Theravance Respiratory Company, LLC	9 Months Ended
Sep. 30, 2019
Theravance Respiratory Company, LLC
Theravance Respiratory Company, LLC	8. Theravance Respiratory Company, LLC Prior to the June 2014 spin-off from Innoviva, the Company’s former parent company, Innoviva assigned to TRC, a Delaware limited liability company formed by Innoviva, its strategic alliance agreement with GSK and all of its rights and obligations under its collaboration agreement with GSK other than with respect to RELVAR^® ELLIPTA^®/BREO^® ELLIPTA^®, ANORO^® ELLIPTA^® and vilanterol monotherapy. Through the Company’s 85% equity interests in TRC, the Company is entitled to receive an 85% economic interest in any future payments made by GSK under the strategic alliance agreement and under the portion of the collaboration agreement assigned to TRC (net of TRC expenses paid and the amount of cash, if any, expected to be used by TRC pursuant to the TRC LLC Agreement over the next four fiscal quarters). The drug programs assigned to TRC include Trelegy Ellipta and the inhaled Bifunctional Muscarinic Antagonist-Beta2 Agonist (“MABA”) program, as monotherapy and in combination with other therapeutically active components, such as an inhaled corticosteroid (“ICS”), and any other product or combination of products that may be discovered and developed in the future under the GSK agreements. In May 2014, the Company entered into the TRC LLC Agreement with Innoviva that governs the operation of TRC. Under the TRC LLC Agreement, Innoviva is the manager of TRC, and the business and affairs of TRC are managed exclusively by the manager, including (i) day to day management of the drug programs in accordance with the existing GSK agreements; (ii) preparing an annual operating plan for TRC; and (iii) taking all actions necessary to ensure that the formation, structure and operation of TRC complies with applicable law and partner agreements. The Company is responsible for its proportionate share of TRC’s administrative expenses incurred, and communicated to the Company, by Innoviva. The Company analyzed its ownership, contractual and other interests in TRC to determine if it is a variable-interest entity (“VIE”), whether the Company has a variable interest in TRC and the nature and extent of that interest. The Company determined that TRC is a VIE. The party with the controlling financial interest, the primary beneficiary, is required to consolidate the entity determined to be a VIE. Therefore, the Company also assessed whether it is the primary beneficiary of TRC based on the power to direct TRC’s activities that most significantly impact TRC’s economic performance and its obligation to absorb TRC’s losses or the right to receive benefits from TRC that could potentially be significant to TRC. Based on the Company’s assessment, the Company determined that it is not the primary beneficiary of TRC, and, as a result, the Company does not consolidate TRC in its condensed consolidated financial statements. TRC is recognized in the Company’s condensed consolidated financial statements under the equity method of accounting, and the value of the Company’s equity investment in TRC was $16.7 million and $5.4 million as of September 30, 2019 and December 31, 2018, respectively. This amount includes undistributed earnings from the Company’s investment in TRC which are recorded on the condensed consolidated balance sheets as “Amounts due from TRC, LLC” and are net of the Company’s proportionate share of TRC’s administrative expenses incurred, and communicated to the Company, by Innoviva. Pursuant to the TRC operating agreement, the cash from the TRELEGY ELLIPTA royalties, net of any expenses, is distributed to the equity holders quarterly. For the three and nine months ended September 30, 2019, the Company recognized net royalty income of $7.2 million and $21.8 million within the condensed consolidated statements of operations within “Income from investment in TRC, LLC”. These amounts were recorded net of the Company’s share of TRC’s expenses of $2.3 million for the three and nine months ended September 30, 2019, which was primarily comprised of TRC’s legal and related fees associated with the arbitration between Innoviva and TRC and the Company. For the three and nine months ended September 30, 2018, the Company recognized net royalty income of $3.1 million and $5.8 million, respectively. There were minimal TRC expenses for the three and nine months ended September 30, 2018. In May 2019, the Company announced that it had initiated an arbitration against Innoviva and TRC because Innoviva, as manager of TRC, had caused TRC to withhold certain distributions owed to the Company with respect to the Company’s 85% economic interest in TRC since the quarter ended December 31, 2018, and Innoviva’s previous statement to the Company that it intended to prevent TRC from making cash distributions during 2019. The arbitration hearing commenced on July 23, 2019. In September 2019, the arbitrator issued a final decision. The arbitrator ruled that, while Innoviva breached the LLC Agreement by failing to provide quarterly financial plans to the Company as required, the withholding of funds by Innoviva with respect to certain TRELEGY ELLIPTA development and commercialization initiatives proposed by Innoviva was not in breach of the LLC Agreement. The arbitrator also found that Innoviva had not breached its fiduciary duties to the Company. The arbitrator awarded injunctive relief to give more certainty to future dealings between the parties and to clarify certain terms of the LLC Agreement, and imposed additional obligations on Innoviva to obtain the consent of GSK for any proposed investment of TRC funds that requires the consent of GSK under the collaboration agreement dated November 14, 2002, as amended. Under the arbitrator’s ruling, Innoviva is currently permitted to continue to withhold $8.0 million of TRC funds for certain TRELEGY ELLIPTA development and commercialization initiatives proposed by Innoviva. These initiatives must be presented to GSK in the fourth quarter of 2019 and they cannot be implemented without GSK’s approval, which approval must be obtained no later than during the first quarter of 2020. To the extent GSK’s approval is not received, the Company expects distribution to the TRC members of the withheld funds. To the extent the initiatives are timely approved by GSK and proceed, TRC may withhold additional amounts in subsequent quarters through to the completion of these initiatives. As of June 30, 2019, the Company was owed, under the LLC Agreement, $20.0 million in net royalty income payments for the period from the fourth quarter of 2018 through the second quarter of 2019. After initiation of the arbitration and prior to the final decision being issued in the third quarter of 2019, Innoviva caused TRC to make a partial distribution of funds to the Company of $10.6 million against these amounts due. Innoviva withheld $6.9 million, representing the Company’s share of the $8.0 million of total TRC funds earmarked for certain TRELEGY ELLIPTA development and commercialization initiatives proposed by Innoviva, pursuant to the arbitrator’s final decision. The amount due to the Company as of September 30, 2019 was $16.7 million and includes the $6.9 million currently being withheld by Innoviva. The Company believes the $16.7 million will be received by early 2020. In the event GSK agrees to the TRELEGY ELLIPTA development and commercialization initiatives proposed by Innoviva, the Company will reclassify the $6.9 million from “Amounts due from TRC, LLC” within total current assets to “Investment in TRC, LLC” within long-term assets on its condensed consolidated balance sheets.

Theravance Respiratory Company, LLC

9 Months Ended

Sep. 30, 2019

8. Theravance Respiratory Company, LLC

Prior to the June 2014 spin-off from Innoviva, the Company’s former parent company, Innoviva assigned to TRC, a Delaware limited liability company formed by Innoviva, its strategic alliance agreement with GSK and all of its rights and obligations under its collaboration agreement with GSK other than with respect to RELVAR^® ELLIPTA^®/BREO^® ELLIPTA^®, ANORO^® ELLIPTA^® and vilanterol monotherapy. Through the Company’s 85% equity interests in TRC, the Company is entitled to receive an 85% economic interest in any future payments made by GSK under the strategic alliance agreement and under the portion of the collaboration agreement assigned to TRC (net of TRC expenses paid and the amount of cash, if any, expected to be used by TRC pursuant to the TRC LLC Agreement over the next four fiscal quarters). The drug programs assigned to TRC include Trelegy Ellipta and the inhaled Bifunctional Muscarinic Antagonist-Beta2 Agonist (“MABA”) program, as monotherapy and in combination with other therapeutically active components, such as an inhaled corticosteroid (“ICS”), and any other product or combination of products that may be discovered and developed in the future under the GSK agreements.

In May 2014, the Company entered into the TRC LLC Agreement with Innoviva that governs the operation of TRC. Under the TRC LLC Agreement, Innoviva is the manager of TRC, and the business and affairs of TRC are managed exclusively by the manager, including (i) day to day management of the drug programs in accordance with the existing GSK agreements; (ii) preparing an annual operating plan for TRC; and (iii) taking all actions necessary to ensure that the formation, structure and operation of TRC complies with applicable law and partner agreements. The Company is responsible for its proportionate share of TRC’s administrative expenses incurred, and communicated to the Company, by Innoviva.

The Company analyzed its ownership, contractual and other interests in TRC to determine if it is a variable-interest entity (“VIE”), whether the Company has a variable interest in TRC and the nature and extent of that interest. The Company determined that TRC is a VIE. The party with the controlling financial interest, the primary beneficiary, is required to consolidate the entity determined to be a VIE. Therefore, the Company also assessed whether it is the primary beneficiary of TRC based on the power to direct TRC’s activities that most significantly impact TRC’s economic performance and its obligation to absorb TRC’s losses or the right to receive benefits from TRC that could potentially be significant to TRC. Based on the Company’s assessment, the Company determined that it is not the primary beneficiary of TRC, and, as a result, the Company does not consolidate TRC in its condensed consolidated financial statements. TRC is recognized in the Company’s condensed consolidated financial statements under the equity method of accounting, and the value of the Company’s equity investment in TRC was $16.7 million and $5.4 million as of September 30, 2019 and December 31, 2018, respectively. This amount includes undistributed earnings from the Company’s investment in TRC which are recorded on the condensed consolidated balance sheets as “Amounts due from TRC, LLC” and are net of the Company’s proportionate share of TRC’s administrative expenses incurred, and communicated to the Company, by Innoviva. Pursuant to the TRC operating agreement, the cash from the TRELEGY ELLIPTA royalties, net of any expenses, is distributed to the equity holders quarterly.

For the three and nine months ended September 30, 2019, the Company recognized net royalty income of $7.2 million and $21.8 million within the condensed consolidated statements of operations within “Income from investment in TRC, LLC”. These amounts were recorded net of the Company’s share of TRC’s expenses of $2.3 million for the three and nine months ended September 30, 2019, which was primarily comprised of TRC’s legal and related fees associated with the arbitration between Innoviva and TRC and the Company. For the three and nine months ended September 30, 2018, the Company recognized net royalty income of $3.1 million and $5.8 million, respectively. There were minimal TRC expenses for the three and nine months ended September 30, 2018.

In May 2019, the Company announced that it had initiated an arbitration against Innoviva and TRC because Innoviva, as manager of TRC, had caused TRC to withhold certain distributions owed to the Company with respect to the

Company’s 85% economic interest in TRC since the quarter ended December 31, 2018, and Innoviva’s previous statement to the Company that it intended to prevent TRC from making cash distributions during 2019. The arbitration hearing commenced on July 23, 2019.

In September 2019, the arbitrator issued a final decision. The arbitrator ruled that, while Innoviva breached the LLC Agreement by failing to provide quarterly financial plans to the Company as required, the withholding of funds by Innoviva with respect to certain TRELEGY ELLIPTA development and commercialization initiatives proposed by Innoviva was not in breach of the LLC Agreement. The arbitrator also found that Innoviva had not breached its fiduciary duties to the Company. The arbitrator awarded injunctive relief to give more certainty to future dealings between the parties and to clarify certain terms of the LLC Agreement, and imposed additional obligations on Innoviva to obtain the consent of GSK for any proposed investment of TRC funds that requires the consent of GSK under the collaboration agreement dated November 14, 2002, as amended. Under the arbitrator’s ruling, Innoviva is currently permitted to continue to withhold $8.0 million of TRC funds for certain TRELEGY ELLIPTA development and commercialization initiatives proposed by Innoviva. These initiatives must be presented to GSK in the fourth quarter of 2019 and they cannot be implemented without GSK’s approval, which approval must be obtained no later than during the first quarter of 2020. To the extent GSK’s approval is not received, the Company expects distribution to the TRC members of the withheld funds. To the extent the initiatives are timely approved by GSK and proceed, TRC may withhold additional amounts in subsequent quarters through to the completion of these initiatives.

As of June 30, 2019, the Company was owed, under the LLC Agreement, $20.0 million in net royalty income payments for the period from the fourth quarter of 2018 through the second quarter of 2019. After initiation of the arbitration and prior to the final decision being issued in the third quarter of 2019, Innoviva caused TRC to make a partial distribution of funds to the Company of $10.6 million against these amounts due. Innoviva withheld $6.9 million, representing the Company’s share of the $8.0 million of total TRC funds earmarked for certain TRELEGY ELLIPTA development and commercialization initiatives proposed by Innoviva, pursuant to the arbitrator’s final decision. The amount due to the Company as of September 30, 2019 was $16.7 million and includes the $6.9 million currently being withheld by Innoviva. The Company believes the $16.7 million will be received by early 2020. In the event GSK agrees to the TRELEGY ELLIPTA development and commercialization initiatives proposed by Innoviva, the Company will reclassify the $6.9 million from “Amounts due from TRC, LLC” within total current assets to “Investment in TRC, LLC” within long-term assets on its condensed consolidated balance sheets.