Letter from the management

Letter from the management

Dear Shareholders,

A kick-start: that is how I would describe the first quarter of 2016. The closing of the transaction with Gilead for filgotinib brought our cash balance to €1.0 billion on 21 January.

Onno van de Stolpe, CEO of Galapagos (photo)

This substantial cash position provides Galapagos with more degrees of freedom and advantages in a more strategic way. Well-capitalized biotech companies are able to make smart decisions, as you have more options with regard to the portfolio and the fields in which you want to move forward. We have never been so well capitalized in our history, and so well positioned to execute on our promising pipeline.

We focused on transitioning the filgotinib programs over to Gilead, as they prepared for the discussions with regulatory authorities and the roll-out of Phase 3 programs in rheumatoid arthritis and Crohn’s disease. Prof Vermeire, the primary investigator for the FITZROY Phase 2 study in Crohn’s disease, presented the findings from the first ten weeks at ECCO: filgotinib presents a potential new, oral therapy option for the treatment of Crohn’s disease.

We also announced substantial progress in our cystic fibrosis programs with AbbVie, with an expanded portfolio of potentiator and corrector drug candidates to increase our chances of success with a potential triple combination therapy for Class II mutation patients. We initiated a Phase 1 study with corrector GLPG2222, and we started the SAPHIRA Phase 2 program with potentiator GLPG1837 in Class III mutation patients.

We announced further progress in our pipeline in April, with the start of the FLORA Phase 2 study with GLPG1690 in idiopathic pulmonary fibrosis and a Phase 1 study with novel monoclonal antibody MOR106. We continue to invest in our pipeline, as we put our strong cash balance to work in 2016 and beyond.

Operational overview Q1 2016

Rheumatoid arthritis (RA)

  • Transitioned filgotinib program to new collaboration partner Gilead Sciences, Inc.
  • Submitted final dossier to regulatory authorities for End of Phase 2 meetings for RA

Inflammatory bowel disease (IBD)

  • Reported that GLPG1205 did not show efficacy in a Phase 2 Proof-of-Concept study. Galapagos stopped further development of this compound in ulcerative colitis (UC) and is exploring potential other indications for GLPG1205

Cystic fibrosis (CF)

  • Initiated SAPHIRA, a Phase 2 Proof-of-Concept study in CF patients with the G551D or S1251N mutations. Topline results expected in second half of this year
  • Initiated a Phase 1 study with GLPG2222, triggering a $10 million advance milestone payment from collaboration partner AbbVie. Topline results expected in first half of this year
  • Announced expansion of the CF portfolio to include lead and follow on compounds for each of the three triple combination components: potentiator, early binding (C1) corrector, and late binding (C2) corrector. Multiple Phase 1 study initiations expected this year

Other/corporate

  • Closed the collaboration agreement with Gilead Sciences, Inc., with a $425 million equity investment by Gilead and an upfront payment to Galapagos of $300 million
  • Received transparency notices from Johnson & Johnson and Wellington, indicating that both had crossed below the 5% ownership threshold
  • Included in the BEL20 index on Euronext Brussels

Q1 2016 financial result

Revenues and other income

Our revenues and other income for the first three months of 2016 amounted to €14.8 million, compared to €20.0 million in the same period of 2015. Revenues (€10.1 million vs €14.8 million last year) were lower due to a decrease in revenue recognition of upfront payments made by AbbVie for the filgotinib and CF programs. Other income (€4.7 million vs €5.2 million last year) decreased in the first three months of 2016, driven mainly by lower income recognized from grants in Belgium.

Results

We realized a net profit of €35.9 million for the first three months of 2016, compared to a net loss of €14.2 million in the first three months of 2015. This evolution was primarily driven by €57.5 million fair value gain from the re-measurement of the financial asset triggered by the recent Share Subscription Agreement with Gilead.

We reported an operating loss amounting to €17.4 million for the first three months of 2016, compared to an operating loss of €15.3 million for the same period last year.

Our R&D expenses in the first three months of 2016 were €27.8 million, compared to €31.6 million for the same period in 2015. This planned decrease was mainly due to lower outsourcing costs for our filgotinib program since Phase 3 development is expected to start later this year.

Our G&A and S&M expenses were €4.4 million in the first three months of 2016, compared to €3.8 million in the first three months of 2015. This increase mainly resulted from higher costs recognized in relation to the warrant plans as a result of the increase of our share price in the past year.

Financial results were primarily driven by the fair value re-measurement of the Share Subscription Agreement, which is explained under the next caption below. Other financial expenses in the first three months of 2016 amounted to €4.8 million, compared to €1.2 million in 2015 and was primarily attributable to €4.5 million of unrealized exchange loss on our cash position in USD due to the fluctuation of the USD exchange rate in the first quarter of 2016.

Finally, income taxes of €1.5 million in the first three months of 2015 reflected the setup of an additional deferred tax asset. We had a total of €1.7 million deferred tax assets on the balance sheet for two subsidiaries at the end of the first three months of 2015 and 2016.

Fair value re-measurement of Share Subscription Agreement

On 16 December 2015, Gilead and Galapagos entered into a global collaboration for the development and commercialization of filgotinib, in the framework of which Gilead committed to an upfront payment of $725 million consisting of a license fee of $300 million and a $425 million equity investment in Galapagos NV by subscribing to new shares at a price of €58 per share, including issuance premium. This agreement was effectively completed and entered into force on 19 January 2016 and the full payment was received.

In connection with this agreement, we recognized in December 2015 a short term financial asset (derivative) and an offsetting deferred income of €39 million upon signing of the Share Subscription Agreement with Gilead as required under IAS 39. This financial asset initially reflected the share premium that Gilead committed to pay above our closing share price on the day of entering into the Share Subscription Agreement. Under IAS 39 the fair value of the financial asset was re-measured at year-end and again upon closing the Share Subscription Agreement on 19 January 2016, when the financial asset expired. Variations in fair value of the financial asset are recorded in the income statement.

The decrease in the fair value of the financial asset resulting from the increase in the Galapagos share price between signing of the Share Subscription Agreement and 31 December 2015 resulted in a negative, non-cash fair value adjustment of €30.6 million in the financial results of 2015.

The subsequent increase in the fair value of the financial asset resulting from the decrease in our share price between 1 January 2016 and 19 January 2016 resulted in a positive non-cash adjustment of €57.5 million in the financial result of the first quarter of 2016.

On 19 January 2016, the value of the financial asset at maturity amounted to €65.9 million, reflecting the share premium that Gilead paid above our closing share price on the day of the capital increase. This financial asset expired on the effective date of the Share Subscription Agreement.

Liquid assets position

Cash, cash equivalents and restricted cash totaled €987.6 million on 31 March 2016.

A net increase of €638.0 million in cash and cash equivalents was recorded during the first three months of 2016, compared to a decrease of €26.4 million during the same period last year. Net cash flows from financing activities were generated for €392.0 million through the share subscription by Gilead. Furthermore, a net cash inflow from operating activities was realized for €251.5 million in the first three months of 2016 resulting from the license fee of $300 million (€275.6 million) received from Gilead and an operating cash burn of €24.0 million. Finally, €1.0 million was used in investing activities and €4.5 million unrealized negative exchange rate differences were generated on cash and cash equivalents.

Restricted cash amounted to €7.9 million at the end of December 2015, and increased to €9.3 million at the end of March 2016. The increase relates to €1.4 million cash received from warrant exercises that remained on a blocked account until 1 April 2016 when the notary deed formally establishing the capital increase was enacted.

Finally, our balance sheet holds an unconditional and unrestricted receivable from the French government (Crédit d'Impôt Recherche1Crédit d'Impôt Recherche refers to an innovation incentive system underwritten by the French government.) now amounting to €35.8 million, payable in yearly tranches from 2016 to 2020. Our balance sheet also holds a receivable from the Belgian Government for R&D incentives now amounting to €26.2 million, payable in yearly tranches from 2016 to 2026.

Outlook 2016

The first quarter of 2016 put Galapagos into a great position to start its transition into an integrated biopharmaceutical company. The full year 2016 promises to be an exciting execution year, with topline results expected from GLPG1837 in the SAPHIRA Phase 2 program, topline results with GLPG2222, GLPG2451, and GLPG1972 in Phase 1, and with expected starts of Phase 3 programs with filgotinib in RA and Crohn’s disease.

Based on the forecast for the remainder of the year, management retains 2016 guidance for operational cash burn, excluding payments received from our partner Gilead for filgotinib: €100 - €120 million.

We thank you again for your support of Galapagos. We aim to discover and develop more novel medications, bring our programs into patients to investigate their potential, bring the successful therapies to the market, and improve people’s lives.

Onno van de Stolpe
CEO

1 Crédit d'Impôt Recherche refers to an innovation incentive system underwritten by the French government.