying value of items included in the balance sheet that are not eligible for the election; (7) all other required (as defined) and desired information.

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