IONIS PHARMACEUTICALS INC - Quarter Report: 2017 September (Form 10-Q)

---

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

Form 10-Q

(Mark One)



QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Quarterly Period Ended September 30, 2017

OR



TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF SECURITIES EXCHANGE ACT OF 1934

For the transition period from to

Commission file number 0-19125

Ionis Pharmaceuticals, Inc.

(Exact name of Registrant as specified in its charter)

2855 Gazelle Court, Carlsbad, CA 92010

(Address of principal executive offices, including zip code)

760-931-9200

(Registrant’s telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act: None

Securities registered pursuant to Section 12(g) of the Act:

Common Stock, $.001 Par Value

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  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  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 definition of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 7(a)(2)(B) of the Securities Act. 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12(b)-2 of the Securities Exchange Act of 1934). Yes  No 

The number of shares of voting common stock outstanding as of November 1, 2017 was 124,795,504.

---

IONIS PHARMACEUTICALS, INC.

FORM 10-Q

INDEX

TRADEMARKS

Ionis Pharmaceuticals^TM is a trademark of Ionis Pharmaceuticals, Inc.

Akcea Therapeutics^TM is a trademark of Ionis Pharmaceuticals, Inc.

Regulus Therapeutics^® is a registered trademark of Regulus Therapeutics Inc.

SPINRAZA^TM is a trademark of Biogen, Inc.

KYNAMRO^® is a registered trademark of Kastle Therapeutics LLC

IONIS PHARMACEUTICALS, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(in thousands, except share data)

See accompanying notes.

IONIS PHARMACEUTICALS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except for per share amounts)

(Unaudited)

 See accompanying notes.

IONIS PHARMACEUTICALS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)

(in thousands)

(Unaudited)

 

See accompanying notes.

IONIS PHARMACEUTICALS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

(Unaudited)

See accompanying notes.

IONIS PHARMACEUTICALS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

1.

Basis of Presentation

We prepared the unaudited interim condensed consolidated financial statements for the three and nine months ended September 30, 2017 and 2016 on the same basis as the audited financial statements for the year ended December 31, 2016. We included all normal recurring adjustments in the financial statements, which we considered necessary for a fair presentation of our financial position at such dates and our operating results and cash flows for those periods. Results for the interim periods are not necessarily indicative of the results for the entire year. For more complete financial information, these financial statements, and notes thereto, should be read in conjunction with the audited financial statements for the year ended December 31, 2016 included in our Annual Report on Form 10-K filed with the Securities and Exchange Commission, or SEC.

In the condensed consolidated financial statements we included the accounts of Ionis Pharmaceuticals, Inc. and the consolidated results of our majority-owned subsidiary, Akcea Therapeutics, Inc., which we formed in December 2014. In July 2017, Akcea completed an initial public offering, or IPO, and therefore beginning in July 2017, we no longer own 100 percent of Akcea. As of July 19, 2017, the closing of the IPO, we owned approximately 68 percent of Akcea. Refer to the noncontrolling interest in Akcea section in Note 2, Significant Accounting Policies, for further information related to our accounting for our investment in Akcea. Unless the context requires otherwise, “Ionis”, “Company,” “we,” “our,” and “us” refers to Ionis Pharmaceuticals, Inc. and its majority owned subsidiary, Akcea Therapeutics, Inc.

2.

Significant Accounting Policies

Revenue Recognition

We generally recognize revenue when we have satisfied all contractual obligations and are reasonably assured of collecting the resulting receivable. We are often entitled to bill our customers and receive payment from our customers in advance of recognizing the revenue. In the instances in which we have received payment from our customers in advance of recognizing revenue, we include the amounts in deferred revenue on our consolidated condensed balance sheet.

We often enter into agreements to license and sell our technology on an exclusive or non-exclusive basis in exchange for upfront fees, license fees, milestone payments and/or royalties. We generally recognize as revenue immediately license payments with stand-alone value when the license is delivered and we are reasonably assured of collecting the resulting receivable. We recognize royalty revenue in the period in which the counterparty sells the related product, unless we are unable to obtain information to estimate the royalty. For example, for the first nine months of 2017 we recorded SPINRAZA royalty revenue of $60.5 million.

Arrangements with multiple deliverables

Our collaboration agreements typically contain multiple elements, or deliverables, including technology licenses or options to obtain technology licenses, research and development services, and in certain cases manufacturing services, and we allocate the consideration to each unit of accounting based on the relative selling price of each deliverable.

Amendments to agreements

From time to time we amend our collaboration agreements. For these agreements, before we identify our deliverables and allocate consideration to each unit of accounting, we must determine if the amendment should be accounted for as a separate agreement, or if the amendment and any undelivered elements for the original agreement should be accounted for as a single new arrangement.

For example, in May 2015, we entered into an exclusive license agreement with Bayer to develop and commercialize IONIS-FXI_Rx for the prevention of thrombosis. As part of the agreement, Bayer paid us a $100 million upfront payment in the second quarter of 2015. At the onset of the agreement, we were responsible for completing a Phase 2 study of IONIS-FXI_Rx in patients with end-stage renal disease on hemodialysis and for providing an initial supply of active pharmaceutical ingredient, or API. In February 2017, we amended our agreement with Bayer to advance IONIS-FXI_Rx and to initiate development of IONIS-FXI-L_Rx, which Bayer licensed. As part of the 2017 amendment, Bayer paid us $75 million. We are also eligible to receive milestone payments and tiered royalties on gross margins of IONIS-FXI_Rx and IONIS-FXI-L_Rx.

Under the 2017 amendment, there was a substantial increase in the consideration we are eligible to receive and a significant change in the deliverables we will provide to Bayer. As a result, we concluded that the amendment should be evaluated with the undelivered elements of the original agreement as a single new arrangement. Therefore, we evaluated our original and 2017 amended agreements with Bayer together to determine our deliverables. We concluded that the 2017 amendment did not impact the items we already delivered to Bayer.

Identifying deliverables and units of accounting

We evaluate the deliverables in our collaboration agreements to determine whether they meet the criteria to be accounted for as separate units of accounting or whether they should be combined with other deliverables and accounted for as a single unit of accounting. When the delivered items in an arrangement have "stand-alone value" to our customer, we account for the deliverables as separate units of accounting. Delivered items have stand-alone value if they are sold separately by any vendor or the customer could resell the delivered items on a stand-alone basis. For example, our 2017 amended agreement with Bayer has multiple elements. We evaluated the deliverables in this arrangement when we entered into the 2017 amended agreement and determined that certain of the  deliverables have stand-alone value. Below is a list of the three units of accounting under our 2017 amended agreement:

●

The exclusive license we granted to Bayer to develop and commercialize IONIS-FXI-LRx for the treatment of thrombosis;

●

The development services we agreed to perform for IONIS-FXI-LRx and IONIS-FXIRx; and

●

The remaining undelivered IONIS-FXIRx API that was part of the original agreement.

We determined that each of these three units of accounting have stand-alone value. The license we granted to Bayer has stand-alone value because it gives Bayer the exclusive right to develop IONIS-FXI-L_Rx or to sublicense its rights. The development services and the remaining undelivered supply of API each have stand-alone value because Bayer or another third party could provide these items without our assistance.

Measurement and allocation of arrangement consideration

Our collaborations may provide for various types of payments to us including upfront payments, funding of research and development, milestone payments, licensing fees and royalties on product sales. We initially allocate the amount of consideration that is fixed and determinable at the time the agreement is entered into and exclude contingent consideration. We allocate the consideration to each unit of accounting based on the relative selling price of each deliverable. We use the following hierarchy of values to estimate the selling price of each deliverable: (i) vendor-specific objective evidence of fair value; (ii) third-party evidence of selling price; and (iii) best estimate of selling price, or BESP. BESP reflects our best estimate of what the selling price would be if we regularly sold the deliverable on a stand-alone basis. We recognize the revenue allocated to each unit of accounting as we deliver the related goods or services. If we determine that we should treat certain deliverables as a single unit of accounting, then we recognize the revenue ratably over our estimated period of performance.

We determined that the allocable arrangement consideration for the Bayer 2017 amended agreement was $76.3 million, comprised of the $75 million we received as part of the amendment and the remaining amount of the $100 million upfront payment we had not yet recognized into revenue, related to the undelivered API. We allocated the consideration based on the relative BESP of each unit of accounting. We engaged a third party, independent valuation specialist to assist us with determining BESP. We estimated the selling price of the license granted for IONIS-FXI-L_Rx by using the relief from royalty method. Under this method, we estimated the amount of income, net of taxes, for IONIS-FXI-L_Rx. We then discounted the projected income to present value. The significant inputs we used to determine the projected income of the license included:

●

Estimated future product sales;

●

Estimated royalties on future product sales;

●

Contractual milestone payments;

●

Expenses we expect to incur;

●

Income taxes; and

●

An appropriate discount rate.

We estimated the selling price of the development services by using our internal estimates of the cost to perform the specific services and estimates of expected cash outflows to third parties for services and supplies over the expected period that we will perform the development services. The significant inputs we used to determine the selling price of the development services included:

●

The number of internal hours we will spend performing these services;

●

The estimated cost of work we will perform;

●

The estimated cost of work that we will contract with third parties to perform; and

●

The estimated cost of API we will use.

For purposes of determining BESP of the services we will perform and the API we will deliver in our 2017 amended Bayer transaction, accounting guidance required us to include a markup for a reasonable profit margin.

Based on the units of accounting under the 2017 amended agreement, we allocated the $76.3 million of allocable consideration as follows:

●

$64.9 million to the IONIS-FXI-LRx exclusive license;

●

$11.0 million for development services for IONIS-FXI-LRx and IONIS-FXIRx; and

●

$0.4 million for the remaining delivery of IONIS-FXIRx API.

Assuming a constant selling price for the other elements in the arrangement, if there was an assumed ten percent increase or decrease in the estimated selling price of the IONIS-FXI-L_Rx license, we determined that the revenue we would have allocated to the IONIS-FXI-L_Rx license would change by approximately one percent, or $0.7 million, from the amount we recorded.

Timing of revenue recognition

We recognize revenue as we deliver each item under the arrangement and the related revenue is realizable and earned. For example, we recognized revenue for the exclusive license we granted Bayer for IONIS-FXI-L_Rx in the first quarter of 2017 because that was when we delivered the license. We also recognize revenue over time as we provide services. Our collaborative agreements typically include a research and/or development project plan outlining the activities the agreement requires each party to perform during the collaboration. We estimate our period of performance at the inception of the agreement when the agreements we enter into do not clearly define such information. We then recognize revenue from development services ratably over such period. In certain instances, the period of performance may change as the development plans for our drugs progress. If our estimates and judgments change over the course of our collaboration agreements, it may affect the timing and amount of revenue that we recognize in future periods. We recognize any changes in estimates on a prospective basis.

The following are the periods over which we are recognizing revenue for each of our units of accounting under our 2017 amended Bayer agreement:

●

We recognized the portion of the consideration attributed to the IONIS-FXI-LRx license in the first quarter of 2017 because we delivered the license and earned the revenue;

●

We are recognizing the amount attributed to the development services for IONIS-FXI-LRx and IONIS-FXIRx over the period of time we are performing the services; and

●

We are recognizing the amount attributed to the remaining API supply as we deliver it to Bayer.

Multiple agreements

From time to time, we may enter into separate agreements at or near the same time with the same partner. We evaluate such agreements to determine whether they should be accounted for individually as distinct arrangements or whether the separate agreements are, in substance, a single multiple element arrangement. We evaluate whether the negotiations are conducted jointly as part of a single negotiation, whether the deliverables are interrelated or interdependent, whether fees in one arrangement are tied to performance in another arrangement, and whether elements in one arrangement are essential to another arrangement. Our evaluation involves significant judgment to determine whether a group of agreements might be so closely related that they are, in effect, part of a single arrangement. For example, in the first quarter of 2017, we and Akcea entered into two separate agreements with Novartis at the same time: a collaboration agreement and a stock purchase agreement, or SPA.

Akcea entered into a collaboration agreement with Novartis to develop and commercialize AKCEA-APO(a)-L_Rx and AKCEA-APOCIII-L_Rx. Under the collaboration agreement, Akcea received a $75 million upfront payment. For each drug, Akcea is responsible for completing a Phase 2 program, conducting an end-of-Phase 2 meeting with the FDA and delivering API. Under the collaboration agreement, Novartis has an exclusive option to develop and commercialize AKCEA-APO(a)-L_Rx and AKCEA-APOCIII-L_Rx. If Novartis exercises an option for one of these drugs, Novartis will pay Akcea a $150 million license fee and will assume all further global development, regulatory and commercialization activities for the licensed drug. Akcea is also eligible to receive a development milestone payment, milestone payments if Novartis achieves pre-specified regulatory milestones, commercial milestones and tiered royalties on net sales from each drug under the collaboration.

Under the SPA, Novartis purchased 1.6 million shares of Ionis’ common stock for $100 million in the first quarter of 2017 and paid a premium over the weighted average trading price at the time of purchase. Additionally, the SPA required Novartis to purchase $50 million of Akcea’s common stock in a concurrent private placement with Akcea’s IPO in July 2017.

We evaluated the Novartis agreements to determine whether we should treat the agreements separately or as a single arrangement. We considered that the agreements were negotiated concurrently and in contemplation of one another. Additionally, the same individuals were involved in the negotiations of both agreements. Based on these facts and circumstances, we concluded that we should treat both agreements as a single arrangement and evaluate the provisions of the agreements on a combined basis. Refer to Note 6, Collaborative Arrangements and Licensing Agreements for further discussion of the accounting treatment for the Novartis collaboration.

Milestone payments

Our collaborations often include contractual milestones, which typically relate to the achievement of pre-specified development, regulatory and/ or commercialization events. These three categories of milestone events reflect the three stages of the life-cycle of our drugs, which we describe in more detail in the following paragraphs.

Prior to the first stage in the life-cycle of our drugs, we perform a significant amount of work using our proprietary antisense technology to design chemical compounds that interact with specific genes that are good targets for drug discovery. From these research efforts, we hope to identify a development candidate. The designation of a development candidate is the start of the development stage, which is the first stage in the life-cycle of our drugs. A development candidate is a chemical compound that has demonstrated the necessary safety and efficacy in preclinical animal studies to warrant further study in humans.

During the first step of the development stage, we or our partners study our drugs in Investigational New Drug, or IND,-enabling studies, which are animal studies intended to support an IND application and/or the foreign equivalent. An approved IND allows us or our partners to study our development candidate in humans. If the regulatory agency approves the IND, we or our partners initiate a Phase 1 clinical trial in which we typically enroll a small number of healthy volunteers to ensure the development candidate is safe for use in patients. If we or our partners determine that a development candidate is safe based on the Phase 1 data, we or our partners initiate Phase 2 studies that are generally larger studies in patients with the primary intent of determining the preliminary efficacy and safety of the development candidate.

The final step in the development stage is Phase 3 studies to gather the necessary safety and efficacy data to request marketing authorization from the Food and Drug Administration, or FDA, and/or foreign equivalents. Phase 3 studies typically involve larger numbers of patients and can take up to several years to complete.

If the data gathered during the Phase 3 trials demonstrates acceptable safety and efficacy results, we or our partner will submit an application to the FDA and/or its foreign equivalents for marketing authorization. This stage of the drug’s life-cycle is the regulatory stage.

If the FDA or a foreign equivalent grants marketing authorization for a drug, it moves into the commercialization stage. During this stage we or our partner will market and sell the drug to patients. Although our partner may ultimately be responsible for marketing and selling a partnered drug, our efforts to discover and develop a drug that is safe, effective and reliable contributes significantly to our partner’s ability to successfully sell the drug. The FDA and its foreign equivalents have the authority to impose significant restrictions on an approved drug through the product label and on advertising, promotional and distribution activities. Therefore, our efforts designing and executing the necessary animal and human studies are critical to obtaining claims in the product label from the regulatory agencies that would allow us or our partner to successfully commercialize our drug. Further, the patent protection afforded our drugs as a result of our initial patent applications and related prosecution activities in the United States and foreign jurisdictions are critical to our partner’s ability to sell our drugs without competition from generic drugs. The potential sales volume of an approved drug is dependent on several factors including the size of the patient population, market penetration of the drug, and the price charged for the drug.

Generally, the milestone events contained in our partnership agreements coincide with the progression of our drugs from development, to marketing authorization and then to commercialization. The process of successfully discovering a new development candidate, having it approved and ultimately selling it for a profit is highly uncertain. As such, the milestone payments we may earn from our partners involve a significant degree of risk to achieve. Therefore, as a drug progresses through the stages of its life-cycle, the value of the drug generally increases.

Development milestones in our partnerships may include the following types of events:

●

Designation of a development candidate. Following the designation of a development candidate, IND-enabling animal studies for a new development candidate generally take 12 to 18 months to complete.

●

Initiation of a Phase 1 clinical trial. Generally, Phase 1 clinical trials take one to two years to complete.

●

Initiation or completion of a Phase 2 clinical trial. Generally, Phase 2 clinical trials take one to three years to complete.

●

Initiation or completion of a Phase 3 clinical trial. Generally, Phase 3 clinical trials take two to four years to complete.

Regulatory milestones in our partnerships may include the following types of events:

●

Filing of regulatory applications for marketing authorization such as a New Drug Application, or NDA, in the United States or a Marketing Authorization Application, or MAA, in Europe. Generally, it takes six to twelve months to prepare and submit regulatory filings.

●

Obtaining marketing authorization in a major market, such as the United States, Europe or Japan. Generally it takes one to two years after an application is submitted to obtain authorization from the applicable regulatory agency.

Commercialization milestones in our partnerships may include the following types of events:

●

First commercial sale in a particular market, such as in the United States or Europe.

●

Product sales in excess of a pre-specified threshold, such as annual sales exceeding $1 billion. The amount of time to achieve this type of milestone depends on several factors including but not limited to the dollar amount of the threshold, the pricing of the product and the pace at which customers begin using the product.

We assess whether a substantive milestone exists at the inception of our agreements. When a substantive milestone is achieved, we recognize revenue related to the milestone payment immediately. For our licensing and collaboration agreements in which we are involved in the discovery and/or development of the related drug or provide the partner with access to new technologies we discover, we have determined that the majority of future development, regulatory and commercialization milestones are substantive. For example, we consider most of the milestones associated with our strategic alliance with Biogen substantive because we are using our antisense drug discovery platform to discover and develop new drugs against targets for neurological diseases. In evaluating if a milestone is substantive we consider whether:

●

Substantive uncertainty exists as to the achievement of the milestone event at the inception of the arrangement;

●

The achievement of the milestone involves substantive effort and can only be achieved based in whole or in part on our performance or the occurrence of a specific outcome resulting from our performance;

●

The amount of the milestone payment appears reasonable either in relation to the effort expended or to the enhancement of the value of the delivered items;

●

There is no future performance required to earn the milestone; and

●

The consideration is reasonable relative to all deliverables and payment terms in the arrangement.

If any of these conditions are not met, we do not consider the milestone to be substantive and we defer recognition of the milestone payment and recognize it as revenue over our estimated period of performance, if any. Further information about our collaborative arrangements can be found in Note 6, Collaborative Arrangements and Licensing Agreements.

Option to license

In several of our collaboration agreements, we provide our partner with an option to obtain a license to one or more of our drugs. When we have a multiple element arrangement that includes an option to obtain a license, we evaluate if the option is a deliverable at the inception of the arrangement. We do not consider the option to be a deliverable if we conclude that it is substantive and not priced at a significant and incremental discount. We consider an option substantive if, at the inception of the arrangement, we are at risk as to whether our collaboration partner will choose to exercise its option to obtain the license. In those circumstances, we do not include the associated license fee in the allocable consideration at the inception of the agreement. Rather, we account for the license fee when our partner exercises its option. For example, during 2016, we earned license fee revenue when three of our partners, AstraZeneca, Biogen and Janssen, exercised their options to license three of our drugs, which under the respective agreements we concluded to be substantive options at inception. As a result, in 2016 we recognized the related revenue immediately in research and development revenue under collaborative agreements on our statement of operations as these amounts relate to drugs in development under research and development collaboration arrangements.

Noncontrolling interest in Akcea Therapeutics, Inc.

In July 2017, Akcea completed an IPO. Akcea raised $193.8 million of aggregate gross proceeds from the IPO, including $50 million from a private placement by Novartis. Akcea’s net proceeds were $182.4 million. As part of Akcea’s IPO, we invested $25.0 million. In conjunction with the IPO, the shares of Akcea’s series A convertible preferred stock we owned converted into shares of Akcea’s common stock. Additionally, the amount outstanding under Akcea’s line of credit with us converted into shares of Akcea’s common stock.

Prior to Akcea’s IPO in July 2017, we owned 100 percent of Akcea’s stock and consolidated 100 percent of Akcea’s results in our financial statements. In connection with Akcea’s IPO, shares of Akcea’s common stock were sold to third parties. We owned approximately 68 percent of Akcea after the IPO. The shares third parties own represent an interest in Akcea’s equity that is not controlled by us. However, as we continue to maintain overall control of Akcea through our voting interest, we reflect the assets, liabilities and results of operations of Akcea in our consolidated financial statements. The noncontrolling interest attributable to other owners of Akcea’s common stock is reflected in a separate line on the statement of operations and a separate line within stockholders’ equity in our condensed consolidated financial statements. In addition, we recorded a noncontrolling interest adjustment to account for the stock options Akcea grants, which if exercised, will dilute our ownership in Akcea. This adjustment was a reclassification within stockholders’ equity from additional paid-in capital to noncontrolling interest in Akcea equal to the amount of stock-based compensation expense Akcea had recognized from inception through the IPO. Going forward, each period we will reclassify Akcea’s stock-based compensation expense.

Cash, cash equivalents and investments

We consider all liquid investments with maturities of three months or less when we purchase them to be cash equivalents. Our short-term investments have initial maturities of greater than three months from date of purchase. We classify our short-term investments as “available-for-sale” and carry them at fair market value based upon prices for identical or similar items on the last day of the fiscal period. We record unrealized gains and losses as a separate component of comprehensive income (loss) and include net realized gains and losses in gain (loss) on investments. We use the specific identification method to determine the cost of securities sold.

We have equity investments of less than 20 percent in privately and publicly held biotechnology companies that we received as part of a technology license or partner agreement. At September 30, 2017, we held equity investments in one publicly held company, Antisense Therapeutics Limited, or ATL. Furthermore, we held cost method investments in five companies, Atlantic Pharmaceuticals Limited, Dynacure SAS, Kastle Therapeutics, Seventh Sense Biosystems and Suzhou Ribo Life Science CO.

We account for our equity investment in ATL at fair value and record unrealized gains and losses related to temporary increases and decreases in the stock as a separate component of comprehensive income (loss). We account for our equity investments in privately held companies under the cost method of accounting because we own less than 20 percent and do not have significant influence over their operations. Realization of our equity position in these private companies is uncertain. When realization of our investment is uncertain, we record a full valuation allowance. In determining if and when a decrease in market value below our cost in our equity positions is temporary or other-than-temporary, we examine historical trends in the stock price, the financial condition of the company, near term prospects of the company and our current need for cash. If we determine that a decline in value in either a public or private investment is other-than-temporary, we recognize an impairment loss in the period in which the other-than-temporary decline occurs.

Inventory valuation

We capitalize the costs of raw materials that we purchase for use in producing our drugs because until we use these raw materials they have alternative future uses. We include in inventory raw material costs for drugs that we manufacture for our partners under contractual terms and that we use primarily in our clinical development activities and drug products. We can use each of our raw materials in multiple products and, as a result, each raw material has future economic value independent of the development status of any single drug. For example, if one of our drugs failed, we could use the raw materials for that drug to manufacture our other drugs. We expense these costs when we deliver the drugs to our partners, or as we provide these drugs for our own clinical trials. We reflect our inventory on the balance sheet at the lower of cost or market value under the first-in, first-out method, or FIFO. We review inventory periodically and reduce the carrying value of items we consider to be slow moving or obsolete to their estimated net realizable value. We consider several factors in estimating the net realizable value, including shelf life of raw materials, alternative uses for our drugs and clinical trial materials, and historical write-offs. We did not record any inventory write-offs for the nine months ended September 30, 2017 and 2016. Total inventory was $8.5 million and $7.5 million as of September 30, 2017 and December 31, 2016, respectively.

Research, development and patent expenses

Our research and development expenses include wages, benefits, facilities, supplies, external services, clinical trial and manufacturing costs and other expenses that are directly related to our research and development operations. We expense research and development costs as we incur them. When we make payments for research and development services prior to the services being rendered, we record those amounts as prepaid assets on our condensed consolidated balance sheet and we expense them as the services are provided.

We capitalize costs consisting principally of outside legal costs and filing fees related to obtaining patents. We amortize patent costs over the useful life of the patent, beginning with the date the United States Patent and Trademark Office, or foreign equivalent, issues the patent. We review our capitalized patent costs regularly to ensure that they include costs for patents and patent applications that have future value. We evaluate patents and patent applications that we are not actively pursuing and write off any associated costs.

Long-lived assets

We evaluate long-lived assets, which include property, plant and equipment and patent costs acquired from third parties, for impairment on at least a quarterly basis and whenever events or changes in circumstances indicate that we may not be able to recover the carrying amount of such assets.

Use of estimates

The preparation of condensed consolidated financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the amounts reported in the condensed consolidated financial statements and accompanying notes. Actual results could differ from those estimates.

Basic and diluted net income (loss) per share

We compute basic net income (loss) per share by dividing the total net income (loss) attributable to our common stockholders by our weighted-average number of common shares outstanding during the period.

The calculation of total net income (loss) attributable to our common stockholders for the three and nine months ended September 30, 2017 considered our net income for Ionis on a stand-alone basis plus our share of Akcea’s net loss for the periods. To calculate the portion of Akcea’s net loss attributable to our ownership, we multiplied Akcea’s income (loss) per share by the weighted average shares we owned in Akcea during the period. Prior to Akcea’s IPO, we owned Akcea series A convertible preferred stock, which included a six percent cumulative dividend. Upon completion of Akcea’s IPO in July 2017, our preferred stock was converted into common stock on a 1:1 basis. The preferred stock dividend was not paid at the IPO because it was not a liquidation event or a change in control. During the three and nine months ended September 30, 2017, Akcea used a two-class method to compute its net income (loss) per share because it had both common and preferred shares outstanding during the periods. The two-class method required Akcea to calculate its net income (loss) per share for each class of stock by dividing total distributable losses applicable to preferred and common stock, including the six percent cumulative dividend contractually due to series A convertible preferred shareholders, by the weighted-average of preferred and common shares outstanding during the requisite period. Since Akcea used the two-class method, accounting rules required us to include our portion of Akcea's net income (loss) per share for both Akcea's common and preferred shares which we owned in our calculation of basic and diluted net income (loss) per share for three and nine months ended September 30, 2017. As a result of this calculation, our total net income (loss) available to Ionis common stockholders for the calculation of net income (loss) per share is different than net income (loss) attributable to Ionis Pharmaceuticals, Inc. common stockholders in the condensed consolidated statements of operations.

Our basic net income (loss) per share for the three and nine months ended September 30, 2017, was calculated as follows (in thousands, except per share amounts):

For the three months ended September 30, 2017 and for the nine months ended September 30, 2016, we incurred a net loss; therefore, we did not include dilutive common equivalent shares in the computation of diluted net loss per share because the effect would have been anti-dilutive. Common stock from the following would have had an anti-dilutive effect on net loss per share:

●

1 percent convertible senior notes;

●

2¾ percent convertible senior notes;

●

Dilutive stock options;

●

Unvested restricted stock units; and

●

Employee Stock Purchase Plan, or ESPP.

For the nine months ended September 30, 2017, we had net income available to Ionis common stockholders. As a result, we computed diluted net income per share using the weighted-average number of common shares and dilutive common equivalent shares outstanding during those periods. Diluted common equivalent shares for the nine months ended September 30, 2017 consisted of the following (in thousands except per share amounts):

For the nine months ended September 30, 2017, the calculation excluded the 1 percent and 2¾ percent notes because the effect on diluted earnings per share was anti-dilutive.

For the three months ended September 30, 2016, we had net income. As a result, we computed diluted net income per share using the weighted-average number of common shares and dilutive common equivalent shares outstanding during those periods. Diluted common equivalent shares for the three months ended September 30, 2016 consisted of the following (in thousands except per share amounts):

For the three months ended September 30, 2016, the calculation excluded the 1 percent and 2¾ percent notes because the effect on diluted earnings per share was anti-dilutive.

Accumulated other comprehensive loss

We include unrealized gains and losses on investments, net of taxes, in accumulated other comprehensive income (loss) along with adjustments we make to reclassify realized gains and losses on investments from other accumulated comprehensive income (loss) to our condensed consolidated statement of operations. The following table summarizes changes in accumulated other comprehensive income (loss) for the three and nine months ended September 30, 2017 and 2016 (in thousands):

(1)

There was no tax expense or benefit related to elements of other comprehensive income (loss) for the three and nine months ended September 30, 2017 and 2016.

Convertible debt

We account for convertible debt instruments, including our 1 percent and 2¾ percent notes that may be settled in cash upon conversion (including partial cash settlement) by separating the liability and equity components of the instruments in a manner that reflects our nonconvertible debt borrowing rate. We determine the carrying amount of the liability component by measuring the fair value of similar debt instruments that do not have the conversion feature. If no similar debt instrument exists, we estimate fair value by using assumptions that market participants would use in pricing a debt instrument, including market interest rates, credit standing, yield curves and volatilities. Determining the fair value of the debt component requires the use of accounting estimates and assumptions. These estimates and assumptions are judgmental in nature and could have a significant impact on the determination of the debt component, and the associated non-cash interest expense.

We assigned a value to the debt component of our convertible notes equal to the estimated fair value of similar debt instruments without the conversion feature, which resulted in us recording our debt at a discount. We are amortizing our debt issuance costs and debt discount over the life of the convertible notes as additional non-cash interest expense utilizing the effective interest method.

Segment information

We have two operating segments, our Ionis Core segment and Akcea Therapeutics. Prior to Akcea’s IPO in July 2017, we owned 100 percent of Akcea’s stock. After Akcea’s IPO, we owned approximately 68 percent of Akcea. We did not change our reportable segments as a result of Akcea’s IPO. Akcea is a biopharmaceutical company focused on developing and commercializing drugs to treat patients with serious cardiometabolic diseases caused by lipid disorders. We provide segment financial information and results for our Ionis Core segment and our Akcea Therapeutics segment based on the segregation of revenues and expenses that our chief decision maker reviews to assess operating performance and to make operating decisions. We allocate a portion of Ionis’ development, R&D support expenses and general and administrative expenses to Akcea for work we performed on behalf of Akcea.

Stock-based compensation expense

We measure stock-based compensation expense for equity-classified awards, principally related to stock options, restricted stock units, or RSUs, and stock purchase rights under our ESPP, based on the estimated fair value of the award on the date of grant. We recognize the value of the portion of the award that we ultimately expect to vest as stock-based compensation expense over the requisite service period in our condensed consolidated statements of operations. We reduce stock-based compensation expense for estimated forfeitures at the time of grant and revise in subsequent periods if actual forfeitures differ from those estimates.

We use the Black-Scholes model to estimate the fair value of stock options granted and stock purchase rights under our ESPP. The expected term of stock options granted represents the period of time that we expect them to be outstanding. We estimate the expected term of options granted based on historical exercise patterns. For the nine months ended September 30, 2017 and 2016, we used the following weighted-average assumptions in our Black-Scholes calculations:

Employee Stock Options:

Board of Director Stock Options:

ESPP:

The fair value of RSUs is based on the market price of our common stock on the date of grant. RSUs vest annually over a four-year period. The weighted-average grant date fair value of RSUs granted to employees and the members of our board of directors for the nine months ended September 30, 2017 was $48.01 and $52.22 per share, respectively.

The following table summarizes stock-based compensation expense for the three and nine months ended September 30, 2017 and 2016 (in thousands).  Our consolidated non-cash stock-based compensation expense includes $4.7 million and $2.9 million of stock-based compensation expense for Akcea employees for the three months ended September 30, 2017 and 2016, respectively, and $11.8 million and $9.1 million for the nine months ended September 30, 2017 and 2016, respectively.

As of September 30, 2017, total unrecognized estimated non-cash stock-based compensation expense related to non-vested stock options and RSUs was $86.6 million and $18.8 million, respectively. We will adjust total unrecognized compensation cost for future forfeitures. We expect to recognize the cost of non-cash stock-based compensation expense related to non-vested stock options and RSUs over a weighted average amortization period of 1.3 years and 1.4 years, respectively.

Amendment to equity plan

In May 2017, after receiving approval from our stockholders, we amended our 2011 Equity Incentive Plan to increase the total number of shares reserved for issuance under the plan from 11 million to 16 million shares.

Income taxes

We are subject to regular income tax and alternative minimum tax.  We recorded income tax expense of $1.0 million and $1.2 million for the three and nine months ended September 30, 2017, respectively.

Impact of recently issued accounting standards

In May 2014, the FASB issued accounting guidance on the recognition of revenue from customers. Under this guidance, an entity will recognize revenue when it transfers promised goods or services to customers in an amount that reflects what the entity expects to receive in exchange for the goods or services. Under the current accounting guidance, we recognize revenue from milestone payments we earn under the milestone method. Under the new guidance, the milestone method of revenue recognition is eliminated. This new guidance also requires more detailed disclosures to enable users of the financial statements to understand the nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with customers. The guidance as originally issued is effective for fiscal years, and interim periods within that year, beginning after December 15, 2016. In July 2015, the FASB issued updated accounting guidance to allow for an optional one year deferral from the original effective date. As a result, we will adopt this guidance beginning on January 1, 2018. We plan to adopt this guidance under the full retrospective approach, meaning we will apply the guidance to all periods presented. We have a significant number of collaborations that we will present in our financial statements upon adoption. We are currently assessing the impact the adoption will have on our consolidated financial statements and disclosures. Although we have completed this assessment for some agreements, we will not be able to conclude on the overall impact to our consolidated financial statements until we have reviewed every agreement, as the impact to each agreement may be different. We are on track to adopt this guidance on January 1, 2018.

In January 2016, the FASB issued amended accounting guidance related to the recognition, measurement, presentation, and disclosure of certain financial instruments. The amended guidance requires us to measure and record equity investments, except those accounted for under the equity method of accounting that have a readily determinable fair value, at fair value and for us to recognize the changes in fair value in our net income (loss), instead of recognizing unrealized gains and losses through accumulated other comprehensive income, as we currently do under the existing guidance. The amended guidance also changes several disclosure requirements for financial instruments, including the methods and significant assumptions we use to estimate fair value. The guidance is effective for fiscal years, and interim periods within that year, beginning after December 15, 2017. We will adopt this guidance on January 1, 2018. We do not expect the adoption of this guidance will have a material impact on our financial results. We will update our disclosures in the first quarter of 2018.

In February 2016, the FASB issued amended accounting guidance related to lease accounting, which will require us to record all leases with a term longer than one year on our balance sheet. When we record leases on our balance sheet under the new guidance, we will record a liability with a value equal to the present value of payments we will make over the life of the lease and an asset representing the underlying leased asset. The new accounting guidance requires us to determine if our leases are operating or financing leases, similar to current accounting guidance. We will record expense for operating type leases on a straight-line basis as an operating expense and we will record expense for finance type leases as interest expense. The new lease standard is effective for annual and interim periods beginning after December 15, 2018, with early adoption permitted. We must adopt the new standard on a modified retrospective basis, which requires us to reflect our leases on our consolidated balance sheet for the earliest comparative period presented. We plan to adopt this guidance on January 1, 2019. We are currently assessing the effects the new guidance will have on our consolidated financial statements and disclosures.

In June 2016, the FASB issued guidance that changes the measurement of credit losses for most financial assets and certain other instruments. If we have credit losses, this updated guidance requires us to record allowances for these instruments under a new expected credit loss model. This model requires us to estimate the expected credit loss of an instrument over its lifetime, which represents the portion of the amortized cost basis we do not expect to collect. This change will result in us remeasuring our allowance in each reporting period we have credit losses. The new standard is effective for annual and interim periods beginning after December 15, 2019. Early adoption is permitted for periods beginning after December 15, 2018. When we adopt the new standard, we will make any adjustments to beginning balances through a cumulative-effect adjustment to accumulated deficit on that date. We are currently assessing the timing of adoption as well as the effects it will have on our consolidated financial statements and disclosures.

In May 2017, the FASB issued clarifying guidance related to the accounting for modifications of share-based payment awards. The new guidance is meant to clarify when modification accounting is required. We early adopted this guidance in these financial statements for the quarter ended June 30, 2017 and it did not have an effect on our consolidated financial statements and disclosures.

3.

Investments

As of September 30, 2017, we had primarily invested our excess cash in debt instruments of the U.S. Treasury, financial institutions, corporations, and U.S. government agencies with strong credit ratings and an investment grade rating at or above A-1, P-1 or F-1 by Moody’s, Standard & Poor’s, or S&P, or Fitch, respectively. We have established guidelines relative to diversification and maturities that maintain safety and liquidity. We periodically review and modify these guidelines to maximize trends in yields and interest rates without compromising safety and liquidity.

The following table summarizes the contract maturity of the available-for-sale securities we held as of September 30, 2017:

As illustrated above, at September 30, 2017, 94 percent of our available-for-sale securities had a maturity of less than two years.

All of our available-for-sale securities are available to us for use in our current operations. As a result, we categorize all of these securities as current assets even though the stated maturity of some individual securities may be one year or more beyond the balance sheet date.

At September 30, 2017, we had an ownership interest of less than 20 percent in five private companies and one public company with which we conduct business. The privately-held companies are Atlantic Pharmaceuticals Limited, Dynacure SAS,  Kastle Therapeutics, Seventh Sense Biosystems and Suzhou Ribo Life Science CO. The publicly-traded company is Antisense Therapeutics Limited. We account for our equity investments in the privately-held companies under the cost method of accounting and we account for our equity investment in the publicly-traded company at fair value. We record unrealized gains and losses as a separate component of comprehensive income (loss) and include net realized gains and losses in gain (loss) on investments.

The following is a summary of our investments (in thousands):

(1)

Our available-for-sale securities are held at amortized cost.

(2)

Includes investments classified as cash equivalents on our condensed consolidated balance sheet.

(3)

Included in deposits and other assets on our condensed consolidated balance sheet.

Investments we consider to be temporarily impaired at September 30, 2017 were as follows (in thousands):

We believe that the decline in value of these securities is temporary and is primarily related to the change in market interest rates since purchase. We believe it is more likely than not that we will be able to hold our debt securities to maturity. Therefore, we anticipate full recovery of our debt securities’ amortized cost basis at maturity.

4.

Fair Value Measurements

We use a three-tier fair value hierarchy to prioritize the inputs used in our fair value measurements. These tiers include: Level 1, defined as observable inputs such as quoted prices in active markets for identical assets, which includes our money market funds and treasury securities classified as available-for-sale securities and our investment in equity securities in publicly-held biotechnology companies; Level 2, defined as inputs other than quoted prices in active markets that are either directly or indirectly observable, which includes our fixed income securities and commercial paper classified as available-for-sale securities; and Level 3, defined as unobservable inputs in which little or no market data exists, therefore requiring us to develop our own assumptions. We classify the majority of our securities as Level 2. We obtain the fair value of our Level 2 investments from our custodian bank or from a professional pricing service. We validate the fair value of our Level 2 investments by understanding the pricing model used by the custodian banks or professional pricing service provider and comparing that fair value to the fair value based on observable market prices. During the nine months ended September 30, 2017, there were no transfers between our Level 1 and Level 2 investments. When we recognize transfers between levels of the fair value hierarchy, we recognize the transfer on the date the event or change in circumstances that caused the transfer occurs.

The following tables present the major security types we held at September 30, 2017 and December 31, 2016 that are regularly measured and carried at fair value. The tables segregate each security type by the level within the fair value hierarchy of the valuation techniques we utilized to determine the respective securities’ fair value (in thousands):

(1)

Included in cash and cash equivalents on our condensed consolidated balance sheet.

(2)

Included in short-term investments on our condensed consolidated balance sheet.

(3)

At December 31, 2016, $9.3 million was included in cash and cash equivalents on our condensed consolidated balance sheet, with the difference included in short-term investments on our condensed consolidated balance sheet.

Other Fair Value Disclosures

Novartis Future Stock Purchase

In January 2017, we and Akcea entered into a SPA with Novartis. As part of the SPA, Novartis was required to purchase $50 million of Akcea’s common stock at the IPO price or our common stock at a premium if an IPO did not occur by April 2018. Therefore, at the inception of the SPA, we recorded a $5.0 million asset representing the fair value of the potential future premium we could have received if Novartis purchased our common stock. We determined the fair value of the future premium by calculating the value based on the stated premium in the SPA and estimating the probability of an Akcea IPO. We also included a lack of marketability discount when we determined the fair value of the premium because we would have issued unregistered shares to Novartis if they had purchased our common stock. We measured this asset using Level 3 inputs and recorded it in other assets on our condensed consolidated balance sheet. At the end of the first and second quarters of 2017 prior to Akcea’s IPO, we reassessed the fair value of this asset. We recorded an adjustment to other income/expense on our condensed consolidated statement of operations for the change in value. Because Akcea completed its IPO before April 2018, Novartis will not purchase additional shares of Ionis stock. Therefore, this asset no longer had any value and we wrote-off the remaining balance to other expenses on our third quarter 2017 condensed consolidated statement of operations.

The following is a reconciliation of the potential premium we would have received if Akcea had not completed its IPO, measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the nine months ended September 30, 2017 (in thousands):

At September 30, 2017 and December 31, 2016, we did not have any financial instruments that were valued using Level 3 inputs.

Convertible Notes

Our 1 percent notes had a fair value of $728.0 million at September 30, 2017. We determine the fair value of our notes based on quoted market prices for these notes, which are Level 2 measurements because the notes do not trade regularly.

Line of Credit Arrangement

In June 2015, we entered into a five-year revolving line of credit agreement with Morgan Stanley Private Bank, National Association, or Morgan Stanley. We amended the credit agreement in February 2016 to increase the amount available for us to borrow. Under the amended credit agreement, we can borrow up to a maximum of $30 million of revolving credit for general working capital purposes. Under the credit agreement interest is payable monthly in arrears on the outstanding principal at a borrowing rate based on our option of:

(i)	a floating rate equal to the one-month London Interbank Offered Rate, or LIBOR, in effect plus 1.25 percent per annum;

(ii)	a fixed rate equal to LIBOR plus 1.25 percent for a period of one, two, three, four, six, or twelve months as elected by us; or

(iii)

a fixed rate equal to the LIBOR swap rate during the period of the loan.

Additionally, we pay 0.25 percent per annum, payable quarterly in arrears, for any amount unused under the credit facility. As of September 30, 2017 we had $12.5 million in outstanding borrowings under the credit facility with a 2.31 percent fixed interest rate and a maturity date of September 2019, which we used to fund our capital equipment needs consistent with our historical practice to finance these costs.

The credit agreement includes customary affirmative and negative covenants and restrictions. We are in compliance with all covenants of the credit agreement.

Research and Development and Manufacturing Facilities

In July 2017, we purchased the building that houses our primary R&D facility for $79.4 million. As a result of the purchase, we extinguished the financing liability we had previously recorded on our balance sheet. The difference between the purchase price of the facility and the carrying value of our financing liability at the time of the purchase was $7.7 million. We recognized this amount as a noncash loss on extinguishment of financing liability for leased facility in our condensed consolidated results of operations in the third quarter of 2017.

We also purchased our manufacturing facility in July 2017 for $14.0 million. We previously accounted for the lease on this facility as an operating lease. We capitalized the purchase price of the building as a fixed asset in the third quarter of 2017.

We financed the purchase of our primary R&D facility and our manufacturing facility, with mortgage debt of $51.3 million and $9.1 million, respectively. Our primary R&D facility mortgage has an interest rate of 3.88 percent. Our manufacturing facility has an interest rate of 4.20 percent. During the first five years of both mortgages we are only required to make interest payments. Both mortgages mature in August 2027.

6. Collaborative Arrangements and Licensing Agreements

Below, we have included our collaborations with substantive changes during the first nine months of 2017 from those included in Note 6 of our audited financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2016.

Strategic Partnership

Biogen

We have several strategic collaborations with Biogen focused on using antisense technology to advance the treatment of neurological disorders. These collaborations combine our expertise in creating antisense drugs with Biogen's expertise in developing therapies for neurological disorders. We developed and licensed to Biogen SPINRAZA, our approved drug to treat patients with spinal muscular atrophy, or SMA. Additionally, we and Biogen are currently developing five other drugs to treat neurodegenerative diseases under these collaborations, including IONIS-SOD1_Rx for ALS, IONIS-MAPT_Rx (formerly IONIS-BIIB4_Rx) for Alzheimer’s disease and IONIS-BIIB5_Rx, IONIS-BIIB6_Rx and IONIS-BIIB7_Rx to treat undisclosed neurodegenerative diseases. In addition to these drugs, we and Biogen are evaluating numerous additional targets to develop drugs to treat neurological diseases. From inception through September 2017, we have received $645 million from our Biogen collaborations.

During the three and nine months ended September 30, 2017, we earned revenue of $89.7 million and $189.1 million from our relationship with Biogen, respectively. Our revenue for the nine months ended September 30, 2017 included $60.5 million in royalties for sales of SPINRAZA and several milestone payments. The milestone payments we earned from Biogen for the first nine months of 2017 included the following:

●

$50 million milestone payment we earned in the second quarter of 2017 from the EU approval of SPINRAZA;

●

$40 million milestone payment we earned in the third quarter of 2017 for SPINRAZA pricing approval in Japan;

●

$10 million milestone payment we earned in the third quarter of 2017 for validating an undisclosed neurological disease target under our Strategic Neurology collaboration; and

●

$5 million milestone payment we earned in the first quarter of 2017 for validation of an additional undisclosed neurological disease target.

Additionally, in October 2017 we earned a $10 million milestone payment for initiating a Phase 1/2a clinical study of IONIS-MAPT_Rx in patients with mild Alzheimer's disease. As a result of earning these milestone payments, our next potential milestone payment has changed for our Neurology and Strategic Neurology collaborations. Under our Neurology collaboration, we will earn the next milestone payment of $7.5 million if we continue to advance IONIS-MAPT_Rx. Under our Strategic Neurology collaboration, we will earn the next milestone payment of up to $2 million if we advance a program under this collaboration. Our revenue from Biogen represented 75 percent and 57 percent of our total revenue for the three and nine months ended September 30, 2017, respectively. In comparison, we earned revenue of $90.2 million and $120.9 million for the same periods in 2016, which represented 81 percent and 65 percent of our total revenue for those periods. Our condensed consolidated balance sheet at September 30, 2017 included deferred revenue of $48.6 million related to our relationship with Biogen.

Research, Development and Commercialization Partners

Bayer

In May 2015, we entered into an exclusive license agreement with Bayer to develop and commercialize IONIS-FXI_Rx for the prevention of thrombosis. We were responsible for completing a Phase 2 study of IONIS-FXI_Rx in patients with end-stage renal disease on hemodialysis. Under the terms of the agreement, we received a $100 million upfront payment in the second quarter of 2015. We recorded revenue of $91.2 million related to the license for IONIS-FXI_Rx in June 2015 and we recognized the majority of the remaining amount related to development activities for IONIS-FXI_Rx through November 2016.

In February 2017, we amended our agreement with Bayer to advance IONIS-FXI_Rx and to initiate development of IONIS-FXI-L_Rx, which Bayer licensed. In conjunction with the decision to advance these programs, we received a $75 million payment from Bayer. We recorded revenue of $64.9 million related to the license for IONIS-FXI-L_Rx in February 2017 and we are recognizing the remaining amount over the period we are performing the ongoing development activities for IONIS-FXI-L_Rx and IONIS-FXI_Rx through May 2019. We plan to conduct a Phase 2b study evaluating IONIS-FXI_Rx in patients with end-stage renal disease on hemodialysis to finalize dose selection. Additionally, we plan to rapidly develop IONIS-FXI-L_Rx through Phase 1. Following these studies and Bayer's decision to further advance these programs, Bayer will be responsible for all global development, regulatory and commercialization activities for both drugs. We are eligible to receive additional milestone payments as each drug advances toward the market. In total over the term of our collaboration, we are eligible to receive up to $385 million in license fees, substantive milestone payments and other payments, including up to $125 million for the achievement of development milestones and up to $110 million for the achievement of commercialization milestones. In addition, we are eligible to receive tiered royalties in the low to high 20 percent range on gross margins of both drugs combined. From inception through September 2017, we have received over $175 million from our Bayer collaboration. We will earn the next milestone payment of $10 million if we advance a program under this collaboration.

During the three and nine months ended September 30, 2017, we earned revenue of $1.2 million and $67.9 million from our relationship with Bayer, respectively, which represented one percent and 20 percent of our total revenue for those periods, respectively. In comparison, we earned revenue of $0.2 million and $5.2 million for the same periods in 2016, respectively. Our condensed consolidated balance sheet at September 30, 2017 included $8.5 million of deferred revenue related to our relationship with Bayer.

Novartis

In January 2017, we and Akcea initiated a collaboration with Novartis to develop and commercialize AKCEA-APO(a)-L_Rx and AKCEA-APOCIII-L_Rx. Under the collaboration agreement, Novartis has an exclusive option to develop and commercialize AKCEA-APO(a)-L_Rx and AKCEA-APOCIII-L_Rx. Akcea is responsible for completing a Phase 2 program, conducting an end-of-Phase 2 meeting with the FDA and providing API for each drug. If Novartis exercises an option for one of these drugs, Novartis will be responsible for all further global development, regulatory and commercialization activities for such drug.

Akcea received a $75 million upfront payment in the first quarter of 2017, of which it retained $60 million and paid us $15 million as a sublicense fee. If Novartis exercises its option for a drug, Novartis will pay Akcea a license fee equal to $150 million for each drug it licenses. In addition, for AKCEA-APO(a)-L_Rx, Akcea is eligible to receive up to $600 million in substantive milestone payments, including $25 million for the achievement of a development milestone, up to $290 million for the achievement of regulatory milestones and up to $285 million for the achievement of commercialization milestones. In addition, for AKCEA-APOCIII-L_Rx, Akcea is eligible to receive up to $530 million in substantive milestone payments, including $25 million for the achievement of a development milestone, up to $240 million for the achievement of regulatory milestones and up to $265 million for the achievement of commercialization milestones. Akcea plans to co-commercialize any licensed drug commercialized by Novartis in selected markets, under terms and conditions that it plans to negotiate with Novartis in the future, through the specialized sales force Akcea is building to commercialize volanesorsen. Following Novartis’ exercise of its option for either drug, Akcea will earn the next milestone payment of $25 million if Novartis advances the Phase 3 study for either drug. Akcea is also eligible to receive tiered royalties in the mid-teens to low 20 percent range on net sales of AKCEA-APO(a)-L_Rx and AKCEA-APOCIII-L_Rx. Akcea will pay 50 percent of these license fees, milestone payments and royalties to us as a sublicense fee.

The agreement with Novartis will continue until the earlier of the date that all of Novartis’ options to obtain the exclusive licenses under the agreement expire unexercised or, if Novartis exercises its options, until the expiration of all payment obligations under the agreement. In addition, the agreement as a whole or with respect to any drug under the agreement, may terminate early under the following situations:

●

Novartis may terminate the agreement as a whole or with respect to any drug at any time by providing written notice to us;

●

Either we or Novartis may terminate the agreement with respect to any drug by providing written notice to the other party in good faith that we or Novartis has determined that the continued development or commercialization of the drug presents safety concerns that pose an unacceptable risk or threat of harm in humans or would violate any applicable law, ethical principles, or principles of scientific integrity;

●

Either we or Novartis may terminate the agreement for a drug by providing written notice to the other party upon the other party’s uncured failure to perform a material obligation related to the drug under the agreement, or the entire agreement if the other party becomes insolvent; and

●

We may terminate the agreement if Novartis disputes or assists a third party to dispute the validity of any of our patents.

In conjunction with this collaboration, we and Akcea entered into a SPA with Novartis. As part of the SPA, Novartis purchased 1.6 million shares of our common stock for $100 million in the first quarter of 2017. As part of the SPA, Novartis was required to purchase $50 million of Akcea’s common stock at the IPO price or our common stock at a premium if an IPO did not occur by April 2018.

To determine the amount of revenue to recognize under our agreements with Novartis, we first concluded that we would account for the collaboration and SPA agreements as a single multiple element arrangement. We next identified four separate units of accounting under the arrangement, each with stand-alone value:

●

Development services for AKCEA-APO(a)-LRx;

●

Development services for AKCEA-APOCIII-LRx;

●

API for AKCEA-APO(a)-LRx; and

●

API for AKCEA-APOCIII-LRx.

We then determined the total consideration under the arrangement was $180.0 million, which included the following:

●

$75 million from the upfront payment;

●

$100 million from our common stock Novartis purchased under the SPA, including $28.4 million for the premium paid by Novartis for its purchase of our common stock at a premium in the first quarter of 2017; and

●

$5.0 million for the potential premium Novartis would have paid if they purchased our common stock in the future.

We first allocated $71.6 million of the consideration to equity based on the fair value of our common stock Novartis purchased. Next, we allocated the remaining consideration of $108.4 million based on the relative stand-alone selling price of each unit of accounting as follows:

●

$64.0 million for the development services for AKCEA-APO(a)-LRx;

●

$40.1 million for the development services for AKCEA-APOCIII-LRx;

●

$1.5 million for the delivery of AKCEA-APO(a)-LRx API; and

●

$2.8 million for the delivery of AKCEA-APOCIII-LRx API.

We are recognizing the amount attributed to the development services for AKCEA-APO(a)-L_Rx and AKCEA-APOCIII-L_Rx over the period of time we are performing the services, currently estimated to be through November 2018 and June 2019, respectively. We will recognize the amount attributed to the API supply as we deliver it to Novartis. We determined at the inception that all milestones under its Novartis collaboration are substantive milestones and we will recognize any future exercise of an option to license a drug under the Novartis agreement in full in the period the option is exercised. Akcea is responsible for the development activities under this collaboration. As such, Akcea is recognizing the associated revenue in its statement of operations. Akcea pays us sublicense fees for payments that it receives under the collaboration and we recognize those fees as revenue and Akcea recognizes the fees as R&D expense. On a consolidated basis, we eliminate the sublicense fees.

During the three and nine months ended September 30, 2017, we earned revenue of $13.4 million and $37.2 million from our relationship with Novartis, respectively, which represented 11 percent of our total revenue for each of the periods. Our condensed consolidated balance sheet at September 30, 2017 included deferred revenue of $72.1 million related to our relationship with Novartis.

GSK

In March 2010, we entered into an alliance with GSK using our antisense drug discovery platform to discover and develop new drugs against targets for rare and serious diseases, including infectious diseases and some conditions causing blindness. Under the terms of the agreement, we received $38 million in upfront and expansion payments, which we amortized through September 2017.

In August 2017, as part of a reprioritization of its pipeline and strategic review of its Rare Diseases business, GSK declined its options for inotersen, our Phase 3 drug to treat patients with hereditary TTR amyloidosis, or hATTR, and IONIS-FB-L_Rx (formerly IONIS-GSK4-L_Rx), an antisense drug to treat complement-mediated diseases. We are continuing to advance each of these drugs independently.

GSK, consistent with its focus on treatments for infectious diseases, continues to advance two drugs targeting hepatitis B virus, or HBV, under our collaboration: IONIS-HBV_Rx and IONIS-HBV-L_Rx. GSK is currently conducting Phase 2 studies for both drugs we designed to reduce the production of viral proteins associated with HBV infection. In March 2016, we and GSK amended the development plan for IONIS-HBV_Rx to allow GSK to conduct all further development activities for this program. GSK has the exclusive option to license the drugs resulting from this alliance at Phase 2 proof-of-concept for a license fee.

Under our agreement, if GSK successfully develops these drugs and achieves pre-agreed sales targets, we could receive license fees and substantive milestone payments of more than $387.5 million, including up to $134.5 million for the achievement of development milestones, up to $120.0 million for the achievement of regulatory milestones and up to $70 million for the achievement of commercialization milestones. Through September 2017, we have received more than $162 million in payments under this alliance with GSK. We will earn the next milestone payment of up to $15 million for the initiation of a Phase 3 study for the HBV program. In addition, we are eligible to receive tiered royalties up to the mid-teens on sales from any product that GSK successfully commercializes under this alliance.

During the three and nine months ended September 30, 2017, we earned revenue of $2.7 million and $8.2 million, respectively, from our relationship with GSK. In comparison, we earned revenue of $1.2 million and $8.2 million for the same periods in 2016, respectively. Our condensed consolidated balance sheet at September 30, 2017 included deferred revenue of $0.2 million related to our relationship with GSK.

7.

Segment Information and Concentration of Business Risk

We have two reportable segments Ionis Core and Akcea Therapeutics. Prior to Akcea’s IPO in July 2017, we owned 100 percent of Akcea’s stock and consolidated 100 percent of Akcea’s results in our financial statements. After Akcea’s IPO, we owned approximately 68 percent of Akcea. As a result, beginning in the third quarter of 2017, we began adjusting our financial statements to reflect the noncontrolling interest that we no longer own in Akcea. Our reportable segments remain unchanged as a result of Akcea’s IPO. Segment income (loss) from operations includes revenue less operating expenses attributable to each segment.

In our Ionis Core segment we are exploiting a novel drug discovery platform we created to generate a broad pipeline of first-in-class and/or best-in-class drugs for us and our partners. Our Ionis Core segment generates revenue from a multifaceted partnering strategy.

Akcea is a biopharmaceutical company focused on developing and commercializing drugs to treat patients with serious cardiometabolic diseases caused by lipid disorders.

The following tables show our segment revenue and income (loss) from operations for the three and nine months ended September 30, 2017 (in thousands), respectively.

The following table shows our total assets by segment at September 30, 2017 and December 31, 2016 (in thousands), respectively.

We have historically funded our operations from collaborations with corporate partners and a relatively small number of partners have accounted for a significant percentage of our revenue. Revenue from significant partners, which is defined as ten percent or more of our total revenue, was as follows:

Contracts receivables from one significant partner comprised approximately 94 percent of our contracts receivables at September 30, 2017. Contracts receivables from two significant partners comprised approximately 92 percent of our contracts receivables at December 31, 2016.

ITEM 2

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

In this Report on Form 10-Q, unless the context requires otherwise, “Ionis,” “Company,” “we,” “our,” and “us,” means Ionis Pharmaceuticals, Inc. and its subsidiary, Akcea Therapeutics, Inc.

Forward-Looking Statements

In addition to historical information contained in this Report on Form 10-Q, this Report includes forward-looking statements regarding our financial position and outlook, our business, the business of Akcea Therapeutics, Inc., and the therapeutic and commercial potential of our technologies and products in development, including SPINRAZA, inotersen and volanesorsen. Any statement describing our goals, expectations, financial or other projections, intentions or beliefs is a forward-looking statement and should be considered an at-risk statement. Such statements are subject to certain risks and uncertainties, particularly those inherent in the process of discovering, developing and commercializing drugs that are safe and effective for use as human therapeutics, and in the endeavor of building a business around such drugs. Our forward-looking statements also involve assumptions that, if they never materialize or prove correct, could cause our results to differ materially from those expressed or implied by such forward-looking statements. Although our forward-looking statements reflect the good faith judgment of our management, these statements are based only on facts and factors currently known by us. As a result, you are cautioned not to rely on these forward-looking statements. These and other risks concerning our programs are described in additional detail in our annual report on Form 10-K for the year ended December 31, 2016, which is on file with the U.S. Securities and Exchange Commission and are available from us, and those identified within this Item in the section entitled “Risk Factors” beginning on page 38 of this Report.

Overview

We are leaders in discovering and developing RNA-targeted therapeutics. We have created an efficient and broadly applicable drug discovery platform. Using this platform, we have developed a large, diverse and advanced pipeline of potentially first-in-class and/or best-in-class drugs that we believe can provide high value for patients with significant unmet medical needs. In this way, we believe we are fundamentally changing medicine with the goal to transform the lives of those suffering from severe, often life-threatening, diseases. The approval and commercial launch of SPINRAZA in numerous countries for pediatric and adult patients with SMA highlights our progress toward this goal. Our pipeline also contains two near-term potentially transformative medicines for two different severe and rare diseases, each with significant commercial potential, volanesorsen and inotersen. In the first half of 2017, we reported positive Phase 3 data in patients with familial chylomicronemia, or FCS. In the third quarter of 2017, Akcea, working closely with us, filed for marketing authorization for volanesorsen to treat patients with FCS in the U.S., EU and Canada. In the second quarter of 2017, we also reported positive data from our Phase 3 study of inotersen in patients with hATTR with polyneuropathy. In November 2017, we filed for marketing authorization in the U.S. and EU for inotersen to treat patients with hATTR. The European Medicines Agency, or EMA, recently granted accelerated assessment to inotersen, which can reduce the standard review time.

With FDA approval in December 2016, SPINRAZA injection became the first and only approved drug to treat pediatric and adult patients with SMA. SMA is a leading genetic cause of death in infants and toddlers that is marked by progressive, debilitating muscle weakness. SPINRAZA is also approved in the EU, Japan, Canada, Brazil and Switzerland. SPRINRAZA is under review in several other key countries including, Israel, South Korea, Australia and Argentina, with additional filings planned. In the first nine months of 2017, we earned $60.5 million in commercial revenue from SPINRAZA royalties. We also earned a $50 million milestone payment for the EU approval of SPINRAZA and a $40 million milestone payment for SPINRAZA pricing approval in Japan.

Akcea Therapeutics, Inc. is focused on developing and commercializing volanesorsen and three other clinical-stage drugs for serious cardiometabolic diseases caused by lipid disorders, AKCEA-APO(a)-L_Rx, AKCEA-ANGPTL3-L_Rx and AKCEA-APOCIII-L_Rx. Each of these four drugs could potentially treat multiple patient populations. Moving these drugs into a company that we own allows us to retain substantial value from them and ensures our core focus remains on innovation. Akcea completed its IPO in July 2017. Akcea received $182.4 million in net proceeds from the IPO and the Novartis concurrent private placement in the third quarter of 2017. After Akcea’s IPO, we owned approximately 68 percent in Akcea and have continued to consolidate Akcea’s financial results in our third quarter 2017 financial statements, with an adjustment to account for the portion of Akcea we no longer own. Akcea has built an experienced team focused on developing and commercializing drugs to treat patients with serious cardiometabolic diseases caused by lipid disorders.

Akcea, working closely with us, is developing volanesorsen to treat two severe and rare, genetically defined diseases, FCS and familial partial lipodystrophy, or FPL. FCS and FPL are orphan diseases characterized by severely high triglyceride levels that result in severe, daily symptoms and a high risk of life-threatening pancreatitis. The clinical development program for volanesorsen consists of three Phase 3 studies called APPROACH, BROADEN and COMPASS. In the first quarter of 2017, we reported positive Phase 3 data from the APPROACH study in patients with FCS. In December 2016, we and Akcea reported positive results from the Phase 3 COMPASS study in patients with triglycerides above 500 mg/dL. During the third quarter of 2017, Akcea, working closely with us, filed for marketing authorization for volanesorsen in the U.S., EU and Canada. We estimate that FCS and FPL each affect 3,000 to 5,000 patients globally. Akcea is preparing to commercialize volanesorsen for both FCS and FPL, if approved.

We believe inotersen has the potential to become the preferred treatment option for many patients with hATTR. hATTR is a debilitating, progressive, fatal disease in which patients experience a progressive buildup of amyloid plaque deposits in tissues throughout the body. In May 2017, we reported positive top-line data from our Phase 3 study of inotersen, NEURO-TTR, in patients with hATTR with polyneuropathy. More than half of these patients also have cardiomyopathy. In August 2017, as part of a reprioritization of its pipeline and strategic review of its Rare Diseases business, GSK declined its option for inotersen. We are advancing inotersen to the market. In November 2017, we filed for marketing authorization for inotersen to treat patients with hATTR in the U.S. and EU. The EMA recently granted accelerated assessment to inotersen, which may reduce standard review time. We are on track in our pre-commercial preparations, for a potential launch in 2018, if approved. We plan to maximize the commercial potential of inotersen, either through a partner, through commercialization ourselves, or through a combination of the two.

In addition to our Phase 3 programs, we have a pipeline of drugs with the potential to be first-in-class and/or best-in-class drugs to treat patients with diseases that have inadequate treatment options. We are addressing a broad spectrum of diseases from common diseases affecting millions, such as cardiovascular disease, clotting disorders, Alzheimer’s and Parkinson’s disease, to rare diseases, such as amyotrophic lateral sclerosis and Huntington’s disease. We are continuing to advance our mid-stage drugs in development which have the potential to enter late-stage clinical development and progress toward the market over the next couple of years. For example, Akcea’s pipeline of novel cardiometabolic drugs is moving forward on schedule. AKCEA-APO(a)-L_Rx is the first and only drug in clinical development designed to selectively and robustly lower Lp(a), a key driver of cardiovascular disease. Akcea’s Phase 2b study of AKCEA-APO(a)-L_Rx in patients with elevated Lp(a) is progressing, with data planned in mid-2018. Akcea also recently reported positive data from the Phase 1/2 study of AKCEA-APOCIII-L_Rx. Like our other LICA drugs in development, the enhanced potency observed should support less frequent dosing, enhancing patient convenience and compliance. We believe this enhanced profile for AKCEA-APOCIII-L_Rx should support development for larger diseases with broader patient populations. Akcea plans to start a Phase 2 dose-ranging study of AKCEA-APOCIII-L_Rx by the end of this year with data planned in 2019. IONIS-HTT_Rx is another example of the progress in our pipleine. IONIS-HTT_Rx is the first drug in clinical development to target the cause of Huntington’s disease by reducing the production of toxic mutant huntingtin protein. We plan to report data from the Phase 1/2 study of IONIS-HTT_Rx in early 2018. Before the end of the year, we also plan to begin an open-label extension study for patients who participated in the Phase 1/2 study. IONIS-HTT_Rx is partnered with Roche, which has the option to license IONIS-HTT_Rx following a review of the Phase 1/2 data, for which we will earn a $45 million license fee. Assuming licensing, as Roche advances the drug, we could earn $285 million more in milestone payments plus royalties on sales. After licensing, Roche will assume responsibility for all clinical, regulatory and commercial activities for the drug. 

We have established alliances with a cadre of leading global pharmaceutical companies that are working alongside us in developing our drugs, advancing our technology and preparing to commercialize our products. Our partners bring substantial resources and expertise that augment and build upon our internal capabilities. We have strategic partnerships with Biogen and AstraZeneca through which we can broadly expand our drug discovery efforts to new disease targets in specific therapeutic areas for which our partners can provide expertise, tools and resources to complement our drug discovery efforts. We also have partnerships with Bayer, GSK, Janssen, Novartis and Roche. Each of these companies brings significant expertise and global resources to develop and potentially commercialize the drugs under each partnership. We also form early stage research and development partnerships that allow us to expand the application of our technology to new therapeutic areas. Lastly, we also work with a consortium of companies that can exploit our drugs and technologies outside our primary areas of focus. We refer to these companies as satellite companies.

Financial Highlights

The following is a summary of our financial results (in thousands):