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TABLE OF CONTENTS
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
PART IV

Table of Contents


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-K

(Mark One)    

ý

 

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

For the fiscal year ended December 31, 2017

or

o

 

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

For the transition period from                             to                            

Commission File No. 000-30319

INNOVIVA, INC.
(Exact name of registrant as specified in its charter)

Delaware
(State or other jurisdiction of
incorporation or organization)
  94-3265960
(I.R.S. Employer
Identification No.)

2000 Sierra Point Parkway, Suite 500
Brisbane, CA

(Address of principal executive offices)

 


94005

(Zip Code)

Registrant's telephone number, including area code: (650) 238-9600

SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:

Title of Each Class   Name of Each Exchange On Which Registered
Common Stock $0.01 Par Value   The Nasdaq Stock Market LLC

SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: NONE

          Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ý    No o

          Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes o    No ý

          Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ý    No o

          Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ý    No o

          Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§ 229.405) is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.    ý

          Indicate by check mark whether registrant is a large accelerated filer, an accelerated filer or a non-accelerated filer. See definition of "accelerated filer and large accelerated filer" in Rule 12b-2 of the Exchange Act (Check One):

Large accelerated filer ý   Accelerated filer o   Non-accelerated filer o
(Do not check if a
smaller reporting company)
  Smaller reporting company o

Emerging growth company o

          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 13(a) of the Exchange Act. o

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

          The aggregate market value of the voting and non-voting common equity held by non-affiliates of the registrant based upon the closing price of the registrant's Common Stock on The Nasdaq Global Select Market on June 30, 2017 was $980,937,011. This calculation does not reflect a determination that persons are affiliates for any other purpose.

          On February 16, 2018, there were 101,824,355 shares of the registrant's Common Stock outstanding.

DOCUMENTS INCORPORATED BY REFERENCE

          Specified portions of the registrant's definitive Proxy Statement to be issued in conjunction with the registrant's 2018 Annual Meeting of Stockholders, which is expected to be filed not later than 120 days after the registrant's fiscal year ended December 31, 2017, are incorporated by reference into Part III of this Annual Report. Except as expressly incorporated by reference, the registrant's Proxy Statement shall not be deemed to be a part of this Annual Report on Form 10-K.

   


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INNOVIVA, INC.
2017 Form 10-K Annual Report

Table of Contents

 
   
  Page

 

PART I

   

Item 1.

 

Business

  4

Item 1A.

 

Risk Factors

  11

Item 1B.

 

Unresolved Staff Comments

  34

Item 2.

 

Properties

  34

Item 3.

 

Legal Proceedings

  34

Item 4.

 

Mine Safety Disclosures

  34

 

PART II

   

Item 5.

 

Market for the Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

  35

Item 6.

 

Selected Financial Data

  38

Item 7.

 

Management's Discussion and Analysis of Financial Condition and Results of Operations

  39

Item 7A.

 

Quantitative and Qualitative Disclosures About Market Risk

  49

Item 8.

 

Financial Statements and Supplementary Data

  51

Item 9.

 

Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

  85

Item 9A.

 

Controls and Procedures

  85

Item 9B.

 

Other Information

  89

 

PART III

   

Item 10.

 

Directors, Executive Officers and Corporate Governance

  89

Item 11.

 

Executive Compensation

  89

Item 12.

 

Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

  89

Item 13.

 

Certain Relationships and Related Transactions, and Director Independence

  90

Item 14.

 

Principal Accountant Fees and Services

  90

 

PART IV

   

Item 15.

 

Exhibits and Financial Statement Schedules

  91

Item 16.

 

Form 10-K Summary

  91

Exhibits

  92

Signatures

  97

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Special Note Regarding Forward-Looking Statements

        This Annual Report on Form 10-K contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended (the "Securities Act"). Such forward-looking statements involve substantial risks, uncertainties and assumptions. All statements in this Annual Report on Form 10-K, other than statements of historical fact, including, without limitation, statements regarding our strategy, future operations, future financial position, future revenue, projected costs, prospects, plans, intentions, expectations, goals and objectives may be forward-looking statements. The words "anticipates," "believes," "could," "designed," "estimates," "expects," "goal," "intends," "may," "objective," "plans," "projects," "pursuing," "will," "would" and similar expressions (including the negatives thereof) are intended to identify forward-looking statements, although not all forward-looking statements contain these identifying words. We may not actually achieve the plans, intentions, expectations or objectives disclosed in our forward-looking statements and the assumptions underlying our forward-looking statements may prove incorrect. Therefore, you should not place undue reliance on our forward-looking statements. Actual results or events could differ materially from the plans, intentions, expectations and objectives disclosed in the forward-looking statements that we make. All written and verbal forward-looking statements attributable to us or any person acting on our behalf are expressly qualified in their entirety by the cautionary statements contained or referred to in this section.

        Important factors that we believe could cause actual results or events to differ materially from our forward-looking statements include, but are not limited to, risks related to: lower than expected future royalty revenue from respiratory products partnered with GSK, the commercialization of RELVAR®/BREO® ELLIPTA®, ANORO® ELLIPTA® and TRELEGY® ELLIPTA® in the jurisdictions in which these products have been approved; the strategies, plans and objectives of the company (including the company's growth strategy and corporate development initiatives beyond the existing respiratory portfolio); the timing, manner, amount and planned growth of anticipated potential capital returns to stockholders (including, without limitation, statements regarding the company's expectations of future purchases under its future share repurchase authorizations and future cash dividends); the status and timing of clinical studies, data analysis and communication of results; the potential benefits and mechanisms of action of product candidates; expectations for product candidates through development and commercialization; the timing of regulatory approval of product candidates; projections of revenue, expenses and other financial items and risks discussed below in "Risk Factors" in Item 1A of Part I, "Management's Discussion and Analysis of Financial Condition and Results of Operations" in Item 7 of Part II and elsewhere in this Annual Report on Form 10-K. Our forward-looking statements in this Annual Report on Form 10-K are based on current expectations as of the date hereof and we do not assume any obligation to update any forward-looking statements on account of new information, future events or otherwise, except as required by law.

        We encourage you to read Management's Discussion and Analysis of our Financial Condition and Results of Operations and our consolidated financial statements contained in this Annual Report on Form 10-K. We also encourage you to read Item 1A of Part I of this Annual Report on Form 10-K, entitled "Risk Factors," which contains a more complete discussion of the risks and uncertainties associated with our business. In addition to the risks described above and in Item 1A of this report, other unknown or unpredictable factors also could affect our results. Therefore, the information in this report should be read together with other reports and documents that we file with the Securities and Exchange Commission (SEC) from time to time, including on Form 10-Q and Form 8-K, which may supplement, modify, supersede or update those risk factors. As a result of these factors, we cannot assure you that the forward-looking statements in this report will prove to be accurate. Furthermore, if our forward-looking statements prove to be inaccurate, the inaccuracy may be material. In light of the significant uncertainties in these forward-looking statements, you should not regard these statements as a representation or warranty by us or any other person that we will achieve our objectives and plans in any specified time frame, or at all.

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PART I

ITEM 1.    BUSINESS

Overview

        Innoviva, Inc. ("Innoviva", the "Company", the "Registrant" or "we" and other similar pronouns) is focused on bringing compelling medicines to patients in areas of unmet need by leveraging its significant expertise in the development, commercialization and financial management of bio-pharmaceuticals to maximize the potential of its respiratory assets partnered with Glaxo Group Limited ("GSK"), including RELVAR®/BREO® ELLIPTA® (fluticasone furoate/ vilanterol, "FF/VI"),ANORO® ELLIPTA® (umeclidinium bromide/ vilanterol, "UMEC/VI") and TRELEGY® ELLIPTA® (the combination FF/UMEC/VI). Under the Long-Acting Beta2 Agonist ("LABA") Collaboration Agreement, we are entitled to receive royalties from GSK on sales of RELVAR®/BREO® ELLIPTA® as follows: 15% on the first $3.0 billion of annual global net sales and 5% for all annual global net sales above $3.0 billion and royalties from sales of ANORO™ ELLIPTA™ tier upward at a range from 6.5% to 10%. Innoviva is also entitled to 15% of royalty payments made by GSK under its agreements originally entered into with us, and since assigned to Theravance Respiratory Company, LLC ("TRC") , including TRELEGY® ELLIPTA® and any other product or combination of products that may be discovered or developed in the future under the LABA Collaboration Agreement and the Strategic Alliance Agreement with GSK (referred to herein collectively as the "GSK Agreements"), which have been assigned to TRC other than RELVAR®/BREO® ELLIPTA® and ANORO® ELLIPTA®.

        Our headquarters are located at 2000 Sierra Point Parkway, Suite 500, Brisbane, CA 94005. The Company was incorporated in Delaware in November 1996 under the name, Advanced Medicine, Inc., and began operations in May 1997. It later changed its name to Theravance, Inc. in April 2002. In June 2014, we spun-off our research and development operations. In January 2016, we rebranded and changed our name to Innoviva, Inc.

Our Strategy

        Innoviva uniquely combines deep pharmaceutical industry expertise and strategic financial management with the goal of maximizing the commercial potential and royalties we receive from our partnered pharmaceutical products. By channeling our significant expertise in the key field of pharmaceutical medicines including product development, commercialization, and financial strategy, Innoviva seeks to become a partner in the delivery of compelling medicines that have the potential to improve the lives of patients by leveraging our unique industry knowledge and capabilities. This patient-centric approach is central to how Innoviva operates and collaborates with our partner to advance the availability of crucial medicines and treatments. Our corporate strategy is currently focused on the goal of maximizing stockholder value by, among other things, maximizing the potential value of our respiratory assets partnered with GSK and optimizing our overall corporate cost of capital, capital allocation and capital return to shareholders.

Our Relationship with GSK

LABA Collaboration

        In November 2002, we entered into our LABA Collaboration Agreement with GSK to develop and commercialize once-daily products for the treatment of chronic obstructive pulmonary disease ("COPD") and asthma. The collaboration has developed three combination products:

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        As a result of the launch and approval of RELVAR®/BREO® ELLIPTA® and ANORO® ELLIPTA® in the U.S., Japan and Europe, in accordance with the LABA Collaboration Agreement, we paid milestone fees to GSK totaling $220.0 million during the year ended December 31, 2014. Although we have no further milestone payment obligations to GSK pursuant to the LABA Collaboration Agreement, we continue to have ongoing commercialization activities under the LABA Collaboration Agreement, including participation in the joint steering committee and joint project committee that are expected to continue over the life of the agreements. The milestone fees paid to GSK were recognized as capitalized fees paid to a related party, which are being amortized over their estimated useful lives commencing upon the commercial launch of the products.

        We are entitled to receive royalties from GSK on sales of RELVAR®/BREO® ELLIPTA® as follows: 15% on the first $3.0 billion of annual global net sales and 5% for all annual global net sales above $3.0 billion. For other products combined with a LABA from the LABA collaboration, such as ANORO® ELLIPTA®, royalties are upward tiering and range from 6.5% to 10%.

        We are also entitled to 15% of royalty payments made by GSK under its agreements originally entered into with us, and since assigned to TRC in connection with the spin-off of Theravance Biopharma, Inc. ("Theravance Biopharma") in June 2014 (the "Spin-Off"), relating to TRELEGY® ELLIPTA®, which royalties are upward tiering and range from 6.5% to 10%.

2004 Strategic Alliance

        In March 2004, we entered into the Strategic Alliance Agreement with GSK where GSK received an option to license exclusive development and commercialization rights to product candidates from certain of our discovery programs on pre-determined terms and on an exclusive, worldwide basis. In 2005, GSK licensed our MABA program for the treatment of COPD, and in October 2011, we and GSK expanded the MABA program by adding six additional Innoviva-discovered preclinical MABA compounds (the "Additional MABAs"). The development program has been funded in full by GSK as of December 31, 2017 and is in Phase II clinical studies stage. GSK is in the process of determining next steps for the program. As a result of the transactions effected by the Spin-Off, we are only entitled to receive 15% of any contingent payments and royalties payable by GSK from sales of products that may be developed under the Strategic Alliance Agreement, such as MABA, and MABA/FF, while Theravance Biopharma receives 85% of those same payments.

Common Stock owned by GSK

        As of February 16, 2018, GSK beneficially owned approximately 31.4% of our outstanding common stock.

Recent Highlights

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Manufacturing

        Manufacturing of RELVAR®/BREO® ELLIPTA® (FF/VI), ANORO® ELLIPTA® (UMEC/VI) and TRELEGY® ELLIPTA® is performed by GSK.

Government Regulation

        The development and commercialization of products and product candidates pursuant to the GSK Agreements are subject to extensive regulation by governmental authorities in the United States and other countries. Before marketing in the United States, any medicine must undergo rigorous preclinical studies and clinical studies and an extensive regulatory approval process implemented by the FDA. Outside the United States, the ability to market a product depends upon receiving a marketing authorization from the appropriate regulatory authorities. The requirements governing the conduct of clinical studies, marketing authorization, pricing and reimbursement vary widely from country to country. In any country, the commercialization of medicines is permitted only if the appropriate regulatory authority is satisfied that our collaborative partner has presented adequate evidence of the safety, quality and efficacy of such medicines.

        Once a product is approved, the FDA may withdraw the product approval if compliance with pre- and post-marketing regulatory standards is not maintained or if safety or quality issues are identified after the product reaches the marketplace. In addition, the FDA may require post-marketing studies, referred to as Phase 4 studies, to monitor the effect of approved products, and may limit further marketing of the product based on the results of these post-marketing studies. The FDA has broad post-market regulatory and enforcement powers, including the ability to suspend or delay issuance of approvals, seize products, withdraw approvals, enjoin violations, and institute criminal prosecution.

        If regulatory approval for a medicine is obtained, the clearance to market the product will be limited to those diseases and conditions for which the medicine is effective, as demonstrated through clinical studies and included in the medicine's labeling. Even if this regulatory approval is obtained, a marketed medicine, its manufacturer and its manufacturing facilities are subject to continual review and

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periodic inspections by the FDA. The FDA ensures the quality of approved medicines by carefully monitoring manufacturers' compliance with its current good manufacturing practice (cGMP) regulations. The cGMP regulations for drugs contain minimum requirements for the methods, facilities, and controls used in manufacturing, processing, and packaging of a medicine. The regulations are intended to make sure that a medicine is safe for use, and that it has the ingredients and strength it claims to have. Discovery of previously unknown problems with a medicine, manufacturer or facility may result in restrictions on the medicine or manufacturer, including costly recalls or withdrawal of the medicine from the market.

        We and our collaborative partner are also subject to various laws and regulations regarding laboratory practices, the experimental use of animals and the use and disposal of hazardous or potentially hazardous substances in connection with the development and commercialization of products and product candidates. In each of these areas, as above, the FDA and other regulatory authorities have broad regulatory and enforcement powers, including the ability to suspend or delay issuance of approvals, seize products, withdraw approvals, enjoin violations, and institute criminal prosecution, any one or more of which could have a material adverse effect upon our business, financial condition and results of operations.

        Outside the United States, our collaborative partner's ability to market partnered products will also depend on receiving marketing authorizations from the appropriate regulatory authorities. Risks similar to those associated with FDA approval and continuing review described above exist with the regulatory approval processes in other countries.

Patents and Proprietary Rights

        We and our collaborative partner will be able to protect our partnered technology from unauthorized use by third parties only to the extent that such technology is covered by valid and enforceable patents or is effectively maintained as trade secrets. Our success in the future will depend in part on us and our collaborative partner obtaining patent protection for our partnered products and product candidates. Accordingly, patents and other proprietary rights are essential elements of our business.

        For proprietary know-how that is not patentable, processes for which patents are difficult to enforce and any other elements of our business that involve proprietary know-how and technology that is not covered by patent applications, we rely on trade secret protection and confidentiality agreements to protect our interests. We require all of our employees, consultants and advisors to enter into confidentiality agreements. Where it is necessary to share our proprietary information or data with outside parties, our policy is to make available only that information and data required to accomplish the desired purpose and only pursuant to a duty of confidentiality on the part of those parties.

        As of December 31, 2017, we owned 36 issued United States patents and 108 granted foreign patents, as well as additional pending United States patent applications and foreign patent applications. The claims in these various patents and patent applications are directed to compositions of matter, including claims covering product candidates, lead compounds and key intermediates, pharmaceutical compositions, methods of use and processes for making our compounds.

        United States issued patents and foreign patents generally expire 20 years after filing. Nevertheless, issued patents can be challenged, narrowed, invalidated or circumvented, which could limit our ability to stop competitors from marketing similar products and threaten our ability to commercialize our product candidates. Our patent position, similar to other companies in our industry, is generally uncertain and involves complex legal and factual questions. To maintain our proprietary position, we will need to obtain effective claims and enforce these claims once granted. It is possible that, before any of our products can be commercialized, any related patent may expire or remain in force only for a short period following commercialization, thereby reducing any advantage of the patent. Also, we do

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not know whether any of our patent applications will result in any issued patents or, if issued, whether the scope of the issued claims will be sufficient to protect our proprietary position.

Competition

        We anticipate that RELVAR®/BREO®ELLIPTA®(FF/VI), ANORO® ELLIPTA® (UMEC/VI) and TRELEGY® ELLIPTA® (the combination FF/UMEC/VI), will compete with a number of approved bronchodilator drugs, including each other and drug candidates under development that are designed to treat asthma and COPD. These include but are not limited to:

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        In addition, several firms are developing new formulations of Advair/Seretide (salmeterol /fluticasone proprionate) and Symbicort (formoterol fumerate/budesonide) which may be marketed as generics or branded generics relative to the existing products from GSK and AstraZeneca, respectively. All of these efforts represent potential competition for any of our partnered products. Efforts have intensified following the publication of FDA draft guidance for the approval of fully substitutable versions of Advair and Symbicort in late 2013 and mid-2015 respectively. Current examples of these products include the marketed products Duoresp/Biresp from Teva (generic Symbicort), AirFluSal Forspiro by Sandoz, Rolenium by Elpen and Sirdupla by Mylan (all generic versions of Seretide)) which are all available in a wide number of countries in the E.U. Numerous companies like Mylan N.V., Hikma Pharmaceuticals PLC (Hikma), Novartis' Sandoz division and Teva Pharmaceuticals Industries Ltd. (Teva) have publicly stated their intentions to bring generic forms of the ICS/LABA drug Advair®, when certain patents covering the Advair® delivery device expired in 2016. In March 2017, Mylan N.V. received a complete response letter from the FDA relating to its ANDA for fluticasone propionate 100, 250, 500 mcg and salmeterol 50 mcg inhalation powder. In May 2017, Hikma announced that it received a complete response letter form the FDA relating to its ANDA for fluticasone propionate and salmeterol inhalation powder, and in February 2018, Novartis announced that its generic division Sandoz, had received a complete response letter from FDA in response to its ANDA for a third fluticasone proprionate and salmeterol product. Lastly, Teva announced recently that the FDA approved two of their products for adolescent and adult patients with asthma, one of which is AirDuo™ RespiClick® (fluticasone propionate and salmeterol inhalation powder),a non-AB substitutable generic versions of Advair®. In general, these manufactures are required to conduct a restricted number of clinical efficacy, pharmacokinetic and device studies to demonstrate equivalence to Advair, per FDA's September 2013 Draft Guidance document. These studies are designed to demonstrate that the generic product has the same active ingredient(s), dosage form, strength, exposure and clinical efficacy as the branded product. These generic equivalents, which must meet the same exacting quality standards as branded products, may be significantly less costly to bring to market, and companies that produce generic equivalents are generally able to offer their products at lower prices. Thus, after the introduction of a generic competitor, a significant percentage of the sales of any branded product and products that may compete with such branded product is typically lost to the generic product. In addition, in April 2016, the FDA issued draft guidelines documents covering Fluticasone Furoate/Vilanterol Trifenatate (FF/VI), the active ingredients used in RELVAR®/BREO® ELLIPTA®.

Employees

        As of December 31, 2017, we had 12 employees. None of our employees are represented by a labor union. We consider our employee relations to be good.

Executive Officers of the Registrant

        The following table sets forth the name, age, and position of each of our executive officers as of February 23, 2018:

Name
  Age   Positions Held

Eric d'Esparbes(1)

  50   Interim Principal Executive Officer and Senior Vice President and Chief Financial Officer

George B. Abercrombie, RPh, MBA

  63   Senior Vice President, Chief Commercial Officer

Theodore J. Witek, Jr., Dr.P.H. 

  60   Senior Vice President, Chief Scientific Officer

(1)
On February 6, 2018, Mr. d'Esparbes was appointed as interim Principal Executive Officer following the resignation of the Company's Chief Executive Officer.

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        Eric d'Esparbes was appointed as interim Principal Executive Officer of Innoviva on February 6, 2018. Mr. d'Esparbes continues to serve as Innoviva's Senior Vice President and Chief Financial Officer, the position which he has held since joining Innoviva in October 2014. From 2010 to 2014, Mr. d'Esparbes served as the Chief Financial Officer of Joule Unlimited, a biotechnology company, where he was responsible for overseeing all of the company's financial, tax, treasury and accounting activities. Prior to Joule Unlimited, he was the Vice President, Finance of AEI Energy ("AEI"), a global emerging markets energy company, where he was responsible for optimizing the capital structure of AEI's international portfolio of energy assets, and from 2007 to 2010 served as Senior Vice President and Chief Financial Officer at AEI Asia. Mr. d'Esparbes has also served as Chief Financial Officer and other senior financial roles at Meiya Power Company Limited from 1999 to 2007 and senior financial roles at Hydro-Quebéc International from 1993 to 1999. Mr. d'Esparbes earned a Bachelor's degree in International Finance from the University of Montreal's Hautes Etudes Commerciales in Montreal, Canada.

        George B. Abercrombie, RPh, MBA joined Innoviva in June 2014. Prior to joining Innoviva, Mr. Abercrombie served as the President and Chief Executive Officer of Hoffmann-La Roche Inc. from 2001 to 2009, where he was responsible for the US and Canadian business divisions. From 1993 to 2001, Mr. Abercrombie worked at Glaxo and its successor companies, including as Senior Vice President of Commercial Operations for Glaxo Wellcome, Inc. He is a member of the board of directors of BioCryst Pharmaceuticals, Inc., and also serves as a board member of other healthcare-related organizations, including the North Carolina GlaxoSmithKline Foundation. Mr. Abercrombie holds an MBA from Harvard Business School and a BS from the University of North Carolina at Chapel Hill, School of Pharmacy.

        Theodore J. Witek, Jr., Dr.P.H. joined Innoviva, Inc. in July 2014. Prior to joining Innoviva, Dr. Witek served as President and Chief Executive Officer of Boehringer Ingelheim in Canada and in Portugal. Joining Boehringer in 1992, Dr. Witek held a number of positions of increasing responsibility, including leading the global clinical development and launch of several respiratory products, most notably Spiriva. He also led the Respiratory and Immunology clinical research groups in the US. In 2001, he moved to Germany to lead the operating team for Spiriva and also served as the Boehringer Co-chair of the Joint Operating Committee with Pfizer in their global alliance. During his tenure in Canada, Dr. Witek served on the board of directors at Rx&D, Canada's National Association for Research-based Pharmaceutical Companies, chairing its Health Technology Assessment and Public Affairs Committees. He also served over ten years on the Drug/Device Discovery and Development Committee of the American Thoracic Society, serving as Chairman from 2010 to 2012. He is currently appointed to the Ontario Heath Innovation Council and serves as a director and Chairman of the board of directors of Ehave, Inc.. Dr. Witek holds a DrPH degree from Columbia University, an MPH from Yale University, and an MBA from Henley Management College.

Code of Business Conduct

        The Company has adopted the Innoviva, Inc. Code of Business Conduct that applies to all directors, officers and employees. The Code of Business Conduct, as amended and restated on May 1, 2017, is available on the corporate governance section of our website at www.inva.com. If the Company makes any substantive amendments to the Code of Business Conduct or grants any waiver from a provision of the Code to any executive officer or director, the Company will promptly disclose the nature of the amendment or waiver as required by applicable law.

Available Information

        Our web page address is www.inva.com. Our investor relations website is located at http://investor.inva.com. We make available free of charge on our investor relations website under "SEC Filings" our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on

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Form 8-K, our directors' and officers' Section 16 Reports and any amendments to those reports after filing or furnishing such materials to the U.S. Securities and Exchange Commission (SEC). The information found on our website is not part of this or any other report that we file with or furnish to the SEC. Innoviva and the Innoviva logo are registered trademarks of Innoviva, Inc. Trademarks, tradenames or service marks of other companies appearing in this report are the property of their respective owners.

ITEM 1A.    RISK FACTORS

Risks Related to our Business

For the foreseeable future we will derive all of our royalty revenues from GSK and our future success depends on GSK's ability to successfully develop and commercialize the products in the respiratory programs partnered with GSK.

        Pursuant to the GSK Agreements, GSK is responsible for the development and commercialization of products in the partnered respiratory programs. Royalty revenues from RELVAR®/BREO® ELLIPTA® and ANORO® ELLIPTA® are expected to represent the majority of our foreseeable future revenues from GSK. The amount and timing of revenue from such royalties are unknown and highly uncertain. Our future success depends upon the performance by GSK of its commercial obligations under the GSK Agreements and the commercial success of RELVAR®/BREO® ELLIPTA®, ANORO® ELLIPTA® and TRELEGY® ELLIPTA®. We have no control over GSK's marketing and sales efforts, and GSK might not be successful, which would harm our business and cause the price of our securities to fall.

        The amount of royalties and milestone payments, if any, we receive will depend on many factors, including the following:

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If the FDA or other applicable regulatory authorities approve generic products, including but not limited to generic forms of Advair®, that compete with RELVAR®/BREO® ELLIPTA® and ANORO® ELLIPTA®, or generic form of RELVAR®/BREO® ELLIPTA®, the royalties payable to us pursuant to the LABA Collaboration Agreement will be less than anticipated, which in turn would harm our business and the price of our securities could fall.

        Once an NDA or marketing authorization application outside the United States is approved, the product covered thereby becomes a "listed drug" that can, in turn, be cited by potential competitors in support of approval of an Abbreviated New Drug Application ("ANDA") in the United States. Agency regulations and other applicable regulations and policies provide incentives to manufacturers to create modified, non-infringing versions of a drug to facilitate the approval of an ANDA or other application for generic substitutes in the United States and in nearly every pharmaceutical market around the world. Numerous companies like Mylan N.V., Hikma Pharmaceuticals PLC (Hikma), Novartis' Sandoz division and Teva Pharmaceuticals Industries Ltd. (Teva) have publicly stated their intentions to bring generic forms of the ICS/LABA drug Advair®, when certain patents covering the Advair® delivery device expired in 2016. In March 2017, Mylan N.V. received a complete response letter from the FDA relating to its ANDA for fluticasone propionate 100, 250, 500 mcg and salmeterol 50 mcg inhalation powder. In May 2017, Hikma announced that it received a complete response letter form the FDA relating to its ANDA for fluticasone propionate and salmeterol inhalation powder, and in February 2018, Novartis announced that its generic division Sandoz, had received a complete response letter from FDA in response to its ANDA for a third fluticasone proprionate and salmeterol product. Lastly, Teva announced recently that the FDA approved two of their products for adolescent and adult patients with asthma, one of which is AirDuoTM RespiClick® (fluticasone propionate and salmeterol inhalation powder) a non-AB substitutable generic versions of Advair®. In general, these manufactures are required to conduct a restricted number of clinical efficacy, pharmacokinetic and device studies to demonstrate equivalence to Advair, per FDA's September 2013 Draft Guidance document. These studies are designed to demonstrate that the generic product has the same active ingredient(s), dosage form, strength, exposure and clinical efficacy as the branded product. These generic equivalents, which must meet the same exacting quality standards as branded products, may be significantly less costly to bring to market, and companies that produce generic equivalents are generally able to offer their products at lower prices. Thus, after the introduction of a generic competitor, a significant percentage of the sales of any branded product and products that may compete with such branded product is typically lost to the generic product. In addition, in April 2016, the FDA issued draft guidelines documents covering Fluticasone Furoate/Vilanterol Trifenatate (FF/VI), the active ingredients used in RELVAR®/BREO® ELLIPTA®. Accordingly, introduction of generic products that compete against

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ICS/LABA products, like RELVAR®/BREO® ELLIPTA® and ANORO® ELLIPTA®, would materially adversely impact our future royalty revenue, profitability and cash flows. We cannot yet ascertain what impact these generic products and any future approved generic products will have on any sales of RELVAR®/BREO® ELLIPTA® or ANORO® ELLIPTA®, if approved.

Reduced prices and reimbursement rates due to the actions of governments, payors, or competition or other healthcare cost containment initiatives such as restrictions on use, may negatively impact royalties generated under the GSK Agreements.

        The continuing efforts of governments, pharmaceutical benefit management organizations (PBMs), insurance companies, managed care organizations and other payors of health care costs to contain or reduce costs of health care has adversely affected the price, market access, and total revenues of RELVAR®/BREO® ELLIPTA® and ANORO® ELLIPTA® and may continue to adversely affect them in the future. In addition, we have experienced and expect to continue to experience increased competitive activity which has resulted in lower overall prices for our products.

        The Patient Protection and Affordable Care Act, as amended by the Health Care and Education Reconciliation Act of 2010 (together, "PPACA") and other legislative or regulatory requirements or potential legislative or regulatory actions regarding healthcare and insurance matters, along with the trend toward managed healthcare in the U.S., could adversely influence the purchase of healthcare products and reduce demand and prices for our partnered products. This could harm GSK's ability to market our partnered products and significantly reduce future revenues. For example, when GSK launched BREO® ELLIPTA® for the treatment of COPD in the U.S. in October 2013, GSK experienced significant challenges gaining coverage at some of the largest PBMs, healthcare payors, and providers and lower overall prices than expected. Recent actions by U.S. PBMs in particular have increased discount levels for respiratory products resulting in lower net sales pricing realized for products in our collaboration. In addition, in certain foreign markets, the pricing of prescription drugs is subject to government control and reimbursement may in some cases be unavailable. We believe that pricing pressures will continue and may increase. This may make it difficult for GSK to sell our partnered products at a price acceptable to us or GSK or to generate revenues in line with our analysts' or investors' expectations, which may cause the price of our securities to fall.

        More recently, the current presidential administration and the U.S. Congress have taken actions in an effort to replace PPACA and related legislation with new healthcare legislation. There is uncertainty with respect to the impact these potential changes may have, if any, and any changes will likely take time to unfold, and could have an impact on coverage and reimbursement for healthcare items and services covered by plans that were authorized by PPACA. However, we cannot predict the ultimate content, timing or effect of any healthcare reform legislation or the impact of potential legislation on us.

        We expect that additional state and federal healthcare reform measures will be adopted in the future, any of which could limit the amounts that federal and state governments will pay for healthcare products and services, which could result in reduced demand for our products once approved or additional pricing pressures, and may adversely affect our operating results.

The majority of our current revenues are from royalties derived from sales of our respiratory products partnered with GSK, RELVAR®/BREO® ELLIPTA® and ANORO® ELLIPTA®. If the treatment paradigm for the indications our partnered products are approved for change or if GSK is unable to, or does not devote sufficient resources to, maintain or continue increasing sales of these products, our results of operations will be adversely affected.

        We currently depend on royalties from sales of our products partnered with GSK to support our existing operations. The treatment paradigm for COPD and asthma constantly evolve. For instance, in

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December 2016, the GOLD (Global Initiative for Chronic Obstructive Lung Disease) guidelines were revised to favorably position LABA/LAMA treatment compared to ICS/LABA for the treatment of COPD. If the treatment paradigms were to change further, causing our partnered products to fall out of favor, or if GSK was unable, or did not devote sufficient resources, to maintain or continue increasing RELVAR®/ BREO® ELLIPTA® and ANORO® ELLIPTA® sales, our results of operations would likely suffer and we may need to scale back our operations.

If the commercialization of RELVAR®/BREO® ELLIPTA®, ANORO® ELLIPTA® or TRELEGY® ELLIPTA® in the countries in which they have received regulatory approval encounters any delays or adverse developments, or perceived delays or adverse developments, or if sales or payor coverage do not meet investors, analysts or our expectations, our business will be harmed, and the price of our securities could fall.

        Under our agreements with our collaborative partner GSK, GSK has full responsibility for commercialization of RELVAR®/ BREO® ELLIPTA®, ANORO® ELLIPTA® or TRELEGY® ELLIPTA®. GSK has launched RELVAR®/ BREO® ELLIPTA® and ANORO® ELLIPTA® in a number of countries including the United States (U.S.), Canada, Japan, the United Kingdom, and Germany among others. The commercialization of both products in countries where they are already launched and the commercialization launch in new countries are still subject to fluctuating overall pricing levels and uncertain timeframes to obtain payor coverage. Any delays or adverse developments or perceived additional delays or adverse developments with respect to the commercialization of RELVAR®/ BREO® ELLIPTA®, ANORO® ELLIPTA® and TRELEGY® ELLIPTA® including if sales or payor coverage do not meet investors, analysts or our expectations, will significantly harm our business and the price of our securities could fall.

We are dependent on GSK for the successful commercialization and development of products under the GSK Agreements. If GSK does not devote sufficient resources to the commercialization or development of these products, is unsuccessful in its efforts, or chooses to reprioritize its commercial programs, including TRELEGY® ELLIPTA®, our business will be materially harmed.

        Although we provide support of marketing and sales work through our participation to the Joint Steering Committee, GSK is responsible for all clinical and other product development, regulatory, manufacturing and commercialization activities for products developed under the GSK Agreements, including RELVAR®/BREO® ELLIPTA®, ANORO® ELLIPTA® and TRELEGY® ELLIPTA®. Our royalty revenues under the GSK Agreements may not meet our, analysts', or investors' expectations, due to a number of important factors. GSK has a substantial respiratory product portfolio in addition to the partnered products that are covered by the GSK Agreements. GSK may make respiratory product portfolio decisions or statements about its portfolio which may be, or may be perceived to be, harmful to the respiratory products partnered with us. For instance, GSK has wide discretion in determining the efforts and resources that it will apply to the development and commercialization of our partnered products. GSK is currently evaluating next steps with respect to the MABA program. In the event that GSK terminates this or any other development program (other than RELVAR®/BREO® ELLIPTA® and ANORO® ELLIPTA®) pursuant to agreements entered into in connection with the Spin-Off, the right to such programs would revert to Theravance Biopharma. The timing and amount of royalties that we may receive will depend on, among other things, the efforts, allocation of resources and successful development and commercialization of these product candidates by GSK. In addition, GSK may determine to focus its commercialization efforts on its own products or TRELEGY® ELLIPTA®. For example, in January 2015, GSK launched Incruse® (Umec) in the U.S., which is a LAMA for the treatment of COPD. GSK may determine to focus its marketing efforts on Incruse, which could have the effect of decreasing the potential market share of ANORO® ELLIPTA® and lowering the royalties we may receive for such product. Alternatively, GSK may decide to market Incruse® in combination with RELVAR®/BREO® ELLIPTA® as an open triple therapy alternative to TRELEGY® ELLIPTA®, or market TRELEGY® ELLIPTA® to eventually compete directly against

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sales of RELVAR®/BREO® ELLIPTA®. Following the FDA approval of TRELEGY® ELLIPTA® in September 2017, GSK's diligent efforts obligations regarding commercialization matters now has the objective of focusing on the best interests of patients and maximizing the net value of the overall portfolio of products under the GSK Agreements. Since GSK's commercialization efforts following this regulatory approval is guided by a portfolio approach across products in which we have retained our full interest and also products in which we now have only a small portion of our former interest, GSK's commercialization efforts may have the effect of reducing the overall value of our remaining interests in the GSK Agreements in the future. If GSK prioritizes TRELEGY® ELLIPTA®, we will only be entitled to a 15% economic interest of the royalties paid pursuant to the GSK Agreements with respect to this product. In the event GSK does not devote sufficient resources to the development or commercialization of our partnered products or chooses to reprioritize its commercial programs, our business, operations and stock price would be negatively affected.

Any adverse change in FDA policy or guidance regarding the use of LABAs to treat asthma may significantly harm our business and the price of our securities could fall.

        On February 18, 2010, the FDA announced that LABAs should not be used alone in the treatment of asthma and it will require manufacturers to include this warning in the product labels of these drugs, along with taking other steps to reduce the overall use of these medicines. The FDA now requires that the product labels for LABA medicines reflect, among other things, that the use of LABAs is contraindicated without the use of an asthma controller medication such as an inhaled corticosteroid, that LABAs should only be used long-term in patients whose asthma cannot be adequately controlled on asthma controller medications, and that LABAs should be used for the shortest duration of time required to achieve control of asthma symptoms and discontinued, if possible, once asthma control is achieved. In addition, in March 2010, the FDA held an Advisory Committee to discuss the design of medical research studies (known as "clinical trial design") to evaluate serious asthma outcomes (such as hospitalizations, a procedure using a breathing tube known as intubation, or death) with the use of LABAs in the treatment of asthma in adults, adolescents, and children. Further, in April 2011, the FDA announced that to further evaluate the safety of LABAs, it is requiring the manufacturers of currently marketed LABAs to conduct additional randomized, double-blind, controlled clinical trials comparing the addition of LABAs to inhaled corticosteroids versus inhaled corticosteroids alone. These post-marketing studies have been completed, however, the FDA has not taken any action to remove the required warning from the product labels for LABA medicines. It is unknown at this time what, if any, effect these or future FDA actions will have on the prospects for FF/VI. The current uncertainty regarding the FDA's position on LABAs for the treatment of asthma and the lack of consensus expressed at the March 2010 Advisory Committee may result in the FDA requiring additional asthma clinical trials in the U.S. for FF/VI and increase the overall risk of FF/VI for the treatment of asthma in the U.S. We cannot predict the extent to which new FDA policy or guidance might significantly impede the discovery, development, production and marketing of FF/VI. Any adverse change in FDA policy or guidance regarding the use of LABAs to treat asthma may significantly harm our business and the price of our securities could fall.

Any adverse developments to the regulatory status of either RELVAR®/BREO® ELLIPTA®, ANORO® ELLIPTA® or TRELEGY® ELLIPTA® in the countries in which they have received regulatory approval including labeling restrictions, safety findings, or any other limitation to usage, will harm our business and may cause the price of our securities to fall.

        Although RELVAR®/BREO® ELLIPTA®, ANORO® ELLIPTA® or TRELEGY® ELLIPTA® are approved and marketed in a number of countries, it is possible that adverse changes to the regulatory status of these products could occur in the event new safety issues are identified, treatment guidelines are changed, or new studies fail to demonstrate product benefits. A number of notable pharmaceutical products have experienced adverse developments during commercialization that have resulted in the

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product being withdrawn, approved uses being limited, or new warnings being included. In the event that any adverse regulatory change was to occur to any of our products, our business will be harmed and the price of our securities could fall.

        Any adverse developments or results or perceived adverse developments or results with respect to the ongoing studies for FF/VI in asthma or COPD, for UMEC/VI in COPD, or any future studies will significantly harm our business and the price of our securities could fall, and if regulatory authorities in those countries in which approval has not yet been granted determine that the ongoing studies for FF/VI in asthma or COPD or the ongoing studies for UMEC/VI for COPD do not demonstrate adequate safety and efficacy, the continued development of FF/VI or UMEC/VI or both may be significantly delayed, they may not be approved by these regulatory authorities, and even if approved it may be subject to restrictive labeling, any of which will harm our business, and the price of our securities could fall.

        Although we have announced the completion of, and reported certain top-line data from, the Phase 3 registrational program for FF/VI in COPD and asthma, additional studies of FF/VI are underway or may commence in the future. Any adverse developments or perceived adverse developments with respect to any prior, current or future studies in these programs will significantly harm our business and the price of our securities could fall. For example, in September 2015, GSK and we announced that the Study to Understand Mortality and MorbidITy (SUMMIT) did not meet its primary endpoints, which resulted in a significant decline in the price of our stock.

        Although the FDA, the European Medicines Agency, the Japanese Ministry of Health, Labour and Welfare and Health Canada and other jurisdictions have approved ANORO® ELLIPTA®, it has not yet been approved in all jurisdictions.

        Any adverse developments or results or perceived adverse developments or results with respect to other pending or future regulatory submissions for the FF/VI program or the UMEC/VI program will significantly harm our business and the price of our securities could fall. Examples of such adverse developments include, but are not limited to:

RELVAR®/BREO® ELLIPTA® and ANORO® ELLIPTA® face substantial competition for their intended uses in the targeted markets from products discovered, developed, launched and commercialized both by GSK and by other pharmaceutical companies, which could cause the royalties payable to us pursuant to the LABA Collaboration Agreement to be less than expected, which in turn would harm our business and the price of our securities could fall.

        GSK has responsibility for obtaining regulatory approval, launching and commercializing RELVAR®/BREO® ELLIPTA® and ANORO® ELLIPTA® for their intended uses in the targeted

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markets around the world. While these products have received regulatory approval and been launched and commercialized in the U.S. and certain other targeted markets, the products face substantial competition from existing products previously developed and commercialized both by GSK and by other competing pharmaceutical companies and can expect to face additional competition from new products that are discovered, developed and commercialized by the same pharmaceutical companies and other competitors going forward. For example, sales of Advair®, GSK's approved medicine for both COPD and asthma, continue to be significantly greater than sales of RELVAR®/BREO® ELLIPTA®, and GSK has indicated publicly that it intends to continue commercializing Advair®.

        Many of the pharmaceutical companies competing in respiratory markets are international in scope with substantial financial, technical and personnel resources that permit them to discover, develop, obtain regulatory approval and commercialize new products in a highly efficient and low cost manner at competitive prices to consumers. In addition, many of these competitors have substantial commercial infrastructure that facilitates commercializing their products in a highly efficient and low cost manner at competitive prices to consumers. The market for products developed for treatment of COPD and asthma continues to experience significant innovation and reduced cost in bringing products to market over time. There can be no assurance that RELVAR®/BREO® ELLIPTA® and ANORO® ELLIPTA® will not be replaced by new products that are deemed more effective at lower cost to consumers. The ability of RELVAR®/BREO® ELLIPTA® and ANORO® ELLIPTA® to succeed and achieve the anticipated level of sales depends on the commercial and development performance of GSK to achieve and maintain a competitive advantage over other products with the same intended use in the targeted markets.

        In addition, following the September 2017 FDA approval of TRELEGY® ELLIPTA®, GSK's diligent efforts obligations regarding commercialization matters has the objective of focusing on the best interests of patients and maximizing the net value of the overall portfolio of products under the GSK Agreements. Since GSK's commercialization efforts following this regulatory approval is guided by a portfolio approach across products in which we have retained our full interest and also products in which we now have only a small portion of our former interest, GSK's commercialization efforts may have the effect of reducing the overall value of our remaining interests in the GSK Agreements in the future. If GSK prioritizes TRELEGY® ELLIPTA®, we would only be entitled to a 15% economic interest in the future payments made by GSK under the GSK Agreements with respect to this product.

        If sales of RELVAR®/BREO® ELLIPTA® and ANORO® ELLIPTA® are less than anticipated because of existing or future competition in the markets in which they are commercialized, including competition from existing and new products that are perceived as lower cost or more effective, our royalty payments will be less than anticipated, which in turn would harm our business and the price of our securities could fall.

        We and GSK recently received regulatory approval in the US and positive regulatory opinion in Europe for TRELEGY® ELLIPTA® as triple combination treatments for COPD. As a result of the Spin-Off, most of our economic rights in this program and other programs were assigned to Theravance Biopharma. If these programs are successful and GSK and the respiratory market in general views triple combination therapy as significantly more beneficial than existing therapies, including RELVAR®/BREO® ELLIPTA® and ANORO® ELLIPTA®, our business could be harmed, and the price of our securities could fall.

        The use of triple therapy is supported by the GOLD ("Global initiative for chronic Obstructive Lung Disease") guidelines in high-risk patients with severe COPD and a high risk of exacerbations. Prior to the Spin-Off of Theravance Biopharma, Inc. ("Theravance Biopharma") in June 2014 (the "Spin-Off"), we were entitled to receive 100% of any royalties payable under the GSK Agreements arising from sales of TRELEGY® ELLIPTA® and any other product or combination of products that may be discovered and developed in the future under the GSK Agreements. As a result of the transactions effected by the Spin-Off, however, we are now only entitled to receive 15% of any

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contingent payments and royalties payable by GSK from sales of TRELEGY® ELLIPTA® and any other product or combination of products that may be discovered and developed in the future under the GSK Agreements which were assigned to TRC while Theravance Biopharma receives 85% of those same payments. The commercial success of RELVAR®/BREO® ELLIPTA® may be adversely effected if GSK or the respiratory markets view TRELEGY® ELLIPTA® or other combination therapies as more beneficial. GSK's diligent efforts obligations regarding commercialization matters has the objective of focusing on the best interests of patients and maximizing the net value of the overall portfolio of products under the GSK Agreements. Since GSK's commercialization efforts following this regulatory approval is guided by a portfolio approach across products in which we have retained our full interest and also products in which we now have only a small portion of our former interest, GSK's commercialization efforts may have the effect of reducing the overall value of our remaining interests in the GSK Agreements in the future.

In the event that Theravance Biopharma defaults or breaches the agreements we entered into with them in connection with the Spin-Off, our business and results of operations may be materially harmed.

        Upon the Spin-Off, our facility leases in South San Francisco, California were assigned to Theravance Biopharma. However, if Theravance Biopharma were to default on its lease obligations, we would be held liable by the landlord and thus, we have in substance guaranteed the lease payments for these facilities. We would also be responsible for lease-related payments including utilities, property taxes, and common area maintenance, which may be as much as the actual lease payments. As of December 31, 2017, the total remaining lease payments, which run through May 2020, were $15.6 million. In the event that Theravance Biopharma defaults on such obligations, our business and results of operations may be materially harmed.

        Under the terms of a separation and distribution agreement entered into between us and Theravance Biopharma, Theravance Biopharma will indemnify us from (i) all debts, liabilities and obligations transferred to Theravance Biopharma in connection with the Spin-Off (including its failure to pay, perform or otherwise promptly discharge any such debts, liabilities or obligations after the Spin-Off), (ii) any misstatement or omission of a material fact in its information statement filed with the SEC, resulting in a misleading statement and (iii) any breach by it of certain agreements entered into between the parties in connection with the Spin-Off. Theravance Biopharma's ability to satisfy these indemnities, if called upon to do so, will depend upon its future financial strength and if we are not able to collect on indemnification rights from Theravance Biopharma, our financial condition may be harmed.

U.S. federal income tax reform could adversely affect us.

        On December 22, 2017, U.S. federal tax legislation, commonly referred to as the Tax Cuts and Jobs Act (TCJA), was signed into law, significantly reforming the U.S. Internal Revenue Code. The TCJA, among other things, includes changes to U.S. federal tax rates, imposes significant additional limitations on the deductibility of interest, allows for the expensing of capital expenditures, puts into effect the migration from a "worldwide" system of taxation to a territorial system and modifies or repeals many business deductions and credits.

        We continue to examine the impact the TCJA may have on our business. We will evaluate the effect of the TCJA on our net operating losses and our projection of taxes. As a result of the passage of the TJCA, corporate tax rates in the United States will decrease in 2018, which resulted in the remeasurement of our deferred tax assets at the new statutory rate and a reduction in the value of our deferred tax assets in 2017.

        The TCJA is a far-reaching and complex revision to the U.S. federal income tax laws with disparate and, in some cases, countervailing impacts on different categories of taxpayers and industries,

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and will require subsequent rulemaking and interpretation in a number of areas. The long-term impact of the TCJA on the overall economy, the industries in which we operate and our and our partners business cannot be reliably predicted at this early stage of the new law's implementation. There can be no assurance that the TCJA will not negatively impact our operating results, financial condition, and future business operations. The estimated impact of the TCJA is based on our management's current knowledge and assumptions, following consultation with our tax advisors, and recognized impacts could be materially different from current estimates based on our actual results and our further analysis of the new law. The impact of the TCJA on holders of common stock is uncertain and could be materially adverse. This Annual Report does not discuss any such tax legislation or the manner in which it might affect investors in common stock. Investors should consult with their own tax advisors with respect to such legislation and the potential tax consequences of investing in common stock.

We may not be able to utilize all of our net operating loss carryforwards.

        We have net operating loss carryforwards and other significant U.S. tax attributes that we believe could offset otherwise taxable income in the U.S. As a part of the overall Spin-Off transaction, the transfer of certain assets by us to Theravance Biopharma and our distribution of Theravance Biopharma ordinary shares resulted in taxable transfers pursuant to applicable provisions of the Internal Revenue Code of 1986, as amended (the "Code") and Treasury Regulations. The taxable gain recognized by us attributable to the transfer of certain assets to Theravance Biopharma will generally equal the excess of the fair market value of each asset transferred over our adjusted tax basis in such asset. Although we will not recognize any gain with respect to the cash we transferred to Theravance Biopharma, we may recognize substantial gain based on the fair market value of the other assets (other than cash) transferred to Theravance Biopharma. The determination of the fair market value of these assets is subjective and could be subject to adjustments or future challenge by the Internal Revenue Service ("IRS"), which could result in an increase in the amount of gain realized by us as a result of the transfer. Our U.S. federal income tax resulting from any gain recognized upon the transfer of our assets to Theravance Biopharma (including any increased U.S. federal income tax that may result from a subsequent determination of higher fair market values for the transferred assets), may be reduced by our net operating loss carryforward. The net operating loss carryforwards available in any year to offset our net taxable income will be reduced following a more than 50% change in ownership during any period of 36 consecutive months (an "ownership change") as determined under the Internal Revenue Code of 1986 (the "Code"). Transactions involving our common stock, even those outside our control, such as purchases or sales by investors, within the testing period could result in an ownership change. We have conducted an analysis to determine whether an ownership change had occurred since inception through December 31, 2016, and concluded that we had undergone two ownership changes in prior years. Subsequent changes in our ownership or sale of our stock could have the effect of limiting the use of our net operating losses in the future. We have approximately $1.0 billion of net operating loss carryforward as of December 31, 2017. There may be certain annual limitations for utilization based on the above-described ownership change provisions. In addition, we may not be able to have sufficient future taxable income prior to their expiration because net operating losses have carryforward periods. As a result of the passage of the Tax Cuts and Job Act, corporate tax rates in the United States will decrease in 2018, resulted in the remeasurement of our deferred tax assets at the new statutory rate and a reduction in the value of our deferred tax assets in 2017. Future changes in federal and state tax laws pertaining to net operating loss carryforwards may also cause limitations or restrictions from us claiming such net operating losses. If the net operating loss carryforwards become unavailable to us or are fully utilized, our future taxable income will not be shielded from federal and state income taxation absent certain U.S. federal and state tax credits, and the funds otherwise available for general corporate purposes would be reduced.

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If any product candidates in any respiratory program partnered with GSK are not approved by regulatory authorities or are determined to be unsafe or ineffective in humans, our business will be adversely affected and the price of our securities could fall.

        The FDA must approve any new medicine before it can be marketed and sold in the U.S. Our partner GSK must provide the FDA and similar foreign regulatory authorities with data from preclinical and clinical studies that demonstrate that the product candidates are safe and effective for a defined indication before they can be approved for commercial distribution. GSK will not obtain this approval for a partnered product candidate unless and until the FDA approves a NDA. The processes by which regulatory approvals are obtained from the FDA to market and sell a new product are complex, require a number of years and involve the expenditure of substantial resources. In order to market medicines in foreign countries, separate regulatory approvals must be obtained in each country. The approval procedure varies among countries and can involve additional testing, and the time required to obtain approval may differ from that required to obtain FDA approval. Approval by the FDA does not ensure approval by regulatory authorities in other countries, and approval by one foreign regulatory authority does not ensure approval by regulatory authorities in other foreign countries or by the FDA. Conversely, failure to obtain approval in one or more country may make approval in other countries more difficult.

        Clinical studies involving product candidates partnered with GSK may reveal that those candidates are ineffective, inferior to existing approved medicines, unacceptably toxic, or that they have other unacceptable side effects. In addition, the results of preclinical studies do not necessarily predict clinical success, and larger and later-stage clinical studies may not produce the same results as earlier-stage clinical studies.

        Frequently, product candidates that have shown promising results in early preclinical or clinical studies have subsequently suffered significant setbacks or failed in later clinical or non-clinical studies. In addition, clinical and non-clinical studies of potential products often reveal that it is not possible or practical to continue development efforts for these product candidates. If these studies are substantially delayed or fail to prove the safety and effectiveness of product candidates in development partnered with GSK, GSK may not receive regulatory approval for such product candidates and our business and financial condition will be materially harmed and the price of our securities may fall.

        Several well-publicized Complete Response letters issued by the FDA and safety-related product withdrawals, suspensions, post-approval labeling revisions to include boxed warnings and changes in approved indications over the last several years, as well as growing public and governmental scrutiny of safety issues, have created a conservative regulatory environment. The implementation of new laws and regulations and revisions to FDA clinical trial design guidance have increased uncertainty regarding the approvability of a new drug. Further, there are additional requirements for approval of new drugs, including advisory committee meetings for new chemical entities, and formal risk evaluation and mitigation strategy at the FDA's discretion. These laws, regulations, additional requirements and changes in interpretation could cause non-approval or further delays in the FDA's review and approval of any product candidates in any respiratory program partnered with GSK.

Even if product candidates in any respiratory program partnered with GSK receive regulatory approval, as is the case with RELVAR®/BREO® ELLIPTA®, ANORO® ELLIPTA® and TRELEGY® ELLIPTA®, commercialization of such products may be adversely affected by regulatory actions and oversight.

        Even if GSK receives regulatory approval for product candidates in any respiratory program partnered with GSK, this approval may include limitations on the indicated uses for which GSK can market the medicines or the patient population that may utilize the medicines, which may limit the market for the medicines or put GSK at a competitive disadvantage relative to alternative therapies. These restrictions make it more difficult to market the approved products.

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        For example, at the joint meeting of the Pulmonary-Allergy Drugs Advisory Committee and Drug Safety and Risk Management Advisory Committee of the FDA regarding the sNDA for BREO® ELLIPTA® as a treatment for asthma, the advisory committee recommended that a large LABA safety trial with BREO® ELLIPTA® should be required in adults and in 12-17 year olds, similar to the ongoing LABA safety trials being conducted as an FDA Post-Marketing Requirement by each of the manufacturers of LABA containing asthma treatments.

        In addition, the manufacturing, labeling, packaging, adverse event reporting, advertising, promotion and recordkeeping for the approved product remain subject to extensive and ongoing regulatory requirements. If we or GSK become aware of previously unknown problems with an approved product in the U.S. or overseas or at contract manufacturers' facilities, a regulatory authority may impose restrictions on the product, the contract manufacturers or on GSK, including requiring it to reformulate the product, conduct additional clinical studies, change the labeling of the product, withdraw the product from the market or require the contract manufacturer to implement changes to its facilities. GSK is also subject to regulation by regional, national, state and local agencies, including the Department of Justice, the Federal Trade Commission, the Office of Inspector General of the U.S. Department of Health and Human Services and other regulatory bodies as well as governmental authorities in those foreign countries in which any of the product candidates in any respiratory program partnered with GSK are approved for commercialization. The Federal Food, Drug, and Cosmetic Act, the Public Health Service Act and other federal and state statutes and regulations govern to varying degrees the research, development, manufacturing and commercial activities relating to prescription pharmaceutical products, including non-clinical and clinical testing, approval, production, labeling, sale, distribution, import, export, post-market surveillance, advertising, dissemination of information and promotion. Any failure to maintain regulatory approval will limit GSK's ability to commercialize the product candidates in any respiratory program partnered with GSK, which would materially and adversely affect our business and financial condition and which may cause the price of our securities to fall.

We may not be successful in our efforts to expand our portfolio of royalty generating products.

        In the future, we may choose to acquire interests in or rights to one or more additional royalty generating products. However, we may be unable to license or acquire rights to suitable royalty generating products for a number of reasons. In particular, the licensing and acquisition of pharmaceutical product rights is a competitive area. Several more established companies are also pursuing strategies to license or acquire rights to royalty generating products. These established companies may have a competitive advantage over us. Other factors that may prevent us from licensing or otherwise acquiring rights to suitable royalty generating products include the following:

        If we are unable to acquire or license rights to suitable royalty generating product candidates, our business may suffer.

        We are engaged in a continual review of opportunities to acquire income generating assets, whether royalty-based or otherwise, or to acquire companies that hold royalty or other income generating assets. We currently, and generally at any time, have acquisition opportunities in various stages of active review, including, for example, our engagement of consultants and advisors to analyze particular opportunities, technical, financial and other confidential information, submission of

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indications of interest and involvement as a bidder in competitive auctions or other processes for the acquisition of income generating assets. Many potential acquisition targets do not meet our criteria, and for those that do, we may face significant competition for these acquisitions from other financial investors and enterprises whose cost of capital may be lower than ours. Competition for future asset acquisition opportunities in our markets is competitive and we may be forced to increase the price we pay for such assets or face reduced potential acquisition opportunities. The success of any future income generating asset acquisitions is based on our ability to make accurate assumptions regarding the valuation, timing and amount of payments, which is highly complex and uncertain. The failure of any of these acquisitions to produce anticipated revenues may materially and adversely affect our financial condition and results of operations.

We have a significant amount of debt including Term Loans, Convertible Subordinated Notes and Convertible Senior Notes that are senior in capital structure and cash flow, respectively, to our common stockholders. Satisfying the obligations relating to our debt could adversely affect the amount or timing of distributions to our stockholders.

        As of December 31, 2017, we had approximately $677.2 million in total debt outstanding, comprised primarily of, $243.7 million in principal outstanding on our term B loan (the "Term B Loan"), $241.0 million in principal that remains outstanding under our convertible subordinated notes, due 2023 (the "2023 Notes") and $192.5 million in principal outstanding under our convertible senior notes due 2025 (the "2025 Notes") (the 2023 Notes and 2025 Notes hereinafter, the "Notes"). The Notes are unsecured debt and are not redeemable by us prior to the maturity date. Holders of the Notes may require us to purchase all or any portion of their Notes at 100% of their principal amount, plus any unpaid interest, upon a fundamental change. A fundamental change is generally defined to include a merger involving us, an acquisition of a majority of our outstanding common stock, and, under the 2023 Notes, the change of a majority of our board without the approval of the board. In addition, to the extent we pursue and complete a monetization transaction or a transaction that modifies our corporate structure, the structure of such transaction may qualify as a fundamental change under the Notes, which could trigger the put rights of the holders of the Notes, in which case we would be required to use a portion of the net proceeds from such transaction to repurchase any Notes put to us.

        Our Term B Loan is secured by a lien on substantially all of our and the guarantors' personal property and material real property assets (if any). If we default under the terms of the Term B Loan, the lenders may accelerate all of our repayment obligations and take control of our pledged assets, potentially requiring us to renegotiate our agreement on terms less favorable to us or to immediately cease operations. Further, if we are liquidated, the lenders' right to repayment would be senior to the rights of the holders of our common stock. The lenders could declare a default upon the occurrence of any event that they interpret as a material adverse effect as defined under the Term B Loan agreement. Any declaration by the lenders of an event of default could significantly harm our business and prospects and could cause the price of our common stock to decline. If we raise any additional debt financing, the terms of such additional debt could further restrict our operating and financial flexibility.

        Satisfying the obligations of this debt could adversely affect the amount or timing of any distributions to our stockholders. We may choose to satisfy repurchase, or refinance this debt through public or private equity or debt financings if we deem such financings available on favorable terms. If any or all of the Notes are not converted into shares of our common stock before the maturity date, we will have to pay the holders the full aggregate principal amount of the Notes then outstanding. Any of the above payments could have a material adverse effect on our cash position. If we fail to satisfy these obligations, it may result in a default under the indenture, which could result in a default under certain of our other debt instruments, if any. Any such default would harm our business and the price of our securities could fall.

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If we lose key management personnel, or if we fail to retain our key employees, our ability to manage our business will be impaired.

        We have a small management team and very few employees. We are highly dependent on principal members of our management team and a small group of key employees to operate our business. In February 2018, we announced the resignation of our chief executive officer. The Board of Directors plans to commence a search to identify and hire a new chief executive officer. Our company is located in northern California, which is headquarters to many other biotechnology and biopharmaceutical companies and many academic and research institutions. As a result, competition for certain skilled personnel in our market remains intense. None of our employees have employment commitments for any fixed period of time and they all may leave our employment at will. In April 2017, we announced that our Board of Directors had determined to undertake a comprehensive review of all of our costs, including executive compensation structures. The result of this review has led us to make changes to our compensation structure. If we fail to hire a qualified chief executive officer or retain our qualified personnel or replace them when they leave, we may be unable to successfully continue our business operations or grow our business, which may cause the price of our securities to fall.

We rely and will continue to rely on outsourcing arrangements for many of our activities, including financial reporting and accounting and human resources.

        As of December 31, 2017, we had only 12 employees and, as a result, we rely, and expect to continue to rely, on outsourcing arrangements for a significant portion of our activities, including financial reporting and accounting and human resources, as well as for certain functions as a public company. We may have limited control over these third parties and we cannot guarantee that they will perform their obligations in an effective and timely manner.

If we fail to maintain proper and effective internal control over financial reporting or if the interpretations, estimates or judgments utilized in preparing our financial statements prove to be incorrect, our operating results and our ability to operate our business could be harmed.

        The Sarbanes-Oxley Act requires, among other things, that we establish and maintain effective internal control over financial reporting and disclosure controls and procedures. Under the SEC's current rules, we are required to perform system and process evaluation and testing of our internal control over financial reporting to allow management to report on the effectiveness of our internal control over financial reporting, as required by Section 404 of the Sarbanes-Oxley Act. Our independent registered public accounting firm is also required to report on our internal control over financial reporting. Our testing and our independent registered public accounting firm's testing may reveal deficiencies in our internal control over financial reporting that are deemed to be material weaknesses and render our internal control over financial reporting ineffective. We have and expect to continue to incur substantial accounting and auditing expense and to expend significant management time in complying with the requirements of Section 404. In February 2018, we announced the resignation of our Chief Executive Officer, which reduced our already small employee base and resulted in our Senior Vice President and Chief Financial Officer assuming the duties of interim Principal Executive Officer. Having many of the key responsibilities of our business assigned to one individual, our interim Principal Executive Officer, Senior Vice President and Chief Financial Officer, may make it difficult in the future to maintain appropriate segregation of duties in the initiating and recording of transactions, which may exacerbate the risk of a material misstatement or lack of disclosure within the annual or interim financial statements not being prevented or detected. To address this lack of segregation of duties, we have implemented additional oversight procedures and compensating controls with the goal of mitigating this risk and, although we plan to continue to monitor this matter, we currently do not believe that this lack of segregation of duties will have an adverse affect on our internal controls. If we are not able to maintain compliance with the

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requirements of Section 404 in a timely manner, or if we or our independent registered public accounting firm identify deficiencies in our internal control over financial reporting that are deemed to be material weaknesses, the market price of our stock could decline and we could be subject to investigations or sanctions by the SEC, FINRA, Nasdaq or other regulatory authorities. In addition, we could be required to expend significant management time and financial resources to correct any material weaknesses that may be identified or to respond to any regulatory investigations or proceedings.

        We are also subject to complex tax laws, regulations, accounting principles and interpretations thereof. The preparation of our financial statements requires us to interpret accounting principles and guidance and make estimates and judgments that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements, as well as the reported revenue generated and expenses incurred during the reporting periods. Our interpretations, estimates and judgments are based on our historical experience and on various other factors that we believe are reasonable under the circumstances, the results of which form the basis for the preparation of our financial statements. GAAP presentation is subject to interpretation by the SEC and various other bodies formed to interpret and create appropriate accounting principles and guidance. In the event that one of these bodies disagrees with our accounting recognition, measurement or disclosure or any of our accounting interpretations, estimates or assumptions, it may have a significant effect on our reported results and may retroactively affect previously reported results. The need to restate our financial results could, among other potential adverse effects, result in us incurring substantial costs, affect our ability to timely file our periodic reports until such restatement is completed, divert the attention of our management and employees from managing our business, result in material changes to our historical and future financial results, result in investors losing confidence in our operating results, subject us to securities class action litigation, and cause our stock price to decline.

As we continue to develop our business, our mix of assets and our sources of income may require that we register with the SEC as an "investment company" in accordance with the Investment Company Act of 1940.

        We have not been and have no current intention to register as an "investment company" under the Investment Company Act of 1940, or the 40 Act, because we believe the nature of our assets and the sources of our income currently exclude us from the definition of an investment company pursuant to Sections (3)(a)(1)(A), (3)(a)(1)(C) under the 40 Act and Rule 270.3a-1 of Title 17 of the Code of Federal Regulations. Accordingly, we are not currently subject to the provisions of the 40 Act, such as compliance with the 40 Act's registration and reporting requirements, capital structure requirements, affiliate transaction restrictions, conflict of interest rules, requirements for disinterested directors, and other substantive provisions. Generally, to avoid being a company that is an "investment company" under the 40 Act, it must both: (a) not be or hold itself out as being engaged primarily in the business of investing, reinvesting or trading in securities, and (b) either (i) not be engaged or propose to engage in the business of investing in securities or own or propose to acquire investment securities having a value exceeding 40% of the value of its total assets (exclusive of U.S. government securities and cash items) on an unconsolidated basis or (ii) not have more than 45% of the value of its total assets (exclusive of Government securities and cash items) consist of or more than 45% of its net income after taxes (for the last four fiscal quarters combined) be derived from securities. In addition, we would not be an "investment company" if an exception, exemption, or safe harbor under the 40 Act applies.

        We monitor our assets and income for compliance with the tests under the 40 Act and seek to conduct our business activities to ensure that we do not fall within its definitions of "investment company." If we were to become an "investment company" and be subject to the strictures of the 40 Act, the restrictions imposed by the 40 Act would likely require changes in the way we do business and add significant administrative burdens to our operations. In order to ensure that we do not fall

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within the 40 Act, we may need to take various actions which we might otherwise not pursue. These actions may include restructuring the Company and/or modifying our mixture of assets and income.

        Specifically, our mixture of debt vs. royalty assets is important to our classification as an "investment company" or not. In this regard, while we currently believe that none of the definitions of "investment company" apply to us, we may in the future rely on an exception under the 40 Act provided by Section 3(c)(5)(A). To qualify for Section 3(c)(5)(A), as interpreted by the staff of the SEC, we would be required to have at least 55% of our total assets in "notes, drafts, acceptances, open accounts receivable, and other obligations representing part or all of the sales price of merchandise, insurance, and services" (or Qualifying Assets). In a no-action letter issued to Royalty Pharma on August 13, 2010, the staff stated that royalty interests are Qualifying Assets under this exception. If the SEC or its staff in the future adopts a contrary interpretation or otherwise restricts the conclusions in the staff's no-action letter such that our royalty interests are no longer Qualifying Assets for purposes of Section 3(c)(5)(A), we could be required to register under the 40 Act.

        The rules and interpretations of the SEC and the courts, relating to the definition of "investment company" are highly complex in numerous respects. While we currently intend to conduct our operations so that we will not be deemed an investment company, we can give no assurances that we will not determine it to be in the Company's and our stockholders' interest to register as an "investment company", not be deemed an "investment company" and not be required to register under the 40 Act.

Prolonged economic uncertainties or downturns, as well as unstable market, credit and financial conditions, may exacerbate certain risks affecting our business and have serious adverse consequences on our business.

        The global economic downturn and market instability has made the business climate more volatile and more costly. These economic conditions, and uncertainty as to the general direction of the macroeconomic environment, are beyond our control and may make any necessary debt or equity financing more difficult, more costly, and more dilutive. While we believe we have adequate capital resources to meet current working capital and capital expenditure requirements, a lingering economic downturn or significant increase in our expenses could require additional financing on less than attractive rates or on terms that are excessively dilutive to existing stockholders. Failure to secure any necessary financing in a timely manner and on favorable terms could have a material adverse effect on our stock price and could require us to delay or abandon clinical development plans.

        Sales of our partnered products will be dependent, in large part, on reimbursement from government health administration authorities, private health insurers, distribution partners and other organizations. As a result of negative trends in the general economy in the U.S. or other jurisdictions in which we may do business, these organizations may be unable to satisfy their reimbursement obligations or may delay payment. In addition, federal and state health authorities may reduce Medicare and Medicaid reimbursements, and private insurers may increase their scrutiny of claims. A reduction in the availability or extent of reimbursement could negatively affect our or our partners' product sales and revenue.

        In addition, we rely on third parties for several important aspects of our business. During challenging and uncertain economic times and in tight credit markets, there may be a disruption or delay in the performance of our third party contractors, suppliers or partners. If such third parties are unable to satisfy their commitments to us, our business and results of operations would be adversely affected.

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Our business could be negatively affected as a result of the actions of activist stockholders, including future proxy contests.

        Proxy contests have been waged against many companies in the biopharmaceutical industry over the last several years. We have been the subject of actions taken by activist stockholders. For instance, Sarissa Capital Domestic Fund LP and certain of its affiliates (together, "Sarissa") nominated three directors for election to our Board of Directors at our 2017 Annual Meeting. Another proxy contest or an activist campaign launched by activist stockholder(s) would require us to incur significant professional fees (including, but not limited to, legal fees, fees for financial advisors, fees for investor relations advisors, and proxy solicitation expenses) and the time-consuming nature of our response to any such activity may significantly divert the attention of management, the Board of Directors and our employees. Further, any perceived uncertainties as to our future direction and control resulting from any proxy contest or similar actions by activist stockholders could result in the loss of potential business opportunities and may make it more difficult to attract and retain qualified personnel and business partners, any of which could adversely affect our business and operating results.

        Even if we are successful in any proxy contest, our business could be adversely affected by any such proxy contest because:

        Uncertainties related to, or the results of, such actions could cause our stock price to experience periods of volatility.

        In addition, under certain circumstances arising out of or related to a proxy contest or threatened proxy contest or the nomination of directors by an activist stockholder, a change in the composition of a majority of our Board of Directors may (1) trigger the requirement that we make an offer to repurchase all of our outstanding 2023 Notes at a price equal to 100% of the principal and unpaid interest on such Notes, (2) constitute a change in control under the terms of our severance plans, which provide for payment of severance if a covered executive officer is subject to an involuntary termination within 3 months prior to or 24 months after a change in control of the Company and (3) constitute a change in control under the terms of certain of the Company's equity award grants and equity plans for its employees, and depending on the terms of the award or plan, may result in the accelerated vesting of such award. In the event we were required to offer to repurchase all of the 2023 Notes, which as of December 31, 2017 had an aggregate outstanding principal of approximately $241.0 million, we would be required to obtain additional financing. As of December 31, 2017, we had cash, cash equivalents, and marketable securities of $129.1 million. We cannot assure stockholders that we would be able to timely obtain such financing on commercially reasonable terms, if at all. To the extent that additional capital is raised through the sale of equity or equity-linked securities, the issuance of those securities could result in substantial dilution for our current stockholders and the terms may

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include liquidation or other preferences that adversely affect the rights of our current stockholders. Furthermore, the issuance of additional securities, whether equity or debt, by us, or the possibility of such issuance, may cause the market price of our common stock to decline and existing stockholders may not agree with our financing plans or the terms of such financings. We also could be required to seek funds through arrangements with partners or otherwise that may require us to relinquish rights to our intellectual property, our product candidates or otherwise agree to terms unfavorable to us. The occurrence of any of the foregoing events could materially adversely affect our business.

        We cannot predict, and no assurances can be given as to, the outcome or timing of any matters relating to actions by activist stockholders or the ultimate impact on our business, liquidity, financial condition or results of operations.

We have incurred litigation and may incur additional litigation.

        We have been subject to various legal proceedings, and, in the future, we may be exposed to, or threatened with, litigation, claims and proceedings incident to the ordinary course of, or otherwise in connection with, our business. In addition, agreements entered into by us sometimes include indemnification provisions which may subject us to costs and damages in the event of a claim against an indemnified third party.

        For instance, in March 2017, Sarissa filed a complaint in the Delaware Court of Chancery (the "Court"), demanding that we provide books and records pursuant to Section 220 of the DGCL (the "220 Litigation") and in April 2017, several Sarissa entities filed a complaint for specific performance alleging that it had entered into a binding agreement to settle its proxy contest in exchange for the inclusion of each of George W. Bickerstaff, III and Odysseas Kostas, M.D. on our Board of Directors (the "Specific Performance Litigation"). Following trial, in December 2017, the Court issued a final judgement in favor of Sarissa. In the Specific Performance Litigation, we expanded our Board of Directors from six to eight members and added Dr. Kostas and Mr. Bickerstaff as directors and Sarissa dismissed the 220 Litigation.

        Sarissa, or others, could decide to bring additional litigation against us and/or against directors and officers whom we are obliged to indemnify and defend. Separately, we may be exposed to, or threatened with, future litigation, claims and proceedings incident to the ordinary course of, or otherwise in connection with, our business.

        Regardless of the merit of particular claims, litigation may be expensive, time-consuming, disruptive to our operations and distracting to management. In recognition of these considerations, we may enter into agreements or other arrangements to settle litigation and resolve such disputes. No assurance can be given that such agreements can be obtained on acceptable terms or that litigation will not occur. These agreements may also significantly increase our operating expenses.

        If one or more legal matters were resolved against us or an indemnified third party in a reporting period for amounts in excess of management's expectations, our consolidated financial statements for that reporting period could be materially adversely affected. Further, such an outcome could result in significant compensatory, punitive or trebled monetary damages, disgorgement of revenue or profits, remedial corporate measures or injunctive relief against us that could materially adversely affect our financial condition and operating results.

        While we maintain insurance coverage for certain types of claims, such insurance coverage may be insufficient to cover all losses or all types of claims that may arise.

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We have determined to undertake a comprehensive review of our costs, including our executive compensation structure, which review may not result in meaningful cost savings, may have unintended consequences and could negatively impact our business.

        In April 2017, we announced that our Board of Directors had determined to undertake a fresh, comprehensive review of all of our costs, including executive compensation structures, with the goal that this review would result in meaningful savings in our core operating costs that will benefit our financial performance. In October 2017, we announced that a special committee of our independent directors and the Compensation Committee of our Board of Directors completed a comprehensive review of our spending, including executive and board compensation structures, outside services, travel and entertainment and other expenses. The Compensation Committee of our Board of Directors and the full Board also reviewed and made certain changes to executive and board compensation plans. While our cost reduction efforts are expected to reduce our operating costs, we cannot be certain that such efforts will be successful. There can be no assurances that any meaningful cost savings will correlate with an increase in the price of our common stock.

        Future cost reduction efforts may result in the elimination of certain functional areas and/or reductions of our business operations, including the recently announced management changes, which may limit our ability to effectively manage and grow our business and which could result in the potential decrease in our royalty revenues. It is likely that we will incur short-term costs to implement any longer-term expense reduction initiatives. In addition, in the event that the aggregate amount of cost reductions implemented as a result of our review, if any, do not meet investor or analyst expectations, the price of our common stock could be adversely affected.

Risks Related to our Alliance with GSK

Because all our current and projected revenues are derived from products under the GSK Agreements, disputes with GSK could harm our business and cause the price of our securities to fall.

        All of our current and projected revenues are derived from products under the GSK Agreements. Any action or inaction by either GSK or us that results in a material dispute, allegation of breach, litigation, arbitration, or significant disagreement between the parties may be interpreted negatively by the market or by our investors, could harm our business and cause the price of our securities to fall. Examples of these kinds of issues include but are not limited to non-performance of contractual obligations and allegations of non-performance, disagreements over the relative marketing and sales efforts for our partnered products and other GSK respiratory products, disputes over public statements, and similar matters. In addition, while we obtained GSK's consent to the Spin-Off as structured, GSK could decide to challenge various aspects of our post-Spin-Off operation of TRC, the limited liability company jointly owned by us and Theravance Biopharma as violating or allowing it to terminate the GSK Agreements. Although we believe our operation of TRC fully complies with the GSK Agreements and applicable law, there can be no assurance that we would prevail against any such claims by GSK. Moreover, regardless of the merit of any claims by GSK, we may incur significant cost and diversion of resources in defending them. In addition, any market or investor uncertainty about the respiratory programs partnered with GSK or the enforceability of the GSK Agreements could result in significant reduction in the market price of our securities and other material harm to our business.

Because GSK is a strategic partner as well as a significant stockholder, it may take actions that in certain cases are materially harmful to both our business or to our other stockholders.

        Although GSK beneficially owns approximately 31.4% of our outstanding common stock as of December 31, 2017, it is also a strategic partner with rights and obligations under the GSK Agreements that cause its interests to differ from the interests of us and our other stockholders. In particular, GSK has a substantial respiratory product portfolio in addition to the partnered products that are covered by

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the GSK Agreements. GSK may make respiratory product portfolio decisions or statements about its portfolio which may be, or may be perceived to be, harmful to the respiratory products partnered with us. For example, GSK could promote its non-GSK/Innoviva respiratory products or a partnered product for which we are entitled to receive a lower percentage of royalties, delay or terminate the development or commercialization of the respiratory programs covered by the GSK Agreements, or take other actions, such as making public statements, that have a negative effect on our stock price. In this regard and by way of example, sales of Advair®, GSK's approved medicine for both COPD and asthma, continue to be significantly greater than sales of RELVAR®/BREO® ELLIPTA®, and GSK has indicated publicly that it intends to continue commercializing Advair®. Also, given the potential future royalty payments GSK may be obligated to pay under the GSK Agreements, GSK may seek to acquire us to reduce those payment obligations. The timing of when GSK may seek to acquire us could potentially be when it possesses information regarding the status of drug programs covered by the GSK Agreements that has not been publicly disclosed and is not otherwise known to us. As a result of these differing interests, GSK may take actions that it believes are in its best interest but which might not be in the best interests of either us or our other stockholders. In addition, following the FDA regulatory approval of TRELEGY® ELLIPTA® in September 2017, GSK's diligent efforts obligations as to commercialization matters under the GSK Agreements has the objective of focusing on the best interests of patients and maximizing the net value of the overall portfolio of products under the GSK Agreements. Since GSK's commercialization efforts following this regulatory approval is guided by a portfolio approach across products in which we have retained our full interest and also products in which we now have only a portion of our former interest, GSK's commercialization efforts may have the effect of reducing the overall value of our remaining interests in the products covered by the GSK Agreements in the future. In addition, following the expiration of our governance agreement with GSK in September 2015, GSK is no longer subject to the restrictions thereunder regarding the voting of the shares of our common stock owned by it.

GSK's diligent efforts obligations as to commercialization matters under the GSK Agreements has the objective of focusing on the best interests of patients and maximizing the net value of the overall portfolio of products under the GSK Agreements, which may be harmful to both our business and our stockholders.

        Following the FDA approval of TRELEGY® ELLIPTA® in September 2017, GSK's diligent efforts obligations as to commercialization matters under the GSK Agreements has the objective of focusing on the best interests of patients and maximizing the net value of the overall portfolio of products under the GSK Agreements. As such, GSK may prioritize TRELEGY® ELLIPTA®, and if GSK and the respiratory market in general view this triple combination therapy as significantly more beneficial than existing therapies, including RELVAR®/BREO® ELLIPTA® and ANORO® ELLIPTA®, this may be harmful to our business, operations and stock price. If GSK prioritizes TRELEGY® ELLIPTA®, we will only be entitled to a 15% economic interest of the royalties paid pursuant to the commercialization of our partnered products or chooses to reprioritize its commercial programs, our businesses, operations and stock price would be negatively affected.

GSK has also indicated to us that it believes its consent may be required before we can engage in certain royalty monetization transactions with third parties, which may inhibit our ability to engage in these transactions.

        In the course of our discussions with GSK concerning the Spin-Off of Theravance Biopharma, GSK indicated to us that it believes that its consent may be required before we can engage in certain transactions designed to monetize the future value of royalties that may be payable to us from GSK under the GSK Agreements. GSK has informed us that it believes that there may be certain covenants included in these types of transactions that might violate certain provisions of the GSK Agreements. Although we believe that we can structure royalty monetization transactions in a manner that fully complies with the requirements of the GSK Agreements without GSK's consent, a third party in a

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proposed monetization transaction may nonetheless insist that we obtain GSK's consent for the transaction or re-structure the transaction on less favorable terms. We have obtained GSK's agreement that (i) we may grant certain pre-agreed covenants in connection with monetization of our interests in RELVAR®/BREO® ELLIPTA®, ANORO® ELLIPTA® and vilanterol monotherapy and portions of our interests in TRC, and (ii) it will not unreasonably withhold its consent to our requests to grant other covenants, provided, among other conditions, that in each case, the covenants are not granted in favor of pharmaceutical or biotechnology company with a product either being developed or commercialized for the treatment of respiratory disease. If we seek GSK's consent to grant covenants other than pre-agreed covenants, we may not be able to obtain GSK's consent on reasonable terms, or at all. If we proceed with a royalty monetization transaction that is not otherwise covered by the GSK Agreement without GSK's consent, GSK could request that its consent be obtained or seek to enjoin or otherwise challenge the transaction as violating or allowing it to terminate the GSK Agreements. Regardless of the merit of any claims by GSK, we would incur significant cost and diversion of resources in defending against GSK's claims or asserting our own claims and GSK may seek concessions from us in order to provide its consent. Any uncertainty about whether or when we could engage in a royalty monetization transaction, the potential impact on the enforceability of the GSK Agreements or the loss of potential royalties from the respiratory programs partnered with GSK, could impair our ability to pursue a return of capital strategy for our stockholders ahead of our receipt of significant royalties from GSK, result in significant reduction in the market price of our securities and cause other material harm to our business.

GSK's ownership of a significant percentage of our stock and its ability to acquire additional shares of our stock may create conflicts of interest, and may inhibit our management's ability to continue to operate our business in the manner in which it is currently being operated.

        As of December 31, 2017, GSK beneficially owned approximately 31.4% of our outstanding common stock. As such, GSK could have substantial influence in the election of our directors, delay or prevent a transaction in which stockholders might receive a premium over the prevailing market price for their shares and have significant control over certain changes in our business. The procedures previously governing and restricting GSK offers to our stockholders to acquire outstanding voting stock and the restrictions regarding the voting of shares of our common stock owned by it terminated upon the expiration of the governance agreement in September 2015. Further, pursuant to our Certificate of Incorporation, we renounce our interest in and waive any claim that a corporate or business opportunity taken by GSK constitutes a corporate opportunity of ours unless such corporate or business opportunity is expressly offered to one of our directors who is a director, officer or employee of GSK, primarily in his or her capacity as one of our directors.

GSK's significant ownership position may deter or prevent efforts by other companies to acquire us, which could prevent our stockholders from realizing a control premium.

        As of December 31, 2017, GSK beneficially owned approximately 31.4% of our outstanding common stock. As a result of GSK's significant ownership, other companies may be less inclined to pursue an acquisition of us and therefore we may not have the opportunity to be acquired in a transaction that stockholders might otherwise deem favorable, including transactions in which our stockholders might realize a substantial premium for their shares.

GSK could sell or transfer a substantial number of shares of our common stock, which could depress the price of our securities or result in a change in control of our company.

        GSK is not subject to any contractual restrictions with us on its ability to sell or transfer our common stock on the open market, in privately negotiated transactions or otherwise, and these sales or transfers could create substantial declines in the price of our securities or, if these sales or transfers

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were made to a single buyer or group of buyers, could contribute to a transfer of control of our company to a third party. Sales by GSK of a substantial number of shares, or the expectation of such sales, could cause a significant reduction in the market price of our common stock.

Risks Related to Legal and Regulatory Uncertainty

If our trademarks and trade names are not adequately protected, then we may not be able to build name recognition in our markets of interest and our business may be adversely affected.

        Our registered or unregistered trademarks or trade names may be challenged, infringed, circumvented, declared generic or determined to be infringing on other marks. We may not be able to protect our rights to these trademarks and trade names, which are necessary to build name and brand recognition among potential partners or customers in our markets of interest. At times, competitors may adopt trademarks or trade names similar to ours, thereby impeding our ability to build name and brand identity and possibly leading to market confusion. In addition, there could be potential trademark or trade name infringement claims brought by owners of other registered trademarks or trademarks that incorporate variations of our registered or unregistered trademarks or trade names. There was also a risk that if there is confusion in the marketplace, the reputation, performance and/or actions of such third parties may negatively impact our stock price and our business. We therefore have, as of January 2016, adopted a new brand, Innoviva. Over the long term, if we are unable to establish name and brand recognition based on our trademarks and trade names, then we may not be able to compete effectively and our business may be adversely affected. If we fail to promote and maintain our brand successfully, or if we incur substantial expenses in an unsuccessful attempt to promote and maintain our brand, our business may be harmed.

If the efforts of our partner, GSK, to protect the proprietary nature of the intellectual property related to products in any respiratory program partnered with GSK are not adequate, the future commercialization of any such product could be delayed, limited or prevented, which would materially harm our business and the price of our securities could fall.

        To the extent the intellectual property protection of products in any respiratory program partnered with GSK are successfully challenged or encounter problems with the U.S. Patent and Trademark Office or other comparable agencies throughout the world, the commercialization of these products could be delayed, limited or prevented. Any challenge to the intellectual property protection of a late-stage development asset or approved product arising from any respiratory program partnered with GSK could harm our business and cause the price of our securities to fall.

        Our commercial success depends in part on products in any respiratory program partnered with GSK not infringing the patents and proprietary rights of third parties. Third parties may assert that these products are using their proprietary rights without authorization. In addition, third parties may obtain patents in the future and claim that use of GSK's technologies infringes upon these patents. Furthermore, parties making claims against GSK may obtain injunctive or other equitable relief, which could effectively block GSK's ability to further develop or commercialize one or more of the product candidates or products in any respiratory program partnered with GSK.

        In the event of a successful claim of infringement against GSK, it may have to pay substantial damages, obtain one or more licenses from third parties or pay royalties. In addition, even in the absence of litigation, GSK may need to obtain licenses from third parties to advance its research or allow commercialization of the products. GSK may fail to obtain any of these licenses at a reasonable cost or on reasonable terms, if at all. In that event, GSK would be unable to further develop and commercialize one or more of the products, which could harm our business significantly. In addition, in the future GSK could be required to initiate litigation to enforce its proprietary rights against infringement by third parties. Prosecution of these claims to enforce its rights against others would involve substantial litigation expenses. If GSK fails to effectively enforce its proprietary rights related to our partnered respiratory programs against others, our business will be harmed, and the price of our securities could fall.

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Risks Related to Ownership of our Common Stock

The price of our securities has been volatile and may continue to be so, and purchasers of our securities could incur substantial losses.

        The price of our securities has been volatile and may continue to be so. Between January 1, 2017 and December 31, 2017, the high and low sales prices of our common stock as reported on The Nasdaq Global Select Market varied between $10.30 and $14.87 per share. The stock market in general and the market for biotechnology and biopharmaceutical companies in particular have experienced extreme volatility that has often been unrelated to the companies' operating performance, in particular during the last several years. The following factors, in addition to the other risk factors described in this section, may also have a significant impact on the market price of our securities:

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We may be unable to or elect not to continue returning capital to our stockholders

        Recently, we have focused on returning capital to stockholders and paid quarterly dividends during the third and fourth quarters of 2014 and during the first three quarters of 2015. From October 2015 through December 31, 2017, we repurchased an aggregate of 17,307,790 shares of our common stock for a total of $201.2 million. The payment of, or continuation of, capital returns to stockholders is at the discretion of our Board of Directors and is dependent upon our financial condition, results of operations, capital requirements, general business conditions, tax treatment of capital returns, potential future contractual restrictions contained in credit agreements and other agreements and other factors deemed relevant by our Board of Directors. Future capital returns may also be affected by, among other factors: our views on potential future capital requirements for investments in acquisitions and our working capital and debt maintenance requirements; legal risks; stock or debt repurchase programs; changes in federal and state income tax laws or corporate laws; and changes to our business model. Our capital return programs may change from time to time, and we cannot provide assurance that we will continue to provide any particular amounts. Our announcement of future capital return programs does not obligate us to repurchase any specific dollar amount of debt or equity or number of shares of common stock. A reduction, suspension or change in our capital return programs could have a negative effect on our stock price.

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Concentration of ownership will limit your ability to influence corporate matters.

        As of December 31, 2017, GSK beneficially owned approximately 31.4% of our outstanding common stock and our directors, executive officers and investors affiliated with these individuals beneficially owned approximately 2.4% of our outstanding common stock. Based on our review of publicly available filings as of December 31, 2017, our three largest stockholders other than GSK collectively owned approximately 33.6% of our outstanding common stock. These stockholders could control the outcome of actions taken by us that require stockholder approval, including a transaction in which stockholders might receive a premium over the prevailing market price for their shares. Following the expiration of the governance agreement in September 2015, GSK is no longer subject to the restrictions thereunder regarding the voting of the shares of our common stock owned by it.

Anti-takeover provisions in our charter and bylaws and in Delaware law could prevent or delay a change in control of our company.

        Provisions of our Certificate of Incorporation and Bylaws may discourage, delay or prevent a merger or acquisition that stockholders may consider favorable, including transactions in which you might otherwise receive a premium for your shares. These provisions include:

        In addition, some provisions of Delaware law may also discourage, delay or prevent someone from acquiring us or merging with us.

ITEM 1B.    UNRESOLVED STAFF COMMENTS

        None.

ITEM 2.    PROPERTIES

        Our headquarters consist of a lease of 8,427 square feet of office space in Brisbane, California, which expires in June 2023. Management believes that this facility is currently suitable and adequate to meet the company's anticipated near-term needs. We do not own or lease any other properties.

ITEM 3.    LEGAL PROCEEDINGS

        As disclosed in our Current Report on Form 8-K, filed with the SEC on April 26, 2017, on April 20, 2017, Sarissa filed a Verified Complaint Pursuant to Section 225 of the Delaware General Corporation Law and for Specific Performance in the Delaware Court of Chancery, captioned Sarissa Capital Domestic Fund LP, et al. v. Innoviva, Inc., C.A. No. 2017-0309-JRS. Sarissa alleged that it had entered into a binding agreement to settle its proxy contest in exchange for the inclusion of each of George W. Bickerstaff, III and Odysseas Kostas, M.D. on our Board of Directors and Sarissa sought specific performance of the alleged agreement. Following trial, in December 2017, the Court issued a final judgement in favor of Sarissa, and the Company expanded our Board of Directors from six to eight members and added Dr. Kostas and Mr. Bickerstaff as directors.

        From time to time, we may also be involved in legal proceedings in the ordinary course of business.

ITEM 4.    MINE SAFETY DISCLOSURES

        Not applicable.

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PART II

ITEM 5.    MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

Price Range of Common Stock

        Our common stock had been traded on Nasdaq under the symbol "THRX" from October 5, 2004 until January 8, 2016. Upon changing our corporate name to Innoviva, Inc. on January 7, 2016, we changed the stock ticker symbol to "INVA" effective January 11, 2016. The following table sets forth the high and low sales prices of our common stock on a per share basis for the periods indicated and as reported on The Nasdaq Global Select Market.

 
  Market Price  
 
  High   Low  

Calendar Quarter

             

2017

             

Fourth Quarter

  $ 14.87   $ 11.47  

Third Quarter

    14.48     11.88  

Second Quarter

    14.55     11.02  

First Quarter

    14.05     10.30  

2016

             

Fourth Quarter

  $ 11.34   $ 8.67  

Third Quarter

    13.37     10.48  

Second Quarter

    14.15     9.78  

First Quarter

    13.21     7.56  

Holders

        As of February 16, 2018, there were 100 stockholders of record of our common stock. As many of our shares of common stock are held by brokers and other institutions on behalf of stockholders, we are unable to estimate the total number of stockholders represented by these record holders.

Purchases of Equity Securities by the Issuer

        In February 2017, we announced a capital return plan, the 2017 Capital Return Plan. The 2017 Capital Return Plan authorized a combination of repurchases of stock and/or repurchases, redemptions or prepayments of debt up to $150 million, through tender offers, open market purchases, private transactions, exchange offers or other means through December 31, 2017.

        In May 2017, we redeemed $50.0 million in outstanding principal on our non-recourse notes due 2029 ("2029 Notes") as part of the 2017 Capital Return Plan.

        In August 2017, as part of the 2017 Capital Return Plan, we used approximately $17.5 million of the net proceeds from the offering of our 2025 Notes to repurchase and retire 1,317,771 shares of our common stock concurrently with the pricing of the offering in privately negotiated transactions effected through one of the initial purchasers or its affiliate, as our agent.

        In October 2017, we entered into an ASR agreement with a financial institution to repurchase $80.0 million of our common stock as a part of the 2017 Capital Return Plan. In December 2017, we repurchased 6,112,335 shares of our common stock under the ASR agreement.

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        Share repurchase activity related to the 2017 Capital Return Plan during the fiscal quarter ended December 31, 2017 were as follows:

Period
  Total
Number
of Shares
Purchased
  Average Price
Paid
per Share
  Total Number
of Shares
Purchased as Part of
Publicly
Announced
Plans or
Programs
  Approximate
Dollar Value of
Shares That
May Yet Be
Purchased
Under the
Plans of
Programs
 

October 1, 2017 to October 31, 2017

      $            

November 1, 2017 to November 30, 2017

      $            

December 1, 2017 to December 31, 2017

    6,112,335   $ 13.09     6,112,335   $  

Stock Performance Graph

        The graph set forth below compares the cumulative total stockholder return on our common stock for the period commencing on December 31, 2012 and ending on December 31, 2017, with the cumulative total return of (i) the Nasdaq Composite Index, (ii) the Nasdaq S&P Small Cap 600 Pharma Index and (iii) the Nasdaq Biotechnology Index over the same period. This graph assumes the investment of $100.00 on December 31, 2012 in each of (1) our common stock, (2) the Nasdaq Composite Index, (3) the Nasdaq S&P Small Cap 600 Pharma Index and (4) the Nasdaq Biotechnology Index, and assumes the reinvestment of dividends.

        The comparisons shown in the graph below are based upon historical data. We caution that the stock price performance shown in the graph below is not necessarily indicative of, nor is it intended to forecast, the potential future performance of our common stock. Information used in the graph was obtained from sources believed to be reliable including Nasdaq, Bloomberg and Reuters, but we are not responsible for any errors or omissions in such information.

        Notwithstanding anything to the contrary set forth in any of our previous or future filings under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended, that might incorporate this Annual Report on Form 10-K or future filings made by us under those statutes, this Stock Performance Graph section shall not be deemed filed with the SEC and shall not be deemed incorporated by reference into any of those prior filings or into any future filings made by us under those statutes.

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COMPARISON OF 5 YEAR CUMULATIVE TOTAL RETURN*

        Among Innoviva, Inc. the Nasdaq Composite Index, Nasdaq Biotechnology Index, and Nasdaq S&P Small Cap 600 Pharma Index

GRAPHIC


*
$100 invested on December 31, 2012 in stock or index, including reinvestment of dividends. The performance chart for Innoviva is adjusted for the June 2014 Spin Off, in which each of our stockholders received one ordinary share of Theravance Biopharma, Inc. for every 3.5 shares of our common stock.

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ITEM 6.    SELECTED FINANCIAL DATA

        The selected consolidated summary financial data below should be read in conjunction with Part II, Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations" and Part II, Item 8, "Financial Statements and Supplementary Data", in this Annual Report on Form 10-K. The historical results are not necessarily indicative of the results to be expected in any future period.

 
  Year Ended December 31,  
 
  2017   2016   2015   2014   2013  
 
   
   
  (In thousands, except per share data)
 

CONSOLIDATED STATEMENTS OF OPERATIONS DATA

                               

Net revenue

  $ 217,217   $ 133,569   $ 53,949   $ 8,433   $ 4,532  

Operating expenses:

                               

Research and development

    1,355     1,393     2,619     7,498     9,038  

General and administrative(3)

    32,258     23,188     19,750     34,864     24,289  

Total operating expenses(2)

    33,613     24,581     22,369     42,362     33,327  

Income (loss) from operations

    183,604     108,988     31,580     (33,929 )   (28,795 )

Interest and other income (expense), net

    (5,731 )   2,964     1,463     (2,709 )   7,510  

Interest expense

    (43,601 )   (52,416 )   (51,803 )   (36,892 )   (9,348 )

Income (loss) from continuing operations

    134,272     59,536     (18,760 )   (73,530 )   (30,633 )

Income (loss) from discontinued operations(1)(2)

                (94,934 )   (140,068 )

Net income (loss)

    134,272     59,536     (18,760 )   (168,464 )   (170,701 )

Net income attributable to noncontrolling interest

    129                  

Net income (loss) attributable to Innoviva stockholders

  $ 134,143   $ 59,536   $ (18,760 ) $ (168,464 ) $ (170,701 )

Basic net income (loss) per share attributable to Innoviva stockholders

                               

Continuing operations

  $ 1.25   $ 0.54   $ (0.16 ) $ (0.66 ) $ (0.30 )

Discontinued operations

                (0.84 )   (1.37 )

Basic net income (loss) per share

  $ 1.25   $ 0.54   $ (0.16 ) $ (1.50 ) $ (1.67 )

Diluted net income (loss) per share attributable to Innoviva stockholders:

                               

Continuing operations

  $ 1.17   $ 0.53   $ (0.16 ) $ (0.66 ) $ (0.30 )

Discontinued operations

                (0.84 )   (1.37 )

Diluted net income (loss) per share

  $ 1.17   $ 0.53   $ (0.16 ) $ (1.50 ) $ (1.67 )

Shares used to compute basic net income (loss) per share

    106,945     110,280     115,372     112,059     102,425  

Shares used to compute diluted net income (loss) per share

    119,866     123,233     115,372     112,059     102,425  

Cash dividends declared per common share

  $   $   $ 0.75   $ 0.50   $  

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  As of December 31,  
 
  2017   2016   2015   2014   2013  
 
   
   
  (In thousands)
 

CONSOLIDATED BALANCE SHEETS DATA

                               

Cash, cash equivalents and marketable securities

  $ 129,075   $ 150,433   $ 187,283   $ 283,354   $ 520,499  

Working capital

    165,627     177,997     200,834     238,426     398,794  

Total assets

    367,337     378,996     408,932     521,654     681,255  

Long-term liabilities

    575,302     711,938     738,086     731,247     297,729  

Accumulated deficit

    (1,498,748 )   (1,632,891 )   (1,692,427 )   (1,673,667 )   (1,505,203 )

Total Innoviva stockholders' (deficit) equity

    (242,859 )   (352,991 )   (342,645 )   (223,349 )   299,122  

(1)
On June 1, 2014, we spun off our research and drug development operations to Theravance Biopharma. The results of operations for the former research and drug development operations until June 1, 2014 are included above as part of discontinued operations.

(2)
Stock-based compensation expense included in total operating expenses is as follows:
 
  Year Ended December 31,  
 
  2017   2016   2015   2014   2013  
 
   
   
  (In thousands)
 

Research and development

  $ 697   $ 632   $ 1,036   $ 2,781   $ 573  

General and administrative

    9,136     7,665     5,837     12,980     7,325  

Stock-based compensation from continuing operations

    9,833     8,297     6,873     15,761     7,898  

Stock-based compensation from discontinued operations

                11,629     17,789  

Total stock-based compensation

  $ 9,833   $ 8,297   $ 6,873   $ 27,390   $ 25,687  
(3)
Year ended December 31, 2017 amount includes $8.1 million net proxy contest and associated litigation costs.

ITEM 7.    MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

        Management's Discussion and Analysis (MD&A) is intended to facilitate an understanding of our business and results of operations. This discussion and analysis should be read in conjunction with our consolidated financial statements and notes included in this Annual Report on Form 10-K. The information contained in this discussion and analysis or set forth elsewhere in this Annual Report on Form 10-K, including information with respect to our plans and strategy for our business, our operating expenses, and future payments under our collaboration agreements, includes forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Such statements are based upon current expectations that involve risks and uncertainties. You should review the section entitled "Risk Factors" in Item 1A of Part I above for a discussion of important factors that could cause actual results to differ materially from the results described in or implied by the forward-looking statements contained in the following discussion and analysis. See the section entitled "Special Note Regarding Forward Looking Statements" above for more information.

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Management Overview

        Innoviva, Inc. ("Innoviva", the "Company" or "we") is focused on bringing compelling medicines to patients in areas of unmet need by leveraging its significant expertise in the development, commercialization and financial management of bio-pharmaceuticals, to maximize the commercial potential of its respiratory assets partnered with Glaxo Group Limited ("GSK"), including RELVAR®/BREO® ELLIPTA® (fluticasone furoate/ vilanterol, "FF/VI"), ANORO® ELLIPTA® (umeclidinium bromide/ vilanterol, "UMEC/VI") and TRELEGY® ELLIPTA® (the combination FF/UMEC/VI). Under the Long-Acting Beta2 Agonist ("LABA") Collaboration Agreement, we are entitled to receive royalties from GSK on sales of RELVAR®/BREO® ELLIPTA® as follows: 15% on the first $3.0 billion of annual global net sales and 5% for all annual global net sales above $3.0 billion. For other products combined with a LABA from the LABA collaboration, such as ANORO™ ELLIPTA™, royalties are upward tiering and range from 6.5% to 10%. Innoviva is also entitled to 15% of royalty payments made by GSK under its agreements originally entered into with us, and since assigned to Theravance Respiratory Company, LLC ("TRC"), including TRELEGY® ELLIPTA® and any other product or combination of products that may be discovered or developed in the future under the LABA Collaboration Agreement or the Strategic Alliance Agreement with GSK (referred to herein collectively as the "GSK Agreements") the GSK Agreements, which have been assigned to TRC other than RELVAR®/BREO® ELLIPTA® and ANORO® ELLIPTA®.

        Our company structure and organization are tailored to our focused activities of managing our respiratory assets with GSK, the commercial and developmental obligations associated with the GSK Agreements, intellectual property, licensing operations, business development activities and providing for certain essential reporting and management functions of a public company. As of December 31, 2017, we had 12 employees. Our revenues consist of royalties and potential milestone payments, if any, from our respiratory partnership agreements with GSK.

Financial Highlights

        In the year ended December 31, 2017, our net income attributable to Innoviva stockholders was $134.1 million, an improvement of $74.6 million from a net income of $59.5 million in the year ended December 31, 2016, primarily due to an increase in net royalty revenue and a decrease in interest expense. Cash, cash equivalents, and marketable securities, totaled $129.1 million on December 31, 2017, a decrease of $21.4 million from December 31, 2016. The decrease was due primarily to the repayments and redemptions on our 2029 Notes of $487.2 million, repurchases of common stock of $97.5 million, and net purchases of marketable securities of $23.2 million. These outflows were partially offset by cash provided by operating activities of $141.8 million, proceeds from term loans ("Term B Loan") of $250.0 million, and proceeds from issuance of convertible senior notes due 2025 ("2025 Notes") of $192.5 million.

Capital Return Plans

        In February 2017, we announced a capital return plan, the 2017 Capital Return Plan. The 2017 Capital Return Plan authorized a combination of repurchases of stock and/or repurchases, redemptions or prepayments of debt up to $150.0 million, through tender offers, open market purchases, private transactions, exchange offers or other means through December 31, 2017.

        In May 2017, we redeemed $50.0 million in outstanding principal on our 2029 Notes as part of the 2017 Capital Return Plan.

        In August 2017, as part of the 2017 Capital Return Plan, we used approximately $17.5 million of the net proceeds from the offering of our 2025 Notes to repurchase and retire 1,317,771 shares of our common stock concurrently with the pricing of the offering in privately negotiated transactions effected through one of the initial purchasers or its affiliate, as our agent.

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        In October 2017, we entered into an ASR agreement with a financial institution to repurchase $80.0 million of our common stock as a part of the 2017 Capital Return Plan. In December 2017, we repurchased 6,112,335 shares of our common stock under the ASR agreement.

Repayments of Notes Payable and Loan

        In 2017, we paid down the principal balance of the 2029 Notes with $29.6 million, redeemed $50.0 million of the 2029 Notes under the 2017 Capital Return Plan, and used the net proceeds of the Term B Loan and the 2025 Notes to redeem the remaining outstanding balance of the 2029 Notes of $407.6 million.

        In December 2017, we paid down $6.3 million on the principal balance of the Term B Loan.

Collaborative Arrangements with GSK

LABA Collaboration

        In November 2002, we entered into our LABA Collaboration Agreement with GSK to develop and commercialize once-daily LABA products for the treatment of COPD and asthma. The collaboration has developed three combination products: (1) RELVAR®/BREO® ELLIPTA® (FF/VI) (BREO® ELLIPTA® is the proprietary name in the U.S. and Canada and RELVAR® ELLIPTA® is the proprietary name outside the U.S. and Canada), a once-daily combination medicine consisting of a LABA, vilanterol (VI), and an inhaled corticosteroid (ICS), fluticasone furoate (FF), (2) ANORO® ELLIPTA® (UMEC/VI), a once-daily medicine combining a long-acting muscarinic antagonist ("LAMA"), umeclidinium bromide (UMEC), with a LABA, VI and (3) TRELEGY® ELLIPTA®, fluticasone furoate/umeclidinium/vilanterol (FF/UMEC/VI).

        As a result of the launch and approval of RELVAR®/BREO® ELLIPTA® and ANORO® ELLIPTA® in the U.S., Japan and Europe, in accordance with the LABA Collaboration Agreement, we paid milestone fees to GSK totaling $220.0 million during the year ended December 31, 2014. Although we have no further milestone payment obligations to GSK pursuant to the LABA Collaboration Agreement, we continue to have ongoing commercialization activities under the LABA Collaboration Agreement including participation on the joint steering committee and joint project committee that are expected to continue over the life of the agreement. The milestone fees paid to GSK were recognized as capitalized fees paid to a related party, which are being amortized over their estimated useful lives commencing upon the commercial launch of the products.

        We are entitled to receive royalties from GSK on sales of RELVAR®/BREO® ELLIPTA® as follows: 15% on the first $3.0 billion of annual global net sales and 5% for all annual global net sales above $3.0 billion. For other products combined with a LABA from the LABA collaboration, such as ANORO® ELLIPTA®, royalties are upward tiering and range from 6.5% to 10%.

        We are also entitled to 15% of royalty payments made by GSK under its agreements originally entered into with us, and since assigned to TRC in connection with the Spin-Off, including TRELEGY® ELLIPTA® , which royalties are upward tiering and range from 6.5% to 10%.

2004 Strategic Alliance

        In March 2004, we entered into the Strategic Alliance Agreement with GSK where GSK received an option to license exclusive development and commercialization rights to product candidates from certain of our discovery programs on pre-determined terms and on an exclusive, worldwide basis. In 2005, GSK licensed our MABA program for the treatment of COPD, and in October 2011, we and GSK expanded the MABA program by adding six additional Innoviva-discovered preclinical MABA compounds (the "Additional MABAs"). The development program has been funded in full by GSK and is in Phase II clinical studies stage. GSK is in the process of determining next steps for the program.

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As a result of the transactions effected by the Spin-Off, we are only entitled to receive 15% of any contingent payments and royalties payable by GSK from sales of products that may be developed under the Strategic Alliance Agreement, such as MABA and MABA/FF, while Theravance Biopharma receives 85% of those same payments.

Critical Accounting Policies and Estimates

        Our management's discussion and analysis of our financial condition and results of operations is based on our financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles ("GAAP"). The preparation of these financial statements requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities as of the date of the financial statements, as well as the reported revenue generated and expenses incurred during the reporting periods. Our estimates are based on our historical experience and on various other factors that we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. We believe that the accounting policies discussed below are critical to understanding our historical and future performance, as these policies relate to the more significant areas involving management's judgments and estimates.

Revenue Recognition

        Revenue is recognized when the four basic criteria of revenue recognition are met: (1) persuasive evidence of an arrangement exists; (2) delivery has occurred or services have been rendered; (3) the fee is fixed or determinable; and (4) collectability is reasonably assured. Where the revenue recognition criteria are not met, we defer the recognition of revenue by recording deferred revenue until such time that all criteria are met.

        Under the GSK Agreements, we recognized net revenue of $217.2 million, $133.6 million and $53.9 million for the years ended December 31, 2017, 2016 and 2015, respectively. In the fourth quarter of 2017, we completed our performance obligations under the MABA program earlier than previously estimated. The performance period was previously estimated to end in June 2020. The change in this estimate resulted in full recognition of the remaining deferred revenue balance and an increase of $2.2 million in revenue in the fourth quarter of 2017 as compared to the third quarter of 2017.

Capitalized Fees paid to a Related Party

        We capitalize fees paid to licensors related to agreements for approved products or commercialized products ("Capitalized Fees"). Our gross Capitalized Fees of $220 million as of December 31, 2017 consist of registrational and launch-related to milestone fees paid to GSK. We capitalized these fees as capitalized fees paid to a related party and amortize these Capitalized Fees on a straight-line basis over their estimated useful lives upon the commercial launch of the products. The estimated useful lives of these Capitalized Fees are based on a country-by-country and product-by-product basis, as the later of the expiration or termination of the last patent right covering the compound in such product in such country and 15 years from first commercial sale of such product in such country, unless the agreement is terminated earlier. Consistent with our policy for classification of costs under the research and development collaborative arrangements, the amortization of these Capitalized Fees is recognized as a reduction of royalty revenue. Amortization expense for the years ended December 31, 2017, 2016 and 2015 was $13.8 million, respectively. The remaining estimated amortization expense is $13.8 million for each of the years from 2018 to 2022 and $97.7 million thereafter.

        We review our Capitalized Fees for impairment on a product-by-product basis for each major geographic area when events or changes in circumstances indicate that the carrying amount of such

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assets may not be recoverable. The recoverability of Capitalized Fees is measured by comparing the asset's carrying amount to the expected undiscounted future cash flows that the asset is expected to generate. The determination of recoverability typically requires various estimates and assumptions, including estimating the useful life over which cash flows will occur, their amount, and the asset's residual value, if any. We derive the required cash flow estimates from near-term forecasted product sales and long-term projected sales in the corresponding market. Based upon our analyses, no impairment charges have been recorded on the Capitalized Fees as of December 31, 2017.

Fair Value of Stock-Based Compensation Awards

        We use the Black-Scholes-Merton option pricing model to estimate the fair value of options as of the date of grant. The Black-Scholes-Merton option valuation model requires the use of assumptions, including the expected term of the award and the expected stock price volatility. We use the "simplified" method as described in Staff Accounting Bulletin No. 107, "Share Based Payment," for the expected option term. We use our historical volatility to estimate expected stock price volatility. The estimated fair value of the option is expensed on a ratable basis over the expected term of the grant.

        We determine the fair value of RSUs and RSAs based on the fair market values of the underlying stock on the dates of grant. The fair value of service based RSUs and RSAs is expensed on a ratable or straight-line basis over the expected term of the vesting. The fair value of performance-contingent RSUs and RSAs is expensed using an accelerated method over the requisite service period based on management's best estimate as to whether it is probable that the shares awarded are expected to vest. We assess the probability of the performance indicators being met on a continuous basis. The grant date fair value of the RSUs and RSAs with a market condition is determined using a Monte Carlo valuation model and the compensation expense is recognized over the implied service period.

        Stock-based compensation expense was calculated based on awards ultimately expected to vest and was reduced for estimated forfeitures as of the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differed from those estimates. The estimated annual forfeiture rates for stock options, RSUs and RSAs are based on our historical forfeiture experience.

        For more information, refer to Note 6, "Stock-Based Compensation," to the consolidated financial statements appearing in this Annual Report on Form 10-K.

Accounting for Convertible Senior Notes Due 2025

        On August 7, 2017, we completed a private placement of $192.5 million aggregate principal amount of our 2025 Notes. Due to our ability to settle the conversion obligation of the 2025 Notes in cash, common stock or a combination of cash and common stock, at our option, we separately account for the liability and equity components of the 2025 Notes by allocating the proceeds between the liability component and the embedded conversion option ("equity component"). The carrying amount of the liability component was calculated by measuring the fair value of a similar liability that does not have an associated convertible feature using the income approach. The allocation was performed in a manner that reflected our non-convertible debt borrowing rate for similar debt. The equity component of the 2025 Notes of $67.3 million was recognized as a debt discount and represents the difference between the proceeds from the issuance of the 2025 Notes and the fair value of the liability of the 2025 Notes on the date of issuance. The excess of the principal amount of the liability component over its carrying amount ("debt discount") is amortized to interest expense using the effective interest method. The equity component is not re-measured as long as it continues to meet the conditions for equity classification.

        In connection with the issuance of the 2025 Notes, we incurred approximately $5.4 million of debt issuance costs, which primarily consisted of placement, legal and other professional fees, and allocated these costs to the liability and equity components based on the allocation of the proceeds. Of the total

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$5.4 million of debt issuance costs, $1.9 million were allocated to the equity component and recorded as a reduction to additional paid-in capital and $3.5 million were allocated to the liability component and recorded as a reduction to the carrying amount of the liability component on the consolidated balance sheet. The portion allocated to the liability component is amortized to interest expense over the expected life of the 2025 Notes using the effective interest method.

Results of Operations

Net Revenue

        Total net revenue, as compared to the prior years, was as follows:

 
   
   
   
  Change  
 
  Year Ended December 31,   2017   2016  
(In thousands)
  2017   2016   2015   $   %   $   %  

Royalties from a related party—RELVAR/BREO

  $ 198,726   $ 128,638   $ 59,188   $ 70,088     54 % $ 69,450     117 %

Royalties from a related party—ANORO

    29,036     17,869     7,699     11,167     62     10,170     132  

Royalties from a related party—TRELEGY

    179             179              

Total royalties from a related party

    227,941     146,507     66,887     81,434     56     79,620     119  

Less: amortization of capitalized fees paid to a related party

    (13,823 )   (13,823 )   (13,823 )                

Royalty revenue

    214,118     132,684     53,064     81,434     61     79,620     150  

Strategic alliance—MABA program license

    3,099     885     885     2,214     250          

Total net revenue from GSK

  $ 217,217   $ 133,569   $ 53,949   $ 83,648     63 % $ 79,620     148 %

        Total net revenue increased for the year ended December 31, 2017, compared to the year ended December 31, 2016, primarily due to growth in prescriptions and market share for both RELVAR®/BREO® ELLIPTA® and ANORO® ELLIPTA®, and initiation of sales by GSK of TRELEGY® ELLIPTA® in the fourth quarter of 2017. In the fourth quarter of 2017, due to the completion of Innoviva's performance obligations under the MABA program, we revised the performance period, which was previously estimated to end in June 2020. The change in this estimate resulted in full recognition of the remaining deferred revenue balance.

        Total net revenue increased for the year ended December 31, 2016, compared to the year ended December 31, 2015. The increases were primarily due to higher sales of RELVAR®/BREO® ELLIPTA® and ANORO® ELLIPTA®.

        The revenue growth during the years ended December 31, 2017 and 2016 may not be indicative of our future revenue growth, if any.

Research & Development

        Research & Development ("R&D") expenses, as compared to the prior years, were as follows:

 
   
   
   
  Change  
 
  Year Ended December 31,   2017   2016  
(In thousands)
  2017   2016   2015   $   %   $   %  

Research and development expenses

  $ 1,355   $ 1,393   $ 2,619   $ (38 )   (3 )% $ (1,226 )   (47 )%

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        R&D expenses decreased for the year ended December 31, 2017 compared to the year ended December 31, 2016, and for the year ended December 31, 2016 compared to the year ended December 31, 2015, primarily due to reduced activities related to the late-stage partnered respiratory assets with GSK.

General & Administrative

        General and administrative expenses, as compared to the prior years, were as follows:

 
   
   
   
  Change  
 
  Year Ended December 31,   2017   2016  
(In thousands)
  2017   2016   2015   $   %   $   %  

General and administrative expenses

  $ 32,258   $ 23,188   $ 19,750   $ 9,070     39 % $ 3,438     17 %

        General and administrative expenses increased in the year ended December 31, 2017 compared to the year ended December 31, 2016 primarily due to net proxy contest and associated litigation costs of $8.1 million.

        General and administrative expenses increased in the year ended December 31, 2016 compared to the year ended December 31, 2015 primarily due to the recognition of stock-based compensation expenses related to pre-Spin-Off legacy performance-contingent RSAs and higher employee costs.

Other Income (Expense), net and Interest Income

        Other income (expense), net and interest income, as compared to the prior years, were as follows:

 
   
   
   
  Change  
 
  Year Ended December 31,   2017   2016  
(In thousands)
  2017   2016   2015   $   %   $   %  

Other (expense) income, net

  $ (7,042 ) $ 2,382   $ 1,120   $ (9,424 )   *   $ 1,262     113 %

Interest income

    1,311     582     343     729     125 %   239     70  

*
Not Meaningful

        Other expense, net for the year ended December 31, 2017 primarily pertains to the write-off of unamortized debt issuance costs of $7.3 million in relation to our redemptions of the 2029 Notes. Other income, net for the year ended December 31, 2016 primarily pertains to a realized gain of $2.3 million from the repurchases of our 2023 Notes during the year ended December 31, 2016. Other income, net for the year ended December 31, 2015 primarily relates to a realized gain of $1.2 million on the sale of the remaining ordinary shares of Theravance Biopharma that we held.

        Interest income increased in the year ended December 31, 2017 as compared to the year ended December 31, 2016, and in the year ended December 31, 2016 as compared to the year ended December 31, 2015 primarily due to higher interest generated from our investments in marketable securities.

Interest Expense

        Interest expense, as compared to the prior years, was as follows:

 
   
   
   
  Change  
 
  Year Ended December 31,   2017   2016  
(In thousands)
  2017   2016   2015   $   %   $   %  

Interest expense

  $ 43,601   $ 52,416   $ 51,803   $ (8,815 )   (17 )% $ 613     1 %

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        Interest expense decreased in the year ended December 31, 2017 compared to the year ended December 31, 2016 primarily due to redemption of our 2029 Notes with the net proceeds from the Term B Loan and 2025 Notes, the lower interest rates starting August 2017 under the Term B Loan and 2025 Notes compared to the interest rates of the 2029 Notes, and lower principal balance resulting from repurchase of our 2023 Notes.

        Interest expense increased in the year ended December 31, 2016 compared to the year ended December 31, 2015 primarily due to higher outstanding average principal balance on our 2029 Notes, of which $0.9 million was added in the first two quarters of 2016 and $43.1 million was added during the years ended December 31, 2015 and 2014 in the form of payment in kind ("PIK"). See "Liquidity" section below for further information.

Income Taxes

        As of December 31, 2017 and 2016, we had net operating loss carryforwards for federal income taxes of $1.0 billion and $1.1 billion, respectively. As of December 31, 2017 and 2016, we had federal research and development tax credit carryforwards of $45.2 million. We recorded a valuation allowance to offset in full the benefit related to our deferred tax assets because realization of these benefits is uncertain.

        We had unrecognized tax benefits of $15.5 million as of December 31, 2017 and 2016. None of our currently unrecognized tax benefits would affect our effective income tax rate if recognized, due to the valuation allowance that currently offsets our deferred tax assets.

        Utilization of net operating loss and tax credit carryforwards are subject to rules, provided by the Internal Revenue Code and similar state provisions, governing annual limitations tied to ownership changes. In addition, as a result of the passage of the Tax Cuts and Jobs Act, corporate tax rates in the United States will decrease in 2018, which resulted in the remeasurement of our deferred tax assets at the new statutory rate and a reduction in the value of our deferred tax assets in 2017. We conducted an analysis through 2016 to determine whether an ownership change had occurred since inception. The analysis indicated that two ownership changes occurred in prior years. However, notwithstanding the applicable annual limitations, we estimate that no portion of the net operating loss or credit carryforwards will expire before becoming available to reduce federal and state income tax liabilities. Annual limitations may result in expiration of net operating loss and tax credit carryforwards before some or all of such amounts have been utilized.

Net Income Attributable to Noncontrolling Interest

        This represents the share of net income in Theravance Respiratory Company, LLC for Theravance Biopharma for the year ended December 31, 2017.

Liquidity and Capital Resources

Liquidity

        Since our inception, we have financed our operations primarily through private placements and public offerings of equity and debt securities and payments received under collaborative arrangements. Since the start of the commercialization of RELVAR®/ BREO® ELLIPTA® in the fourth quarter of 2013, ANORO® ELLIPTA® during 2014 and TRELEGY® ELLIPTA® in fourth quarter of 2017, we have complemented the source of financing with royalty revenues from the global net sales of these products by GSK. In the year ended December 31, 2017, we generated gross royalty revenues from GSK of $227.9 million. Net cash and cash equivalents, short-term investments and marketable securities totaled $129.1 million, and royalties receivable from GSK totaled $70.5 million as of December 31, 2017.

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        In April 2014, we entered into certain note purchase agreements relating to the private placement of $450.0 million aggregate principal amount of our 2029 Notes. In May 2017, we redeemed $50.0 million on the 2029 Notes. In August 2017, we used the net proceeds of the 2025 Notes and Term B Loan (both described below) to redeem the 2029 Notes in full.

        On August 7, 2017, we completed a private placement of $192.5 million aggregate principal amount of our 2025 Notes. The proceeds include the 2025 Notes sold pursuant to the $17.5 million over-allotment option granted by us to the initial purchasers, which option was exercised in full. The 2025 Notes were sold in a private placement to qualified institutional buyers pursuant to Rule 144A under the Securities Act of 1933, as amended (the "Securities Act"). The 2025 Notes will mature on August 15, 2025, unless repurchased or converted in accordance with their terms prior to such date. Concurrently with the pricing of the offering, we repurchased and retired 1,317,771 shares of our common stock for approximately $17.5 million of the net proceeds from the offering, in privately negotiated transactions effected through one of the initial purchasers or its affiliate, as our agent. The remaining net proceeds from the sale of the 2025 Notes in the offering were used to redeem a portion of the principal outstanding under the 2029 Notes on August 15, 2017.

        On August 18, 2017, we entered into a Credit Agreement and completed a financing of $250.0 million Term B Loan, the proceeds of which were used to repay the remaining balance of the 2029 Notes. The Term B Loan will mature on August 18, 2022. Two and a half percent (2.5%) of the initial principal amount is due quarterly beginning December 31, 2017. The remaining outstanding balance is due at maturity. Prepayments, in whole or in part, can be made at any time without a penalty. The Credit Agreement also provides us the ability to request one or more additional tranches of term loans (or increase an existing term loan) at any time prior to maturity.

Adequacy of Cash Resources to Meet Future Needs

        We believe that cash from projected future royalty revenues and our cash, cash equivalents and marketable securities will be sufficient to meet our anticipated debt service and operating needs for at least the next twelve months based upon current operating plans and financial forecasts. If our current operating plans and financial forecasts change, we may require additional funding sooner in the form of public or private equity offerings or debt financings. Furthermore, if in our view favorable financing opportunities arise, we may seek additional funding at any time. However, future financing may not be available in amounts or on terms acceptable to us, if at all. This could leave us without adequate financial resources to fund our operations as currently planned. In addition, from time to time we may restructure or reduce our debt, including through tender offers, redemptions, amendments, repurchases or otherwise, all consistent with the terms of our debt agreements.

Cash Flows

        Cash flows, as compared to the prior years, were as follows:

 
  Year Ended December 31,   Change  
(In thousands)
  2017   2016   2015   2017   2016  

Net cash provided by operating activities

  $ 141,749   $ 60,984   $ 10,131   $ 80,765   $ 50,853  

Net cash (used in) provided by investing activities

    (23,236 )   (4,580 )   159,168     (18,656 )   (163,748 )

Net cash used in financing activities

    (163,193 )   (97,568 )   (106,919 )   (65,625 )   9,351  

Cash Flows from Operating Activities

        Cash provided by operating activities for the year ended December 31, 2017 was $141.7 million, consisting primarily of our net income of $134.3 million, adjusted for non-cash items such as

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$14.0 million of depreciation and amortization, $9.8 million for stock-based compensation expense, $7.3 million of loss on debt extinguishment and $5.1 million amortization of debt discount and debt issuance costs, offset by changes in operating assets and liabilities, including an increase in receivables from collaborative arrangements of $23.7 million and a reduction in deferred revenue of $3.1 million.

        Cash provided by operating activities for the year ended December 31, 2016 was $61.0 million, consisting primarily of our net income of $59.5 million, adjusted for non-cash items such as $14.0 million of depreciation and amortization and $8.3 million for stock-based compensation expense, offset by changes in operating assets and liabilities, including an increase in receivables from collaborative arrangements of $20.6 million.

        Cash provided by operating activities for the year ended December 31, 2015 was $10.1 million, consisting primarily of our net loss of $18.8 million, adjusted for non-cash items such as $22.6 million interest expense added to the principal balance of our then 2029 Notes, $13.9 million of depreciation and amortization and $6.9 million for stock-based compensation expense, offset by changes in operating assets and liabilities, including an increase in receivables from collaborative arrangements of $15.7 million.

Cash Flows from Investing Activities

        Net cash used in investing activities for the year ended December 31, 2017 of $23.2 million was primarily due to $67.6 million in purchases of marketable securities, partially offset by $44.4 million of proceeds received from the sale and maturities of marketable securities.

        Net cash used in investing activities for the year ended December 31, 2016 of $4.6 million was primarily due to $95.7 million in purchases of marketable securities, partially offset by $91.4 million of proceeds received from the sale and maturities of marketable securities.

        Net cash provided by investing activities for the year ended December 31, 2015 of $159.2 million was primarily due to $245.7 million of proceeds received from the sale and maturities of marketable securities, partially offset by $86.5 million in purchases of marketable securities.

Cash Flows from Financing Activities

        Net cash used in financing activities for the year ended December 31, 2017 of $163.2 million was primarily due to $487.2 million principal repayments of our 2029 Notes and $97.5 million repurchases of our common stock. These outflows were partially offset by the net proceeds of $242.6 million from the financing of our Term B Loan and the net proceeds of $187.1 million from issuance of our convertible senior notes due 2025.

        Net cash used in financing activities for the year ended December 31, 2016 of $97.6 million was primarily due to $78.1 million repurchases of common stock, $11.6 million repurchases of our 2023 Notes, and $6.8 million repayments on principal of our 2029 Notes.

        Net cash used in financing activities for the year ended December 31, 2015 of $106.9 million was primarily due to $87.3 million of cash dividends paid to our stockholders and $25.6 million repurchases of common stock, partially offset by $6.0 million of proceeds received from the issuance of our common stock.

Off-Balance Sheet Arrangements

        In June 2014, our facility leases in South San Francisco, California were assigned to Theravance Biopharma. However, if Theravance Biopharma were to default on its lease obligations, we would be held liable by the landlord and thus, we have in substance guaranteed the lease payments for these facilities. We would also be responsible for lease-related payments including utilities, property taxes,

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and common area maintenance, which may be as much as the actual lease payments. As of December 31, 2017, the total remaining lease payments for the duration of the lease, which runs through May 2020, were $15.6 million. The carrying value of this lease guarantee was $0.8 million as of December 31, 2017 and is reflected in other long-term liabilities in our consolidated balance sheet.

Commitments and Contingencies

        We indemnify our officers and directors for certain events or occurrences, subject to certain limits. We may be subject to contingencies that may arise from matters such as product liability claims, legal proceedings, shareholder suits and tax matters, as such, we are unable to estimate the potential exposure related to these indemnification agreements. We have not recognized any liabilities relating to these agreements as of December 31, 2017.

Contractual Obligations and Commercial Commitments

        In the table below, we set forth our significant enforceable and legally binding obligations and future commitments as of December 31, 2017.

 
   
  Payment Due by Period  
(In thousands)
  Total   Less Than
1 Year
  1 - 3 Years   3 - 5 Years   More Than
5 Years
 

2023 Notes

  $ 240,984   $   $   $   $ 240,984  

2025 Notes

    192,500                 192,500  

Term B Loan*

    243,750     25,000     50,000     168,750      

Facility leases

    2,281     392     819     869     201  

Total

  $ 679,515   $ 25,392   $ 50,819   $ 169,619   $ 433,685  

*
Two and one half percent (2.5%) of the initial principal amount is due quarterly beginning December 31, 2017. The remaining outstanding balance is due at maturity. Additionally, the Credit Agreement stipulates an annual principal payment of a percentage of Excess Cash Flow ("ECF") to repay the term loans. The percentage of the ECF scales upwards on a tiered basis from 0% to 50%, based on our leverage ratio, as calculated pursuant to the Credit Agreement, as of the last day of the applicable fiscal year. The first ECF application date will be measured as of the end of fiscal year 2018.

ITEM 7A.    QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Interest Rate Risk

        We are exposed to interest rate risk related to our portfolio of investments in debt securities and the debt that we have issued. We account for our investments in debt securities at fair value, with unrealized gains or losses recorded as a component of other comprehensive income. We believe that our exposure to interest rate risk on our investment portfolio is immaterial as of December 31, 2017 and 2016, as the average remaining maturity of our investment portfolio was three months and one month as of the respective dates.

        Our debt portfolio includes the senior secured term loans under the Term B Loan which bear interest at a variable rate based on LIBOR plus 4.5% or a certain alternate base rate plus 3.5%. We are exposed to market risks related to fluctuations in interest rates on these loans. As of December 31, 2017, the stated interest rate for the Term B Loan, based on LIBOR, was 5.94%. An increase in the LIBOR of 50 basis points would increase our annual interest expense by $1.2 million based on the outstanding balance of $243.8 million as of December 31, 2017.

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        We account for our 2023 Notes and 2025 Notes on an amortized cost basis and our recognized value of the debt does not reflect changes in fair value. Also, because our 2023 Notes and 2025 Notes bear interest at a fixed rate, our cash flows are not subject to variability as a result of changes in interest rates. However, we do disclose the estimated fair value of our debt and we are exposed to changes in fair value that may occur as a result of interest rate fluctuations. As of December 31, 2017, based on available pricing information, the respective fair values of our 2023 Notes and 2025 Notes were estimated to be $241.3 million and $206.0 million, respectively. The 2023 Notes and 2025 Notes bear interest at a fixed rate of 2.125% and 2.5%, respectively. Information about the contractual maturities of our debt is disclosed in the table within the Contractual Obligations and Commercial Commitments section of Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.

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ITEM 8.    FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

 
  Page

Consolidated Balance Sheets as of December 31, 2017 and December 31, 2016

  52

Consolidated Statements of Operations for each of the three years in the period ended December 31, 2017

  53

Consolidated Statements of Comprehensive Income (Loss) for each of the three years in the period ended December 31, 2017

  54

Consolidated Statements of Stockholders' Deficit for each of the three years in the period ended December 31, 2017

  55

Consolidated Statements of Cash Flows for each of the three years in the period ended December 31, 2017

  56

Notes to Consolidated Financial Statements

  57

Supplementary Financial Data (unaudited)

  83

Report of Independent Registered Public Accounting Firm

  84

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INNOVIVA, INC.

CONSOLIDATED BALANCE SHEETS

(In thousands, except per share data)

 
  December 31,  
 
  2017   2016  

Assets

             

Current assets:

             

Cash and cash equivalents

  $ 73,336   $ 118,016  

Short-term marketable securities

    55,739     32,417  

Related party receivables from collaborative arrangements

    70,540     46,847  

Prepaid expenses and other current assets

    754     766  

Total current assets

    200,369     198,046  

Property and equipment, net

    209     368  

Capitalized fees paid to a related party, net

    166,722     180,545  

Other assets

    37     37  

Total assets

  $ 367,337   $ 378,996  

Liabilities and Stockholders' Deficit

             

Current liabilities:

             

Accounts payable

  $ 601   $ 128  

Accrued personnel-related expenses

    1,721     2,361  

Accrued interest payable

    5,920     7,828  

Other accrued liabilities

    1,500     1,095  

Current portion of long-term debt

    25,000     7,752  

Deferred revenue, current

        885  

Total current liabilities

    34,742     20,049  

Long-term debt, net of current portion, discount and issuance costs

    574,362     708,341  

Other long-term liabilities

    940     1,383  

Deferred revenue

        2,214  

Commitments and contingencies (Notes 9)

             

Stockholders' deficit:

             

Preferred stock: $0.01 par value, 230 shares authorized, no shares issued and outstanding

         

Common stock: $0.01 par value, 200,000 shares authorized, 102,046 and 108,585 shares issued as of December 31, 2017 and 2016, respectively

    1,019     1,085  

Treasury stock: 150 shares as of December 31, 2017 and 2016

    (3,263 )   (3,263 )

Additional paid-in capital

    1,258,151     1,282,077  

Accumulated other comprehensive (loss) income

    (18 )   1  

Accumulated deficit

    (1,498,748 )   (1,632,891 )

Total Innoviva stockholders' deficit

    (242,859 )   (352,991 )

Noncontrolling interest

    152      

Total stockholders' deficit

    (242,707 )   (352,991 )

Total liabilities and stockholders' deficit

  $ 367,337   $ 378,996  

   

See accompanying notes to consolidated financial statements.

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INNOVIVA, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands, except per share data)

 
  Year Ended December 31,  
 
  2017   2016   2015  

Royalty revenue from a related party, net of amortization for capitalized fees paid to a related party of $13,823 in the year ended December 31, 2017, 2016, and 2015, respectively

  $ 214,118   $ 132,684   $ 53,064  

Revenue from collaborative arrangements from a related party

    3,099     885     885  

Total net revenue

    217,217     133,569     53,949  

Operating expenses:

                   

Research and development

    1,355     1,393     2,619  

General and administrative

    32,258     23,188     19,750  

Total operating expenses

    33,613     24,581     22,369  

Income from operations

    183,604     108,988     31,580  

Other (expense) income, net

    (7,042 )   2,382     1,120  

Interest income

    1,311     582     343  

Interest expense

    (43,601 )   (52,416 )   (51,803 )

Net income (loss)

    134,272     59,536     (18,760 )

Net income attributable to noncontrolling interest

    129          

Net income (loss) attributable to Innoviva stockholders

  $ 134,143   $ 59,536   $ (18,760 )

Basic net income (loss) per share attributable to Innoviva stockholders

  $ 1.25   $ 0.54   $ (0.16 )

Diluted net income (loss) per share attributable to Innoviva stockholders

  $ 1.17   $ 0.53   $ (0.16 )

Shares used to compute Innoviva basic and diluted net income (loss) per share:

                   

Shares used to compute basic net income (loss) per share

    106,945     110,280     115,372  

Shares used to compute diluted net income (loss) per share

    119,866     123,233     115,372  

Cash dividends declared per common share

  $   $   $ 0.75  

   

See accompanying notes to consolidated financial statements.

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INNOVIVA, INC.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)

(In thousands)

 
  Year Ended December 31,  
 
  2017   2016   2015  

Net income (loss)

  $ 134,272   $ 59,536   $ (18,760 )

Other comprehensive income (loss):

                   

Unrealized (loss) gain on marketable securities, net

    (19 )   3     1,305  

Less: realized gain on marketable securities, net

            (1,220 )

Comprehensive income (loss)

    134,253     59,539     (18,675 )

Comprehensive income attributable to noncontrolling interest

    129          

Comprehensive income (loss) attributable to Innoviva stockholders

  $ 134,124   $ 59,539   $ (18,675 )

   

See accompanying notes to consolidated financial statements.

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INNOVIVA, INC.

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' DEFICIT

(In thousands)

 
  Innoviva Stockholders' Deficit    
   
 
 
  Common Stock    
  Accumulated
Other
Comprehensive
Income (loss)
   
  Treasury Stock    
   
 
 
  Additional
Paid-In
Capital
  Accumulated
Deficit
  Noncontrolling
Interest
  Total
Stockholders'
Deficit
 
 
  Shares   Amount   Shares   Amount  

Balance as of December 31, 2014

    116,445   $ 1,164   $ 1,452,504   $ (87 ) $ (1,673,667 )   (150 ) $ (3,263 ) $   $ (223,349 )

Exercise of stock options, and issuance of common stock units and stock awards

    740     8     (488 )                       (480 )

Issuance of common stock in private placement to a related party

    424     4     6,524                         6,528  

Stock-based compensation

            6,873                         6,873  

Repurchase of common stock

    (2,676 )   (27 )   (25,609 )                       (25,636 )

Cash dividends declared, $0.75 per common share

            (87,906 )                       (87,906 )

Net loss

                    (18,760 )               (18,760 )

Other comprehensive income

                85                     85  

Balance as of December 31, 2015

    114,933     1,149     1,351,898     (2 )   (1,692,427 )   (150 )   (3,263 )       (342,645 )

Exercise of stock options, and issuance of common stock units and stock awards

    853     8     (674 )                       (666 )

Partial termination of capped call options associated with repurchases of convertible notes due 2023

            578                         578  

Stock-based compensation

            8,297                         8,297  

Repurchase of common stock

    (7,201 )   (72 )   (78,022 )                       (78,094 )

Net income

                    59,536                 59,536  

Other comprehensive income

                3                     3  

Balance as of December 31, 2016

    108,585     1,085     1,282,077     1     (1,632,891 )   (150 )   (3,263 )       (352,991 )

Contributions from noncontrolling interest

                                23     23  

Exercise of stock options, and issuance of common stock units and stock awards

    891     9     (1,702 )                       (1,693 )

Stock-based compensation

            9,833                         9,833  

Cash dividend forfeited

            7                         7  

Repurchase of common stock

    (7,430 )   (75 )   (97,425 )                       (97,500 )

Equity component of Covertible Senior Notes due 2025, net of issuance costs

            65,361                         65,361  

Net income

                    134,143             129     134,272  

Other comprehensive loss

                (19 )                   (19 )

Balance as of December 31, 2017

    102,046   $ 1,019   $ 1,258,151   $ (18 ) $ (1,498,748 )   (150 ) $ (3,263 ) $ 152   $ (242,707 )

   

See accompanying notes to consolidated financial statements.

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INNOVIVA, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

 
  Year Ended December 31,  
 
  2017   2016   2015  

Cash flows from operating activities

                   

Net income (loss)

  $ 134,272   $ 59,536   $ (18,760 )

Adjustments to reconcile net income (loss) to net cash provided by operating activities:

                   

Depreciation and amortization

    13,982     13,954     13,933  

Stock-based compensation

    9,833     8,297     6,873  

Amortization of debt discount and issuance costs

    5,116     2,847     2,943  

Loss (gain) on extinguishment of debt

    7,256     (2,342 )    

Amortization of discount on short-term investments

    (105 )   (9 )   583  

Amortization of lease guarantee

    (325 )   (190 )    

Interest added to the principal balance of non-recourse notes due 2029

        855     22,635  

Realized gain on sale of marketable securities, net

            (1,220 )

Other non-cash items

            (3 )

Changes in operating assets and liabilities:

                   

Receivables from collaborative arrangements

    (23,693 )   (20,619 )   (15,678 )

Prepaid expenses and other current assets

    12     48     320  

Other assets

        (19 )    

Accounts payable

    473     (690 )   818  

Payable to Theravance Biopharma, Inc., net

            (1,056 )

Accrued personnel-related expenses and other accrued liabilities

    (81 )   276     (725 )

Accrued interest payable

    (1,908 )   (83 )   360  

Other long-term liabilities

    16     8     (7 )

Deferred revenue

    (3,099 )   (885 )   (885 )

Net cash provided by operating activities

    141,749     60,984     10,131  

Cash flows from investing activities

                   

Maturities of marketable securities

    44,387     88,422     137,621  

Purchases of marketable securities

    (67,623 )   (95,719 )   (86,523 )

Sales of marketable securities

        2,995     108,077  

Purchases of property and equipment

        (278 )   (7 )

Net cash (used in) provided by investing activities

    (23,236 )   (4,580 )   159,168  

Cash flows from financing activities

                   

Proceeds from senior secured term loans

    250,000          

Proceeds from issuance of convertible senior notes due 2025

    192,500          

Payments of debt issuance costs and debt discount

    (12,803 )        

Payments of principal on non-recourse notes due 2029

    (487,189 )   (6,828 )    

Repurchase of shares to satisfy tax withholding

    (2,128 )   (1,079 )   (2,192 )

Payments of principal on senior secured term loans

    (6,250 )        

Payments of cash dividends to stockholders

    (281 )   (960 )   (87,331 )

Proceeds from issuances of common stock, net

    435     385     8,240  

Repurchase of common stock

    (97,500 )   (78,094 )   (25,636 )

Repurchase of convertible subordinated notes due 2023

        (11,570 )    

Proceeds from capped-call options

        578      

Contributions from noncontrolling interest

    23          

Net cash used in financing activities

    (163,193 )   (97,568 )   (106,919 )

Net (decrease) increase in cash and cash equivalents

    (44,680 )   (41,164 )   62,380  

Cash and cash equivalents at beginning of period

    118,016     159,180     96,800  

Cash and cash equivalents at end of period

  $ 73,336   $ 118,016   $ 159,180  

Supplemental disclosure of cash flow information

                   

Cash paid for interest

  $ 40,353   $ 48,797   $ 25,863  

   

See accompanying notes to consolidated financial statements.

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INNOVIVA, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1. DESCRIPTION OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Description of Operations

        Innoviva, Inc. (referred to as "Innoviva", the "Company", or "we" and other similar pronouns) is focused on bringing compelling medicines to patients in areas of unmet need by leveraging its significant expertise in the development, commercialization and financial management of bio-pharmaceuticals. Innoviva's portfolio is anchored by the respiratory assets partnered with Glaxo Group Limited ("GSK"), including RELVAR®/BREO®ELLIPTA® (fluticasone furoate/ vilanterol, "FF/VI"), ANORO® ELLIPTA® (umeclidinium bromide/ vilanterol, "UMEC/VI") and TRELEGY® ELLIPTA® (the combination FF/UMEC/VI). Under the Long-Acting Beta2 Agonist ("LABA") Collaboration Agreement, Innoviva is eligible to receive the associated royalty revenues from RELVAR®/BREO®ELLIPTA® and ANORO® ELLIPTA®. Innoviva is also entitled to 15% of royalty payments made by GSK under its agreements originally entered into with us, and since assigned to Theravance Respiratory Company, LLC ("TRC"), relating to TRELEGY® ELLIPTA® and any other product or combination of products that may be discovered and developed in the future under the LABA Collaboration Agreement and the Strategic Alliance Agreement with GSK (referred to herein as the "GSK Agreements"), which have been assigned to TRC other than RELVAR®/BREO® ELLIPTA® and ANORO® ELLIPTA®.

Principles of Consolidation

        The accompanying consolidated financial statements include the accounts of Innoviva and its wholly owned subsidiaries and a variable interest entity for which the Company is the primary beneficiary. All intercompany balances and transactions have been eliminated in consolidation. For the consolidated variable interest entity, the Company records net income attributable to noncontrolling interest on its consolidated statements of operations equal to the percentage of ownership interest retained in such entity by the respective noncontrolling party.

Use of Management's Estimates

        The preparation of consolidated financial statements in conformity with U.S. Generally Accepted Accounting Principles ("GAAP") requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could differ materially from those estimates. Management evaluates its significant accounting policies and estimates on an ongoing basis. We base our estimates on historical experience and other relevant assumptions that we believe to be reasonable under the circumstances. These estimates also form the basis for making judgments about the carrying values of assets and liabilities when these values are not readily apparent from other sources.

Certain Risks and Concentrations

        Our financial instruments that are exposed to concentrations of credit risk consist primarily of cash and cash equivalents and marketable securities. Although we deposit our cash with multiple financial institutions, our deposits, at times, may exceed federally insured limits. Refer to "Segment Reporting" below for concentrations with respect to revenues and geographic locations.

Segment Reporting

        We operate in a single segment, which is to provide capital return to stockholders by maximizing the potential value of our respiratory assets partnered with GSK. Revenues are generated from our

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INNOVIVA, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

1. DESCRIPTION OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

collaborative arrangements and royalty payments from GSK, located in Great Britain. Our facilities are located within the United States.

Variable Interest Entity

        We evaluate our ownership, contractual and other interest in entities to determine if they are variable-interest entities ("VIE"), whether we have a variable interest in those entities and the nature and extent of those interests. Based on our evaluations, if we determine we are the primary beneficiary of such VIEs, we consolidate such entities into our financial statements. We consolidate the financial results of TRC, which we have determined to be a VIE, because we have the power to direct the economically significant activities of TRC and the obligation to absorb losses of, or the right to receive benefits from, TRC. The financial position and results of operations of TRC are not material for the periods presented.

Cash and Cash Equivalents

        We consider all highly liquid investments purchased with a maturity of three months or less on the date of purchase to be cash equivalents. Cash equivalents are carried at cost, which approximates fair value.

Investments in Marketable Securities

        We invest in short-term investments and marketable securities, primarily corporate notes, government securities, government agencies, and government commercial papers. We limit the amount of credit exposure with any one issuer, industry or geographic area for investments other than instruments backed by the U.S. federal government. We classify our marketable securities as available-for-sale securities and report them at fair value in cash equivalents or short-term marketable securities on the consolidated balance sheets with related unrealized gains and losses included as a component of stockholders' deficit. The amortized cost of debt securities is adjusted for amortization of premiums and accretion of discounts to maturity, which is included in interest income on the consolidated statements of operations. Realized gains and losses, if any, on available-for-sale securities are included in interest income. The cost of securities sold is based on the specific identification method. Interest and dividends on securities classified as available-for-sale are included in interest income.

        We regularly review all of our investments for other-than-temporary declines in estimated fair value. Our review includes the consideration of the cause of the impairment, including the creditworthiness of the security issuers, the number of securities in an unrealized loss position, the severity and duration of the unrealized losses, whether we have the intent to sell the securities and whether it is more likely than not that we will be required to sell the securities before the recovery of their amortized cost basis. When we determine that the decline in estimated fair value of an investment is below the amortized cost basis and the decline is other-than-temporary, we reduce the carrying value of the security and record a loss for the amount of such decline to other income (expense), net.

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INNOVIVA, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

1. DESCRIPTION OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

Fair Value of Financial Instruments

        We define fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date.

        Our valuation techniques are based on observable and unobservable inputs. Observable inputs reflect readily obtainable data from independent sources, while unobservable inputs reflect our market assumptions. We classify these inputs into the following hierarchy:

        Financial instruments include cash equivalents, marketable securities, receivables from collaborative arrangements, accounts payable, and accrued liabilities. Cash equivalents and marketable securities are carried at estimated fair value. The carrying value of receivables from collaborative arrangements, accounts payable, and accrued liabilities approximate their estimated fair value due to the relatively short-term nature of these instruments.

Property and Equipment

        Property and equipment as of December 31, 2017 and 2016, which consisted of equipment, computer equipment, software, office furniture and fixture, amounted to $0.2 million and $0.4 million, respectively.

        Property, equipment and leasehold improvements are stated at cost and depreciated using the straight-line method as follows:

Leasehold improvements   Shorter of remaining lease terms or useful life
Equipment, furniture and fixtures   5 - 7 years
Software and computer equipment   3 years

        Depreciation expense for the years ended December 31, 2017, 2016 and 2015 was $0.2 million, $0.1 million and $0.1 million, respectively.

Capitalized Software

        We capitalize certain costs related to direct material and service costs for software obtained for internal use. Capitalized software costs are depreciated over three years.

Capitalized Fees Paid to a Related Party

        We capitalize fees paid to licensors related to agreements for approved products or commercialized products. We capitalize these fees as capitalized fees paid to a related party ("Capitalized Fees") and amortize these Capitalized Fees on a straight-line basis over their estimated useful lives upon the commercial launch of the product, which has been shortly after regulatory approval of such product.

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INNOVIVA, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

1. DESCRIPTION OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

The estimated useful lives of these Capitalized Fees are based on a country-by-country and product-by-product basis, as the later of the expiration or termination of the last patent right covering the compound in such product in such country and 15 years from first commercial sale of such product in such country, unless the agreement is terminated earlier. Consistent with our policy for classification of costs under the research and development collaborative arrangements, the amortization of these Capitalized Fees are recognized as a reduction of royalty revenue. We review our Capitalized Fees for impairment on a product-by-product basis for each major geographic area when events or changes in circumstances indicate that the carrying amount of such assets may not be recoverable. The recoverability of Capitalized Fees is measured by comparing the asset's carrying amount to the expected undiscounted future cash flows that the asset is expected to generate. The determination of recoverability typically requires various estimates and assumptions, including estimating the useful life over which cash flows will occur, their amount, and the asset's residual value, if any. We derive the required cash flow estimates from near-term forecasted product sales and long-term projected sales in the corresponding market.

Revenue Recognition

        Revenue is recognized when the four basic criteria of revenue recognition are met: (1) persuasive evidence of an arrangement exists; (2) delivery has occurred or services have been rendered; (3) the fee is fixed or determinable; and (4) collectability is reasonably assured. Where the revenue recognition criteria are not met, we defer the recognition of revenue by recording deferred revenue until such time that all criteria are met.

Collaborative Arrangements and Multiple-Element Arrangements

        Revenue from nonrefundable, up-front license or technology access payments under license and collaborative arrangements that are not dependent on any future performance by us is recognized when such amounts are earned. If we have continuing obligations to perform under the arrangement, such fees are recognized over the estimated period of continuing performance obligation. For our arrangements with GSK, we recognize revenue from non-refundable, upfront fees and development contingent payments in the same manner as the final deliverable, which is ratably over the expected term of our performance of research and development services under the agreements. These upfront or contingent payments received, pending recognition as revenue, are recorded as deferred revenue. We periodically review the estimated performance period of our contracts based on the progress of our programs. The effect of any change made to an estimated performance period and, therefore revenue recognized, would occur on a prospective basis in the period that the change was made.

        The remaining deferred revenue under the GSK Strategic Alliance Agreement was fully recognized during the year ending December 31, 2017 because there is no remaining performance obligation for Innoviva under the MABA program.

Royalties

        We recognize royalty revenue on licensee net sales of products with respect to which we have contractual royalty rights in the period in which the royalties are earned and reported to us and collectability is reasonably assured. Royalties are recognized net of amortization of capitalized fees associated with any approval and launch milestone payments made to GSK.

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INNOVIVA, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

1. DESCRIPTION OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

Allowance for Doubtful Accounts

        We maintain a policy to record allowances for potentially doubtful accounts for estimated losses resulting from the inability of our customers to make required payments. As of December 31, 2017, there were no allowances for doubtful accounts and we have not had any write-offs historically.

Fair Value of Stock-Based Compensation Awards

        We use the Black-Scholes-Merton option pricing model to estimate the fair value of options granted under our equity incentive plans and rights to acquire stock granted under our employee stock purchase plan ("ESPP"). The Black-Scholes-Merton option valuation model requires the use of assumptions, including the expected term of the award and the expected stock price volatility. We use the "simplified" method as described in Staff Accounting Bulletin No. 107, "Share-Based Payment," for the expected option term. We use our historical volatility to estimate expected stock price volatility.

        Restricted stock units ("RSUs") and restricted stock awards ("RSAs") are measured based on the fair market values of the underlying stock on the dates of grant.

        Stock-based compensation expense is calculated based on awards ultimately expected to vest and was reduced for estimated forfeitures at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differed from those estimates. Our estimated annual forfeiture rates for stock options, RSUs and RSAs are based on our historical forfeiture experience.

        The estimated fair value of stock options, RSUs and RSAs is expensed on a ratable or straight-line basis over the expected term of the grant or expected term of the vesting and the estimated fair value of performance-contingent RSUs and RSAs is expensed using an accelerated method over the term of the award once we have determined that it is probable that performance milestones will be achieved. Compensation expense for RSUs and RSAs that contain performance conditions is based on the grant date fair value of the award. Compensation expense is recorded over the requisite service period based on management's best estimate as to whether it is probable that the shares awarded are expected to vest. We assess the probability of the performance milestones being met on a continuous basis. The grant date fair value of the RSUs and RSAs with a market condition is determined using a Monte Carlo valuation model and the compensation expense is recognized over the implied service period.

        Compensation expense for purchases under the ESPP is recognized based on the fair value of the common stock on the date of offering, less the purchase discount percentage provided for in the plan.

Amortization of Debt Issuance Costs from Non-Recourse Notes Due 2029

        In April 2014, we entered into certain note purchase agreements relating to the private placement of $450.0 million aggregate principal amount of non-recourse 9% fixed rate term notes due the 2029 (the "2029 Notes") issued by our wholly-owned subsidiary.

        We incurred approximately $15.3 million in transaction costs in connection with issuance of the 2029 Notes, which we amortized to interest expense over the estimated life of the 2029 Notes based on the effective interest method. In May 2017, we redeemed $50 million on the 2029 Notes. In August 2017, we redeemed the remaining principal balance of $407.6 million with the net proceeds from the convertible senior notes due 2025 (the "2025 Notes") and Term B Loan. With the redemptions of the

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INNOVIVA, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

1. DESCRIPTION OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

2029 Notes, we recorded $7.3 million loss on the extinguishment and presented it as part of Other income (expense), net in our consolidated statements of operations.

Income Taxes

        We utilize the asset and liability method of accounting for income taxes. Under this method, deferred tax assets and liabilities are determined based on differences between financial reporting and tax basis of assets and liabilities and are measured using enacted tax rates and laws that will be in effect when the differences are expected to reverse. A valuation allowance is provided when it is more likely than not that some portion or all of a deferred tax asset will not be realized.

        None of our currently unrecognized tax benefits would affect our effective income tax rate if recognized, due to the valuation allowance that currently offsets our deferred tax assets. We do not anticipate the total amount of unrecognized income tax benefits relating to uncertain tax positions existing as of December 31, 2017 will significantly increase or decrease in the next 12 months.

        We assess all material positions taken in any income tax return, including all significant uncertain positions, in all tax years that are still subject to assessment or challenge by relevant taxing authorities. Assessing an uncertain tax position begins with the initial determination of the position's sustainability and is measured at the largest amount of benefit that is greater than 50% likely to be realized upon ultimate settlement. As of each balance sheet date, unresolved uncertain tax positions must be reassessed, and we will determine whether: the factors underlying the sustainability assertion have changed and whether the amount of the recognized tax benefit is still appropriate.

        The recognition and measurement of tax benefits requires significant judgment. Judgments concerning the recognition and measurement of a tax benefit might change as new information becomes available.

Comprehensive Income (Loss)

        Comprehensive income (loss) is comprised of net income (loss) and other comprehensive income (loss). Other comprehensive income (loss) consists of changes in unrealized and realized gains and losses on our marketable securities.

Related Parties

        GSK owned 31.4% of our outstanding common stock as of December 31, 2017. Transactions with GSK are described in Note 3, "Collaborative Arrangements".

        In filings with the Securities and Exchange Commission, BlackRock, Inc., a global provider of investment, advisory and risk management solutions, reported beneficial ownership of more than 10% of our outstanding common stock as of December 31, 2017. We use an external asset manager, not affiliated with BlackRock, Inc., to manage a portion of our cash and investments portfolio. We had $64.3 million invested in BlackRock Liquidity Money Market Fund as of December 31, 2016 through our external asset manager. The money market fund invests in U.S. Treasury bills, notes, trust receipts and direct obligations of the U.S. Treasury and repurchase agreements relating to direct treasury obligations. We had no investment in this fund as of December 31, 2017.

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INNOVIVA, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

1. DESCRIPTION OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

Recently Issued Accounting Pronouncements Not Yet Adopted

        In April 2016, the FASB issued ASU 2016-10 to clarify the implementation guidance on licensing and the identification of performance obligations consideration included in ASU 2014-09, Revenue from Contracts with Customers ("ASU 2014-09"), which is also known as ASC 606, was issued in May 2014 and outlines a single comprehensive model for entities to use in accounting for revenue arising from contracts with customers and supersedes most current revenue recognition guidance, including industry-specific guidance. In March 2016, the FASB issued ASU 2016-08 to provide amendments to clarify the implementation guidance on principal versus agent considerations. This standard is effective for us on January 1, 2018. We implemented the standard on January 1, 2018 on a modified retrospective basis to contracts which are not completed as of this date. This standard will not have a material impact on our consolidated financial statements as we do not have any unrecognized transaction price, other than sales-based royalty revenue, or any remaining performance obligations under our collaboration agreements as of the initial adoption date.

        In February 2016, the FASB issued ASU 2016-02, Leases, which supersedes the lease recognition requirements in ASC Topic 840, Leases. The standard requires an entity to recognize right-of-use assets and lease liabilities arising from a lease for both financing and operating leases in the consolidated balance sheets but recognize the impact on the consolidated statement of operations and cash flows in a similar manner under current GAAP. The standard also requires additional qualitative and quantitative disclosures. The standard is effective for us at the beginning January 1, 2019 and requires transition under a modified retrospective method. The most significant impact of the update to us is that we will be required to recognize a "right-of-use" asset and lease liability for the operating lease agreement that was not previously included on the balance sheet under the existing lease guidance. We anticipate that there will be no material impact on our consolidated statement of operations from the adoption of ASU 2016-02.

2. NET INCOME (LOSS) PER SHARE

        Basic net income (loss) per share attributable to Innoviva stockholders is computed by dividing net income (loss) attributable to Innoviva stockholder by the weighted-average number of shares of common stock outstanding. Diluted net income (loss) per share attributable to Innoviva stockholders is computed by dividing net income (loss) attributable to Innoviva stockholders by the weighted-average number of shares of common stock and dilutive potential common stock equivalents then outstanding. Dilutive potential common stock equivalents include the assumed exercise, vesting and issuance of employee stock awards using the treasury stock method, as well as common stock issuable upon assumed conversion of our 2023 convertible debt using the if-converted method.

        Our 2025 Notes are convertible, based on the applicable conversion rate, into cash, shares of our common stock or a combination thereof, at our election. Our current intent is to settle the principal amount of the 2025 Notes in cash upon conversion. The impact of the assumed conversion premium to diluted net income per share is computed using the treasury stock method. As the average market price per share of our common stock as reported on The Nasdaq Global Select Market was lower than the initial conversion price of $17.26 per share, there was no dilutive effect of the assumed conversion premium for the year ended December 31, 2017.

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INNOVIVA, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

2. NET INCOME (LOSS) PER SHARE (Continued)

        The following table shows the computation of basic and diluted net income (loss) per share for the years ended December 31, 2017, 2016 and 2015:

 
  Year Ended December 31,  
(In thousands except per share data)
  2017   2016   2015  

Numerator:

                   

Net income (loss) attributable to Innoviva stockholders, basic

  $ 134,143   $ 59,536   $ (18,760 )

Add: interest expense on 2023 Notes

    5,647     5,790      

Net income (loss) attributable to Innoviva stockholders, diluted

  $ 139,790   $ 65,326   $ (18,760 )

Denominator:

                   

Weighted-average shares used to compute basic net income (loss) per share attributable to Innoviva stockholders

    106,945     110,280     115,372  

Dilutive effect of 2023 Notes

    12,189     12,541      

Dilutive effect of options and awards granted under equity incentive plan and employee stock purchase plan

    732     412      

Weighted-average shares used to compute diluted net income (loss) per share attributable to Innoviva stockholders

    119,866     123,233     115,372  

Net income (loss) per share attributable to Innoviva stockholders

                   

Basic

  $ 1.25   $ 0.54   $ (0.16 )

Diluted

  $ 1.17   $ 0.53   $ (0.16 )

        The following common share equivalents were not included in the computation of diluted net income (loss) per share because their effect was anti-dilutive:

 
  Year Ended December 31,  
(In thousands)
  2017   2016   2015  

Outstanding options and awards granted under equity incentive plan and employee stock purchase plan

    2,121     4,073     6,934  

Shares issuable upon conversion of 2023 Notes

            12,904  

    2,121     4,073     19,838  

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INNOVIVA, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

3. COLLABORATIVE ARRANGEMENTS

        Net revenue recognized under our GSK Agreement was as follows:

 
  Year Ended December 31,  
(In thousands)
  2017   2016   2015  

Royalties from a related party—RELVAR/BREO

  $ 198,726   $ 128,638   $ 59,188  

Royalties from a related party—ANORO

    29,036     17,869     7,699  

Royalties from a related party—TRELEGY

    179          

Total royalties from a related party

    227,941     146,507     66,887  

Less: amortization of capitalized fees paid to a related party

    (13,823 )   (13,823 )   (13,823 )

Royalty revenue

    214,118     132,684     53,064  

Strategic alliance—MABA program license

    3,099     885     885  

Total net revenue from GSK

  $ 217,217   $ 133,569   $ 53,949  

        As a result of the launch and approval of RELVAR®/BREO® ELLIPTA® and ANORO® ELLIPTA® in the U.S., Japan and Europe, we paid milestone fees to GSK totaling $220.0 million during the year ended December 31, 2014. Although we have no further milestone payment obligations to GSK pursuant to the LABA Collaboration Agreement, we continue to have ongoing participation as part of the collaboration, including joint steering and joint project committees that are expected to continue over the life of the agreement. The milestone fees paid to GSK were recognized as capitalized fees paid to a related party, which are being amortized over their estimated useful lives commencing upon the commercial launch of the product. The amortization expense is recorded as a reduction to the royalties from GSK.

        We are entitled to receive annual royalties from GSK on sales of RELVAR®/BREO® ELLIPTA® as follows: 15% on the first $3.0 billion of annual global net sales and 5% for all annual global net sales above $3.0 billion. Sales of single-agent LABA medicines and combination medicines would be combined for the purposes of this royalty calculation. For other products combined with a LABA from the LABA Collaboration, such as ANORO® ELLIPTA®, royalties are upward tiering and range from 6.5% to 10%.

        We are also entitled to 15% of royalty payments made by GSK under its agreements originally entered into with us, and since assigned to TRC in connection with the Spin-Off, including TRELEGY® ELLIPTA®, which royalties are upward tiering and range from 6.5% to 10%.

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INNOVIVA, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

4. AVAILABLE-FOR-SALE SECURITIES AND FAIR VALUE MEASUREMENTS

Available-for Sale Securities

        The estimated fair value of available-for-sale securities is based on quoted market prices for these or similar investments that were based on prices obtained from a commercial pricing service. Available-for-sale securities are summarized below:

 
  December 31, 2017  
(In thousands)
  Amortized
Cost
  Gross
Unrealized
Gains
  Gross
Unrealized
Losses
  Estimated
Fair Value
 

U.S. government securities

  $ 9,943   $   $ (1 ) $ 9,942  

U.S. government agencies

    9,987         (2 )   9,985  

U.S. corporate notes

    10,881         (15 )   10,866  

U.S. commercial papers

    29,945             29,945  

Money market funds

    61,971             61,971  

Total

  $ 122,727   $   $ (18 ) $ 122,709  

 

 
  December 31, 2016  
(In thousands)
  Amortized
Cost
  Gross
Unrealized
Gains
  Gross
Unrealized
Losses
  Estimated
Fair Value
 

U.S. government agencies

  $ 12,428   $ 1   $   $ 12,429  

U.S. commercial papers

    72,065             72,065  

Money market funds

    64,319             64,319  

Total

  $ 148,812   $ 1   $   $ 148,813  

        As of December 31, 2017, all of the available-for-sale debt securities had contractual maturities within one year and the average duration of debt securities was approximately three months.

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INNOVIVA, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)

4. AVAILABLE-FOR-SALE SECURITIES AND FAIR VALUE MEASUREMENTS (Continued)

Fair Value Measurements

        Our available-for-sale securities are measured at fair value on a recurring basis and our debt is carried at the amortized cost basis. The estimated fair values were as follows:

 
  Estimated Fair Value Measurements as of
December 31, 2017 Using:
 
 
  Quoted Price in
Active Markets
for Identical
Assets
  Significant Other
Observable
Inputs
  Significant
Unobservable
Inputs
   
 
Types of Instruments
(In thousands)
  Level 1   Level 2   Level 3   Total  

Assets

                         

U.S. government securities

  $   $ 9,942   $   $ 9,942  

U.S. government agencies

        9,985         9,985  

U.S. corporate notes

        10,866         10,866  

U.S. commercial papers

        29,945         29,945  

Money market funds

    61,971             61,971  

Total assets measured at estimated fair value

  $ 61,971   $ 60,738   $   $ 122,709  

Liabilities

                         

Term B Loan

  $   $ 243,750   $   $ 243,750  

2023 Notes

        241,259         241,259  

2025 Notes

        205,975         205,975  

Total fair value of liabilities

  $   $ 690,984   $   $ 690,984  

 

 
  Estimated Fair Value Measurements as of
December 31, 2016 Using:
 
 
  Quoted Price in
Active Markets
for Identical
Assets
  Significant Other
Observable
Inputs
  Significant
Unobservable
Inputs
   
 
Types of Instruments
(In thousands)
  Level 1   Level 2   Level 3   Total  

Assets