10-Q 1 q314form10-q.htm 10-Q Q3'14 Form 10-Q


 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
 
 
FORM 10-Q
 
 
 
ý
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended September 30, 2014
or 
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the transition period from ________  to ________
Commission File No. 0-19731
 
 
GILEAD SCIENCES, INC.

(Exact Name of Registrant as Specified in Its Charter)
 
Delaware
94-3047598
(State or Other Jurisdiction of
Incorporation or Organization)
(IRS Employer
Identification No.)
 
 
333 Lakeside Drive, Foster City, California
94404
(Address of principal executive offices)
(Zip Code)
650-574-3000
Registrant’s Telephone Number, Including Area Code
 
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  ý    No  ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).     Yes  ý    No  ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer  ý    Accelerated  filer  ¨    Non-accelerated filer  ¨    Smaller reporting company  ¨
(Do not check if a smaller reporting company)
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  ý
Number of shares outstanding of the issuer’s common stock, par value $0.001 per share, as of October 31, 2014: 1,508,664,333
 





GILEAD SCIENCES, INC.
INDEX

PART I.
 
 
 
 
 
 
 
Item 1.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Item 2.
 
 
 
 
 
 
 
Item 3.
 
 
 
 
 
 
 
Item 4.
 
 
 
 
 
 
PART II.
 
 
 
 
 
 
 
Item 1.
 
 
 
 
 
 
 
Item 1A.
 
 
 
 
 
 
 
Item 2.
 
 
 
 
 
 
 
Item 3.
 
 
 
 
 
 
 
Item 4.
 
 
 
 
 
 
 
Item 5.
 
 
 
 
 
 
 
Item 6.
 
 
 
 
 
 
 


We own or have rights to various trademarks, copyrights and trade names used in our business, including the following: GILEAD®, GILEAD SCIENCES®, SOVALDI®, STRIBILD®, COMPLERA®, EVIPLERA®, TRUVADA®, VIREAD®, EMTRIVA®, TYBOST®, ZYDELIG®, HARVONI®, HEPSERA®, VITEKTA®, LETAIRIS®, RANEXA®, CAYSTON®, AMBISOME®, VOLIBRIS® and RAPISCAN®. ATRIPLA® is a registered trademark belonging to Bristol-Myers Squibb & Gilead Sciences, LLC. LEXISCAN® is a registered trademark belonging to Astellas U.S. LLC. MACUGEN® is a registered trademark belonging to Eyetech, Inc. SUSTIVA® is a registered trademark of Bristol-Myers Squibb Pharma Company. TAMIFLU® is a registered trademark belonging to Hoffmann-La Roche Inc. This report also includes other trademarks, service marks and trade names of other companies.





PART I.
FINANCIAL INFORMATION
ITEM I.
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
GILEAD SCIENCES, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(unaudited)
(in thousands, except per share amounts)
 
September 30, 2014
 
December 31, 2013
Assets
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
6,209,060

 
$
2,112,806

Short-term marketable securities
107,266

 
18,756

Accounts receivable, net
2,850,367

 
2,100,286

Inventories
1,909,584

 
2,055,788

Deferred tax assets
384,588

 
330,530

Prepaid taxes
599,117

 
398,010

Prepaid expenses
234,802

 
165,652

Other current assets
267,247

 
91,925

Total current assets
12,562,031

 
7,273,753

Property, plant and equipment, net
1,509,796

 
1,166,181

Long-term portion of prepaid royalties
487,852

 
198,766

Long-term deferred tax assets
163,720

 
154,765

Long-term marketable securities
1,375,400

 
439,028

Intangible assets, net
11,306,547

 
11,900,106

Goodwill
1,171,561

 
1,169,023

Other long-term assets
267,486

 
195,163

Total assets
$
28,844,393

 
$
22,496,785

 
 
 
 
Liabilities and Stockholders’ Equity
 

 
 

Current liabilities:
 

 
 

Accounts payable
$
1,182,917

 
$
1,255,914

Accrued government rebates
1,741,829

 
983,490

Accrued compensation and employee benefits
267,599

 
243,540

Income taxes payable
43,781

 
10,855

Other accrued liabilities
1,224,864

 
1,023,938

Deferred revenues
116,880

 
110,640

Current portion of long-term debt and other obligations, net
1,477,082

 
2,697,044

Total current liabilities
6,054,952

 
6,325,421

Long-term debt, net
7,933,040

 
3,938,708

Long-term income taxes payable
417,434

 
162,412

Long-term deferred tax liabilities
65,433

 
83,286

Other long-term obligations
482,542

 
178,626

Commitments and contingencies


 


Equity component of currently redeemable convertible notes
27,382

 
63,831

Stockholders’ equity:
 

 
 

Preferred stock, par value $0.001 per share; 5,000 shares authorized; none outstanding

 

Common stock, par value $0.001 per share; shares authorized of 5,600,000; shares issued and outstanding of 1,513,593 at September 30, 2014 and 1,534,414 at December 31, 2013
1,514

 
1,534

Additional paid-in capital
2,143,092

 
5,386,735

Accumulated other comprehensive income (loss)
173,962

 
(124,446
)
Retained earnings
11,247,655

 
6,105,244

Total Gilead stockholders’ equity
13,566,223

 
11,369,067

Noncontrolling interest
297,387

 
375,434

Total stockholders’ equity
13,863,610

 
11,744,501

Total liabilities and stockholders’ equity
$
28,844,393

 
$
22,496,785

See accompanying notes.

2



GILEAD SCIENCES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(unaudited)
(in thousands, except per share amounts)

 
 
 
Three Months Ended
 
Nine Months Ended
 
 
September 30,
 
September 30,
 
 
2014
 
2013
 
2014
 
2013
Revenues:
 
 
 
 
 
 
 
 
Product sales
 
$
5,968,208

 
$
2,709,652

 
$
17,252,119

 
$
7,760,505

Royalty, contract and other revenues
 
73,624

 
73,181

 
323,612

 
321,357

Total revenues
 
6,041,832

 
2,782,833

 
17,575,731

 
8,081,862

Costs and expenses:
 
 
 
 
 
 
 
 
Cost of goods sold
 
987,306

 
681,868

 
2,725,220

 
2,000,979

Research and development
 
630,466

 
546,244

 
1,809,368

 
1,567,778

Selling, general and administrative
 
944,837

 
406,860

 
2,106,515

 
1,186,147

Total costs and expenses
 
2,562,609

 
1,634,972

 
6,641,103

 
4,754,904

Income from operations
 
3,479,223

 
1,147,861

 
10,934,628

 
3,326,958

Interest expense
 
(103,366
)
 
(73,949
)
 
(281,639
)
 
(233,744
)
Other income (expense), net
 
(5,037
)
 
5,777

 
(26,594
)
 
2,222

Income before provision for income taxes
 
3,370,820

 
1,079,689

 
10,626,395

 
3,095,436

Provision for income taxes
 
646,557

 
294,473

 
2,029,060

 
824,892

Net income
 
2,724,263

 
785,216

 
8,597,335

 
2,270,544

Net loss attributable to noncontrolling interest
 
7,011

 
3,390

 
16,942

 
12,853

Net income attributable to Gilead
 
$
2,731,274

 
$
788,606

 
$
8,614,277

 
$
2,283,397

 Net income per share attributable to Gilead common stockholders—basic
 
$
1.80

 
$
0.51

 
$
5.64

 
$
1.50

Shares used in per share calculation—basic
 
1,513,899

 
1,532,105

 
1,527,633

 
1,526,847

 Net income per share attributable to Gilead common stockholders—diluted
 
$
1.67

 
$
0.47

 
$
5.18

 
$
1.35

Shares used in per share calculation—diluted
 
1,636,530

 
1,691,898

 
1,662,281

 
1,689,647





















See accompanying notes.

3



GILEAD SCIENCES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(unaudited)
(in thousands)

 
 
Three Months Ended
 
Nine Months Ended
 
 
September 30,
 
September 30,
 
 
2014
 
2013
 
2014
 
2013
Net income
 
$
2,724,263

 
$
785,216

 
$
8,597,335

 
$
2,270,544

Other comprehensive income:
 
 
 
 
 
 
 
 
Change in foreign currency translation gain (loss), net of tax
 
(10,031
)
 
2,381

 
(3,062
)
 
5,155

Available-for-sale securities:
 
 
 
 
 
 
 
 
Change in net unrealized gains (losses), net of tax impact of $(481), $2,182, $697 and $2,310
 
(831
)
 
4,316

 
995

 
4,082

Reclassifications to net income, net of tax impact of $(29), $(38), $(253) and $(79)
 
(51
)
 
(65
)
 
(437
)
 
(140
)
Net change
 
(882
)
 
4,251

 
558

 
3,942

Cash flow hedges:
 
 
 
 
 
 
 
 
Change in net unrealized gains (losses), net of tax impact of $6,462, $6,083, $6,288 and $2,504
 
223,886

 
(82,453
)
 
256,772

 
(3,371
)
Reclassifications to net income, net of tax impact of $(640), $(358), $(2,702) and $(610)
 
2,449

 
3,380

 
44,140

 
(2,181
)
Net change
 
226,335

 
(79,073
)
 
300,912

 
(5,552
)
Other comprehensive income (loss)
 
215,422

 
(72,441
)
 
298,408

 
3,545

Comprehensive income
 
2,939,685

 
712,775

 
8,895,743

 
2,274,089

Comprehensive loss attributable to noncontrolling interest
 
7,011

 
3,390

 
16,942

 
12,853

Comprehensive income attributable to Gilead
 
$
2,946,696

 
$
716,165

 
$
8,912,685

 
$
2,286,942



























See accompanying notes.

4



GILEAD SCIENCES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
(in thousands)
 
 
Nine Months Ended
 
 
September 30,
 
 
2014
 
2013
Operating Activities:
 
 
 
 
Net income
 
$
8,597,335

 
$
2,270,544

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
 
Depreciation expense
 
93,669

 
76,046

Amortization expense
 
680,950

 
140,699

Stock-based compensation expense
 
264,583

 
180,293

Excess tax benefits from stock-based compensation
 
(357,928
)
 
(168,728
)
Tax benefits from exercise and vesting of stock-based awards
 
360,336

 
169,916

Deferred income taxes
 
(67,061
)
 
(12,400
)
Change in fair value of contingent consideration
 
(4,119
)
 
47,442

Other
 
54,791

 
45,116

Changes in operating assets and liabilities:
 
 
 
 
Accounts receivable, net
 
(826,970
)
 
(226,308
)
Inventories
 
100,828

 
(216,650
)
Prepaid expenses and other assets
 
(428,969
)
 
(111,199
)
Accounts payable
 
(74,599
)
 
23,131

Income taxes payable
 
135,672

 
(87,081
)
Accrued liabilities
 
1,256,505

 
218,323

Deferred revenues
 
12,310

 
29,057

Net cash provided by operating activities
 
9,797,333

 
2,378,201

 
 
 
 
 
Investing Activities:
 
 
 
 
Purchases of marketable securities
 
(1,532,426
)
 
(254,657
)
Proceeds from sales of marketable securities
 
477,152

 
226,291

Proceeds from maturities of marketable securities
 
26,582

 
57,556

Acquisitions, net of cash acquired
 

 
(378,645
)
Capital expenditures
 
(389,549
)
 
(121,310
)
Net cash used in investing activities
 
(1,418,241
)
 
(470,765
)
 
 
 
 
 
Financing Activities:
 
 
 
 
Proceeds from debt financing, net of issuance costs
 
3,965,446

 

Proceeds from convertible note hedges
 
1,629,483

 
1,257,869

Purchases of convertible note hedges
 
(26,249
)
 

Proceeds from issuances of common stock
 
275,074

 
240,671

Repurchases of common stock
 
(3,348,477
)
 
(182,259
)
Repayments of debt and other long-term obligations
 
(2,859,872
)
 
(2,224,782
)
Payments to settle warrants
 
(4,092,758
)
 
(1,039,695
)
Excess tax benefits from stock-based compensation
 
357,928

 
168,728

Payment of contingent consideration
 
(98,346
)
 

Contributions from (distributions to) noncontrolling interest
 
(61,105
)
 
80,586

Net cash used in financing activities
 
(4,258,876
)
 
(1,698,882
)
Effect of exchange rate changes on cash and cash equivalents
 
(23,962
)
 
(1,512
)
Net change in cash and cash equivalents
 
4,096,254

 
207,042

Cash and cash equivalents at beginning of period
 
2,112,806

 
1,803,694

Cash and cash equivalents at end of period
 
$
6,209,060

 
$
2,010,736


See accompanying notes.

5



GILEAD SCIENCES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
1.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The accompanying unaudited Condensed Consolidated Financial Statements have been prepared in accordance with U.S. generally accepted accounting principles for interim financial information. The financial statements include all adjustments (consisting only of normal recurring adjustments) that the management of Gilead Sciences, Inc. (Gilead, we or us) believes are necessary for a fair presentation of the periods presented. These interim financial results are not necessarily indicative of results expected for the full fiscal year or for any subsequent interim period.
The accompanying Condensed Consolidated Financial Statements include the accounts of Gilead, our wholly-owned subsidiaries and our joint ventures with Bristol-Myers Squibb Company (BMS), for which we are the primary beneficiary. We record a noncontrolling interest in our Condensed Consolidated Financial Statements to reflect BMS’s interest in the joint ventures. All intercompany transactions have been eliminated. The Condensed Consolidated Financial Statements include the results of companies acquired by us from the date of each acquisition for the applicable reporting periods.
The accompanying Condensed Consolidated Financial Statements and related Notes to Condensed Consolidated Financial Statements should be read in conjunction with the audited Consolidated Financial Statements and the related notes thereto for the year ended December 31, 2013, included in our Annual Report on Form 10-K filed with the U.S. Securities and Exchange Commission.
Significant Accounting Policies, Estimates and Judgments
The preparation of these Condensed Consolidated Financial Statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosures. On an ongoing basis, management evaluates its significant accounting policies or estimates. We base our estimates on historical experience and on various market-specific and other relevant assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ significantly from these estimates.
Concentrations of Risk
We are subject to credit risk from our portfolio of cash equivalents and marketable securities. Under our investment policy, we limit amounts invested in such securities by credit rating, maturity, industry group, investment type and issuer, except for securities issued by the U.S. government. We are not exposed to any significant concentrations of credit risk from these financial instruments. The goals of our investment policy, in order of priority, are as follows: safety and preservation of principal and diversification of risk; liquidity of investments sufficient to meet cash flow requirements; and a competitive after-tax rate of return.
We are also subject to credit risk from our accounts receivable related to our product sales. The majority of our trade accounts receivable arises from product sales in the United States and Europe.
As of September 30, 2014, our accounts receivable in Southern Europe, specifically Greece, Italy, Portugal and Spain, totaled approximately $587.2 million, of which $154.5 million were greater than 120 days past due and $52.0 million were greater than 365 days past due. To date, we have not experienced significant losses with respect to the collection of our accounts receivable. We believe that our allowance for doubtful accounts was adequate at September 30, 2014.

6



Branded Prescription Drug Fee
We, along with other pharmaceutical manufacturers of branded drug products, are required to pay a portion of the Branded Prescription Drug (BPD) Fee, which is calculated based on select government sales during each calendar year as a percentage of total industry government sales. During the third quarter of 2014, the IRS issued final regulations which required manufacturers to recognize an additional year of expense, which for us resulted in a cumulative catch-up of $337 million within the quarter. The IRS is expected to communicate the final BPD fee amounts due for 2013 sales during the third quarter of 2015 and for 2014 sales during the third quarter of 2016. As of September 30, 2014, our BPD fee accrual totaled $343 million, of which $304 million was included in other long-term obligations on our Condensed Consolidated Balance Sheet.
Recent Accounting Pronouncements
In May 2014, the Financial Accounting Standards Board, jointly with the International Accounting Standards Board, issued a comprehensive new standard on revenue recognition from contracts with customers. The standard's core principle is that a reporting entity will recognize revenue when it transfers promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. In applying this new guidance to contracts within its scope, an entity will: (1) identify the contract(s) with a customer, (2) identify the performance obligations in the contract, (3) determine the transaction price, (4) allocate the transaction price to the performance obligations in the contract, and (5) recognize revenue when (or as) the entity satisfies a performance obligation. Additionally, this new guidance will require significantly expanded revenue recognition disclosures. This guidance will become effective for us beginning in the first quarter of 2017. Early application is not permitted. Entities have the option of using either a full retrospective or a modified retrospective approach to adopt this new guidance. We are currently evaluating the impact of our pending adoption of this standard on our Condensed Consolidated Financial Statements.
2.
FAIR VALUE MEASUREMENTS
We determine the fair value of financial and non-financial assets and liabilities using the fair value hierarchy, which establishes three levels of inputs that may be used to measure fair value, as follows:
Level 1 inputs which include quoted prices in active markets for identical assets or liabilities;
Level 2 inputs which include observable inputs other than Level 1 inputs, such as quoted prices for similar assets or liabilities; quoted prices for identical or similar assets or liabilities 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 asset or liability. For our marketable securities, we review trading activity and pricing as of the measurement date. When sufficient quoted pricing for identical securities is not available, we use market pricing and other observable market inputs for similar securities obtained from various third-party data providers. These inputs either represent quoted prices for similar assets in active markets or have been derived from observable market data; and
Level 3 inputs which include unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the underlying asset or liability. Our Level 3 liabilities include those whose fair value measurements are determined using pricing models, discounted cash flow methodologies or similar valuation techniques and significant management judgment or estimation.
Our financial instruments consist principally of cash and cash equivalents, marketable securities, accounts receivable, foreign currency exchange contracts, accounts payable and short-term and long-term debt. Cash and cash equivalents, marketable securities and foreign currency exchange contracts that hedge accounts receivable and forecasted sales are reported at their respective fair values on our Condensed Consolidated Balance Sheets. Short-term and long-term debt are reported at their amortized cost on our Condensed Consolidated Balance Sheets. The remaining financial instruments are reported on our Condensed Consolidated Balances Sheets at amounts that approximate current fair values.

7



The fair values of our convertible senior notes and senior unsecured notes were determined using Level 2 inputs based on their quoted market values. The following table summarizes the carrying values and fair values of our convertible senior notes and senior unsecured notes (in thousands):
 
 
 
 
September 30, 2014
 
December 31, 2013
Type of Borrowing
 
Description
 
Carrying Value
 
Fair Value
 
Carrying Value
 
Fair Value
Convertible Senior
 
May 2014 Notes
 
$

 
$

 
$
234,217

 
$
783,651

Convertible Senior
 
May 2016 Notes
 
727,072

 
3,517,174

 
1,113,043

 
3,871,516

Senior Unsecured
 
April 2021 Notes
 
994,425

 
1,093,710

 
993,781

 
1,075,480

Senior Unsecured
 
December 2014 Notes
 
749,947

 
752,820

 
749,710

 
762,637

Senior Unsecured
 
December 2016 Notes
 
699,499

 
729,603

 
699,326

 
740,705

Senior Unsecured
 
December 2021 Notes
 
1,247,933

 
1,358,813

 
1,247,716

 
1,336,738

Senior Unsecured
 
December 2041 Notes
 
997,942

 
1,186,550

 
997,885

 
1,118,660

Senior Unsecured
 
April 2019 Notes
 
499,232

 
496,065

 

 

Senior Unsecured
 
April 2024 Notes
 
1,747,340

 
1,782,900

 

 

Senior Unsecured
 
April 2044 Notes
 
1,746,669

 
1,848,333

 

 

The following table summarizes, for assets or liabilities recorded at fair value, the respective fair value and the classification by level of input within the fair value hierarchy previously defined (in thousands):
 
September 30, 2014
 
December 31, 2013
 
Level 1
 
Level 2
 
Level 3
 
Total
 
Level 1
 
Level 2
 
Level 3
 
Total
Assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Debt securities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Money market funds
$
5,049,683

 
$

 
$

 
$
5,049,683

 
$
1,490,964

 
$

 
$

 
$
1,490,964

Corporate debt securities

 
675,745

 

 
675,745

 

 
220,025

 

 
220,025

U.S. treasury securities
520,208

 

 

 
520,208

 
85,403

 

 

 
85,403

U.S. government agencies securities

 
131,417

 

 
131,417

 

 
93,350

 

 
93,350

Residential mortgage and asset-backed securities

 
151,287

 

 
151,287

 

 
46,941

 

 
46,941

Municipal debt securities

 
9,209

 

 
9,209

 

 
12,065

 

 
12,065

Total debt securities
5,569,891

 
967,658

 

 
6,537,549

 
1,576,367

 
372,381

 

 
1,948,748

Deferred compensation plan
52,261

 

 

 
52,261

 
44,461

 

 

 
44,461

Foreign currency derivative contracts

 
215,911

 

 
215,911

 

 
13,879

 

 
13,879

 
$
5,622,152

 
$
1,183,569

 
$

 
$
6,805,721

 
$
1,620,828

 
$
386,260

 
$

 
$
2,007,088

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Liabilities:
 

 
 

 
 

 
 

 
 

 
 

 
 

 
 

Contingent consideration
$

 
$

 
$
94,899

 
$
94,899

 
$

 
$

 
$
263,760

 
$
263,760

Foreign currency derivative contracts

 
3,696

 

 
3,696

 

 
99,057

 

 
99,057

Deferred compensation plan
52,261

 

 

 
52,261

 
44,461

 

 

 
44,461

 
$
52,261

 
$
3,696

 
$
94,899

 
$
150,856

 
$
44,461

 
$
99,057

 
$
263,760

 
$
407,278


8



Level 2 Inputs
We estimate the fair values of our government agency securities, corporate debt, residential mortgage and asset-backed securities by taking into consideration valuations obtained from third-party pricing services. The pricing services utilize industry standard valuation models, including both income- and market-based approaches, for which all significant inputs are observable, either directly or indirectly, to estimate fair value. These inputs include reported trades of and broker/dealer quotes on the same or similar securities; issuer credit spreads; benchmark securities; prepayment/default projections based on historical data and other observable inputs.
Substantially all of our foreign currency derivative contracts have maturities primarily over an 18-month time horizon and all are with counterparties that have a minimum credit rating of A- or equivalent by Standard & Poor's, Moody's Investors Service, Inc. or Fitch, Inc. We estimate the fair values of these contracts by taking into consideration valuations obtained from a third-party valuation service that utilizes an income-based industry standard valuation model for which all significant inputs are observable, either directly or indirectly. These inputs include foreign currency rates, London Interbank Offered Rates (LIBOR) and swap rates. These inputs, where applicable, are at commonly quoted intervals.
Level 3 Inputs
As of September 30, 2014 and December 31, 2013, the only assets or liabilities that were measured using Level 3 inputs were contingent consideration liabilities. Our policy is to recognize transfers into or out of Level 3 classification as of the actual date of the event or change in circumstances that caused the transfer.
Contingent Consideration Liabilities
In connection with certain acquisitions, we may be required to pay future consideration that is contingent upon the achievement of specified development, regulatory approval or sales-based milestone events. We estimate the fair value of the contingent consideration liabilities on the acquisition date and each reporting period thereafter using a probability-weighted income approach, which reflects the probability and timing of future payments. This fair value measurement is based on significant Level 3 inputs such as the anticipated timelines and probability of achieving development, regulatory approval or sales-based milestone events and projected revenues. The resulting probability-weighted cash flows are discounted using credit-risk adjusted interest rates.
Each reporting period thereafter, we revalue these obligations by performing a review of the assumptions listed above and record increases or decreases in the fair value of these contingent consideration obligations in research and development (R&D) expenses within our Condensed Consolidated Statements of Income until such time that the related product candidate receives marketing approval. In the absence of any significant changes in key assumptions, the quarterly determination of fair values of these contingent consideration obligations would primarily reflect the passage of time.
Significant judgment is employed in determining Level 3 inputs and fair value measurements as of the acquisition date and for each subsequent period. Updates to assumptions could have a significant impact on our results of operations in any given period and actual results may differ from estimates. For example, significant increases in the probability of achieving a milestone or projected revenues would result in a significantly higher fair value measurement while significant decreases in the estimated probability of achieving a milestone or projected revenues would result in a significantly lower fair value measurement. Significant increases in the discount rate or in the anticipated timelines would result in a significantly lower fair value measurement while significant decreases in the discount rate or anticipated timelines would result in a significantly higher fair value measurement.
The potential contingent consideration payments required upon achievement of development or regulatory approval-based milestones related to our CGI Pharmaceuticals, Inc. and Calistoga Pharmaceuticals, Inc. (Calistoga) acquisitions range from no payment if none of the milestones are achieved to an estimated maximum of $254.0 million (undiscounted), of which we had accrued $47.4 million as of September 30, 2014 and $220.5 million as of December 31, 2013. In July 2014, upon receiving U.S. Food and Drug Administration (FDA) approval of Zydelig, certain regulatory approval-based milestones related to our Calistoga acquisition were met and as a result, we made contingent consideration payments totaling $175.0 million in the third quarter of 2014. The remainder of the contingent consideration liabilities as of September 30, 2014 and December 31, 2013 relate to potential future payments resulting from the acquisition of Arresto Biosciences, Inc. for royalty obligations on future sales once specified sales-based milestones are achieved.

9



The following table provides a rollforward of our contingent consideration liabilities, which are recorded as part of other accrued liabilities and other long-term obligations in our Condensed Consolidated Balance Sheets (in thousands):
Balance at December 31, 2013
 
$
263,760

Milestone payments
 
(175,000
)
Net changes in valuation
 
6,139

Balance at September 30, 2014
 
$
94,899

3.
AVAILABLE-FOR-SALE SECURITIES
Estimated fair values of available-for-sale securities are generally based on prices obtained from commercial pricing services. The following table is a summary of available-for-sale debt securities recorded in cash and cash equivalents or marketable securities in our Condensed Consolidated Balance Sheets (in thousands):
 
 
September 30, 2014
 
December 31, 2013
 
 
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Estimated
Fair Value 
 
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Estimated
Fair Value 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Debt securities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Money market funds
 
$
5,049,683

 
$

 
$

 
$
5,049,683

 
$
1,490,964

 
$

 
$

 
$
1,490,964

Corporate debt securities
 
676,599

 
474

 
(1,328
)
 
675,745

 
219,242

 
885

 
(102
)
 
220,025

U.S. treasury securities
 
520,243

 
250

 
(285
)
 
520,208

 
85,337

 
94

 
(28
)
 
85,403

U.S. government agencies securities
 
131,396

 
94

 
(73
)
 
131,417

 
93,211

 
156

 
(17
)
 
93,350

Residential mortgage and asset-backed securities
 
151,359

 
51

 
(123
)
 
151,287

 
46,969

 
37

 
(65
)
 
46,941

Municipal debt securities
 
9,175

 
34

 

 
9,209

 
12,009

 
56

 

 
12,065

Total
 
$
6,538,455

 
$
903

 
$
(1,809
)
 
$
6,537,549

 
$
1,947,732

 
$
1,228

 
$
(212
)
 
$
1,948,748

The following table summarizes the classification of the available-for-sale debt securities on our Condensed Consolidated Balance Sheets (in thousands):
 
 
September 30, 2014
 
December 31, 2013
Cash and cash equivalents
 
$
5,054,883

 
$
1,490,964

Short-term marketable securities
 
107,266

 
18,756

Long-term marketable securities
 
1,375,400

 
439,028

Total
 
$
6,537,549

 
$
1,948,748

Cash and cash equivalents in the table above exclude cash of $1.15 billion as of September 30, 2014 and $621.8 million as of December 31, 2013.
The following table summarizes our portfolio of available-for-sale debt securities by contractual maturity (in thousands):
 
 
September 30, 2014
 
 
Amortized Cost
 
Fair Value
Less than one year
 
$
5,161,903

 
$
5,162,149

Greater than one year but less than five years
 
1,366,482

 
1,365,350

Greater than five years but less than ten years
 
5,618

 
5,607

Greater than ten years
 
4,452

 
4,443

Total
 
$
6,538,455

 
$
6,537,549


10



The following table summarizes the gross realized gains and losses related to sales of marketable securities (in thousands):
 
 
Three Months Ended
 
Nine Months Ended
 
 
September 30,
 
September 30,
 
 
2014
 
2013
 
2014
 
2013
Gross realized gains on sales
 
$
164

 
$
269

 
$
865

 
$
652

Gross realized losses on sales
 
$
(84
)
 
$
(166
)
 
$
(175
)
 
$
(433
)
The cost of securities sold was determined based on the specific identification method.
The following table summarizes our available-for-sale debt securities that were in a continuous unrealized loss position, but were not deemed to be other-than-temporarily impaired (in thousands):
 
 
Less Than 12 Months
 
12 Months or Greater
 
Total
 
 
Gross
Unrealized
Losses
 
Estimated
Fair Value
 
Gross
Unrealized
Losses
 
Estimated
Fair Value
 
Gross
Unrealized
Losses
 
Estimated
Fair Value
September 30, 2014
 
 
 
 
 
 
 
 
 
 
 
 
Debt securities:
 
 
 
 
 
 
 
 
 
 
 
 
U.S. treasury securities
 
$
(285
)
 
$
230,148

 
$

 
$

 
$
(285
)
 
$
230,148

Corporate debt securities
 
(1,328
)
 
494,142

 

 

 
(1,328
)
 
494,142

Residential mortgage and asset-backed securities
 
(110
)
 
100,094

 
(13
)
 
811

 
(123
)
 
100,905

U.S. government agencies securities
 
(73
)
 
49,849

 

 

 
$
(73
)
 
$
49,849

Total
 
$
(1,796
)
 
$
874,233

 
$
(13
)
 
$
811

 
$
(1,809
)
 
$
875,044

 
 
 

 
 

 
 

 
 

 
 

 
 

December 31, 2013
 
 

 
 

 
 

 
 

 
 

 
 

Debt securities:
 
 

 
 

 
 

 
 

 
 

 
 

U.S. treasury securities
 
$
(28
)
 
$
24,562

 
$

 
$

 
$
(28
)
 
$
24,562

Corporate debt securities
 
(102
)
 
37,076

 

 
1,505

 
(102
)
 
38,581

Residential mortgage and asset-backed securities
 
(38
)
 
19,563

 
(27
)
 
6,731

 
(65
)
 
26,294

U.S. government agencies securities
 
(17
)
 
10,858

 

 

 
(17
)
 
10,858

Total
 
$
(185
)
 
$
92,059

 
$
(27
)
 
$
8,236

 
$
(212
)
 
$
100,295

We held a total of 317 securities as of September 30, 2014 and 40 securities as of December 31, 2013 that were in an unrealized loss position. Based on our review of these securities, we believe we had no other-than-temporary impairments on these securities as of September 30, 2014 and December 31, 2013, because we do not intend to sell these securities and we believe it is not more likely than not that we will be required to sell these securities before the recovery of their amortized cost basis.
4.
DERIVATIVE FINANCIAL INSTRUMENTS
We operate in foreign countries, which exposes us to market risk associated with foreign currency exchange rate fluctuations between the U.S. dollar and various foreign currencies, the most significant of which is the Euro. In order to manage this risk, we may hedge a portion of our foreign currency exposures related to outstanding monetary assets and liabilities as well as forecasted product sales using foreign currency exchange forward or option contracts. In general, the market risk related to these contracts is offset by corresponding gains and losses on the hedged transactions. The credit risk associated with these contracts is driven by changes in interest and currency exchange rates and, as a result, varies over time. By working only with major banks and closely monitoring current market conditions, we seek to limit the risk that counterparties to these contracts may be unable to perform. We also seek to limit our risk of loss by entering into contracts that permit net settlement at maturity. Therefore, our overall risk of loss in the event of a counterparty default is limited to the amount of any unrecognized gains on outstanding contracts (i.e. those contracts that have a positive fair value) at the date of default. We do not enter into derivative contracts for trading purposes.

11



We hedge our exposure to foreign currency exchange rate fluctuations for certain monetary assets and liabilities of our foreign subsidiaries that are denominated in a non-functional currency. The derivative instruments we use to hedge this exposure are not designated as hedges, and as a result, changes in their fair value are recorded in other income (expense), net on our Condensed Consolidated Statements of Income.
We hedge our exposure to foreign currency exchange rate fluctuations for forecasted product sales that are denominated in a non-functional currency. The derivative instruments we use to hedge this exposure are designated as cash flow hedges and have maturity dates of 18 months or less. Upon executing a hedging contract and quarterly thereafter, we assess prospective hedge effectiveness using a regression analysis which calculates the change in cash flow as a result of the hedge instrument. On a monthly basis, we assess retrospective hedge effectiveness using a dollar offset approach. We exclude time value from our effectiveness testing and recognize changes in the time value of the hedge in other income (expense), net. The effective component of our hedge is recorded as an unrealized gain or loss on the hedging instrument in accumulated other comprehensive income (loss) (OCI) within stockholders' equity. When the hedged forecasted transaction occurs, the hedge is de-designated and the unrealized gains or losses are reclassified into product sales. The majority of gains and losses related to the hedged forecasted transactions reported in accumulated OCI at September 30, 2014 will be reclassified to product sales within 12 months.
The cash flow effects of our derivative contracts for the nine months ended September 30, 2014 and 2013 are included within net cash provided by operating activities in the Condensed Consolidated Statements of Cash Flows.
We had notional amounts on foreign currency exchange contracts outstanding of $5.56 billion at September 30, 2014 and $4.28 billion at December 31, 2013.
While all of our derivative contracts allow us the right to offset assets or liabilities, we have presented amounts on a gross basis. Under the International Swap Dealers Association, Inc. master agreements with the respective counterparties of the foreign currency exchange contracts, subject to applicable requirements, we are allowed to net settle transactions of the same currency with a single net amount payable by one party to the other. The following table summarizes the location and fair values of derivative instruments on our Condensed Consolidated Balance Sheets (in thousands):
 
 
September 30, 2014
 
 
Asset Derivatives
 
Liability Derivatives
 
 
Classification
 
Fair Value 
 
Classification
 
Fair Value
Derivatives designated as hedges:
 
 
 
 
 
 
 
 
Foreign currency exchange contracts
 
Other current assets
 
$
179,891

 
Other accrued liabilities
 
$
3,545

Foreign currency exchange contracts
 
Other long-term assets
 
36,016

 
Other long-term obligations
 
79

Total derivatives designated as hedges
 
 
 
215,907

 
 
 
3,624

Derivatives not designated as hedges:
 
 
 
 

 
 
 
 

Foreign currency exchange contracts
 
Other current assets
 
4

 
Other accrued liabilities
 
72

Total derivatives not designated as hedges
 
 
 
4

 
 
 
72

Total derivatives
 
 
 
$
215,911

 
 
 
$
3,696

 

12



 
 
December 31, 2013
 
 
Asset Derivatives
 
Liability Derivatives
 
 
Classification
 
Fair Value 
 
Classification
 
Fair Value
Derivatives designated as hedges:
 
 
 
 
 
 
 
 
Foreign currency exchange contracts
 
Other current assets
 
$
12,647

 
Other accrued liabilities
 
$
85,541

Foreign currency exchange contracts
 
Other long-term assets
 
1,229

 
Other long-term obligations
 
13,299

Total derivatives designated as hedges
 
 
 
13,876

 
 
 
98,840

Derivatives not designated as hedges:
 
 
 
 

 
 
 
 

Foreign currency exchange contracts
 
Other current assets
 
3

 
Other accrued liabilities
 
217

Total derivatives not designated as hedges
 
 
 
3

 
 
 
217

Total derivatives
 
 
 
$
13,879

 
 
 
$
99,057

The following table summarizes the effect of our foreign currency exchange contracts on our Condensed Consolidated Financial Statements (in thousands):
 
 
Three Months Ended
 
Nine Months Ended
 
 
September 30,
 
September 30,
 
 
2014
 
2013
 
2014
 
2013
Derivatives designated as hedges:
 
 
 
 
 
 
 
 
Gains (losses) recognized in OCI (effective portion)
 
$
230,348

 
$
(83,528
)
 
$
263,060

 
$
(867
)
Gains (losses) reclassified from accumulated OCI into product sales (effective portion)
 
$
(1,810
)
 
$
(3,022
)
 
$
(41,439
)
 
$
2,791

Gains (losses) recognized in other income (expense), net (ineffective portion and amounts excluded from effectiveness testing)
 
$
(2,626
)
 
$
1,105

 
$
(6,525
)
 
$
881

Derivatives not designated as hedges:
 
 
 
 
 
 
 
 
Gains (losses) recognized in other income (expense), net
 
$
73,489

 
$
(41,929
)
 
$
82,600

 
$
(232
)
From time to time, we may discontinue cash flow hedges and as a result, record related amounts in other income (expense), net on our Condensed Consolidated Statements of Income. There were no material amounts recorded in other income (expense), net for the three and nine months ended September 30, 2014 and 2013 as a result of the discontinuance of cash flow hedges.
As of September 30, 2014 and December 31, 2013, we held one type of financial instrument, derivative contracts related to foreign currency exchange contracts. The following table summarizes the potential effect of offsetting derivatives by type of financial instrument on our Condensed Consolidated Balance Sheets (in thousands):
September 30, 2014
Offsetting of Derivative Assets/Liabilities
 
 
 
 
 
 
 
 
Gross Amounts Not Offset
in the Condensed
Consolidated Balance Sheet
 
 
Description
 
Gross Amounts of Recognized Assets/Liabilities
 
Gross Amounts Offset in the Condensed Consolidated Balance Sheet
 
Amounts of Assets/Liabilities Presented
in the Condensed Consolidated
Balance Sheet
 
Derivative Financial Instruments
 
Cash Collateral Received/Pledged
 
Net Amount (Legal Offset)
Derivative assets
 
$
215,911

 
$

 
$
215,911

 
$
(3,688
)
 
$

 
$
212,223

Derivative liabilities
 
$
(3,696
)
 
$

 
$
(3,696
)
 
$
3,688

 
$

 
$
(8
)

13



December 31, 2013
Offsetting of Derivative Assets/Liabilities
 
 
 
 
 
 
 
 
Gross Amounts Not Offset
in the Condensed
Consolidated Balance Sheet
 
 
Description
 
Gross Amounts of Recognized Assets/Liabilities
 
Gross Amounts Offset in the Condensed Consolidated Balance Sheet
 
Amounts of Assets/Liabilities Presented
in the Condensed Consolidated
Balance Sheet
 
Derivative Financial Instruments
 
Cash Collateral Received/Pledged
 
Net Amount (Legal Offset)
Derivative assets
 
$
13,879

 
$

 
$
13,879

 
$
(13,879
)
 
$

 
$

Derivative liabilities
 
$
(99,057
)
 
$

 
$
(99,057
)
 
$
13,879

 
$

 
$
(85,178
)
5.
INVENTORIES
Inventories are summarized as follows (in thousands):
 
 
September 30, 2014
 
December 31, 2013
Raw materials
 
$
956,842

 
$
1,049,403

Work in process
 
501,856

 
412,945

Finished goods
 
450,886

 
593,440

Total
 
$
1,909,584

 
$
2,055,788

The joint ventures formed by Gilead and BMS (See Note 7, Collaborative Arrangements), which are included in our Condensed Consolidated Financial Statements, held efavirenz active pharmaceutical ingredient in inventory. This efavirenz inventory was purchased from BMS at BMS's estimated net selling price of efavirenz and totaled $1.01 billion as of September 30, 2014 and $1.28 billion as of December 31, 2013.
6.
INTANGIBLE ASSETS AND GOODWILL
Intangible Assets
The following table summarizes the carrying amount of our intangible assets (in thousands):
 
 
September 30, 2014
 
December 31, 2013
Finite-lived intangible assets
 
$
10,874,157

 
$
11,325,751

Indefinite-lived intangible assets
 
432,390

 
574,355

Total intangible assets
 
$
11,306,547

 
$
11,900,106

Finite-Lived Intangible Assets
The following table summarizes our finite-lived intangible assets (in thousands):
 
 
September 30, 2014
 
December 31, 2013
 
 
Gross Carrying
Amount
 
Accumulated
Amortization
 
Gross Carrying
Amount
 
Accumulated
Amortization
Intangible asset - sofosbuvir
 
$
10,720,000

 
$
582,609

 
$
10,720,000

 
$
58,261

Intangible asset - Ranexa
 
688,400

 
243,697

 
688,400

 
190,849

Other
 
454,995

 
162,932

 
305,795

 
139,334

Total
 
$
11,863,395

 
$
989,238

 
$
11,714,195

 
$
388,444

Upon FDA approval and commercial launch of Sovaldi in December 2013, we reclassified the in-process R&D related to sofosbuvir to finite-lived intangible assets. After receiving FDA approval in July 2014, we launched Zydelig and reclassified the in-process R&D related to idelalisib to finite-lived intangibles. Amortization expense related to finite-lived intangible assets are included primarily in cost of goods sold in our Condensed Consolidated Statements of Income which totaled $201.8 million and $600.8 million for the three and nine months ended September 30, 2014 and $21.3 million and $63.8 million for the three and nine months ended September 30, 2013. As of September 30, 2014, the estimated future amortization expense associated with our intangible assets for the remaining three months of 2014 and each of the five succeeding fiscal years is as follows (in thousands):

14



Fiscal Year
 
Amount
2014 (remaining three months)
 
$
202,902

2015
 
817,060

2016
 
824,992

2017
 
829,435

2018
 
841,543

2019
 
806,386

Total
 
$
4,322,318

Indefinite-Lived Intangible Assets
The following table summarizes our indefinite-lived intangible assets (in thousands):
 
 
September 30, 2014
 
December 31, 2013
Indefinite-lived intangible asset - momelotinib (formerly CYT387)
 
$
308,155

 
$
362,700

Indefinite-lived intangible assets - other
 
117,000

 
266,200

 
 
425,155

 
628,900

Foreign currency translation adjustment
 
7,235

 
(54,545
)
Total
 
$
432,390

 
$
574,355


Goodwill
The following table summarizes the changes in the carrying amount of goodwill (in thousands):
Balance at December 31, 2013
 
$
1,169,023

Foreign currency translation adjustment
 
2,538

Balance at September 30, 2014
 
$
1,171,561

7.
COLLABORATIVE ARRANGEMENTS
From time to time, as a result of entering into strategic collaborations, we may hold investments in non-public companies. We review our interests in investee companies for consolidation and/or disclosure based on applicable guidance. For variable interest entities (VIEs), we may be required to consolidate an entity if the contractual terms of the arrangement essentially provide us with control over the entity, even if we do not have a majority voting interest. We assess whether we are the primary beneficiary of a VIE based on our power to direct the activities of the VIE that most significantly impact the VIE's economic performance and our obligation to absorb losses or the right to receive benefits from the VIE that could potentially be significant to the VIE. As of September 30, 2014, we determined that certain of our investee companies are VIEs; however, other than with respect to our joint ventures with BMS, we are not the primary beneficiary and therefore do not consolidate these investees.
Bristol-Myers Squibb Company
North America
In 2004, we entered into a collaboration arrangement with BMS to develop and commercialize a single tablet regimen containing our Truvada and BMS's Sustiva (efavirenz) in the United States. This combination was approved for use in the United States in 2006 and is sold under the brand name Atripla. We and BMS structured this collaboration as a joint venture that operates as a limited liability company named Bristol-Myers Squibb & Gilead Sciences, LLC, which we consolidate. We and BMS granted royalty free sublicenses to the joint venture for the use of our respective company owned technologies and, in return, were granted a license by the joint venture to use any intellectual property that results from the collaboration. In 2006, we and BMS amended the joint venture's collaboration agreement to allow the joint venture to sell Atripla in Canada. The economic interests of the joint venture held by us and BMS (including share of revenues and out-of-pocket expenses) are based on the portion of the net selling price of Atripla attributable to efavirenz and Truvada. Since the net selling price for Truvada may change over time relative to the net selling price of efavirenz, both our and BMS's respective economic interests in the joint venture may vary annually.

15



We and BMS shared marketing and sales efforts. Starting in the second quarter of 2011, except for a limited number of activities that will be jointly managed, the parties no longer coordinate detailing and promotional activities in the United States, and the parties have begun to reduce their joint promotional efforts since we launched Complera in August 2011 and Stribild in August 2012. The parties will continue to collaborate on activities such as manufacturing, regulatory, compliance and pharmacovigilance. The daily operations of the joint venture are governed by four primary joint committees formed by both BMS and Gilead. We are responsible for accounting, financial reporting, tax reporting, manufacturing and product distribution for the joint venture. Both parties provide their respective bulk active pharmaceutical ingredients to the joint venture at their approximate market values. The agreement will continue until terminated by the mutual agreement of the parties. In addition, either party may terminate the other party's participation in the collaboration within 30 days after the launch of at least one generic version of such other party's single agent products (or the double agent products). The terminating party then has the right to continue to sell Atripla and become the continuing party, but will be obligated to pay the terminated party certain royalties for a three-year period following the effective date of the termination.
As of September 30, 2014 and December 31, 2013, the joint venture held efavirenz active pharmaceutical ingredient which it purchased from BMS at BMS's estimated net selling price of efavirenz in the U.S. market. These amounts are included in inventories on our Condensed Consolidated Balance Sheets. As of September 30, 2014, total assets held by the joint venture were $2.26 billion and consisted primarily of cash and cash equivalents of $213.9 million, accounts receivable of $257.5 million and inventories of $1.77 billion; total liabilities were $1.47 billion and consisted primarily of accounts payable of $1.08 billion and other accrued expenses of $393.9 million. As of December 31, 2013, total assets held by the joint venture were $2.24 billion and consisted primarily of cash and cash equivalents of $245.7 million, accounts receivable of $275.3 million and inventories of $1.72 billion; total liabilities were $1.26 billion and consisted primarily of accounts payable of $915.4 million and other accrued expenses of $341.2 million. These asset and liability amounts do not reflect the impact of intercompany eliminations that are included in our Condensed Consolidated Balance Sheets. Although we consolidate the joint venture, the legal structure of the joint venture limits the recourse that its creditors will have over our general credit or assets. Similarly, the assets held in the joint venture can be used only to settle obligations of the joint venture.
Europe
In 2007, Gilead Sciences Ireland Unlimited Company, our wholly-owned subsidiary in Ireland, formerly known as Gilead Sciences Limited, and BMS entered into a collaboration agreement with BMS which sets forth the terms and conditions under which we and BMS commercialize and distribute Atripla in the European Union, Iceland, Liechtenstein, Norway and Switzerland (collectively, the European Territory). The parties formed a limited liability company which we consolidate, to manufacture Atripla for distribution in the European Territory using efavirenz that it purchases from BMS at BMS's estimated net selling price of efavirenz in the European Territory. We are responsible for manufacturing, product distribution, inventory management and warehousing. Through our local subsidiaries, we have primary responsibility for order fulfillment, collection of receivables, customer relations and handling of sales returns in all the territories where we and BMS promote Atripla. In general, the parties share revenues and out-of-pocket expenses in proportion to the net selling prices of the components of Atripla, Truvada and efavirenz.
Starting in 2012, except for a limited number of activities that will be jointly managed, the parties no longer coordinate detailing and promotional activities in the region. We are responsible for accounting, financial reporting and tax reporting for the collaboration. As of September 30, 2014 and December 31, 2013, efavirenz purchased from BMS at BMS's estimated net selling price of efavirenz in the European Territory is included in inventories on our Condensed Consolidated Balance Sheets.
The parties also formed a limited liability company to hold the marketing authorization for Atripla in Europe. We have primary responsibility for regulatory activities. In the major market countries, both parties have agreed to independently continue to use commercially reasonable efforts to promote Atripla.
The agreement will terminate upon the expiration of the last-to-expire patent which affords market exclusivity to Atripla or one of its components in the European Territory. In addition, starting December 31, 2013, either party may terminate the agreement for any reason and such termination will be effective two calendar quarters after notice of termination. The non-terminating party has the right to continue to sell Atripla and become the continuing party, but will be obligated to pay the terminating party certain royalties for a three-year period following the effective date of the termination. In the event the continuing party decides not to sell Atripla, the effective date of the termination will be the date Atripla is withdrawn in each country or the date on which a third party assumes distribution of Atripla, whichever is earlier.

16



8.
DEBT AND CREDIT FACILITY
Financing Arrangements
The following table summarizes the carrying amount of our borrowings under various financing arrangements (in thousands):
Type of Borrowing
 
Description
 
Issue Date
 
Due Date
 
Interest Rate
 
September 30,
2014
 
December 31, 2013
Convertible Senior
 
May 2014 Notes
 
July 2010
 
May 2014
 
1.00%
 
$

 
$
234,217

Convertible Senior
 
May 2016 Notes
 
July 2010
 
May 2016
 
1.625%
 
727,072

 
1,113,043

Senior Unsecured
 
April 2021 Notes
 
March 2011
 
April 2021
 
4.50%
 
994,425

 
993,781

Senior Unsecured
 
December 2014 Notes
 
December 2011
 
December 2014
 
2.40%
 
749,947

 
749,710

Senior Unsecured
 
December 2016 Notes
 
December 2011
 
December 2016
 
3.05%
 
699,499

 
699,326

Senior Unsecured
 
December 2021 Notes
 
December 2011
 
December 2021
 
4.40%
 
1,247,933

 
1,247,716

Senior Unsecured
 
December 2041 Notes
 
December 2011
 
December 2041
 
5.65%
 
997,942

 
997,885

Senior Unsecured
 
April 2019 Notes
 
March 2014
 
April 2019
 
2.05%
 
499,232

 

Senior Unsecured
 
April 2024 Notes
 
March 2014
 
April 2024
 
3.70%
 
1,747,340

 

Senior Unsecured
 
April 2044 Notes
 
March 2014
 
April 2044
 
4.80%
 
1,746,669

 

Credit Facility
 
Five-Year Revolver
 
January 2012
 
January 2017
 
Variable
 

 
600,000

Total debt, net
 
9,410,059

 
6,635,678

Less current portion
 
1,477,019

 
2,696,970

Total long-term debt, net
 
$
7,933,040

 
$
3,938,708

Convertible Senior Notes
During the nine months ended September 30, 2014, our convertible senior notes due in May 2014 (May 2014 Notes) matured and a portion of our convertible senior notes due in May 2016 (May 2016 Notes) (together, the Notes) were converted. During the nine months ended September 30, 2014, we repaid $656.6 million of principal balance relating to the Notes. We also paid $1.60 billion in cash related to the conversion spread of the Notes, which represents the conversion value in excess of the principal amount, and received $1.60 billion in cash from the convertible note hedges related to the Notes.
As of September 30, 2014, the May 2016 Notes were classified as current given that their conversion criteria had been met. As a result, the related unamortized discount of $27.4 million was classified as equity component of currently redeemable convertible notes on our Condensed Consolidated Balance Sheet.
During the third quarter of 2014, we exercised our option to settle in cash the warrants expiring in 2014 (the 2014 Warrants). As result, we paid $4.09 billion to settle the warrants as the market value of our common stock at the time of the exercise of the warrants exceeds their strike price. There were 55.5 million shares of our common stock underlying the 2014 Warrants, which had a strike price of $28.38 per share and expired during the 40 trading-day period commencing August 1, 2014 and ending on September 26, 2014. Because the warrants could have been settled, at our option, in cash or shares of our common stock, and the related contracts met all of the applicable criteria for equity classification, the settlement was recorded as a reduction of additional paid-in capital in our Condensed Consolidated Balance Sheet.

There are 55.1 million shares of our common stock underlying our warrants expiring in 2016 (the 2016 Warrants). The 2016 Warrants have a strike price of $30.05 per share and are exercisable only on their expiration date. If the market value of our common stock at the time of the exercise of the warrants exceeds their strike price, we will be required to net settle in cash or shares of our common stock, at our option, for the value of the warrants in excess of the warrant strike price.
April 2019, 2024 and 2044 Senior Unsecured Notes
In March 2014, we issued senior unsecured notes in a registered offering for a total aggregate principal amount of $4.00 billion. We issued senior unsecured notes due in April 2019 (April 2019 Notes) for $500.0 million that pay interest at a fixed annual rate of 2.05%, senior unsecured notes due in April 2024 (April 2024 Notes) for $1.75 billion that pay interest at a fixed annual rate of 3.70% and senior unsecured notes due in April 2044 (April 2044 Notes) for $1.75 billion that pay interest at a fixed annual rate of 4.80%. Debt issuance costs incurred in connection with the issuance of this debt totaled approximately $27.5 million and are being amortized to interest expense over the contractual term of each of the respective notes.
These notes may be redeemed at our option at any time or from time to time, at a redemption price equal to the greater of (i) 100% of the principal amount of the notes to be redeemed and (ii) the sum, as determined by an independent investment

17



banker, of the present values of the remaining scheduled payments of principal and interest on the notes to be redeemed (exclusive of interest accrued to the date of redemption) discounted to the redemption date on a semiannual basis at the Treasury Rate plus 10 basis points in the case of the April 2019 Notes, 15 basis points in the case of the April 2024 Notes and 20 basis points in the case of the April 2044 Notes plus, in each case, accrued and unpaid interest on the notes to be redeemed to the date of redemption.
At any time on or after the date that is three months prior to the maturity date of the April 2024 Notes, we may redeem the notes, in whole or in part, at 100% of the principal amount of the notes to be redeemed, plus accrued and unpaid interest to the date of redemption. At any time on or after the date that is six months prior to the maturity date of the April 2044 Notes, we may redeem the notes, in whole or in part, at 100% of the principal amount of the notes to be redeemed, plus accrued and unpaid interest to the date of redemption.
In the event of the occurrence of both a change in control and a downgrade in the rating of a series of notes below an investment grade rating by Standard & Poor's Ratings Services and Moody's Investors Service, Inc., the holders of such series of notes may require us to purchase all or a portion of their notes of such series at a price equal to 101% of the aggregate principal amount of the notes repurchased, plus accrued and unpaid interest.
Credit Facility
During the first quarter of 2014, we repaid the remaining balance of $600.0 million that was outstanding under the revolving credit facility credit agreement. There were no amounts outstanding under the revolving credit facility credit agreement as of September 30, 2014.
We are required to comply with certain covenants under the credit agreement and note indentures and as of September 30, 2014, we were not in violation with any covenants.
9.
COMMITMENTS AND CONTINGENCIES
We are a party to various legal actions. The most significant of these are described below. It is not possible to determine the outcome of these matters, and we cannot reasonably estimate the maximum potential exposure or the range of possible loss.
Litigation Related to Sofosbuvir
In January 2012, we acquired Pharmasset, Inc. (Pharmasset). Through the acquisition, we acquired sofosbuvir, a nucleotide analog that acts to inhibit the replication of the hepatitis C virus (HCV). In December 2013, we received U.S. Food and Drug Administration (FDA) approval of sofosbuvir, now known commercially as Sovaldi. In October 2014, we also received approval of the fixed dose combination of ledipasvir and sofosbuvir (LDV/SOF), now known commercially as Harvoni. We own patents that claim sofosbuvir as a chemical entity and its metabolites. However, the existence of patents does not necessarily guarantee our right to practice the patented technology or commercialize the patented product. Third parties may have, or may obtain rights to, patents that allegedly could be used to prevent or attempt to prevent us from commercializing sofosbuvir. For example, we are aware of patents and patent applications owned by other parties that may be alleged by such parties to cover the use of sofosbuvir. If these parties successfully obtain valid and enforceable patents, and successfully prove infringement of those patents by sofosbuvir, we could be prevented from selling sofosbuvir unless we were able to obtain a license under such patents. Such a license may not be available on commercially-reasonable terms or at all. We cannot predict the ultimate outcome of the intellectual property claims related to sofosbuvir and may spend significant resources enforcing and defending our patents. Any range of loss cannot be estimated at this time.
Current legal proceedings of significance regarding sofosbuvir include:
Arbitration with F. Hoffman-La Roche Ltd and Hoffman-La Roche Inc. (collectively, Roche)
Gilead (as successor to Pharmasset) is a party to a collaboration agreement with Roche. The agreement granted Roche rights to develop PSI-6130, a cytidine analog, and its prodrugs, for the treatment of HCV infection. The collaborative research efforts under the agreement ended in 2006. In March 2013, Roche served an arbitration against us and Pharmasset, predecessor to Gilead Pharmasset LLC. In the arbitration demand, Roche asserted that it had an exclusive license to sofosbuvir pursuant to the collaboration agreement because sofosbuvir, a prodrug of a uridine analog, is allegedly a prodrug of PSI-6130, a cytidine analog. Roche further claimed that, because it had exclusive rights to sofosbuvir, it also had an exclusive license to a patent covering sofosbuvir, and that we infringed that patent by selling and offering for sale products containing sofosbuvir. Gilead and Gilead Pharmasset LLC filed their response to Roche's arbitration demand in April 2013. The arbitration hearing was held in June 2014. In August 2014, the arbitration panel determined that Roche failed to establish any of their claims and ruled in favor of us. As a result, Roche is not entitled to any damages or other relief.

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Interference Proceedings and Litigation with Idenix Pharmaceuticals, Inc. (Idenix)
In February 2012, we received notice that the U.S. Patent and Trademark Office (USPTO) had declared Interference No. 105,871 (First Idenix Interference) between our U.S. Patent No. 7,429,572 and Idenix's pending U.S. Patent Application No. 12/131,868. An interference is an administrative proceeding before the USPTO designed to determine who was the first to invent the subject matter claimed by both parties. Our patent covers metabolites of sofosbuvir and RG7128, a prodrug of a cytidine nucleoside analog that Pharmasset licensed to Roche. Idenix is attempting to patent a class of compounds, including these metabolites. The purpose of the First Idenix Interference was to determine who was first to invent these compounds and therefore who is entitled to the patent claiming these compounds. In March 2013, the USPTO Patent Trial and Appeal Board (the Board) determined that Idenix is not entitled to the benefit of any of its early application filing dates because none of those patent applications, including the application that led to Idenix’s U.S. Patent No. 7,608,600 (the ‘600 patent), taught how to make the compounds in dispute. The Board also determined that because we are entitled to the filing date of our earliest application, we were first to file the patent application on the compounds in dispute, and we were therefore the “senior party” in the First Idenix Interference. On January 29, 2014, the Board determined that Pharmasset and not Idenix was the first to invent the compounds in dispute and accordingly Gilead prevailed. In its decision, the Board held that Idenix failed to prove that it was first to conceive of any of the compounds in dispute. Specifically, Idenix failed to prove that the Idenix inventors had identified the structure, a method of making and a use for any of the disputed compounds. The Board went on to conclude that Idenix failed to work diligently toward making and testing the compounds in dispute during the relevant time period. Idenix has appealed the Board’s decisions to the U.S. District Court for the District of Delaware.
We believe the claims in the Idenix application involved in the First Idenix Interference, and similar U.S. and foreign patents claiming the same compounds and metabolites, are invalid. As a result, we filed an Impeachment Action in the Federal Court of Canada to invalidate Idenix Canadian Patent No. 2,490,191 (the ‘191 patent), which is the Canadian patent that corresponds to the ‘600 patent and the Idenix patent application that was the subject of the First Idenix Interference. Idenix has now asserted that the commercialization of Sovaldi in Canada will infringe its ‘191 patent and that our Canadian Patent No. 2,527,657, corresponding to our U.S. Patent No. 7,429,572 in the First Idenix Interference, is invalid. A trial on these issues is scheduled to commence in January 2015 in Toronto.
We filed a legal action in the Federal Court of Australia seeking to invalidate Idenix’s Australian patent corresponding to the ‘600 patent. In April 2013, Idenix asserted that the commercialization of sofosbuvir will infringe the Australian patent corresponding to the ‘600 patent. A trial on these issues is scheduled to commence in September 2015 in Sydney.
On March 12, 2014, the European Patent Office (EPO) granted Idenix European Patent No. 1 523 489 (the ‘489 patent), which corresponds to the ‘600 patent. The same day that the ‘489 patent granted, we filed an opposition with the EPO seeking to revoke the ‘489 patent. Also on that day, Idenix initiated infringement proceedings against Gilead in the United Kingdom, Germany and France alleging that the commercialization of Sovaldi in those countries would infringe the respective national counterparts of the ‘489 patent. In the United Kingdom, a trial was held in October 2014 to determine the issues of infringement and validity of the Idenix United Kingdom patent. A decision is expected in the fourth quarter of 2014. In Germany, the court in Düsseldorf has ordered a hearing date of December 2, 2014 to determine the issue of infringement of the Idenix German patent. We do not have a trial date for the French lawsuit.
Idenix has not been awarded patents corresponding to the ‘600 patent in Japan or China. In the event such patents issue, we expect to challenge them in proceedings similar to those we invoked in Europe, Canada, Norway and Australia.
In December 2013, after receiving our request to do so, the USPTO declared Interference No. 105,981 (Second Idenix Interference) between our pending U.S. Patent Application No. 11/854,218 and the ‘600 patent. The ‘600 patent includes claims directed to methods of treating HCV with nucleoside compounds similar to those which were involved in the First Idenix Interference. The Second Idenix Interference will determine who was first to invent the claimed methods of treating HCV. In the declaration of the Second Idenix Interference, the USPTO has initially designated Gilead as the junior party based upon the patent application filing dates appearing on the face of the ‘600 patent. We believe the Board’s determination in the First Idenix Interference that Idenix is not entitled to the benefit of any of its earlier application filing dates, including the filing date of the ‘600 patent, will be equally applicable to the Second Idenix Interference. If we are correct, the Board may conclude that Gilead is the senior party in the Second Idenix Interference, consistent with the determination in the First Idenix Interference. In light of the Board’s conclusion in the First Idenix Interference that the application that led to the ‘600 patent does not teach how to make the claimed compounds, it is possible that the Board will make the same determination in the Second Idenix Interference and eliminate the need for the Board to address who was the first to invent the claimed methods of treating HCV. However, if the Board does consider who was the first to invent the claimed methods of treating HCV and ultimately concludes that Gilead was first, the claims in the ‘600 patent may be revoked.

19



In December 2013, Idenix, Universita Degli Studi di Cagliari (UDSG), Centre National de la Recherche Scientifique and L’Université Montpellier II sued us in U.S. District Court for the District of Delaware alleging that the commercialization of sofosbuvir will infringe the ‘600 patent and that an interference exists between the ‘600 patent and our U.S. Patent No. 8,415,322. We believe that the claims in the ‘600 patent are invalid and that we have the sole right to commercialize sofosbuvir.
Also in December 2013, Idenix and UDSG sued us in the U.S. District Court for the District of Massachusetts alleging that the commercialization of sofosbuvir will infringe U.S. Patent Nos. 6,914,054 and 7,608,597. On June 30, 2014, the court in Massachusetts granted our request and transferred the Massachusetts litigation to the U.S. District Court for the District of Delaware. We believe that Idenix’s patents are invalid and would not be infringed by our commercialization of sofosbuvir and that we have the sole right to commercialize sofosbuvir.
On June 9, 2014, Merck & Co. Inc. (Merck) and Idenix announced that the companies had entered into a definitive agreement under which Merck would acquire Idenix. While the acquisition of Idenix Pharmaceuticals, Inc. by Merck in August 2014 does not change our view of the lack of merit in the claims made by Idenix, Merck has greater resources than Idenix and may therefore choose to fund the litigation at higher levels than Idenix.
Litigation with Merck
In August 2013, Merck contacted us requesting that we pay royalties on the sales of sofosbuvir and obtain a license to U.S. Patent Nos. 7,105,499 and 8,481,712, which it co-owns with Isis Pharmaceuticals, Inc. We believe that Merck’s patents are invalid and would not be infringed by our commercialization of sofosbuvir and that we have the sole right to commercialize sofosbuvir. Accordingly, in August 2013, we filed a lawsuit in the U.S. District Court for the Northern District of California seeking a declaratory judgment that the Merck patents are invalid and not infringed. Merck’s U.S. Patent Nos. 7,105,499 and 8,481,712 cover compounds which do not include, but may relate to, sofosbuvir. During patent prosecution, Merck amended its patent application in an attempt to cover compounds related to sofosbuvir and ultimately extract royalty payments for sofosbuvir’s commercialization, or to exclude it from the market. The court has set a trial date of March 7, 2016 for this litigation.
Litigation with AbbVie, Inc. (AbbVie)
AbbVie has obtained U.S. Patent Nos. 8,466,159, 8,492,386, 8,680,106, 8,685,984, and 8,809,265 which purport to cover the use of a combination of LDV/SOF for the treatment of HCV. Gilead is aware that AbbVie has pending patent applications in other countries. We own published and pending patent applications directed to the use of combinations for the treatment of HCV, and, specifically, to the combination of ledipasvir and sofosbuvir. Certain of those applications were filed before AbbVie’s patents. For this reason and others, we believe AbbVie’s patents are invalid.
Accordingly, in December 2013, we filed a lawsuit in the U.S. District Court for the District of Delaware seeking declaratory judgment that the AbbVie patents are invalid and unenforceable, as well as other relief. We believe that Abbott Laboratories, Inc. and AbbVie conspired to eliminate competition in the HCV market by falsely representing to the USPTO that they, and not Gilead, invented methods of treating HCV using a combination of LDV/SOF. In February and March 2014, AbbVie responded to our lawsuit by filing two lawsuits also in the U.S. District Court for the District of Delaware alleging that our fixed-dose combination of LDV/SOF will infringe its patents. All of those lawsuits have been consolidated into a single action. AbbVie’s patents have not blocked or delayed the commercialization of our combination product in the United States, and we do not expect any foreign counterparts to block or delay the commercialization around the world.
Litigation with Generic Manufacturers
As part of the approval process for some of our products, the FDA granted us a New Chemical Entity (NCE) exclusivity period during which other manufacturers' applications for approval of generic versions of our product will not be approved. Generic manufacturers may challenge the patents protecting products that have been granted NCE exclusivity one year prior to the end of the NCE exclusivity period. Generic manufacturers have sought and may continue to seek FDA approval for a similar or identical drug through an abbreviated new drug application (ANDA), the application form typically used by manufacturers seeking approval of a generic drug. We cannot predict the ultimate outcome of the foregoing actions and other litigation with generic manufacturers, and we may spend significant resources enforcing and defending these patents. If we are unsuccessful in these lawsuits, some or all of our original claims in the patents may be narrowed or invalidated and the patent protection for Truvada and Viread in the United States and Atripla, Truvada and Viread in Canada could be substantially shortened. Further, if all of the patents covering one or more products are invalidated, the FDA or Canadian Minister of Health could approve the requests to manufacture a generic version of such products in the United States or Canada, respectively, prior to the expiration date of those patents. The sale of generic versions of these products earlier than their patent expiration would have a significant negative effect on our revenues and results of operations.

20



Current legal proceedings of significance with some of our generic manufacturers include:
Mylan Inc. (Mylan)
In April 2014, we received notice that Mylan submitted an ANDA to the FDA requesting permission to manufacture and market a generic version of Truvada. In the notice, Mylan alleges that two of the patents associated with emtricitabine and one of our patents associated with the fixed-dose combination of emtricitabine with tenofovir disoproxil fumarate are invalid, unenforceable and/or will not be infringed by Mylan's manufacture, use or sale of a generic version of Truvada. In June 2014, we filed a lawsuit against Mylan in U.S. District Court for the Northern District of West Virginia for infringement of our patents. In June 2014, we received notice that Mylan Inc. submitted petitions for Inter Partes Review (IPR) to the Board alleging that four patents associated with tenofovir disoproxil fumarate are invalid. We are opposing Mylan’s petitions. We anticipate that the Board will issue a decision on whether to institute an IPR by December 2014. If the Board institutes an IPR, we anticipate a final decision by December 2015.
Apotex Corp. (Apotex)

In June 2014, we received notice that Apotex submitted an ANDS to the Canadian Minister of Health requesting permission to manufacture and market a generic fixed-dose combination of emtricitabine and tenofovir disoproxil fumarate and a separate ANDS requesting permission to manufacture and market a generic version of Viread. In the notice, Apotex alleges that three of the patents associated with Truvada and two of the patents associated with Viread are invalid, unenforceable and/or will not be infringed by Apotex's manufacture, use or sale of a generic version of Truvada or Viread. In August 2014, we filed a lawsuit against Apotex in the Federal Court of Canada seeking an order of prohibition against approval of this ANDS.
Teva Pharmaceuticals (Teva)
In August 2012, Teva filed an Impeachment Action in the Federal Court of Canada seeking invalidation of our two Canadian patents associated with Viread. In September 2013, a hearing on the consolidated requests for orders of prohibition in connection with all three of Teva’s ANDS filings to the Canadian Minister of Health (for Teva’s generic versions of Viread, Truvada, and Atripla) took place. In December 2013, the court issued our requested order prohibiting the Canadian Minister of Health from issuing a Notice of Compliance for Teva’s generic versions of our Viread, Truvada, and Atripla products until expiry of our patent in July 2017. Teva appealed the decision of the court prohibiting the Minister of Heath from issuing the Notices of Compliance until expiry of our patent in July 2017. This decision did not rule on the validity of the patents and accordingly the only issue on appeal is whether the Minister of Health should be prohibited from issuing the Notices of Compliance for Teva’s products. Separately, the court will determine the validity of the patents in the pending Impeachment Action. A trial in the Impeachment Action is scheduled for March 2015.
Department of Justice Investigation
In June 2011, we received a subpoena from the U.S. Attorney's Office for the Northern District of California requesting documents related to the manufacture, and related quality and distribution practices, of Complera, Atripla, Truvada, Viread, Emtriva, Hepsera and Letairis. We cooperated with the government’s inquiry. On April 16, 2014, the United States Department of Justice informed us that, following an investigation, it declined to intervene in a False Claims Act lawsuit filed by two former employees. We have moved to dismiss the complaint.
10.
STOCKHOLDERS’ EQUITY
Stock Repurchase Program
During the third quarter of 2014, we completed the stock repurchase program authorized in January 2011 (2011 Program). We repurchased a total of $1.70 billion or 19.1 million shares of common stock during the three months ended September 30, 2014, and a total of $3.35 billion or 40.0 million shares of common stock during the nine months ended September 30, 2014. In May 2014, our Board of Directors authorized a new stock repurchase program of up to $5.00 billion of our common stock. As of September 30, 2014, there were no shares repurchased under this new program.

21



Accumulated Other Comprehensive Income (Loss)
The following table summarizes the changes in accumulated OCI by component, net of tax (in thousands):
 
 
Foreign Currency Items
 
Unrealized Gains and Losses on Available-for-Sale Securities
 
Unrealized Gains and Losses on Cash Flow Hedges
 
Total
Balance at December 31, 2013
 
$
(45,860
)
 
$
11,907

 
$
(90,493
)
 
$
(124,446
)
Other comprehensive income (loss) before reclassifications
 
(3,062
)
 
995

 
256,772

 
254,705

Amounts reclassified from accumulated other comprehensive income (loss)
 

 
(437
)
 
44,140

 
43,703

Net current period other comprehensive income (loss)
 
(3,062
)
 
558

 
300,912

 
298,408

Balance at September 30, 2014
 
$
(48,922
)
 
$
12,465

 
$
210,419

 
$
173,962

Amounts reclassified for gains (losses) on cash flow hedges were recorded as part of product sales on our Condensed Consolidated Statements of Income. Amounts reclassified for unrealized gains (losses) on available-for-sale securities were recorded as part of other income (expense), net on our Condensed Consolidated Statements of Income.
11.
STOCK-BASED COMPENSATION
The following table summarizes the stock-based compensation expense included in our Condensed Consolidated Statements of Income (in thousands):
 
 
Three Months Ended
 
Nine Months Ended
 
 
September 30,
 
September 30,
 
 
2014
 
2013
 
2014
 
2013
Cost of goods sold
 
$
2,726

 
$
1,823

 
$
7,933

 
$
6,296

Research and development expenses
 
40,312

 
27,740

 
111,295

 
79,261

Selling, general and administrative expenses
 
56,298

 
33,010

 
145,466

 
94,736

Stock-based compensation expense included in total costs and expenses
 
99,336

 
62,573

 
264,694

 
180,293

Income tax effect
 
(18,075
)
 
(15,997
)
 
(48,098
)
 
(47,958
)
Stock-based compensation expense, net of tax
 
$
81,261

 
$
46,576

 
$
216,596

 
$
132,335

12.
NET INCOME PER SHARE ATTRIBUTABLE TO GILEAD COMMON STOCKHOLDERS
Basic net income per share attributable to Gilead common stockholders is calculated based on the weighted-average number of shares of our common stock outstanding during the period. Diluted net income per share attributable to Gilead common stockholders is calculated based on the weighted-average number of shares of our common stock outstanding and other dilutive securities outstanding during the period. The potential dilutive shares of our common stock resulting from the assumed exercise of outstanding stock options, performance shares and the assumed exercise of warrants relating to the convertible senior notes due in May 2013 (May 2013 Notes), May 2014 Notes and May 2016 Notes (collectively, the Convertible Notes) are determined under the treasury stock method.
Because the principal amount of the Convertible Notes will be settled in cash, only the conversion spread relating to the Convertible Notes is included in our calculation of diluted net income per share attributable to Gilead common stockholders. Our common stock resulting from the assumed settlement of the conversion spread of the May 2016 Notes has a dilutive effect when the average market price of our common stock during the period exceeds the conversion price of $22.71 for the May 2016 Notes. Warrants relating to the May 2016 Notes have a dilutive effect when the average market price of our common stock during the period exceeds the warrants’ exercise price of $30.05.
Our May 2013 Notes and May 2014 Notes matured and as a result, we have only included their impact for the periods they were outstanding on our net income per share calculations for the periods shown. Our common stock resulting from the assumed settlement of the conversion spread of the May 2013 Notes and May 2014 Notes had a dilutive effect when the average market price of our common stock during the period exceeded the conversion price of $19.05 for the May 2013 Notes and $22.54 for the May 2014 Notes. Warrants related to our May 2013 Notes settled in August 2013 and as a result, we have only included their impact for the period they were outstanding on our net income per share calculation for the three and nine months ended September 30, 2013. The related warrants had a dilutive effect when the average market price of our common stock during the period exceeded the warrants’ exercise price of $26.95. Warrants related to our May 2014 Notes settled in

22



August and September 2014 and as a result, we have only included their impact for the period they were outstanding on our net income per share calculation for the three and nine months ended September 30, 2014. The related warrants had a dilutive effect when the average market price of our common stock during the period exceeded the warrants’ exercise price of $28.38.
We have excluded stock options to purchase approximately 1.1 million and 1.0 million weighted-average shares of our common stock that were outstanding during the three and nine months ended September 30, 2014, and approximately 0.1 million and 0.9 million weighted-average shares of our common stock that were outstanding during the three and nine months ended September 30, 2013. These shares were excluded in the computation of diluted net income per share attributable to Gilead common stockholders because their effect was antidilutive.
The following table is a reconciliation of the numerator and denominator used in the calculation of basic and diluted net income per share attributable to Gilead common stockholders (in thousands):
 
 
Three Months Ended
 
Nine Months Ended
 
 
September 30,
 
September 30,
 
 
2014
 
2013
 
2014
 
2013
Net income attributable to Gilead
 
$
2,731,274

 
$
788,606

 
$
8,614,277

 
$
2,283,397

Shares used in per share calculation - basic
 
1,513,899

 
1,532,105

 
1,527,633

 
1,526,847

Effect of dilutive securities: