OPKO Health, Inc. Quarterly report pursuant to Section 13 or 15(d)

Quarterly report pursuant to Section 13 or 15(d)

Fair Value Measurements

Fair Value Measurements

6 Months Ended

Jun. 30, 2014

We record fair values at an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. As such, fair value is a market-based measurement that should be determined based on assumptions that market participants would use in pricing an asset or liability. We utilize a three-tier fair value hierarchy, which prioritizes the inputs used in measuring fair value. These tiers include: Level 1, defined as observable inputs such as quoted prices in active markets; Level 2, defined as inputs other than quoted prices in active markets that are either directly or indirectly observable; and Level 3, defined as unobservable inputs in which little or no market data exists, therefore requiring an entity to develop its own assumptions.

A summary of our investments as of June 30, 2014, classified as available for sale and carried at fair value, is as follows:



	As of June 30, 2014
(In thousands)	Amortized Cost		Gross unrealized gains in Accumulated OCI		Gross unrealized losses in Accumulated OCI			Gain/(Loss) in Accumulated Deficit		Fair value
Common stock investments, available for sale	$	3,320	$	1,100	$	(517	)	$	—	$	3,903
Common stock options/warrants	1,425		1,575		—			2,980		5,980
Total assets	$	4,745	$	2,675	$	(517	)	$	2,980	$	9,883

A summary of our investments as of December 31, 2013, classified as available for sale and carried at fair value is as follows:



	As of December 31, 2013
(In thousands)	Amortized Cost		Gross unrealized gains in Accumulated OCI		Gross unrealized losses in Accumulated OCI		Gain/(Loss) in Accumulated Deficit		Fair value
Common stock investments, available for sale	$	3,376	$	2,698	$	—	$	—	$	6,074
Common stock options/warrants	925		1,041		—		4,022		5,988
Total assets	$	4,301	$	3,739	$	—	$	4,022	$	12,062

Any future fluctuation in fair value related to these instruments that is judged to be temporary, including any recoveries of previous write-downs, will be recorded in Accumulated other comprehensive income or loss. If we determine that any future valuation adjustment was other-than-temporary, we will record a loss during the period such determination is made.

As of June 30, 2014, we have money market funds that qualify as cash equivalents, forward contracts for inventory purchases (Refer to Note 9) and contingent consideration related to the acquisitions of CURNA, OPKO Diagnostics, FineTech, OPKO Spain, and OPKO Renal that are required to be measured at fair value on a recurring basis. In addition, in connection with our investment and our consulting agreement with Neovasc, we record the related Neovasc options at fair value as well as the derivative instruments related to our transactions with Pharmsynthez.

Our financial assets and liabilities measured at fair value on a recurring basis are as follows:



	Fair value measurements as of June 30, 2014
(In thousands)	Quoted prices in active markets for identical assets (Level 1)		Significant other observable inputs (Level 2)		Significant unobservable inputs (Level 3)		Total
Assets:
Money market funds	$	112,546	$	—	$	—	$	112,546
Certificates of deposit	—		827		—		827
Common stock investments, available for sale	3,903		—		—		3,903
Common stock options/warrants	—		5,980		—		5,980
Total assets	$	116,449	$	6,807	$	—	$	123,256
Liabilities:
Embedded conversion option	$	—	$	—	$	52,964	$	52,964
Forward Contracts	—		55		—		55
Deferred acquisition payments, net of discount	—		—		—		—
Contingent consideration:
CURNA	—		—		598		598
OPKO Diagnostics	—		—		14,174		14,174
OPKO Renal	—		—		56,470		56,470
OPKO Spain	—		—		1,672		1,672
Total liabilities	$	—	$	55	$	125,878	$	125,933



	Fair value measurements as of December 31, 2013
(In thousands)	Quoted prices in active markets for identical assets (Level 1)		Significant other observable inputs (Level 2)		Significant unobservable inputs (Level 3)		Total
Assets:
Money market funds	$	168,418	$	—	$	—	$	168,418
Certificates of deposit	—		827		—		827
Pharmsynthez Notes Receivable & Purchase Option	—		6,151		—		6,151
Common stock investments, available for sale	6,074		—		—		6,074
Common stock options/warrants	—		5,988		—		5,988
Forward contracts	—		49		—		49
Total assets	$	174,492	$	13,015	$	—	$	187,507
Liabilities:
Embedded conversion option	—		—		101,087		101,087
Deferred acquisition payments, net of discount	—		—		5,465		5,465
Contingent consideration:
CURNA	—		—		573		573
OPKO Diagnostics	—		—		13,776		13,776
FineTech	—		—		3,124		3,124
OPKO Renal	—		—		53,092		53,092
OPKO Spain	—		—		1,043		1,043
Total liabilities	$	—	$	—	$	178,160	$	178,160

The carrying amount and estimated fair value of our long-term debt, as well as the applicable fair value hierarchy tiers, are contained in the table below. The fair value of the 2033 Senior Notes is determined using a binomial lattice approach in order to estimate the fair value of the embedded derivative in the 2033 Senior Notes. Refer to Note 6.



	June 30, 2014
(In thousands)	Carrying Value		Total Fair Value		Level 1		Level 2		Level 3
2033 Senior Notes	$	63,401	$	69,759	$	—	$	—	$	69,759

As of June 30, 2014 and December 31, 2013, the carrying value of our other assets and liabilities approximates their fair value due to their short-term nature.

The following tables reconcile the beginning and ending balances of our Level 3 assets and liabilities as of June 30, 2014:



	June 30, 2014
(In thousands)	Contingent consideration			Deferred acquisition payments, net of discount			Embedded conversion option
Balance at December 31, 2013	$	71,620		$	5,484		$	101,087
Additions	—			—			—
Total losses (gains) for the period:
Included in results of operations	4,486			(754		)	(770		)
Payments	(3,192		)	(4,730		)	—
Conversion	—			—			(47,353		)
Balance at June 30, 2014	$	72,914		$	—		$	52,964

The estimated fair values of our financial instruments have been determined by using available market information and what we believe to be appropriate valuation methodologies. We use the following methods and assumptions in estimating fair value:

Contingent consideration – We estimate the fair value of the contingent consideration utilizing a discounted cash flow model for the expected payments based on estimated timing and expected revenues. We use several discount rates depending on each type of contingent consideration related to FineTech, OPKO Diagnostics, CURNA, OPKO Spain and OPKO Renal transactions. The discount rates used range from 6% to 27% and were based on the weighted average cost of capital for those businesses. If the discount rates were to increase by 1%, on each transaction, the contingent consideration would decrease by $2.1 million. If estimated future sales were to decrease by 10%, the contingent consideration related to CURNA, FineTech and OPKO Renal would decrease by $0.7 million. As of June 30, 2014, of the $72.9 million of contingent consideration, $24.6 million is recorded in Accrued expenses and $48.3 million is recorded in Other long-term liabilities. As of December 31, 2013, of the $71.6 million of contingent consideration, $28.0 million is recorded in Accrued expenses and $43.6 million is recorded in Other long-term liabilities.

Deferred payments – We estimate the fair value of the deferred payments utilizing a discounted cash flow model for the expected payments.

Embedded conversion option – We estimate the fair value of the embedded conversion option related to the 2033 Senior Notes using a binomial lattice model. Refer to Note 6 for detail description of the binomial lattice model and the fair value assumptions used.

- Definition

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

+ References + Details