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Novartis AG (NYSE:NVS)

Q2 2013 Earnings Conference Call

July 17, 2013 8:00 AM ET

Executives

Joseph Jimenez - Chief Executive Officer

Samir Shah - Global Head, Investor Relations

Harry Kirsch - Chief Financial Officer

David Epstein - Division Head, Pharmaceuticals

Jeffrey George - Division Head, Sandoz

Kevin Buehler - Division Head, Alcon

Andrin Oswald - Division Head, Novartis Vaccines and Diagnostics

Brian McNamara - Division Head, Novartis OTC

George Gunn, MRCVS - Division Head, Novartis Animal Health, Head, Novartis Corporate Responsibility

Timothy Wright - Global Head, Development

Analysts

Matthew Weston - Credit Suisse

Richard Vosser - JPMorgan

Tim Anderson - Sanford Bernstein

Florent Cespedes - Exane BNP Paribas

Andrew Baum - Citi

Graham Parry - Bank of America Merrill Lynch

Peter Verdult - Morgan Stanley

Seamus Fernandez - Leerink Swann

Michael Leuchten - Barclays Capital

Steve Scala - Cowen and Company

Operator

Good day, good morning and good afternoon and welcome to the Novartis Q2 half-year 2013 results conference call and audio webcast. Please note that during the presentation all participants will be in a listen-only mode and the conference is being recorded. (Operator Instructions) A recording of the conference call, including the Q&A session, are available on our website shortly after the call ends. (Operator Instructions) With that, I would like to hand the conference over to Mr. Joe Jimenez, CEO of Novartis. Please go ahead, sir.

Joseph Jimenez

Thank you. I would like to welcome everybody to our second quarter call. At Novartis today I have with me Harry Kirsch, the CFO. We've got all the division heads here, David Epstein, Pharma; Kevin Buehler, Alcon; Jeff George, Sandoz; Andrin Oswald. V&D; George Gunn, Animal Health; Brian McNamara, OTC, and also Tim Wright, Head of Development. So before we start, I would like Samir Shah to read the Safe Harbor Statement.

Samir Shah

The information presented in this conference call contains forward-looking statements that involve known and unknown risks, uncertainties and other factors. These may cause the actual results to be materially different from any future results, performance or achievements expressed or implied by such statements. Please refer to the company's Form 20-F on file with the Securities and Exchange Commission for a description of some of these factors.

Joseph Jimenez

Thanks, Samir. Okay. Starting on slide number four. We delivered solid performance in the second quarter. We had growth across all of the divisions. So sales as you saw were up 3% in constant currency and core operating income was up 2%. The solid performance together with the lower than expected generic erosion has led us to raise our outlook for the year and we are going to come back in a few minutes and talk about the assumptions behind that.

Next slide you can see the overview of the financials. Core EPS of a $1.30, was up 1% in constant currency. And net income at $2.5 billion was essentially flat. We continue to make progress on our three strategic priorities. So in terms of innovation we had four key approvals and five positive clinical trial read outs. We also received FDA Breakthrough Therapy designation for Serelaxin, and this made Novartis the first pharmaceutical company this year to receive that designation for two different medicines (inaudible) is the second.

Now in terms of accelerating our growth, net sales grew in each division and it was driven by our growth products which were up 31% and also by emerging markets. In terms of productivity we delivered about $650 million with about half of that coming from procurements. So let me just touch a little bit deeper on innovation. The pharma division delivered three products approvals including the FDA's approval of Ilaris for systemic juvenile idiopathic arthritis. This is a very severe and potentially life threatening form of childhood arthritis.

In Alcon, Simbrinza was approved for glaucoma and that launch is now underway in the U.S. Sandoz had three, actually had started an important Phase 3 with the Enbrel biosimilar. And it's important to note here that Sandoz biosimilar pipeline now includes seven Phase 3 trials and it's across five different molecules, one of the strongest in the industry.

Turning to growth on slide number nine. You can see that our growth rates range from 1% in pharma to double-digits on vaccines and diagnostics and also on our consumer health business. So let me just touch on each division. Pharmaceuticals grew nicely driven by the growth products. So Gilenya and Afinitor continued to see very strong growth. And also both the new respiratory launches, Onbrez, Seebri, are now starting to ramp up and also Jakavi is accelerating in the second quarter.

Alcon grew 6% in the second quarter. This was driven by solid 8% growth in the surgical franchise. The division here has a full line up of new launches in the second half of 2013 including its new Refractive Suite in surgical. As well as in pharmaceuticals launching Jetrea and also Simbrinza. Now Sandoz growth was 3% in the second quarter and the growth was pretty well distributed globally. Ahead of market in most markets except North America where we saw lower pricing for enoxaparin versus a year ago.

In terms of consumer health, we continue to show solid growth. OTC delivered double-digit growth driven by the international markets outside the US. Major brands as well as within the US, the re-launch of Excedrin continues to go well. And in fact, the division also started shipping Benefiber in June. Animal Health delivered strong growth, and the re-launch of Sentinel in the US and share there is performing very well.

In the second quarter, our emerging markets business grew at 11%. This was led by China and Russia, up 25% and 18% respectively for the quarter. And I think overall, our emerging markets business continued to strengthen. You can see that this is now the sixth consecutive quarter in which we have accelerated our growth versus prior year in these markets.

As you know, in the past year, we focused pretty extensively on upgrading our quality systems across our more than 100 manufacturing sites. Overall, we’re making good progress. In the second quarter, we had 63 health authority inspections, including eight from the FDA. 97% of those were either good or satisfactory. Although you probably also saw the last -- a few weeks ago, we received a warning letter on the Sandoz site in Unterach. This follows an inspection that occurred in October of last year related to two cGMP violations, but we’re working very closely with the FDA to address the concerns, and we don’t expect any supply disruption at this point.

Finally, in Q2, we made strong progress on productivity. Our focus on procurement continues to pay off. If you remember last year we generated $1.3 billion in savings through group-wide purchasing across all divisions, so this is a cross-divisional initiative. Also, we’re continuing to manage our M&S spend well across the group, so despite the increased number of launches and the spending, we were able to in the second quarter reduce M&S spend as a percent of sales by about 10 basis points.

Okay, now I’d like to turn it over to Harry.

Harry Kirsch

Thank you, Joe. Good morning and good afternoon everybody. I’m very pleased to report that we had a solid quarter and strong first half in both sales and operating income. On Slide 19, you can see our numbers in constant currencies. For the second quarter, net sales were up 3%. Core operating income was up 2%, and core EPS was up 1%. The only exception to this positive picture is free cash flow, which I will explain later in my presentation.

These are impressive numbers. Given we had approximately $0.8 billion of generic erosion in the second quarter, as you likely saw in the release this morning, they included the benefit from a delayed entry of generic competition for Diovan mono in the US. However, even if we exclude this effect, it was a solid second quarter, contributing to a strong first half for Novartis.

On Slide 20, you can see the components of our top line performance, which looks very familiar in the second quarter and the first half. In the second quarter, we delivered 8% volume growth, and it more than offset the 5% impact from generic competition. This generic impact by the way was higher than it was in the first quarter, mainly due to some major generics.

Price was slightly negative, but minus 1%, mostly due to enoxaparin driven price declines in Sandoz compared to the previous year, and Fougera contributed plus 1%, which brings us to our robust, underlying sales growth of 8% in the second quarter. This is at the upper end of the guidance we issued in January and which we said that underlying FX growth in 2013 would be at least in the mid-single digits.

As we are seeing the building blocks of our topline results, let me explain currency on Slide 21. In the second quarter, currency impacted sales by 2 percentage points and core operating income by 4 percentage points. This was mainly due to the strengthening of the US dollar mainly against the Japanese Yen, which depreciated by about 20% in the first half versus the average 2012 rates. The Yen accounts for a larger portion of our operating income in our sales. In 2012 for example, we booked 9% of our sales in Yen and only 5% of our operating expenses. This means that the currency impact of core operating income is greater than that one of sales. If June average exchange rates prevail for the reminder of the year, we expect negative impact of approximately 2 percentage points on sales and approximately 4 percentage points in core operating income for the full year.

If you think about what is driving the 8% underlying volume growth, the answer is our rejuvenated portfolio. Slide 22 shows the evolution of our growth products over the last six quarters. In the second quarter of 2013 at the group level, our growth product accounted for 31% of group net sales or $4.5 billion, up 13% from the previous year quarter. At pharma, this contribution is even more impressive with growth products accounting for 37% of division net sales or $3 billion in the quarter, up 26% in constant currencies from the 2012 period. David will give you more details on some of the key products driving this growth in his presentation shortly.

Let me now turn to growth and margins by division. As you can see on slide 23, all divisions contributed to sales growth in constant currency. Core operating income margin for the group decreased by 0.3 percentage points in constant currency due to pharma margins being impacted by generic competition and continued investments in pipeline projects such as serelaxin and LDK.

For the other divisions, the change in core margin was positive. The Alcon performance in the quarter was led by the surgical franchise, which grew 8%. This was driven by a market rebound in cataract procedures and market share gains in the major markets. Sandoz margin declined from its first quarter level due to the full annualization of (inaudible) and lower sales of enoxaparin. In 2013, vaccines and diagnostics is expected to report a negative operating income, although the losses are reducing compared to 2012.

Operating losses are predominantly caused by investments in our pipeline including next-generation meningococcal and flu vaccines, as well as the Bexsero production ramp up. Margins and profitability are expected to improve as we launch Bexsero. The consumer health division saw an increase in margins over the year, but a slight decline in quarter-on-quarter due to a one-time income from divestment of tail end brands in Q1, while continuing investments to support relaunch of key brands.

Now let's talk about productivity. As you know, we have been measuring productivity for some time to ensure that all parts of the business have the discipline to sustain long-term performance and improved profitability. Slide 24 shows you the contribution from these measures in the first half. There are a lot of individual initiatives here relating to procurement and resource allocation across the portfolio, as well as our manufacturing network and supporting infrastructure. Overall. the initiatives were delivering well with 4.3 percentage points of benefits from margin generated in the first half.

Now, let's review cash flow and net debt. As you can see on slide 25, cash flow in the first half was $3.1 billion, down 29% versus first half of 2012. The main driver of this variance is $0.9 billion higher trade receivables. Of this, $0.5 billion had to do with the timing of large collections which are expected to revert in the second half of the year. Capital investment increased as we built our research center in Shanghai and two pharmaceutical production sites in Switzerland and Singapore. Inventory went up as we carry slightly higher safety stock in inventory to ensure high customer service levels.

After correcting for the collection timing of receivables I mentioned earlier, the historical pattern in free cash flow generation should remain valid for the full year. On slide 26, you see how net debt increased from $11.6 billion at the end of 2012 to $13.6 billion at the end of June. First, there is the $3.1 billion of cash flow I just described. Then, the dividend payment of $6.1 billion in the first quarter. Next, you see in the middle of the slide that we received a cash inflow of $1.4 billion for movement of about 30 million shares. These are mainly related to the exceptionally high exercise of employee options. We are mitigating the dilutive impacts of these programs on an ongoing basis by having already repurchased 13.4 million shares year to date.

Now a word on our generic assumptions. In January, we have assumed generic Diovan Mono which entered quarter one in the US. This has not happened. The timing of generic entry is totally unknown and your guess is as good as ours on this. However, in order to update our full year guidance, we have to put in a placeholder assumption. We assume [absence] of generics is likely to continue in the third quarter and assume that generics entry will happen somewhere later this year.

On Slide 27 you see an illustration the impact of this delay in 2013 and 2014. With this placeholder assumption, the total impact of generics reduces from up to $3.5 billion to up to $2.7 billion in 2013. While this will provide upside on reported sales and operating profits in 2013, we expect the benefit to reverse and result in higher generic erosion in 2014. This will obviously impact the reported 2014 growth rates, but not actually 2014 sales levels.

Regardless of the uncertainty of generic Diovan, the most important part of our 2013 guidance was the trajectory of underlying growth. If you take out the impact on generics on slide 28, you see our underlying sales growth is strong and on target with our January guidance of at least mid-single digit growth. In fact in the first half our underlying sales growth was high single digit rates of 8%. Our underlying core operating income growth was also extremely strong in the first half and well ahead of sales at 17%. However, please take care not to [separate] this growth in underlying core operating income for the full year. Historically we have a higher second half spend and this year the variance will be somewhat higher due to pipeline and pre-launch investments in pharma, investments to Sandoz and increased launch (inaudible).

Putting all that together on Slide 29, we have raised our guidance for full year 2013 topline and bottom line. I talked about benefits from delayed entry of generic Diovan Mono in the U.S. It has now gone on significantly longer than we anticipated. As we mentioned on our last earnings call, every month of delay is worth about $100 million in sales in Pharma. Next, we are raising our guidance for 2013 slowly to reflect the net positive Diovan impact and drugs of reported results our new full year guidance in constant currency sales. Group sales upgraded to low single digit growth. Previously it was in line with 2012. Group core operating income upgraded to low-single digit decline. Previously it was mid-single digit decline. Pharmaceuticals sales upgraded to in-line or better than 2012. Previously it was the low single digit decline.

Our guidance for the other divisions is unchanged, but don’t forget that Sandoz includes the benefit of authorized Diovan mono generic launch U.S. As I mentioned earlier, for our underlying business, which excludes the impact of generic competition, the guidance we gave in January still maintains. So to summarize, we delivered solid results in the second quarter constituent to a strong first half. We raised our guidance for group sales and core operating income to reflect the positive impacts from Diovan Monotherapy and we delivered solid underlying performance at the high ends of the full year guidance we issued in January.

With that, I’d like to hand it over to David.

David Epstein

Thank you, Harry. Our results this quarter further confirmed our strategy to replace our old legacy brands such as Diovan and Zometa is working as we delivered 10% underlying volume growth. Those products were clearly the engine for the $3 billion in sales now representing 37% of the total, up 26% from the previous period.

Turning to the next page, we see that after generic offsets, the division delivered a net topline growth of 1% in constant currency. Looking at our core operating income margin, we further capture productivity saving that we use to further contain its decline as we absorb the impact of generic Diovan HCT and begin the prep for several very exciting launches, including QVA, LDK, Serelaxin and others.

Turning now to page 33. You see that emerging market sales growth was quite robust in line with our strategy to further build our presence in some of these markets, based not just on old products as some of our competitors are doing but also new product launches which we believe will provide sustainable growth well into the future in these regions. On page 34 we give you a snapshot look at the dynamic that we are experiencing in China. And you see there that we are outpacing multinational growth to essentially mid last year with 21% sales growth over the quarter.

Looking forward we expect to continue to beat the market, the multinational market in China. On page 35 you will see a familiar slide. This is just a reminder of our strong growth platform. Products that we believe are either blockbuster today are products that we believe have blockbuster potential with exclusivity until 2017 and beyond. All products reported very strong double-digit with the one exception of Lucentis, which I will describe to you now on page 36 in a little bit more detail.

So Lucentis is the key to really understand the VEGF market. It's to really take a look at the underlying increase in demand. We actually during the quarter, despite the negative 3% in reported sales growth, had strong double-digit volume growth which was offset by one-time price reductions that were required to secure reimbursement to some of our new indications such as DME and RVO. In addition, as you know, we are facing competition from a new competitor who has done well in Australia and Japan. Overall outlook for this product in this category is intact and we remain very excited about the growth potential for Lucentis over the medium and long term.

Turning now to page 36, we see that Gilenya reported very robust results. Looking at the left hand side of the chart we see the 41% growth in the U.S. You will note that even this quarter versus the previous quarter we had strong underlying growth and demand of approximately 5% despite the launch of Tecfidera. And this is because the overall market is rapidly expanding as physicians are moving the patients from injectable to oral medications. Probably even more important than our very good results in the U.S. is that the extraordinary growth of rest of the world which I believe remains underappreciated. Currently we have more than 87,000 patient years of experience with Gilenya and we expect this product to deliver on the expectations for blockbuster growth.

On page 38 we take a quick look at Tasigna and just want to report there that the movement of the market from Glivec to the better product Tasigna continued as planned. During the quarter we made continued progress on our treatment free remission pivotal trial which we believe will be very important to show the full potential of this product and give the patients the opportunity to go of medication rather than stay on all their medication in a chronic manner.

Now I would like to do something a little bit different and just give you some insights into some really good news on our development portfolio. In fact if you look across our development portfolio, we have been beating even our internal expectations with very very good clinical success and regulatory success due to Tim Wright and his team, and Alessandro Riva and his team. Let's start with Serelaxin. As you know this is a new product that has -- where we now have regulatory permissions both in the EU and in the U.S. This is going to be a new product for the treatment of acute heart failure, a condition where there is a little opportunity to really make a difference to these patients.

You will recall that previously we reported a relative risk reduction of 37% in terms of mortality. Taking a closure look at the data and particularly the biomarkers, we see consistent improvements in biomarkers whether it be Troponin T, Pro-BNP or Cystatin C, with the use of Seralaxin versus placebo. The key takeaway from looking at these biomarkers is that the administration of Seralaxin over a 48-hour period that potentially protects the heart and protects the kidney from damage, and it's our belief that that protection during that period is what translates into that mortality benefit at 6 months. You recall here the FDA also granted breakthrough therapy designation in June. And just the other day, FDA accepted our files in the United States.

Turning now to page 40, we’ll take a look at Secukinumab, previously known as AIN457. We have actually now completed a series of Phase 3 clinical trials which will form the basis for our upcoming regulatory submission. What we have in this chart, on the left hand side of this side of this chart is the study design for the fixture trial which was a head-to-head trial planned in order to demonstrate the superiority of two different doses of Secukinumab to Enbrel.

Let me just leave you with the facts of that. Both doses were indeed superior to Enbrel and the differences were very clinically meaningful. You’ll see the stat at the EADV Congress in October in 2013 and we will file this stat with regulators all around the world in the second half of this year.

Last but not least on page 41 in terms of new products, I want to speak a little bit about a new substantial opportunity for Xolair in chronic spontaneous urticarial. This is a disease that is not well known by many, but devastating for patients. These patients are extremely unhappy. They have severe itching. They have angioedema. They very often cannot work and live basically in constant fear of unexpected attacks. This particular study is the ASTERIA II study showed that approximately 34% of patients had symptom resolution by week 12 compared to only 5% on placebo. The drug was well tolerated. There were no safety signals and actually the prevalence of the disorder is much bigger than most people expect. The EU file is now submitted.

On page 42, I just want to say simply that I’m very proud of our development team. They have done very well in the first half of the year. The pipeline having delivered 6 names for approval to CHMP opinion and with up to 3 more expected in the second half of the year, some are quite important. QVA149 which is our combination LABA for the treatment of COPD, Ilaris in the EU for juvenile arthritis and potentially the first opinion on Serelaxin for the treatment of acute heart failure.

So, in summary, pharma division also had solid performance in the quarter and we have taken up our full year sales guidance to be in line or better than 2012. The underlying volume growth of 10% has more than offset the loss in sales to generics. Regulatory performance has been strong. And when you look at Xolair in CSU and Secukinumab together in psoriasis you see the basis for a very exciting new growth opportunity for us in the context of a new dermatology franchise franchise, something that we will start to benefit from towards the second half of next year.

So with that, I’ll turn the presentation back to Joe.

Joseph Jimenez

Okay. I just want to close by reinforcing our strategic priorities. In the second quarter we further strengthened our pipeline in terms of innovation and we expect that to continue. We accelerated our growth by driving our new launches in particularly emerging markets. And we made progress in productivity which is helping us offset generic erosion and this is an important piece of what we’re doing.

So with that, I’d like to close and then now open the call for questions.

Question-and-Answer Session

Operator

(Operator Instructions). We can take our first question from Matthew Weston of Credit Suisse. Please go ahead, your line is open.

Matthew Weston - Credit Suisse

Three if I could, the first two on products. I have to say I’m a little bit confused with the pricing comment on Lucentis. So based on your comments on volume in a minus 3% constant currency revenue development, I’d suggest somewhere around 20% price reduction. If I recall, DME and RVA were both approved in 2011. I know that reimbursement discussions can take some time, but it would suggest that there were problems or there have been big price cuts in markets which have huge influence on the total ex-US sales. So can you give us a little bit more detail in terms of any large markets and the magnitude of some of the reimbursement reductions or the price reductions that you have had to give to get those two segments reduced or is it that more of that 20% estimate is to do with IIaris' entry and reimbursement issues you have had to give up there.

One comment that you make on Gilenya is around the royalty impact on gross margin. Can you explain what's happening with Gilenya royalties? Is there some sales milestone that led to a step up in what you are paying away or are you anticipating that you will reach your sales milestone by end of year which will require a step up in royalty pay away. And then the final question is a bigger picture one for Joe. China, clearly a very important driver for the industry, but particularly on today's results for Novartis, given the problems that one of your competitors has in that market, how confident are you that your compliance structure in China is sufficient to ensure that the sales that you are delivering are being achieved correctly?

Joseph Jimenez

Tim, you want to take the first two?

Timothy Wright

Yeah. So, your overcall calculation on Lucentis while slightly high is not that far off. Remember that Lucentis is heavily concentrated in just a few markets, and these are price sensitive markets around the world. We are not, for example, in the U.S. market. The RVO and DME indications, the reimbursement discussions can be fairly protracted. The other thing is the ongoing pressure which we talked about in the past on price due to Avastin, which can be used off-label at a much lower cost, and the general price cuts that we see across all products that occur within Europe.

We believe these price reductions or recent order of magnitude price reductions is really a one-time effect. It actually started in the back half of last year and it continued through the first two quarters of this year. This category will be under constant price pressure, but it should go back to more normal levels as we go forward. Regarding Gilenya, there are no milestones paid. The royalties are what you would expect for a product of this type. Simply what's happening here is that as Gilenya becomes a bigger percentage of the portfolio, then obviously we're paying more absolute dollars in terms of royalty payments.

Joseph Jimenez

Matt, regarding China, you are right, it is an important growth driver for the company. And it's not just pharma, it's across all divisions. Alcon has a very important and growing business there. The way that I think about China is the fact that the market is growing double-digit and will continue to grow double-digit, and it's because of the government's commitment to expand access to rural Chinese, and this is driving -- as far as we see, this is going to drive double-digit growth. So, definitely the question is, what is the expectation for Novartis? My expectation is that whatever division we are operating in that we grow sales ahead of that market growth, whatever it is. So if the market is growing 15%, we should be able to grow 20% or more in an individual division.

Now in terms of compliance. Obviously we have spent a lot of time and money training from a compliance standpoint. And this has been a particular area of focus over the last 24 months. As always, we have -- we say this all the time that we have thousands of employees and whenever -- no matter how much training you do, there could always be areas of bad behavior. As soon as we find that bad behavior, we root it out and we act on it, and that we would not be any different in China than we would be in any part of the world. So I am confident that as long as the markets in China continue to grow like they are growing, we are going to continue to see growth, maybe not 25% every quarter, but my expectation is we will be ahead of market.

Operator, are there other questions?

Operator

We can take our next question which comes from Richard Vosser of JPMorgan. Please go ahead.

Richard Vosser - JPMorgan

Hi. It’s Richard Vosser from JPMorgan. A couple of product ones and a couple of vaccine ones, please. Just on Glivec, it seemed to have a very good performance in the US this quarter, so just wondering whether there’s any stocking there. And ex-US seems to be impacted by generics. Just your perspective on the news that China is granting a generic of Glivec as well and the further impact from that. Secondly, on Afinitor, just quarter on quarter, the growth appears a little bit slower. Obviously, year-on-year is very, very good. Just wondering how the penetration into the breast cancer indication is going, whether that seems to be slowing now or whether there’s a lot of room to grow.

And then on the vaccines, just as we go into the northern hemisphere flu season and you’re starting to think about the US, sending your shipment to the US, whether you’re seeing any impacts from not having a quadrivalent vaccine for this season. Any perspective there given your competitors both have quadrivalent vaccines? And then just on Bexsero, we obviously know that there’s a decision coming very soon in the next couple of weeks in the UK for putting on to the vaccination schedule. Just wondering what’s happening around the rest of Europe, whether those sort of decisions are being taken, whether those decisions are upcoming in the coming quarters as well. Thanks very much.

Joseph Jimenez

Starting with Glivec, , so the market has done actually better than we would have anticipated, and it’s helping to build the brand. We’ve also seen some one-time clinical trial orders as companies do head to head trials versus the product, although relatively small. The other thing that’s interesting and it’s very early to make anything of it, but if you look at just for example some of the Eastern European markets where there are generics now, the market is not switching to the generic as fast as we would have expected, so this is giving us a little bit of a boost up on Glivec. Regarding Afinitor, we’re happy with this growth. It has slowed, as you said, a bit in the U.S.

We penetrated well under 50% of the top locations, so there will be further growth. What you’re seeing happen is the average patient stays on drug around eight or nine months. So you’re seeing that very first bolus of patients that we’ve got sort of reach the end of their therapy. So while we’re continuing to get new patient stats, you get this effect will be flattened out for a little while in the US, and then we go back to growth. Ex-US, the growth is quite robust. We’re still working through reimbursement, and we really just got started with the launches.

Andrin Oswald

On flu, we don’t see any impact on (inaudible) on our demand which is more or less unchanged from last year. On Bexsero, there are, of course, discussions ongoing with other governments outside of the UK. We will start shipping to some countries for the private market, but I think until we see a public (inaudible) starting in some of the markets, it’s more likely going to be 2014, however.

Operator

Our next question comes from Tim Anderson of Sanford Bernstein. Please go ahead.

Tim Anderson - Sanford Bernstein

A few questions. First is on Gilenya's growth prospects ex-US which you say is unappreciated. Tecfidera has not received a data exclusivity in Europe and there’s been some speculation that they may not even launch in Europe because of this to protect their existing MS franchise that naturally be good for Gilenya. What are your expectations on whether they’ll get data exclusivity? And are you fully expecting that they will launch in Europe? On Serelaxin, which you’ve received breakthrough therapy designation, do you also expect that the product will get the shorter priority review designation too? Have you asked for it and do you expect to get it? And the last question I’m pretty sure I know the answer to this, but given the fact that much of the pressure from Diovan generics will be pushed into 2014, can you at least confirm that 2014 will be the year that returns to positive revenue and operating income growth? In a couple of cases with other companies like Glaxo and Sanofi we’ve seen a return to growth period pushed a little bit further out into the future than what investors were initially expecting.

David Epstein

Yeah. So the first question was around Tecfidera really, ex- U.S. Obviously we do not know what the discussions between Biogen and the European Union may or may not be. For our planning purposes we assume that we are going to have a competitor and we are going to launch and certainly the forecast that we have given for the product assumes a launch. Now if they don’t launch or their launch is delayed, I mean that would be a positive thing for us to be growing out much more, that I can say. In terms of Seralaxin, we did get breakthrough therapy designation. It will be a standard review and the reason is very clear. This is a new approach to therapy. As you recall from the Phase 3 clinical trial, that was one trial. And while we hit the primary endpoint in terms of essential ability to [greet], that improvement was modest. And the real big benefit for the product is in terms of the mortality benefit. But that was not the primary or secondary endpoint of the trial it was safety endpoint.

So given all that, the agency had said they wanted to do a very slow, thoughtful review and get the endpoints they need to make the right decisions. In our opinions the discussions with the agencies are going very well and ultimately the timing will be the timing of whatever they decide.

Joseph Jimenez

Okay. And then Tim regarding the outlook. If you remember in January I said that as a group we expect for '14 and '15, a single digit sales growth at least and core operating income that is growing ahead of sales. As we look at the underlying business today and think about what that means, we don’t see any real change. So even under worst case scenario of let's say Diovan mono coming right at the beginning of 2014 where we got the full benefit this year and you would have to take it out of next year, we still see return to growth both on the top line and the bottom line. So we will give you a better update as we get closer to the end of the year.

Operator

Our next question comes from Florent Cespedes of Exane BNP Paribas. Please go ahead.

Florent Cespedes - Exane BNP Paribas

First for Kevin on Alcon. Could you give us more color on why you experienced some relief in Q2 and is there a trend here? Should we see Q3 and Q4 as robust as Q2 and not as soft as Q1 or Q3 last year? Second question will be for Jeff, Sandoz. Could we have more details on the countries where you have experienced a main pricing pressure and could you remind us what could be the growth drivers for this division going forward? And the last question on Serelaxin for Tim. Could we have some color on why you have decided to enroll more than 6000 patients in the clinical trial as in the previous one you already showed a mortality benefit with much lower number of patients even if cost was not the primary endpoint. And do you believe that we could have some results before 2016 which is the official timing we could see in the clinical trial website? And could you remind us when you will have the first interim analysis on this trial. Thank you.

Joseph Jimenez

Okay. Kevin, Alcon.

Kevin Buehler

Starting with Q2, we talked earlier that the growth really accelerated in surgical area and that’s primarily driven by two things. One is improvement in terms of cataract procedures and we got the ability to look at the market through the use of our disposables on our machines. So we saw improvement in Q2 over Q1 level. We also saw market share growth on IOLs and very positive performance on Toric IOLs. And then secondly I would point to looking at our Asia market we got off to a relatively slow start in Q1 but we had very robust growth, 16% in Q2.

So then when you think about the balance of the year, it's going to be somewhat dependent upon procedure growth continuing. But this has been a trend that we have seen overtime. We would still see procedures year-to-date in the 3% to 4% range which is a little lower than what we have seen. So we are expecting that to continue. And then secondly, we have got very positive product launches in the second half of the year across all three of our businesses. Jeff?

Jeffrey George

So we’ve seen 12% price erosion year to date and over 5 percentage points of that are from Enoxaparin alone in the US which is well over $200 million impact year to date. That means that the underlying price erosion has been the range that normally is usually in high single digits. So it’s a little less than that, around 7%, 6.5%, 7%. In terms of specific countries where we see price erosion, I would say it’s really year specific in Europe. It depends on who take price cuts. We saw 10% price cuts in Switzerland this year. Spain has been hit hard by (inaudible) which has gone through a tendering system. So that’s caused massive double digit price erosion in that market. In other years we’ve seen it in Italy, in France and elsewhere. Two other markets that I’d say where price erosion is a bit higher than average would be Australia and Canada which were both impacted by higher competition and higher gross to net spreads in terms of price erosion.

Joseph Jimenez

And Tim, on Serelaxin trial?

Timothy Wright

As David mentioned earlier, the RELAX-AHF trials are already completed. We had about 1,200 patients show 37% reduction in cardiovascular mortality. And the design of RELAX-AHF2 took this into account and as well building in an ability to test smaller effect slides. So we want to have confidence that it’s clinically meaningful and will deliver the results we want, but also factoring in that 37% may or may not be replicated. It could be less than that, but remain highly clinically meaningful. So we designed the trial with statistical input and as well as input from the external experts. That’s what drove the sample size up to around 6,000. And we’re confident that we can recruit this trial fairly quickly. You can see that the placeholders for the estimate of the read out in mid-2016 and we actually expect that they go a little faster than that, but that’s our current placeholder based on estimates for recruitment. As far as interims, we don’t comment on interim analysis until after we’ve performed well.

Operator

Our next question comes from Andrew Baum of Citi. Please go ahead. Your line is open.

Andrew Baum - Citi

Two questions for Joe and one for David or Alessandro. Joe, do you think the current share price accurately reflects the intrinsic value of the company’s current and future assets? If it’s not, what are some of the actions you’re proposing to remedy this? And then second, am I right in understanding that despite the consulting contract, Dr. Vasella will have no significant role in shaping the future strategy of the group? And then finally to David or Alessandro, your pipeline page shows your CART-19 filing as being in 2016 proposed. What are the potential for materially accelerating the timeline for this product? Thank you.

Joseph Jimenez

Andrew, the first regarding share price. I don’t want to comment on share price, but just look at our PE multiple and the fact that it’s in line with the peer average in Europe. And you look at our innovation pipeline and what’s coming, obviously I would believe that we should have a premium versus that PE multiple that it’s in line. If you look at what happens to companies as they move through their patent exploration period like we are moving to Diovan, there tends to be that period where people are still waiting to see what the company is going to look like as we exit that.

So I think -- my own belief is that this is an issue that if we just continue to execute well, that this is an issue that will take care of itself if our innovation pipeline continues to deliver. Regarding the contract, the consulting contract is a minimum of 10 days. I would like Dan Vasella to continue his mentoring programs which have been very impactful for a lot of our junior people around the world. He ran the company for 11 years and showed a lot of good leadership, knowledge and ability and people get a lot out of this. So I’ve asked him to continue to do that. But beyond that obviously there would not be any involvement because as you read from the press release, he will not be attending the board meetings nor getting the board minutes.

Joseph Jimenez

Question was about (Inaudible).

Unidentified Speaker

Yes.

Joseph Jimenez

Andrew, as you know there is a potentially paradigm change in therapy where we modify patients T-cell and then that therapy is then -- those modified T-cells are injected into the patients to treat diseases such as ALL, CLL and potentially other hematologic and even solid tumors. We have limited data so far, but as you know the results have been really very, very positive. The filing date in the chart as we have pointed out is on the concerned website. Clearly, the results would hold up in the clinical trial that we are about to start. And assuming that production can come online in a reasonable period of time because this is not a pill or a standard kind of injection. It is possible that the dates could come forward, but at this point I can't tell you that with any uncertainty so I would rather not move the chart, or move the position on the chart to be more exact.

Operator

Our next question comes from Graham Parry of Bank of America Merrill Lynch. Please go ahead.

Graham Parry - Bank of America Merrill Lynch

And first on for Harry on guidance. You are pointing at the moment with FX to an EBIT decline of about 6% for 2013. Consensus is currently modeling about 2.5%. And when you go through your models, what do you think is accounting for that difference. Is it just the event timing or is it perhaps profitability of the loss of Diovan as well. And second on Lucentis, if you could give us a bit more detail just on volume and price by region, Europe, Japan and other, so we can really understand where you are seeing the volume up less than the pricing negatives. And then thirdly, on Gilenya, you commented on the first quarter call there was some inventory stock in with underlying cells running at about 5% quarter-on-quarter in the U.S. Did that continue into second quarter? Are we looking at a clean underlying rate here now? And then final question on China. Just to take that earlier question further, when was the last audit that you conducted in China and are you aware of any investigation into Novartis practices in China currently by any of the authority? Thank you.

Joseph Jimenez

Okay, Harry, starting with guidance.

Harry Kirsch

Thanks, Graham. I will not comment on the content and its comparisons but as you say, FX, if the yen and other major currencies stay as they are today, we will have [liquidity] available for 4% brought on by impact. And then as I mentioned before, we have few elements, moving parts in the second half of the year, one is we have the [schedules]. And again that’s a placeholder assumption, some Diovan mono generics, later this year and then there will be increase investment levels for pre-launch and pipeline pharma as well as the Alcon launches.

Joseph Jimenez

David, on Lucentis and Gilenya?

David Epstein

So Lucentis, I must say I am not going to go country by country for this product and going region by region doesn’t really help because sales are so concentrated in just a few markets. Regarding Gilenya, inventories are approximately normal now in the U.S. So I think you are getting a good feel for what the product can do there.

Joseph Jimenez

And then Graham just regarding China, as with many companies we have a full compliance organization in China. We continuously audit activity in terms of just the ordinary course of business, and we have not been contacted by the authorities on the matters of one of our competitors that has been in the news recently.

Operator

Our next question comes from Peter Verdult of Morgan Stanley. Please go ahead.

Peter Verdult - Morgan Stanley

Just a question for Joe or Harry and a few for David around the Serelaxin. Just Joe or Harry, on the Diovan, so this 100 million monthly windfall. How should we think about the balance between reinvestment and what's being allowed to flow it through straight to the bottom line. Just if we were use to an average of 50% reinvestment rates, just wanted your help in understanding where you are allocating the extra resource versus plans made at the start of the year. And then David on Serelaxin and also pharma R&D expand actually. Given the pipeline success you are calling out at Novartis, I mean you got a $7 billion run rate in terms of R&D budget, in absolute dollar spend terms, how should we be thinking how that trends versus your expectations self-growth beyond 2014?

I want to get a handle as to whether we should assume it will have to grow where you could do more with the same. And then specific questions on Serelaxin. Were there any regional variations in the endpoints of the data that you produced for the AHF trial? I’m only asking that because I see that less than 10% of the patients were enrolled in the US and less than 20 from Europe. Just want to make sure there’s no difference among the regional subgroups. And then lastly, just squaring the circle, we saw a maternity benefit. It wasn’t an endpoint, but there was no impact on hospital readmission rate. So want to know how you’re squaring that. Thanks.

Joseph Jimenez

Peter, regarding the first question on Diovan, I think we said back in January that we did have the assumption that because we were in mid-January or late January that we would get something for Diovan this year. So relative to what we were targeting, there is a significant increase and sales are obviously dropping. And I wouldn’t think about reinvestment as any material number, but you also will have to see that we are executing a number of launches. We’ve got the Serelaxin breakthrough therapy designation and the filing made us say that we must invest now to get ready for Serelaxin. So there is a heavier investment plan in the back half of the year, not just on pharma but also Alcon because of the new product launches. So not necessarily directly tied to that, but it’s certainly not anywhere near a 50% reinvestment rate. I would just think about the benefit of dropping to the bottom line. As Harry said, we’re still assuming in the outlook that we’ve given that it goes. We’ve said it’s not going to go through the third quarter. We think that’s relatively safe. Nobody knows. So just as a placeholder we’ve put it in I guess I would say sometime not in the third quarter but before the end of the year. So the extent that it doesn’t come, there’s upside. So that’s the way that I would think about the Diovan situation.

David Epstein

I think the next question was less about Serelaxin and more just about R&D spend levels. You have the typical quandary in this business, right? The more successful we are in development then the more opportunities we have to spend because with all these additional clinical trials with Phase 4 programs there’s indication expansion and the like. So as we see our R&D spend this year is trending up. In order to give guidance beyond 2014 which is your question would be extremely difficult for me to do now and I’m just going to refrain from doing that. What I want to say is we constantly look at priorities in our development portfolio, and generally we’re looking at multiple productivity initiatives. And at the end of the day we’ll make a call and we’ll try as we do usually at full year results we’ll try to give you some kind of feel for where we’re going. And then there was a number of Serelaxin questions. Do you want to try them, Tim?

Timothy Wright

So I think you had a question about the regional differences. We did analyze the databases in clustering countries with similar geographies as well as standards of care and didn’t see any major differences in the results. The other question related to the re-hospitalization because one of the influence was (inaudible) 60. And that’s a complex endpoint because it relates not only to out of hospital but also survival. We did see a benefit in survival, but there were also patients were tending to be -- tend to be more re-hospitalizations than expected. And it’s a complex analysis of data that has led us to a couple of potential explanations. One is that if you survive the initial hospitalization due to a benefit from Serelaxin, you may have a higher propensity to be re-hospitalized in the next 60 days. So that’s one. The second is that there appears to be an imbalance in the numbers of patient subjects in the Serelaxin line who had hospitalization for acute heart failure in the prior year. That also puts you in a greater risk category for being re-hosptialized. And so those two factors may have explained that particular endpoint not being met, but suffice it to say that we are looking at the data as well as the design of RELAX-AHF2 to make sure that we don’t have for example imbalances for any of them in the next trial.

Operator

Our next question comes from Seamus Fernandez of Leerink. Please go ahead.

Seamus Fernandez - Leerink Swann

I have several questions with regard to the generics business and also ophthalmic business. In terms of the recent guidance that was provided with regard to cyclosporine ophthalmic emulsion, I was hoping either Jeff or Kevin could provide their thoughts on FDA's guidance there and the challenges associated with making a product like that. Incrementally, can you talk a little bit about your blow fill and seal manufacturing capabilities and the general appeal of ophthalmic generics for either Sandoz or Falcon division? And what your presence is there? And the lastly, any updates on EU filings in the respiratory space and if you could update us on your thoughts in terms of either timing or your expectations for the FDA's anticipated respiratory generic guidance and if you continue to plan for an ANDA, a direct substitution ANDA going forward?

Joseph Jimenez

Okay, Jeff.

Jeffrey George

So do you want to take the cyclosporine emulsion FDA guidance, Kevin, first, and then I can comment on Falcon?

Kevin Buehler

I will give it a try. Cleary, Restasis is an important product in terms of sales contribution. It's the only approved product for therapeutic dry eye. The interpretation of the information on the process for approval basically gives clarity to the approach. I think most of you probably recognize that the original approval in terms of being able to have replicated studies to show impact on dry eye has been a challenge for the entire industry. And then in terms of blow fill and seal, clearly we have got capability with a dedicated facility. We have got primarily dry eye products or artificial tears that are consuming that capacity today.

Jeffrey George

In terms of Sandoz, the Falcon business that you probably know, Seamus, was integrated as part of the merger with Alcon into Sandoz and Sandoz has the number one position globally in generic ophthalmics in addition to our similar positions in injectables and dermal and biosimilars to cap, round out our differentiated offer. That business is growing nicely for us. It's accelerated significantly and it's growing up over 20%. We continue to see it as a hard to penetrate category because these products have lot higher barriers to entry. Clearly the guidance on Restasis gives more visibility to generic companies like us to look at assets like Allergen's and of course that you can expect to see with that or has been with that for some time. But I don’t comment on what we are developing in our future pipeline.

In terms of your last question on respiratory filings, I am not going to go off of what I have said in the past, which is we really don’t give much guidance here. We continue to work with both European and U.S. regulators on our respiratory pipeline which we feel very good about. The pathway for respiratory products in the U.S. and EU could be even clearer. We feel if you look at the requirements for a 505-J for a combination (inaudible) COPD drugs in the U.S. We do believe an ANDA approach is possible. It is very difficult to do it but we do believe that this is a fully substitutable approach as possible for the future and we continue to pursue our pipeline accordingly.

Operator

Our next question comes from Michael Leuchten of Barclays. Please go ahead your line is open.

Michael Leuchten - Barclays Capital

Two questions please. One for Joe. Just because you have called out the emerging markets growth for the group at 11% constant exchange rate, the pharma division didn’t quite grow as fast. So I am just wondering, what the delta is? Which other division has contributed that margin to swing the overall business to 11%. And then related to that, you have called out China and other regions where the growth was substantially higher, so which countries are currently not contributing to the growth to get the average down to 11% for the business. And then a question for Kevin, for your glaucoma business, that was down 2% in Q2, adjusted for exchange rates. I thought we were going to look at this in terms of a portfolio that can continue to grow despite the entry of generics, yet we do see another quarter where we see a negative growth rate. Does UV still hold? Are we going to see growth despite generics is that continuity -- is that going to see a drive going forward?

Joseph Jimenez

Regarding the first question on the growth for the group of 11%, you’re right in that pharma was about 8%, but Alcon was double digit, Sandoz was double digit, Vaccines was double digit. So the rest of them actually pulled up the total to about 11%. When you look across geographies in specific countries, one of the areas that was a drag on EGM and it’s a big market for us is Brazil. There was entry of Glevek generic in Brazil as well Diovan and that has brought the total pharma numbers down. As well as if you look across the markets, you’ve got some markets that are going well, some markets that are not, but Brazil is really the standout for us that once we get out from under the Glevek piece that will continue to accelerate up.

David Epstein

In terms of glaucoma, you're right. We did see roughly 2% decline in the quarter. What we’re going through in the US is basically the competitive pressures from the gold standard with Valatan going off patent. We continue to see positive growth of the combination products outside of the US. And then as Joe highlighted, we just put the pipeline in. so relatively small sales in Q2 for Simbrinza. So literally we’re going to continue to promote the combination products and then launch Simbrinza and we’re going to be in that range of being flat or up in terms of our glaucoma business.

Operator

Our next question comes from Andrew (inaudible). Please go ahead sir.

Unidentified Analyst

David, could you quickly repeat the comments -- I missed the one on Afinitor with regards to why there’s not much growth quarter on quarter and which of the franchises, either renal cell or (inaudible) or breast cancer is responsible for the slowdown. The marketing and the sales line in pharma is up, not down somehow. I’m still trying to get my arms around why does the Diovan lingering on does not give you more margin progression? And then lastly one for Harry. John used to make the comment on buybacks basically. What is the hierarchy or the level of importance as payback debt, acquisitions and then buyback. Harry, do you intend to follow in those steps and keep that type of hierarchy of usage of capital? Thank you.

David Epstein

Regarding Afinitor, I think the question last time was mostly focused on the slow growth in the US quarter over quarter. And as I explained, there is plenty of room for future growth, particularly in breast cancer. Less than 50% of those patients of that market have been treated. We had a very fast start which meant a large come out early. We’re now rolling off therapy. So while we’re still getting new patients start to get -- we expect a period of flatness before we return to growth. Our forecasts for Afinitor are intact and we feel good about the brand. The M&S story is pretty clear. Despite all the productivity issue, yes we’re spending because we have a very exciting launch portfolio and we are making sure we spend on the things that really matter. So these new product launches take off in a good way and when you get breakthrough therapy designations and you have other things that are coming forward, that means there are pre-launch slots and that’s what we’re seeing.

Harry Kirsch

Our capital allocation and capital strategy is unchanged. Number one is certainly investing in the important areas of business with attractive return above our cost of capital and other rates. It’s easier to see ROI and cash revenue units. Second, ever growing strong dividends and thirdly, make sure we mitigate the dilutive impact of employee qualification programs. And as you have seen, we have already bought, repurchased about 30 million of shares this base. And depending on market conditions, we will continue to mitigate the 30 million of issued shares to which many employees exercised the option earlier this year.

Operator

Our next question comes from (inaudible). Please go ahead.

Unidentified Analyst

Two remaining questions on my side. Just coming back to Lucentis. I just wanted to be sure that you still feel confident with your expectations for 2017, meaning that consensus was standing at 2.7 billion and you felt it was really too conservative. So if you could just give us an update on that. And then on Sandoz, if you could just give me again the organic growth if you exclude Fougera. And then also on Sandoz, now that the Diovan monotherapy generic has not been launched, I mean you were guiding for mid to low single digit growth. So are we going to be at the low side for Sandoz and what would happen if the Diovan mono will only be up in 2014, what would be the guidance? Thank you.

David Epstein

Yes, for Lucentis we remain bullish even if there is essentially a slowdown in the short run but if you take the long view which you talked about, we feel that we can deliver on those expectations.

Jeffrey George

Yeah. So for Sandoz growth excluding Fougera, basically what you are seeing is that the Fougera growth basically a little more than offsets the Enoxaparin decline which explains why in Q2 we had flat sales in the U.S. If you look year-to-date, U.S. sales are up 2% in basically flat market. Canadian sales are down. German sales are also up 2% in a flat market and then we are seeing double-digit growth for a third year in a row in Western Europe, double the market at 13%. Central and Eastern Europe 13%. High teens in both Middle East and Africa and Latin America. And now Australia has dragged our Asia Pacific growth down to about 9%.

From the guidance perspective what I can say is that I confirm, we confirm our guidance of mid to high single digit growth. But as Harry said, this assumes a Diovan mono authorized generic launch later this year. I think that’s probably all I should say.

Joseph Jimenez

Okay. I think we have time for one final question.

Operator

Our next question comes from Steve Scala of Cowen. Please go ahead.

Steve Scala - Cowen and Company

I have three questions. What is Sandoz's view on when a biosimilar Enbrel could launch in the U.S. Secondly, why was Jakavi down quarter-over-quarter. And then thirdly, what is your view of the Pfizer meningitis B vaccine clinical trials targeting adolescents and young adults. Why is that population in advantage or disadvantage relative to the targeting that Novartis has done with Bexsero.

Jeffrey George

Yes, we don’t comment on timing of future launches. What I can say is that we will seek to confirm bio-similarity of our biosimilar of Enbrel in patients with psoriasis and seek approval for all approved indications. And we have designed the clinical program in close consultation with both the European and U.S. authorities using a combination of analytical, preclinical and clinical data necessary to give out a full label. And we are fully committed to bring this to market as soon as we can.

David Epstein

So the Jakavi launch remains. In fact it's actually doing better than we expected. What you are seeing is actually some onetime event. I think that occurred actually mostly in the first quarter so the comparison was difficult.

Joseph Jimenez

And on Bexsero, Pfizer's meningitis?

David Epstein

Yeah, I don’t want to comment on Pfizer's product. What I would say is that our [meningitis] therapy is approved from the age of two months all the way up to adults. And we believe it's very important that, especially infants and toddlers and vaccinated. This is the most vulnerable age group where the disease burden is the highest and direct protection of the infants we think is very practical part of the health campaign.

Joseph Jimenez

Okay. I would like to thank everybody for tuning in and we look forward to updating you in Q3.

Operator

That will conclude today's conference call. Thank you for your participation ladies and gentlemen. You many now disconnect.

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