FAIR VALUE MEASUREMENT AND FINANCIAL INSTRUMENTS

3 Months Ended

Mar. 31, 2020

FAIR VALUE MEASUREMENT AND FINANCIAL INSTRUMENTS

The carrying values of cash and cash equivalents, restricted cash, prepaid expenses and other current assets, and accounts payable on the Company’s consolidated balance sheets approximated their fair values as of March 31, 2020 and December 31, 2019 due to their short-term nature.

Certain of the Company’s financial instruments are measured at fair value using a three-level hierarchy that prioritizes the inputs used to measure fair value. This fair value hierarchy prioritizes the use of observable inputs and minimizes the use of unobservable inputs. The three levels of inputs used to measure fair value are as follows:

Level 1: Inputs are quoted prices for identical instruments in active markets.

Level 2: Inputs are quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; or model-derived valuations whose inputs are observable or whose significant value drivers are observable.

Level 3: Inputs are unobservable and reflect the Company’s own assumptions, based on the best information available, including the Company’s own data.

The following tables set forth the carrying amounts and fair values of the Company's financial instruments measured at fair value on a recurring basis as of March 31, 2020 and December 31, 2019 (in thousands):


	March 31, 2020
					Fair Value Measurement Based on
	Carrying Amount		Fair Value		Quoted Prices in Active Markets (Level 1)		Significant other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Assets:
Money market funds (cash equivalents)	$	31,276	$	31,276	$	31,276	$	—	$	—
Liabilities:
Contingent consideration	$	66,320	$	66,320	$	—	$	—	$	66,320


	December 31, 2019
					Fair Value Measurement Based on
	Carrying Amount		Fair Value		Quoted Prices in Active Markets (Level 1)		Significant other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Assets:
Money market funds (cash equivalents)	$	31,146	$	31,146	$	31,146	$	—	$	—
Liabilities:
Contingent consideration	$	120,020	$	120,020	$	—	$	—	$	120,020

The Company evaluates transfers between fair value levels at the end of each reporting period. There were no transfers of assets or liabilities between fair value levels during the three months ended March 31, 2020.

Contingent Consideration

On September 20, 2016, the Company acquired Viventia through the issuance of common stock plus contingent consideration, pursuant to the terms of a Share Purchase Agreement. The Company recorded the acquired assets and liabilities based on their estimated fair values as of the acquisition date and finalized its purchase accounting for the Viventia Acquisition during the third quarter of 2017. The contingent consideration relates to amounts potentially payable to the former shareholders of Viventia under the Share Purchase Agreement. Contingent consideration is measured at its estimated fair value at each reporting period, with fluctuations in value resulting in a non-cash charge to earnings (or loss) during the period. The estimated fair value measurement is based on significant inputs, including internally developed financial forecasts, probabilities of success, and the timing of certain milestone events and achievements, which are not observable in the market, representing a Level 3 measurement within the fair value hierarchy. The valuation of contingent consideration requires the use of significant assumptions and judgments, which management believes are consistent with those that would be made by a market participant. Management reviews its assumptions and judgments on an ongoing basis as additional market and other data is obtained, and any future changes in the assumptions and judgments utilized by management may cause the estimated fair value of contingent consideration to fluctuate materially, resulting in earnings volatility.

The following table sets forth a summary of the change in the fair value of the Company's contingent consideration liability, measured on a recurring basis at each reporting period, for the three months ended March 31, 2020 (in thousands):


Balance at December 31, 2019	$	120,020
Change in fair value of contingent consideration	(53,700)
Balance at March 31, 2020	$	66,320

The fair value of the Company’s contingent consideration was determined using probabilities of successful achievement of regulatory milestones and commercial sales, the period in which these milestones and sales are expected to be achieved ranging from 2021 to 2033, and the level of commercial sales of Vicinium forecasted for the United States, Europe, Japan and other potential markets. There have been no changes to the valuation methods utilized during the three months ended March 31, 2020. Because of the business environment uncertainty created by the ongoing COVID-19 pandemic, management carefully reviewed as of March 31, 2020 all of the Company’s financial forecast assumptions related to probability, timing and anticipated level of commercial sales, which were used to determine the estimated fair value of contingent consideration as of December 31, 2019, and determined that no financial forecast changes were currently required. Given the evolving and uncertain nature of the COVID-19 pandemic, management will continue to closely monitor developments in order to timely determine if any financial forecast changes may be required. Changes to probabilities of success, timing of certain milestones and achievements, and level of commercial sales could materially affect the valuation of contingent consideration.

However, the estimated fair value of contingent consideration is also determined by applying appropriate discount rates to future cash outflows related to the contingent payment obligations, and these discount rates have increased significantly as a result of the extreme volatility of financial markets as global economies shut down in order to contain the spread of COVID-19. The milestone payments constitute debt-like obligations, and the high-yield debt index rate applied to the milestones in order to determine the estimated fair value increased from 11.8% as of December 31, 2019 to 17.9% as of March 31, 2020. The discount rate applied to the 2% royalty due on forecasted Vicinium revenues is derived from the Company’s estimated weighted-average cost of capital (“WACC”), and this WACC-derived discount rate increased from 5.6% as of December 31, 2019 to 14.7% as of March 31, 2020. These significant increases in the applicable discount rates resulted in a $53.7 million decrease in the estimated

fair value of contingent consideration as of March 31, 2020. Changes to the discount rates could materially affect the valuation of the contingent consideration.

- Definition

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

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