UNITED STATES

(Address of principal executive offices, including zip code)

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

 

Item 1.    Condensed Consolidated Financial Statements

Seattle Genetics, Inc.

The accompanying notes are an integral part of these condensed consolidated financial statements.

The accompanying notes are an integral part of these condensed consolidated financial statements.

The accompanying notes are an integral part of these condensed consolidated financial statements.

1. Summary of significant accounting policies

Basis of presentation

The accompanying unaudited condensed consolidated financial statements reflect the accounts of Seattle Genetics, Inc. and its wholly-owned subsidiaries (collectively “Seattle Genetics,” “we,” “our,” or “us”). All intercompany transactions and balances have been eliminated. We acquired Cascadian Therapeutics, Inc., or Cascadian, in March 2018, as further described in Note 4. Management has determined that we operate in one1 segment: the development and sale of pharmaceutical products on our own behalf or in collaboration with others. Substantially all of our assets and revenues are related to operations in the U.S.; however, we have multiple subsidiaries in foreign jurisdictions, including several subsidiaries in Europe.

The condensed consolidated balance sheet data as of December 31, 2018 were derived from audited financial statements not included in this quarterly report on Form 10-Q. The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with the rules and regulations of the Securities and Exchange Commission, or SEC, and generally accepted accounting principles in the United States of America, or GAAP, for unaudited condensed consolidated financial information. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. The accompanying unaudited condensed consolidated financial statements reflect all adjustments consisting of normal recurring adjustments that, in the opinion of management, are necessary for a fair statement of our financial position and results of our operations as of and for the periods presented.

These unaudited condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and accompanying notes included in our Annual Report on Form 10-K for the year ended December 31, 2018, as filed with the SEC.

The preparation of financial statements in accordance with GAAP requires us to make estimates, assumptions, and judgments that affect the amounts reported in the condensed consolidated financial statements and accompanying notes. Actual results could differ from those estimates. The results of our operations for the three and sixnine month periods ended JuneSeptember 30, 2019 are not necessarily indicative of the results to be expected for the full year or any other interim period.

Non-cash financing and investing activities

We had $10.6$11.7 million and $4.6 million of accrued capital expenditures as of JuneSeptember 30, 2019 and December 31, 2018, respectively. Accrued capital expenditures have been treated as a non-cash investing activity and, accordingly, have not been included in the statement of cash flows until such amounts have been paid in cash. During the sixnine months ended JuneSeptember 30, 2019, we recorded $39.2 million right-of-use assets in exchange for lease liabilities. Refer to Note 3.

Investments

We hold certain equity securities that we acquired in connection with strategic agreements, which are reported at estimated fair value. Changes in the fair value of equity securities are recorded in income or loss. The cost of equity securities for purposes of computing gains and losses is based on the specific identification method.

We invest our available cash primarily in debt securities. These debt securities are classified as available-for-sale, which are reported at estimated fair value with unrealized gains and losses included in accumulated other comprehensive income and loss in stockholders’ equity. Realized gains, realized losses and declines in the value of debt securities judged to be other-than-temporary are included in investment and other income (loss), net. The cost of debt securities for purposes of computing realized and unrealized gains and losses is based on the specific identification method. Amortization of premiums and accretion of discounts on debt securities are included in investment and other income (loss), net. Interest and dividends earned are included in investment and other income (loss), net. We classify investments in debt securities maturing within one year of the reporting date, or where management’s intent is to use the investments to fund current operations or to make them available for current operations, as short-term investments.

If the estimated fair value of a debt security is below its carrying value, we evaluate whether it is more likely than not that we will sell the security before its anticipated recovery in market value and whether evidence indicating that the cost of the investment is recoverable within a reasonable period of time outweighs evidence to the contrary. We also evaluate whether or not we intend to sell the investment. If the impairment is considered to be other-than-temporary, the security is written down to its estimated fair value. In addition, we consider whether credit losses exist for any securities. A credit loss exists if the present value of cash flows expected to be collected is less than the amortized cost basis of the security. Other-than-temporary declines in estimated fair value and credit losses are included in investment and other income (loss), net.

Leases

We adopted Accounting Standards Update, or "ASU 2016-02, Leases" on January 1, 2019. As a result of this standard, we recorded a liability to make lease payments and a right-of-use asset representing our right to use the underlying asset for the applicable lease term in our condensed consolidated balance sheet. We elected the modified retrospective method transition option, which permitted us not to restate the comparative period presented.

We elected the "package of practical expedients", which permitted us not to reassess under the standard our prior conclusion about lease identification, lease classification and initial direct cost. We also elected the practical expedient to not separate lease and non-lease components for our real estate leases, and elected the short-term lease recognition exemption for our short-term leases, which allows us not to recognize lease liabilities and right-of-use assets on our condensed consolidated balance sheet for leases with an original term of twelve months or less.

The standard had a material impact on our condensed consolidated balance sheet, did not have an impact on our condensed consolidated statement of comprehensive loss, and there was no cumulative-effect adjustment to the opening balance of retained earnings in the period of adoption. Refer to Note 3 for additional information.

We determine if an arrangement is a lease at inception date. All of our leases are classified as operating leases. Operating lease liabilities and the corresponding right-of-use assets are recognized based on the present value of the future minimum lease payments over the lease term at commencement date. The operating lease right-of-use asset also excludes lease incentives and initial direct costs incurred. As our existing leases do not contain an implicit interest rate, we estimate our incremental borrowing rate based on information available at commencement date in determining the present value of future payments. We include options to extend the lease in our lease liability and right-of-use asset when it is reasonably certain that we will exercise that option. Lease expense for minimum lease payments is recognized on a straight-line basis over the lease term. For our short-term leases, we recognize lease payments as an expense on a straight-line base over the lease term.

Business combinations, including acquired in-process research and development and goodwill

We account for business combinations using the acquisition method, recording the acquisition-date fair value of total consideration over the acquisition-date fair value of net assets acquired as goodwill.

Fair value is typically estimated using an income approach based on the present value of future discounted cash flows. The significant estimates in the discounted cash flow model primarily include the discount rate, and rates of future revenue and expense growth and/or profitability of the acquired business. The discount rate considers the relevant risk associated with business-specific characteristics and the uncertainty related to the ability to achieve the projected cash flows. We may record adjustments to the fair values of assets acquired and liabilities assumed within the measurement period (up to one year from the acquisition date).

In-process research and development assets are accounted for as indefinite-lived intangible assets and maintained on the balance sheet until either the underlying project is completed or the asset becomes impaired. If the project is completed, the carrying value of the related intangible asset is amortized to cost of sales over the remaining estimated life of the asset beginning in the period in which the project is completed. If the asset becomes impaired or is abandoned, the carrying value of the related intangible asset is written down to its fair value and an impairment charge is recorded in the period in which the impairment occurs.

We evaluate indefinite-lived intangible assets and goodwill for impairment annually, as of October 1, or more frequently when events or circumstances indicate that impairment may have occurred. As part of the impairment evaluation, we may elect to perform an assessment of qualitative factors. If this qualitative assessment indicates that it is more likely than not that the fair value of the indefinite-lived intangible asset or the reporting unit (for goodwill) is less than its carrying value, we then would proceed with the quantitative impairment test to compare the fair value to the carrying value and record an impairment charge if the carrying value exceeds the fair value.

Acquisition-related costs, including banking, legal, accounting, valuation, and other similar costs, are expensed in the periodsperiod in which the costs are incurred and included in loss from operations in the consolidated financial statements.incurred. The results of operations of the acquired business are included in the consolidated financial statements from the acquisition date.

Long-term incentive plans

We have established Long-Term Incentive Plans, or LTIPs. The LTIPs provide eligible employees with the opportunity to receive performance-based incentive compensation, which may be comprised of cash, stock options, and/or RSUs. The payment of cash and the grant and/or vesting of equity are contingent upon the achievement of pre-determined regulatory milestones. We record compensation expense over the estimated service period for each milestone subject to the achievement of the milestone being considered probable in accordance with the provisions of Accounting Standards Codification Topic 450, Contingencies. At each reporting date, we assess whether achievement of a milestone is considered probable and, if so, record compensation expense based on the portion of the service period elapsed to date with respect to that milestone, with a cumulative catch-up, net of estimated forfeitures. We recognize compensation expense with respect to a milestone over the remaining estimated service period. As of JuneSeptember 30, 2019, the estimated unrecognized compensation expense related to all LTIPs was $51.2$47.8 million.

The total estimate of unrecognized compensation expense could change in the future for several reasons, including the addition or termination of employees, the recognition of LTIP compensation expense, or the addition, termination, or modification of an LTIP.

Revenue recognition

Our revenues are comprised of ADCETRIS net product sales, amounts earned under our collaboration and licensing agreements, and royalties. Revenue recognition occurs when a customer obtains control of promised goods or services in an amount that reflects the consideration we expect to receive in exchange for those goods or services. The period between when we transfer control of promised goods or services and when we receive payment is expected to be one year or less, and that expectation is consistent with our historical experience. As such, we do not adjust our revenues for the effects of a significant financing component.

Net product sales

We sell ADCETRIS through a limited number of pharmaceutical distributors in the U.S. and Canada. Customers order ADCETRIS through these distributors, and we typically ship product directly to the customer. The delivery of ADCETRIS to the end-user site represents a single performance obligation for these transactions. We record product sales at the point in time when title and risk of loss pass, which generally occurs upon delivery of the product to the customer. The transaction price for product sales represents the amount we expect to receive, which is net of estimated government-mandated rebates and chargebacks, distribution fees, estimated product returns and other deductions. Accruals are established for these deductions, and actual amounts incurred are offset against applicable accruals. We reflect these accruals as either a reduction in the related account receivable from the distributor or as an accrued liability, depending on the nature of the sales deduction. Sales deductions are based on management’s estimates that consider payor mix in target markets and experience to-date. These estimates involve a substantial degree of judgment. We have applied a portfolio approach as a practical expedient for estimating net product sales from ADCETRIS.

Government-mandated rebates and chargebacks: We have entered into a Medicaid Drug Rebate Agreement, or MDRA, with the Centers for Medicare & Medicaid Services. This agreement provides for a rebate based on covered purchases of ADCETRIS. Medicaid rebates are invoiced to us by the various state Medicaid programs. We estimate Medicaid rebates using the expected value approach, based on a variety of factors, including our experience to-date.

We have also completed a Federal Supply Schedule, or FSS, agreement under which certain U.S. government purchasers receive a discount on eligible purchases of ADCETRIS. In addition, we have entered into a Pharmaceutical Pricing Agreement with the Secretary of Health and Human Services, which enables certain entities that qualify for government pricing under the Public Health Services Act, or PHS, to receive discounts on their qualified purchases of ADCETRIS. Under these agreements, distributors process a chargeback to us for the difference between wholesale acquisition cost and the applicable discounted price. As a result of our direct-ship distribution model, we can identify the entities purchasing ADCETRIS and this information enables us to estimate expected chargebacks for FSS and PHS purchases based on the expected value of each entity’s eligibility for the FSS and PHS programs. We also review historical rebate and chargeback information to further refine these estimates.

Distribution fees, product returns and other deductions: Our distributors charge a volume-based fee for distribution services that they perform for us. We allow for the return of product that is within 30 days of its expiration date or that is damaged. We estimate product returns based on our experience to-date using the expected value approach. In addition, we consider our direct-ship distribution model, our belief that product is not typically held in the distribution channel, and the expected rapid use of the product by healthcare providers. We provide financial assistance to qualifying patients that are underinsured or cannot cover the cost of commercial coinsurance amounts through SeaGen Secure. SeaGen Secure is available to patients in the U.S. and its territories who meet various financial and treatment need criteria. Estimated contributions for commercial coinsurance under SeaGen Secure are deducted from gross sales and are based on an analysis of expected plan utilization. These estimates are adjusted as necessary to reflect our actual experience.

Collaboration and license agreement revenues

We have collaboration and license agreements with a number of biotechnology and pharmaceutical companies. Our proprietary technology for linking cytotoxic agents to monoclonal antibodies called antibody-drug conjugates, or ADCs, is the basis for many of these collaboration and license agreements, including the ADC collaborations that we have entered into in the ordinary course of business, under which we granted our collaborators research and commercial licenses to our technology and typically provide technology transfer services, technical advice, supplies and services for a period of time.

Our collaboration and license agreements include contractual milestones. Generally, the milestone events coincide with the progression of the collaborators’ product candidates. These consist of development milestones (such as designation of a product candidate or initiation of preclinical studies and the initiation of phase 1, phase 2, or phase 3 clinical trials), regulatory milestones (such as the filing of regulatory applications for marketing approval), and commercialization milestones (such as first commercial sale in a particular market and product sales in excess of a pre-specified threshold). Our ADC collaborators are solely responsible for the development of their product candidates, and the achievement of milestones in any of the categories identified above is based solely on the collaborators’ efforts. Since we do not take a substantive role or control the research, development or commercialization of any products generated by our ADC collaborators, we are not able to reasonably estimate when, if at all, any potential future milestone payments or royalties may be payable to us by our ADC collaborators. As such, the potential future milestone payments associated with our ADC collaborations involve a substantial degree of uncertainty and risk that they may never be received. In the case of our ADCETRIS collaboration with Takeda Pharmaceutical Company Limited, or Takeda, we may be involved in certain development activities; however, the achievement of milestone events under the agreement is primarily based on activities undertaken by Takeda.

ADC collaborations are initially evaluated as to whether the intellectual property licenses granted by us represent distinct performance obligations. If they are determined to be distinct, the value of the intellectual property licenses would be recognized up-front while the research and development service fees would be recognized as the performance obligations are satisfied. Variable consideration is assessed at each reporting period as to whether it is not subject to significant future reversal and, therefore, should be included in the transaction price at the inception of the contract. Assessing the recognition of variable consideration requires significant judgment. If a contract includes a fixed or minimum amount of research and development support, this also would be included in the transaction price. Changes to ADC collaborations, such as the extensions of the research term or increasing the number of targets or technology covered under an existing agreement, are assessed for whether they represent a modification or should be accounted for as a new contract.

We have concluded that the license of intellectual property in our current ADC collaborations is not distinct from the perspective of our customers at the time of initial transfer, since we do not license intellectual property without related technology transfer and research and development support services. Such evaluation requires significant judgment since it is made from the customer's perspective. Our performance obligations under our collaborations include such things as providing intellectual property licenses, performing technology transfer, performing research and development consulting services, providing reagents, ADCs, and other materials, and notifying the customer of any enhancements to licensed technology or new technology that we discover, among others. We determined our performance obligations under our current ADC collaborations as evaluated at contract inception were not distinct and represented a single performance obligation. Revenue is recognized using a proportional performance model, representing the transfer of goods or services as activities are performed over the term of the agreement. Upfront payments are also amortized to revenue over the performance period. Upfront payment contract liabilities resulting from our collaborations do not represent a financing component as the payment is not financing the transfer of goods or services, and the technology underlying the licenses granted reflects research and development expenses already incurred by us.

When no performance obligations are required of us, or following the completion of the performance obligation period, such amounts are recognized as revenue upon transfer of control of the goods or services to the customer. Generally, all amounts received or due other than sales-based milestones and royalties are classified as collaboration and license agreement revenues. Sales-based milestones and royalties are recognized as royalty revenue in the period the related sale occurred.

We generally invoice our collaborators and licensees on a monthly or quarterly basis, or upon the completion of the effort or achievement of a milestone, based on the terms of each agreement. Deferred revenue arises from amounts received in advance of the culmination of the earnings process and is recognized as revenue in future periods as performance obligations are satisfied. Deferred revenue expected to be recognized within the next twelve months is classified as a current liability.

Royalty revenues and cost of royalty revenues

Royalty revenues primarily reflect amounts earned under the ADCETRIS collaboration with Takeda. These royalties include commercial sales-based milestones and sales royalties that relate predominantly to the license of intellectual property. Sales royalties are based on a percentage of Takeda’s net sales of ADCETRIS, with rates that range from the mid-teens to the mid-twenties based on sales volume. Takeda bears a portion of third-party royalty costs owed on its sales of ADCETRIS. This amount is included in royalty revenues. Cost of royalty revenues reflects amounts owed to our third-party licensors related to Takeda’s sales of ADCETRIS. These amounts are recognized in the period in which the related sales by Takeda occur.

Recent accounting pronouncements not yet adopted

In June 2016, Financial Accounting Standards Board, or FASB, issued “ASU 2016-13, Financial Instruments: Credit Losses”, as clarified in ASU 2019-04 and ASU 2019-05. The objective of the standard is to provide information about expected credit losses on financial instruments at each reporting date and to change how other-than-temporary impairments on investment securities are recorded. The standard will become effective for us beginning on January 1, 2020, with early adoption permitted. We are currently evaluating the guidance to determine the potential impact on our financial condition, results of operations, cash flows, and financial statement disclosures.

In August 2018, FASB issued “ASU 2018-15, Customer's Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract.” The objective of the standard is to align the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software. The standard will become effective for us beginning on January 1, 2020, with early adoption permitted. We are currently evaluating the guidance to determine the potential impact on our financial condition, results of operations, cash flows, and financial statement disclosures.

In November 2018, FASB issued “ASU 2018-18, Clarifying the Interaction between Topic 808 and Topic 606.” The objective of the standard is to clarify the interaction between Topic 808, Collaborative Arrangements, and Topic 606, Revenue from Contracts with Customers. Currently, Topic 808 does not provide comprehensive recognition or measurement guidance for collaborative arrangements, and the accounting for those arrangements is often based on an analogy to other accounting literature or an accounting policy election. Similarly, aspects of Topic 606 have resulted in uncertainty in practice about the effect of the revenue standard on the accounting for collaborative arrangements. The standard will become effective for us beginning on January 1, 2020, with early adoption permitted. We are currently evaluating the guidance to determine the potential impact on our financial condition, results of operations, cash flows, and financial statement disclosures.

2. Revenue from contracts with customers

We have one1 marketed product, ADCETRIS. Substantially all of our product revenues are recorded in the U.S. Substantially all of our royalty revenues are from our collaboration with Takeda. Collaboration and license agreement revenues by collaborator are summarized as follows:

Contract liabilities consist of deferred revenue primarily related to our remaining performance obligations under the Takeda ADCETRIS collaboration and are presented on the condensed consolidated balance sheets. Deferred revenue will be recognized as the remaining performance obligations are satisfied through November 2019.

We recognized collaboration and license agreement revenues of $18.5$27.5 million during the sixnine months ended JuneSeptember 30, 2019 that were included in the deferred revenue balance as of December 31, 2018. For the sixnine months ended JuneSeptember 30, 2019, collaboration and license agreement revenues from Takeda also included substantially all of $37.5 million for two regulatory milestones achieved, which were related to additional approvals of ADCETRIS in frontline Hodgkin lymphoma received by Takeda.

3. Operating leases

We have operating leases for our office and laboratory facilities with terms that expire from 2021 through 2029. Upon adoption of Topic 842 on January 1, 2019, we recognized $35.2 million of operating lease liabilities and $34.7 million of operating lease right-of-use assets for our existing leases on our condensed consolidated balance sheet. As of JuneSeptember 30, 2019, our operating lease liabilities and operating lease right-of-use assets were $79.4$78.0 million and $69.1$66.6 million, respectively. The increases in operating lease liabilities and operating lease right-of-use assets during the sixnine months ended JuneSeptember 30, 2019 reflected new facilities leases that commenced during the period. All of our significant leases include options for us to extend the lease term. None of our options to extend the rental term of any existing leases were considered reasonably certain as of JuneSeptember 30, 2019.

Supplemental operating lease information were as follows:

As of JuneSeptember 30, 2019, the weighted average remaining lease term for our operating leases was 7.47.3 years, and the weighted average discount rate for our operating leases was 5.4%.

Future minimum lease payments under the lease agreements as of JuneSeptember 30, 2019 were as follows:

4. Acquisition of Cascadian

In March 2018, we acquired all issued and outstanding shares of Cascadian Therapeutics, Inc., a clinical-stage biopharmaceutical company based in Seattle, Washington, for $10.00 per share in cash, or approximately $614.1 million, which was funded by an underwritten public offering as further described in Note 6. The acquisition of Cascadian expanded our late-stage pipeline, providing global rights to tucatinib, an investigational oral tyrosine kinase inhibitor, or TKI, that was being evaluated in a phase 2 trial called HER2CLIMB for patients with HER2 positive metastatic breast cancer who have been previously treated with HER2-targeted agents, including patients with or without brain metastases.

The acquisition of Cascadian was accounted for as a business combination. During the sixnine months ended JuneSeptember 30, 2018, we incurred $8.5 million in acquisition-related costs, which were recorded in selling, general and administrative expenses.

The purchase price allocation of the assets acquired and liabilities assumed based on their estimated fair values as of the acquisition date was as follows:

The amount allocated to in-process research and development was based on the present value of future discounted cash flows, which was based on significant estimates. These estimates included the number of potential patients and market price of a future tucatinib-based regimen, costs required to conduct clinical trials and potentially commercialize tucatinib, as well as estimates for probability of success and the discount rate. Goodwill primarily was attributed to tucatinib’s potential application in other treatment settings, intangible assets that do not qualify for separate recognition, and synergies with our existing pipeline and capabilities. Goodwill is not expected to be deductible for tax purposes.

The financial information in the table below summarizes the combined results of operations of Seattle Genetics and Cascadian on a pro forma basis for the 2018 comparative period:

5. Net income (loss)loss per share

6. Common stock

7. Fair value

We have certain assets that are measured at fair value on a recurring basis according to a fair value hierarchy that prioritizes the inputs, assumptions and valuation techniques used to measure fair value. The three levels of the fair value hierarchy are:

The determination of a financial instrument’s level within the fair value hierarchy is based on an assessment of the lowest level of any input that is significant to the fair value measurement. We consider observable data to be market data which is readily available, regularly distributed or updated, reliable and verifiable, not proprietary, and provided by independent sources that are actively involved in the relevant market.

Our equity securities primarily consisted of holdings in common stock of Immunomedics, Inc., purchasedacquired in connection with a strategic collaboration with the company in 2017. The collaboration agreement with Immunomedics was subsequently terminated in 2017.

Our debt securities consisted of the following:

8. Investment and other income (loss), net

Investment and other income (loss), net consisted of the following:

Gain (loss) on equity securities includes the realized and unrealized holding gains and losses on our equity securities. Our equity securities are described in more detail in Note 7.

9. Inventories

The following table presents our inventories of ADCETRIS:

We capitalize ADCETRIS inventory costs. ADCETRIS inventory that is deployed into clinical, research or development use is charged to research and development expense when it is no longer available for use in commercial sales. We do not capitalize manufacturing costs for any of our product candidates.

10. Legal matters

On March 8, 2018, three3 purported stockholders of Cascadian filed a Verified Complaint to Compel Inspection of Books and Records under 8 Del. C. §220 in the Delaware Court of Chancery against Cascadian, seeking to inspect books and records in order to determine whether wrongdoing or mismanagement has taken place such that it would be appropriate to file claims for breach of fiduciary duty, and to investigate the independence and disinterestedness of the former Cascadian directors with respect to our acquisition of Cascadian. We filed our answer to this complaint on March 28, 2018. On February 20, 2019, we entered into an agreement regarding production and confidentiality of books and records with plaintiffs, pursuant to which we produced relevant books and records on April 22, 2019. As a result of this lawsuit, we may incur litigation and indemnification expenses.

In addition, from time to time in the ordinary course of business we become involved in various lawsuits, claims and proceedings relating to the conduct of our business, including those pertaining to the defense and enforcement of our patent or other intellectual property rights and our contractual rights. These proceedings are costly and time consuming. Additionally, successful challenges to our patent or other intellectual property rights through these proceedings could result in a loss of rights in the relevant jurisdiction and may allow third parties to use our proprietary technologies without a license from us or our collaborators.

Item 2.    Management’s Discussion and Analysis of Financial Condition and Results of Operations

This Quarterly Report on Form 10-Q, including the following discussion of our financial condition and results of operations, contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Forward-looking statements are based on our management’s beliefs and assumptions and on information currently available to our management. All statements other than statements of historical facts are “forward-looking statements” for purposes of these provisions, including those relating to future events or our future financial performance and financial guidance. In some cases, you can identify forward-looking statements by terminology such as “may,” “might,” “will,” “should,” “expect,” “plan,” “anticipate,” “project,” “believe,” “estimate,” “predict,” “potential,” “intend” or “continue,” the negative of terms like these or other comparable terminology, and other words or terms of similar meaning in connection with any discussion of future operating or financial performance. These statements are only predictions. All forward-looking statements included in this Quarterly Report on Form 10-Q are based on information available to us on the date hereof, and we assume no obligation to update any such forward-looking statements except as required by law. Any or all of our forward-looking statements in this document may turn out to be wrong. Actual events or results may differ materially. Our forward-looking statements can be affected by inaccurate assumptions we might make or by known or unknown risks, uncertainties and other factors. We discuss many of these risks, uncertainties and other factors in this Quarterly Report on Form 10-Q in greater detail under the heading “Part II. Item 1A—Risk Factors.” We caution investors that our business and financial performance are subject to substantial risks and uncertainties.

Overview

Our marketed product ADCETRIS is commercially available in more than 70 countries worldwide. We commercialize ADCETRIS in the U.S. and its territories and in Canada, and we are collaboratingcollaborate with Takeda Pharmaceutical Company Limited, or Takeda, to develop and commercialize ADCETRIS on a global basis. Under this collaboration, Takeda has commercial rights in the rest of the world and pays us a royalty. ADCETRIS is approved by the U.S. Food and Drug Administration, or FDA, in six indications. In Hodgkin lymphoma, ADCETRIS is approved as monotherapy for patients whose disease has relapsed and as consolidation therapy following prior treatment, and in combination with chemotherapy for the treatment of patients with previously untreated disease. In T-cell lymphomas, ADCETRIS is approved as monotherapy for patients with relapsed or refractory systemic anaplastic large cell lymphoma, or sALCL, or certain types of cutaneous T-cell lymphoma, or CTCL, or in combination with chemotherapy for patients with previously untreated CD30-expressing peripheral T-cell lymphoma, or PTCL.

Our late-stage pipeline includes two ADCs andenfortumab vedotin, an ADC being evaluated for urothelial cancer; tucatinib, an oral tyrosine kinase inhibitor, or TKI, which is being evaluated for HER2-positive breast cancer and other solids tumors; and tisotumab vedotin an ADC being evaluated for cervical cancer and other solid tumors thattumors. These programs are in clinical trials designed to support applications for potential regulatory approvals.

In collaboration with Astellas Pharma, Inc., or Astellas, we are developing enfortumab vedotin, which is an ADC targeting Nectin-4. WeIn September 2019, the FDA accepted for filing with Priority Review the Biologics License Application, or BLA, that we and Astellas are conducting a pivotal phase 2 trial, called EV-201, evaluating single-agentsubmitted under the FDA's accelerated approval pathway for enfortumab vedotin for the treatment of patients with locally advanced or metastatic urothelial cancer. The trial includes two cohorts of patients. The first cohort includes patientscancer who were previously treated withhave received a PD-1 inhibitor, or a programmed death-ligand 1, or PD-L1 inhibitor, including thoseand who have also been treated with a platinum-containing chemotherapy, and the second cohort includes patients who were previously treated with a PD-1 or PD-L1 inhibitor but have not received a platinum-containing chemotherapy and who are ineligible for cisplatin.in the neoadjuvant/adjuvant, locally advanced or metastatic setting. The enfortumab vedotin BLA is based on the positive results from the first cohort of patients in the EV-201 pivotal phase 2 clinical trial. Under the Prescription Drug User Fee Act, or PDUFA, the FDA set a target action date of March 15, 2020. In March 2018, the FDA granted Breakthrough Therapy designation to enfortumab vedotin for patients with locally advanced or metastatic urothelial cancer who were previously treated with a checkpoint inhibitor.

WeAdditionally, we and Astellas are also conducting a global, randomized phase 3 trial, called EV-301, for patients with metastatic urothelial cancer who previously received both platinum chemotherapy and a PD-1 or PD-L1 inhibitor. EV-301 is intended to support global regulatory applications for potential approvals in regions where EV-201 does not support approval and to potentially serve as a confirmatory trial in the U.S. if we are able to obtain accelerated approval based on the July 2019 enfortumab vedotin BLA submission. Additionally, wefiling.

We and Astellas are also conducting a phase 1b trial, called EV-103, that is a multi-cohort, open-label trial of enfortumab vedotin called EV-103,alone or in earlier linescombination with the immune therapy pembrolizumab and/or chemotherapy. The trial is evaluating safety, tolerability and activity in locally advanced and first- and second-line metastatic urothelial cancer, and was recently expanded to include muscle invasive urothelial cancer. In September 2019, initial results from the trial were presented at the European Society for Medical Oncology, or ESMO, 2019 Congress. Forty-five patients were evaluated for safety with the combination of treatment forenfortumab vedotin and pembrolizumab in previously untreated patients with locally advanced or metastatic urothelial cancer includingwho were ineligible for treatment with cisplatin-based chemotherapy. The study met outcomes for safety and the data indicated that the combination of enfortumab vedotin plus pembrolizumab shrank tumors in combination with pembrolizumab and/the majority of patients, resulting in a confirmed objective response rate, or platinum chemotherapyORR, of 71 percent (95 percent Confidence Interval (CI) 55.7, 83.6). The complete response rate was 13 percent. Fifty-eight percent of patients had a partial response and 22 percent had stable disease. Ninety-one percent of responses were observed at the first assessment. Fifty-one percent of patients had an adverse event greater than or equal to Grade 3. Among these events, an increase in newly diagnosedlipase was the most frequent (13 percent). Four patients as well as patients whose cancer progressed from earlier-stage disease. We expect(9 percent) discontinued treatment due to report initial data fromtreatment-related adverse events, most commonly peripheral sensory neuropathy. There was one death deemed to be treatment-related by the EV-103 trial in 2019.investigator attributed to multiple organ dysfunction syndrome.

In October 2019, we announced positive topline results from the HER2CLIMB trial. The trial met the primary endpoint of PFS, demonstrating that the addition of tucatinib was superior to trastuzumab and capecitabine alone, with a 46 percent reduction in the risk of disease progression or death (hazard ratio (HR)=0.54 (95% CI: 0.42, 0.71); p<0.00001). The trial also met the two key secondary endpoints at interim analysis. The tucatinib arm demonstrated an improvement in overall survival, with a 34 percent reduction in the risk of death (HR=0.66 (95% CI: 0.50, 0.88); p=0.0048) compared to trastuzumab and capecitabine alone. For patients with brain metastases at baseline, the tucatinib arm also demonstrated superior PFS, with a 52 percent reduction in the risk of disease progression or death compared to those who received trastuzumab and capecitabine alone (HR=0.48 (95% CI: 0.34, 0.69); p<0.00001). Tucatinib in combination with trastuzumab and capecitabine was generally well tolerated with a manageable safety profile. The most frequent adverse events in the tucatinib arm included diarrhea, palmar-plantar erythrodysaesthesia syndrome (PPE), nausea, fatigue, and vomiting. Grade 3 or greater adverse events in the tucatinib arm compared to the control arm included diarrhea (12.9 vs. 8.6 percent), increased aspartate aminotransferase (AST) (4.5 vs. 0.5 percent), increased alanine aminotransferase (ALT) (5.4 vs. 0.5 percent) and increased bilirubin (0.7 vs. 2.5 percent). There was no requirement for prophylactic antidiarrheals. Adverse events leading to discontinuations were infrequent in both the tucatinib arm and the control arm (5.7 and 3.0 percent, respectively). Additional results are scheduled to be presented on December 11 at the 2019 San Antonio Breast Cancer Symposium. Based on these results, we plan to initiatesubmit a New Drug Application, or NDA, to the FDA in the first quarter of 2020.

In October 2019, we initiated a phase 3 randomized pivotal trial called HER2CLIMB-02 comparing tucatinib vs. placebo, each in combination with T-DM1 in patients with HER2-positive metastatic breast cancer who have been previously treated with a taxane and trastuzumab. The trial is designed to enroll approximately 460 patients. The primary endpoint is PFS.

We are also conducting a phase 2 trial, called MOUNTAINEER, evaluating tucatinib in combination with trastuzumab in patients with HER2-positive, RAS wild-type metastatic colorectal cancer after treatment with first- and second-line standard-of-care therapies. Initial results from 23 patients were presented at the ESMO 2019 Congress that demonstrated encouraging antitumor activity with an ORR of 52 percent. The median PFS was 8.1 months and the planned trial will be PFS.    median OS was 18.7 months. The combination was generally well tolerated.

In collaboration with Genmab A/S, or Genmab, we are developing tisotumab vedotin, which is an ADC targeting tissue factor. We and Genmab are conducting a pivotal phase 2 trial, called the innovaTV 204 trial, evaluating single-agent tisotumab vedotin for patients with recurrent and/or metastatic cervical cancer who have relapsed or progressed after standard of care treatment. The trial is intended to support a potential regulatory submission under the FDA's accelerated approval pathway. In March 2019, we completed enrollment in the innovaTV 204 trial and we anticipate reporting top-linetopline data from the trial in the first half of 2020. We are also conducting a phase 2 clinical trial called innovaTV 207 for patients with other solid tumors that is intended to inform a potential future broad development program.plans. In addition, we are conducting a phase 2 clinical trial, called innovaTV 208, for patients with platinum-resistant ovarian cancer.

We are developing ladiratuzumab vedotin, an ADC targeting LIV-1, which is currently being evaluated in phase 1 and phase 2 clinical trials both as monotherapy and in combination with other agents for patients with metastatic triple-negative breast cancer. We also are conducting a phase 2 trial evaluating ladiratuzumab vedotin as monotherapy in select solid tumors with high LIV-1 expression.

We are advancing a pipeline of early-stage clinical candidates as well as multiple preclinical and research-stage programs that employ our proprietary technologies. We have advanced several product candidates into clinical development in 2019 and we plan to submit several investigational new drug applications to the FDA in 2019 and 2020.

We have collaborations for our ADC technology with a number of biotechnology and pharmaceutical companies, including AbbVie Biotechnology Ltd., or AbbVie; Astellas; Genentech, Inc., a member of the Roche Group, or Genentech; Genmab; GlaxoSmithKline LLC, or GSK; and Progenics Pharmaceuticals Inc. Of these collaborators, Genentech and GSK have ADCs using our technology in late-stage clinical trials. In June 2019, Genentech received accelerated approval from the FDA for polatuzumab vedotin-piiq (Polivy™),vedotin, an ADC that uses our technology, to treat patients with relapsed or refractory diffuse large B-cell lymphoma. Under our ADC collaboration with Genentech, the accelerated approval of Polivypolatuzumab vedotin triggered a milestone payment to us and we are entitled to receive royalties on net sales of Polivypolatuzumab vedotin worldwide. In addition, we have a collaboration with Unum Therapeutics, Inc., or Unum, to develop and commercialize novel antibody-coupled T-cell receptor, or ACTR, therapies incorporating our antibodies for the treatment of cancer. Unum is conducting a phase 1 trial evaluating Unum's ACTR087 drug candidate in combination with SEA-BCMA in patients with relapsed/refractory multiple myeloma.

Outlook

Our ongoing research, development, manufacturing and commercial activities will require substantial amounts of capital and may not ultimately be successful. We expect that we will incur substantial expenses, primarily as a result of activities related to the commercialization and continued development of ADCETRIS, as well as the continued development and potential commercialization of enfortumab vedotin, tucatinib and tisotumab vedotin. We will require significant financial resources and additional personnel in order to continue to advance the development of, to pursue, obtain and maintain regulatory approvals for, and to potentially commercialize, enfortumab vedotin, tucatinib and tisotumab vedotin, if we are able to do so at all. Our other product candidates are in early or relatively early stages of development. In addition, we may pursue new operations or continue the expansion of our existing operations, including with respect to our plans to build a commercial infrastructure in Europe and to otherwise continue to expand our operations internationally. Our commitment of resources to the continuing development, regulatory and commercialization activities for ADCETRIS, the research, continued development and manufacturing of our product candidates, launch and commercialization activities for potential new products, and the anticipated expansion of our pipeline and operations will likelymay require us to raise substantial amounts of additional capital, and our operating expenses may fluctuate as a result of such activities. We may also incur significant milestone payment obligations to certain of our licensors as our product candidates progress through clinical trials towards potential commercialization.

We recognize revenue from ADCETRIS product sales in the U.S. and Canada. Our future ADCETRIS product sales are difficult to accurately predict from period to period and are dependent on, among other things, the incidence flow of patients eligible for treatment with ADCETRIS. In this regard, our ADCETRIS product sales have varied, and may continue to vary, significantly from period to period and may be affected by a variety of factors. Such factors include the approval of ADCETRIS in additional indications, the extent to which coverage and reimbursement for ADCETRIS is available from government and other third-party payors, competition, the incidence rate of new patients in ADCETRIS’ approved indications, customer ordering patterns, physicians’ perception and adoption of ADCETRIS, the overall level of demand for ADCETRIS, and the duration of therapy for patients receiving ADCETRIS. In particular: 

We expect that amounts earned from our collaboration agreements, including royalties, will continue to be an important source of our revenues and cash flows. These revenues will be impacted by future development funding and the achievement of development, clinical and commercial success by our collaborators under our existing collaboration and license agreements, including our ADCETRIS collaboration with Takeda, as well as by entering into potential new collaboration and license agreements. Our results of operations may vary substantially from year to year and from quarter to quarter and, as a result, we believe that period to period comparisons of our operating results may not be meaningful and should not be relied upon as being indicative of our future performance.

Financial summary

For the sixnine months ended JuneSeptember 30, 2019, total revenues increased to $413.6$626.9 million, compared to $310.8$480.2 million for the same period in 2018. This increase was driven primarily by 35%34% higher ADCETRIS net product sales. Net product sales of ADCETRIS were $294.0increased to $461.6 million for the sixnine months ended JuneSeptember 30, 2019, compared to $217.8$344.8 million for the same period in 2018, which increased primarily driven by ADCETRIS label expansions.

For the sixnine months ended JuneSeptember 30, 2019, total costs and expenses increased to $506.0$809.0 million, compared to $434.9$649.9 million for the same period in 2018. This primarily reflected higher research and development expenses from continued investment in our late-stage pipeline, as well as higher sales, general and administrative costs related to our late-stage product candidates and ADCETRIS commercialization efforts related to the frontline Hodgkin lymphoma and frontline PTCL indications.efforts. For the sixnine months ended JuneSeptember 30, 2018, net loss was favorably impacted by a net gain of $86.6$62.9 million from the change in the fair value of our equity securities.

As of JuneSeptember 30, 2019, we had $376.1$870.3 million in cash, cash equivalents and investments and $1.3$1.8 billion in total stockholders’ equity.

Results of operations

We sell ADCETRIS in the U.S. and Canada.

The increase in net product sales for the three and sixnine months ended JuneSeptember 30, 2019 from the comparable periods in 2018 primarily resulted from higher sales volume during 2019 and, to a lesser extent, from the effect of price increases. Higher sales volume during the 2019 periodperiods was driven by label expansions of ADCETRIS; in particular, for the frontline Hodgkin lymphoma indication in March 2018, and for the frontline PTCL indication in November 2018.

We sell ADCETRIS through a limited number of pharmaceutical distributors in the U.S. and Canada. Customers order ADCETRIS through these distributors, and we typically ship product directly to the customer. The delivery of ADCETRIS to the end-user site represents a single performance obligation for these transactions. We record product sales at the point in time when title and risk of loss pass, which generally occurs upon delivery of the product to the customer. The transaction price for product sales represents the amount we expect to receive, which is net of estimated government-mandated rebates and chargebacks, distribution fees, estimated product returns and other deductions. Accruals are established for these deductions, and actual amounts incurred are offset against applicable accruals. We reflect these accruals as either a reduction in the related account receivable from the distributor or as an accrued liability depending on the nature of the sales deduction. Sales deductions are based on management’s estimates that consider payor mix in target markets and experience to date. These

Gross-to-net deductions, net of related payments and credits, were as follows:

Mandatory government discounts are the most significant component of our total gross-to-net deductions and the discount percentage has been increasing. These discount percentages increased during the sixnine months ended JuneSeptember 30, 2019 as a result of price increases we instituted that exceeded the rate of inflation. Generally, the change in government prices is limited to the rate of inflation. We expect future gross-to-net deductions to fluctuate based on the volume of purchases eligible for government mandated discounts and rebates, as well as changes in the discount percentage which is impacted by potential future price increases, the rate of inflation, and other factors. We expect gross-to-net deductions to increase in 2019 as compared to 2018, driven by growth in ADCETRIS gross sales.

We have collaboration and license agreements with a number of biotechnology and pharmaceutical companies. Our proprietary ADC technology is the basis of many of these collaboration and license agreements, including the ADC collaborations that we have entered into in the ordinary course of our business, under which we grant our collaborators research and commercial licenses to our technology and typically provide technology transfer services, technical advice, supplies and services for a period of time. Our collaboration and license agreements include contractual milestones. Generally, the milestone events coincide with the progression of the collaborators’ product candidates. These consist of development milestones (such as designation of a product candidate or initiation of preclinical studies and the initiation of phase 1, phase 2, or phase 3 clinical trials), regulatory milestones (such as the filing of regulatory applications for marketing approval or marketing approval), and commercialization milestones (such as first commercial sale in a particular market and product sales in excess of a pre-specified threshold).

Collaboration and license agreement revenues by collaborator were as follows:

Collaboration revenues from Takeda fluctuate based on changes in the recognized portion of reimbursement funding under the ADCETRIS collaboration, which are impacted by the activities each party is performing under the collaboration agreement at a given time. For example, when Takeda’s level of spending on clinical collaboration activities increases above our own, our earned portion of reimbursement funding generally decreases. Additionally, we receive reimbursement for the cost of drug product supplied to Takeda for its use, the timing of which fluctuates based on Takeda’s product supply needs. Collaboration revenues from Takeda can also fluctuate based on the achievement of milestones by Takeda. Collaboration revenues from Takeda for the three months ended September 30, 2019 were relatively consistent compared to the comparable period in 2018. The increase in collaboration revenues from Takeda for the threenine months ended June 30, 2019 compared to the comparable period in 2018 was driven by substantially all of a $7.5 million regulatory milestone achieved in the second quarter 2019, as well as reimbursement for drug product supplied. The increase in collaboration revenues from Takeda for the six months ended JuneSeptember 30, 2019 reflected substantially all of two regulatory milestones achieved totaling $37.5 million, which were related to additional approvals of

Collaboration and license agreement revenues from AbbVieother collaborators were relatively consistent for the three months ended September 30, 2019, compared to the comparable period in 2018.

Collaboration and license agreement revenues from other collaborators decreased for the three and sixnine months ended JuneSeptember 30, 2019 from the comparable periodsperiod in 2018 due to the recognition of development milestones from our ADC collaboration in 2018.

Our collaboration and license agreement revenues are impacted by the term and duration of those agreements and by progress-dependent milestones, annual maintenance fees, and reimbursement of materials and support services. Collaboration and license agreement revenues may vary substantially from year to year and quarter to quarter depending on the progress made by our collaborators with their product candidates, the level of support we provide to our collaborators, specifically to Takeda under our ADCETRIS collaboration, the timing of milestones achieved and our ability to enter into potential additional collaboration and license agreements. We expect our collaboration and license agreement revenues in 2019 to be higher than 2018, driven by the timing of milestones.

Takeda

Our ADCETRIS collaboration with Takeda provides for the global co-development of ADCETRIS and the commercialization of ADCETRIS by Takeda in its territory. We received an upfront payment and have received and are entitled to receive progress- and sales-dependent milestone payments based on Takeda’s achievement of significant events under the collaboration, in addition to tiered royalties with percentages ranging from the mid-teens to the mid-twenties based on net sales of ADCETRIS within Takeda’s licensed territories. Additionally, we and Takeda equally co-fund the cost of selected development activities conducted under the collaboration. We recognize as collaboration revenue the upfront payment, progress-dependent development and regulatory milestone payments, and net development cost reimbursement payments from Takeda over the ten-year development period of the collaboration, which ends in November 2019. When the performance of development activities under the collaboration results in us making a reimbursement payment to Takeda, the effect is to reduce the amount of collaboration revenue that we record. We also receive reimbursement for the cost of drug product supplied to Takeda for its use and, in some cases, pay Takeda for drug product they supply to us. The earned portion of net collaboration payments is reflected in collaboration and license agreement revenues.

As of JuneSeptember 30, 2019, total future potential milestone payments to us under the ADCETRIS collaboration could total $117.0 million. Of that amount, up to $7.0 million relates to the achievement of development milestones, up to $70.0 million relates to the achievement of regulatory milestones and up to $40.0 million relates to the achievement of commercial milestones. As of JuneSeptember 30, 2019, $117.5 million in milestones had been achieved as a result of regulatory and commercial progress by Takeda.

Astellas

We have a collaboration agreement with Agensys, Inc., which subsequently became an affiliate of Astellas, to jointly research, develop and commercialize ADCs for the treatment of several types of cancer. The collaboration encompasses combinations of our ADC technology with fully-human antibodies developed by Astellas to proprietary cancer targets. Under this collaboration, we and Astellas are co-funding all development costs for enfortumab vedotin. Costs associated with co-development activities are included in research and development expense.

In 2018, we and Astellas entered into a joint commercialization agreement to govern the global commercialization of enfortumab vedotin, if approved for commercial sale:

Either party may terminate the collaboration agreement if the other party becomes insolvent or the other party materially breaches the agreement and such breach remains uncured. Subject to certain restrictions, either party may terminate the collaboration agreement for any reason upon prior written notice to the other party. The collaboration agreement can also be terminated by mutual written consent of the parties. If neither party exercises its option to terminate the collaboration agreement, then the agreement will automatically terminate on the later of the expiration of all payment obligations pursuant to the collaboration agreement, or the day upon which we and Astellas cease to develop and commercialize products under the agreement. However, the collaboration agreement may not be terminated with respect to enfortumab vedotin for so long as the joint commercialization agreement continues to survive.

Either party may terminate the joint commercialization agreement if the other party becomes insolvent. The joint commercialization agreement expires on a country-by-country basis upon complete cessation of the commercialization, launch and selling of enfortumab vedotin in that country.

Either party may also opt out of co-development and profit-sharing under the collaboration agreement in return for receiving milestones and royalties from the continuing party. In addition, either party may opt out of co-development and profit-sharing for enfortumab vedotin on a country-by-country basis, in return for receiving royalties pursuant to the collaboration agreement from the continuing party with respect to that country.

Genmab

We have an agreement with Genmab to develop and commercialize ADCs for the treatment of several types of cancer, under which we previously exercised a co-development option for tisotumab vedotin. We and Genmab will share all future costs and profits for development and commercialization of tisotumab vedotin on an equal basis. Costs associated with co-development activities are included in research and development expense. We will be responsible for tisotumab vedotin commercialization activities in the U.S., Canada, and Mexico, while Genmab will be responsible for commercialization activities in all other territories.

Unum

We have an agreement with Unum to develop and commercialize novel ACTR therapies for cancer. We and Unum are developing two ACTR product candidates that combine Unum’s ACTR technology with our antibodies. Unum is conducting preclinical research and clinical development activities through phase 1 clinical trials, and we are providing funding for these activities. The agreement calls for us to work together to co-develop and jointly fund programs after phase 1 clinical trials unless either company opts out. Costs associated with co-development activities are included in research and development expense.

We and Unum would co-commercialize any successfully developed product candidates and share any profits equally on any co-developed programs in the U.S. We retain exclusive commercial rights outside of the U.S., paying Unum a royalty that is a high single digit to mid-teens percentage of ex-U.S. sales. The potential future licensing and progress-dependent milestone payments to Unum under the collaboration may total up to $400.0 million between the two ACTR programs, payment of which is triggered by the achievement of development, regulatory and commercial milestones.

ADC Collaboration Agreements

We have other active collaborations with a number of companies to allow them to use our proprietary ADC technology. Under these ADC collaborations, which we have entered into in the ordinary course of business, we typically receive or are entitled to receive upfront cash payments, progress- and sales-dependent milestones and royalties on net sales of products incorporating our ADC technology, as well as annual maintenance fees and support fees for research and development services and materials provided under the agreements. These amounts are recognized as revenue over the performance obligation period or, if there is no performance obligation, upon transfer of control of the goods or services to the customer. Our ADC

As of JuneSeptember 30, 2019, our ADC collaborations had generated approximately $425 million, primarily in the form of upfront and milestone payments. Remaining milestone payments to us under our current ADC collaborations could total approximately $2.2 billion if all potential product candidates achieved all of their milestone events. Of this amount, approximately $0.3 billion relates to the achievement of development milestones, approximately $0.9 billion relates to the achievement of regulatory milestones and approximately $1.0 billion relates to the achievement of commercial milestones. Since we do not control the research, development or commercialization of any of the products that would generate these milestones, we are not able to reasonably estimate when, if at all, any potential future milestone payments or royalties may be payable by our collaborators. Successfully developing a product candidate, obtaining regulatory approval and ultimately commercializing it is a significantly lengthy and highly uncertain process which entails a significant risk of failure. In addition, business combinations, changes in a collaborator’s business strategy and financial difficulties or other factors could result and have resulted in a collaborator abandoning or delaying development of its product candidates. As such, the potential future milestone payments associated with our ADC collaboration agreements involve a substantial degree of risk and may never be received. Accordingly, we do not expect, and investors should not assume, that we will receive all of the potential milestone payments described above, and it is possible that we may never receive any additional significant milestone payments under these agreements in the future.

Royalty revenues primarily reflect royalties earned under the ADCETRIS collaboration with Takeda. These royalties include commercial sales-based milestones and sales royalties. Sales royalties are based on a percentage of Takeda’s net sales of ADCETRIS, with rates that range from the mid-teens to the mid-twenties based on sales volume. Takeda bears third-party royalty costs owed on its sales of ADCETRIS. This amount is included in royalty revenues. Cost of royalty revenues reflects amounts owed to our third-party licensors related to Takeda's sales of ADCETRIS.