Acquisitions, Divestitures, Research Collaborations and License Agreements

The Company continues its strategy of establishing external alliances to complement its internal research capabilities, including research collaborations, licensing preclinical and clinical compounds to drive both near- and long-term growth. The Company supplements its internal research with a licensing and external alliance strategy focused on the entire spectrum of collaborations from early research to late-stage compounds, as well as access to new technologies. These arrangements often include upfront payments, as well as expense reimbursements or payments to the third party, and milestone, royalty or profit share payments, contingent upon the occurrence of certain future events linked to the success of the asset in development. The Company also reviews its pipeline to examine candidates which may provide more value through out-licensing and, as part of its portfolio assessment process, may also divest certain products.

In July 2016, Merck acquired Afferent Pharmaceuticals (Afferent), a privately held pharmaceutical company focused on the development of therapeutic candidates targeting the P2X3 receptor for the treatment of common, poorly-managed, neurogenic conditions. Afferent’s lead investigational candidate, MK-7264 (formerly AF-219), is a selective, non-narcotic, orally-administered P2X3 antagonist currently being evaluated in a Phase 2b clinical trial for the treatment of refractory, chronic cough as well as in a Phase 2 clinical trial in idiopathic pulmonary fibrosis with cough. Merck acquired all outstanding stock of Afferent in exchange for a payment of $500 million in cash. In addition, former Afferent shareholders are eligible to receive a total of up to an additional $750 million contingent upon the attainment of certain clinical development and commercial milestones for multiple indications and candidates, including MK-7264. The Company is in the process of determining the preliminary fair value of assets acquired, liabilities assumed and total consideration transferred for this business acquisition. The transaction closed on July 26, 2016; accordingly, the results of operations of the acquired business will be included in the Company’s results of operations beginning after that date.

In July 2016, Merck, through its wholly owned subsidiary Healthcare Services & Solutions, LLC, acquired a majority ownership interest in The StayWell Company LLC (StayWell), a portfolio company of Vestar Capital Partners (Vestar). StayWell is a health engagement company that helps its clients engage and educate people to improve health and business results. Under the terms of the transaction, Merck paid $150 million for a majority ownership interest. Merck has an option to buy, and Vestar has an option to require Merck to buy, an additional ownership interest at a future date. The Company is in the process of determining the preliminary fair value of assets acquired and liabilities assumed for this business acquisition. The transaction closed on July 1, 2016; accordingly, the results of operations of the acquired business will be included in the Company’s results of operations beginning after that date.

Also in July 2016, Merck announced it had executed an agreement to acquire a controlling interest in Vallée S.A. (Vallée), a leading privately held producer of animal health products in Brazil. Vallée has an extensive portfolio of more than 100 products spanning parasiticides, anti-infectives and vaccines that include products for livestock, horses, and companion animals. Under the terms of the agreement, Merck will acquire approximately 93% of the shares of Vallée in exchange for a payment estimated to be approximately $400 million, based on exchange rates at the time of the announcement. This agreement is subject to regulatory review and certain closing conditions.

In June 2016, Merck and Moderna Therapeutics (Moderna) entered into a strategic collaboration and license agreement to develop and commercialize novel messenger RNA (mRNA)-based personalized cancer vaccines. The collaboration will combine Merck’s established leadership in immuno-oncology with Moderna’s mRNA vaccine technology and GMP manufacturing capabilities to advance individually tailored cancer vaccines for patients across a spectrum of cancers. Moderna and Merck will develop personalized cancer vaccines that utilize Moderna’s mRNA vaccine technology to encode a patient’s specific neoantigens, unique mutations present in that specific patient’s tumor. The development program will entail multiple studies in several types of cancer and include the evaluation of mRNA-based personalized cancer vaccines in combination with Merck’s Keytruda. Pursuant to the terms of the agreement, Merck made an upfront cash payment to Moderna of $200 million in July 2016, which was accrued for and recorded in Research and development expenses in the second quarter of 2016. Following human proof of concept studies, Merck has the right to elect to make an additional payment to Moderna. If Merck exercises this right, the two companies will then equally share cost and profits under a worldwide collaboration for the development of personalized cancer vaccines. Moderna will have the right to elect to co-promote the personalized cancer vaccines in the United States. The agreement entails exclusivity around combinations with Keytruda. Moderna and Merck will each have the ability to combine mRNA-based personalized cancer vaccines with other (non-PD-1) agents. Merck and Moderna have an existing collaboration and license agreement focused on the discovery and development of mRNA-based infectious disease vaccines and passive immunity treatments.

As previously disclosed, in 2014, the Company entered into a worldwide clinical development collaboration with Bayer AG (Bayer) to market and develop soluble guanylate cyclase (sGC) modulators, including Bayer’s Adempas (riociguat). The arrangement provided for potential future milestone payments of up to $1.1 billion based upon the achievement of agreed-upon sales goals. During the second quarter of 2016, the Company determined it was probable that, in 2017, Adempas sales would exceed the threshold triggering a $350 million milestone payment from Merck to Bayer. Accordingly, in the second quarter of 2016, the Company recorded a $350 million liability and a corresponding intangible asset and also recognized $50 million of cumulative amortization expense within Materials and production costs. The remaining intangible asset of $300 million will be amortized over the remaining estimated useful life of the asset of 10.5 years as supported by projected future cash flows, subject to impairment testing. Additional potential future milestone payments of $775 million have not yet been accrued as they are not deemed by the Company to be probable at this time.

In January 2016, Merck acquired IOmet Pharma Ltd (IOmet), a privately held UK-based drug discovery company focused on the development of innovative medicines for the treatment of cancer, with a particular emphasis on the fields of cancer immunotherapy and cancer metabolism. The acquisition provides Merck with IOmet’s preclinical pipeline of IDO (indoleamine-2,3-dioxygenase 1), TDO (tryptophan-2,3-dioxygenase), and dual-acting IDO/TDO inhibitors. Total purchase consideration in the transaction of $227 million included a cash payment of $150 million and future additional milestone payments of up to $250 million that are contingent upon certain clinical and regulatory milestones being achieved, which the Company determined had a fair value of $77 million at the acquisition date. The transaction was accounted for as an acquisition of a business; accordingly, the assets acquired and liabilities assumed were recorded at their respective fair values as of the acquisition date. Merck recognized intangible assets for in-process research and development (IPR&D) of $155 million and net deferred tax assets of $26 million. The excess of the consideration transferred over the fair value of net assets acquired of $46 million was recorded as goodwill that was allocated to the Pharmaceutical segment and is not deductible for tax purposes. The fair value of the identifiable intangible assets related to IPR&D was determined using an income approach, through which fair value is estimated based upon the asset’s probability-adjusted future net cash flows, which reflects the stage of development of the project and the associated probability of successful completion. The net cash flows were then discounted to present value using a discount rate of 10.5%. The fair value of the contingent consideration was determined utilizing a probability-weighted estimated cash flow stream adjusted for the expected timing of each payment also utilizing a discount rate of 10.5%. Actual cash flows are likely to be different than those assumed. This transaction closed on January 11, 2016; accordingly, the results of operations of the acquired business have been included in the Company’s results of operations beginning after that date. Pro forma financial information has not been included because IOmet’s historical financial results are not significant when compared with the Company’s financial results.

Also in January 2016, Merck sold the U.S. marketing rights to Cortrophin and Corticotropin Zinc Hydroxide to ANI Pharmaceuticals, Inc. (ANI). Under the terms of the agreement, ANI made a payment of $75 million, which was recorded in Sales in the first six months of 2016, and may make additional payments to the Company based on future sales. Merck does not have any ongoing supply or other performance obligations after the closing date.

In February 2015, Merck and NGM Biopharmaceuticals, Inc. (NGM), a privately held biotechnology company, entered into a multi-year collaboration to research, discover, develop and commercialize novel biologic therapies across a wide range of therapeutic areas. The collaboration includes multiple drug candidates currently in preclinical development at NGM, including NP201, which is being evaluated for the treatment of diabetes, obesity and nonalcoholic steatohepatitis. NGM will lead the research and development of the existing preclinical candidates and have the autonomy to identify and pursue other discovery stage programs at its discretion. Merck will have the option to license all resulting NGM programs following human proof-of-concept trials. If Merck exercises this option, Merck will lead global product development and commercialization for the resulting products, if approved. Under the terms of the agreement, Merck made an upfront payment to NGM of $94 million, which is included in Research and development expenses, and purchased a 15% equity stake in NGM for $106 million. Merck committed up to $250 million to fund all of NGM’s efforts under the initial five-year term of the collaboration, with the potential for additional funding if certain conditions are met. Prior to Merck initiating a Phase 3 study for a licensed program, NGM may elect to either receive milestone and royalty payments or, in certain cases, to co-fund development and participate in a global cost and revenue share arrangement of up to 50%. The agreement also provides NGM with the option to participate in the co-promotion of any co-funded program in the United States. Merck will have the option to extend the research agreement for two additional two-year terms. Each party has certain termination rights under the agreement in the event of an uncured material breach by the other party. Additionally, Merck has certain termination rights in the event of the occurrence of certain defined conditions. Upon a termination event, depending on the circumstances, the parties have varying rights and obligations with respect to the continued development and commercialization of compounds discovered under the agreement and certain related payment obligations.

Acquisition of Cubist Pharmaceuticals, Inc.

In January 2015, Merck acquired Cubist Pharmaceuticals, Inc. (Cubist), a leader in the development of therapies to treat serious infections caused by a broad range of bacteria. This transaction closed on January 21, 2015; accordingly, the results of operations of the acquired business have been included in the Company’s results of operations beginning after that date. During the first six months of 2015, the Company incurred $324 million of transaction costs directly related to the acquisition of Cubist including share-based compensation costs, severance costs and legal and advisory fees which are reflected in Marketing and administrative expenses. Of this amount, $226 million was recorded in the first quarter of 2015 and $98 million was recorded in the second quarter of 2015, but should have been recorded in the first quarter of 2015 which was the period the acquisition closed.

The following unaudited supplemental pro forma data presents consolidated information as if the acquisition of Cubist had been completed on January 1, 2014:



	Three Months Ended June 30,		Six Months Ended June 30,
($ in millions, except per share amounts)	2015		2015
Sales	$	9,785	$	19,296
Net income attributable to Merck & Co., Inc.	764		1,811
Basic earnings per common share attributable to Merck & Co., Inc. common shareholders	0.27		0.64
Earnings per common share assuming dilution attributable to Merck & Co., Inc. common shareholders	0.27		0.63

The unaudited supplemental pro forma data reflects the historical information of Merck and Cubist adjusted to include additional amortization expense based on the fair value of assets acquired, additional interest expense that would have been incurred on borrowings used to fund the acquisition, transaction costs associated with the acquisition, and the related tax effects of these adjustments. The pro forma data should not be considered indicative of the results that would have occurred if the acquisition had been consummated on January 1, 2014, nor are they indicative of future results.