Cephalon Q3 2006 Earnings Call Transcript

Cephalon, Inc. (CEPH)
Q3 2006 Earnings Call
November 2, 2006 5:30 pm ET

Executives

Robert Grupp - VP, Public Affairs
Dr. Frank Baldino - Chairman & CEO
Kevin Buchi - SVP & CFO
Bob Roche - EVP, Worldwide Pharmaceutical Operations
Lesley Russell - SVP, Worldwide Medical & Regulatory Operations

Analysts

Corey Davis - Natexis
David Buck - Buckingham Research Group
Charles Duncan - JMP Securities
Eric Schmidt - Cowen and Company
Greg Gilbert - Merrill Lynch
Gary Nachman - Leerink Swann
Dave Windley - Jefferies & Co.
Donald Ellis - Thomas Weisel Partners
Thomas Russo - Robert W. Baird
Michael Rockefeller - Morgan Stanley

Presentation

Operator

Good day, everyone, and welcome to Cephalon's third quarter earnings announcement. Today's call is being recorded. (Operator Instructions). At this time for opening remarks and introductions, I would like to turn the call over to Mr. Robert Grupp, Vice President of Public Affairs for Cephalon. Please go ahead, sir.

Robert Grupp

Thank you. Today we will review Cephalon's financial performance for the third quarter of 2006. Before we begin, let me remind you that certain statements on this call may be forward-looking, and are subject to risks and uncertainties associated with Company business. These statements may concern, among other things, guidance as to future revenues and earnings, operations, transactions, prospects, intellectual property, litigation, development of pharmaceutical products, clinical trials and potential approval of our product candidates. The Company also may discuss certain non-GAAP financial measures within the meaning of Regulation G during today's call. The information required by Regulation G is available in the News Room section of our website at www.cephalon.com. Additional information on risk factors affecting the Company's business and financial prospects, and factors that would cause Cephalon's actual performance to vary from our current expectations, is available in the Company's current Form 10-K on file with the SEC.

During this call, we will update full year 2006 guidance and introduce 2007 guidance. Please note that guidance will remain in effect unless the Company provides subsequent modifications or updates. Our earnings press release is available on the Internet at www.cephalon.com. Investors with further questions should contact Chip Merritt at area code 610-738-6376. This conference call is being webcast via the Cephalon home page, and will be archived for 1 week after the call. Speaking on today's call will be Dr. Frank Baldino, Chief Executive Officer, and Kevin Buchi, Chief Financial Officer. Also joining us today are Bob Roche, Worldwide Pharmaceutical Operations; Lesley Russell, Worldwide Medical and Regulatory Operations; John Osborn, General Counsel; and Chip Merritt, Investor Relations. Following remarks by Frank and Kevin, we will be pleased to answer your questions. Now, Frank Baldino.

Dr. Frank Baldino

Thanks, Bob. Good afternoon, everyone. Today we're going to present highlights from the third quarter, provide an update on each of our businesses, and introduce our 2007 expectations. Let me start with the third quarter highlights. First, we reported an exceptionally strong third quarter, with earnings more than double the third quarter of last year, led by continued growth in PROVIGIL sales and continued strength of ACTIQ. Also we received FDA approval of FENTORA, our new product for breakthrough cancer pain, and launched it just 1 week after approval with exciting, early results. During the quarter we also launched our generic fentanyl product, , which is being distributed by Watson Pharmaceuticals. And we completed the first full quarter of our VIVITROL launch. All told, a great quarter.

On October 2nd, we launched our next generation pain product, FENTORA, for breakthrough cancer pain. We are extremely pleased with the label, which reflects the product's distinct advantages of our already successful ACTIQ brand. These benefits include an improved pharmacokinetic profile, which could lead to faster pain relief using a lower dosage, simplified titration, and a more convenient sugar-free delivery system. FENTORA is priced significantly below the price of branded ACTIQ, which should broaden it's appeal to patients, physicians, and payers. With FENTORA, patients now have access to a product that we believe is meaningfully better than ACTIQ. This past August, we gathered our pain care sales force and commercial support team together to prepare for FENTORA's launch. With months of preparation, our sales team hit the ground running in October 2nd, and we are thrilled with the results of the FENTORA launch to date. In fact, it took almost 2 years for ACTIQ to reach the current FENTORA run rate. Peak ACTIQ prescriptions were 9,000 per week. In the third week of FENTORA launch, we've already exceeded 1,100 prescriptions. We're also excited about the flow of positive data supporting clinical utility of this exciting new product.

We recently announced results from a Phase III clinical trial of FENTORA for the management of breakthrough pain in opioid tolerant patients with chronic lower back pain. One of the highlights of this study was the fact that FENTORA delivered statistically significant pain relief versus placebo at 10 minutes. This is an important step forward in our goal of expanding the label beyond cancer. We have 2 other ongoing Phase III studies with FENTORA. Our study examining the effects of treating individuals with breakthrough neuropathic pain is wrapping up, and the data will be presented in the next several months. Our 12 week study of patients with non-cancer breakthrough pain is underway and we expect enrollment to be completed by the end of the year. We believe rapid onset opioids are an extremely important therapy for individuals suffering breakthrough pain, where onset of painful episodes occurs rapidly and often, without warning.

Pending positive data from these studies, our goal is to submit an sNDA in the second half of 2007 to expand the label indication for FENTORA. Keep in mind, that at it's peak, ACTIQ was used in only about 50,000 patients. Expanding the label to non-cancer breakthrough pain will provide us with an opportunity to bring FENTORA to approximately 3 million patients. We expect FENTORA to be a very successful drug. We're also planning to pursue FENTORA approval outside the United States, and expect to submit a centralized filing in the European Union in the first quarter of 2007. With FENTORA, branded ACTIQ, and generic OTFC, we are well positioned to grow our pain management franchise significantly beyond what ACTIQ would have achieved on it's own.

Let's shift our attention to PROVIGIL. After 8 years on the market, PROVIGIL continues to deliver strong sales growth. Prescriptions this quarter increased 18% compared to the same quarter last year, and we are very pleased with our decision to work with Takeda Pharmaceuticals North America. We believe this co-promotion will lead to significant expansion for PROVIGIL in the primary care space. Takeda's efforts are beginning to pay off. Beginning in January 2007, Takeda will dedicate 250 sales representatives who will detail PROVIGIL in the first position, bringing the total number of sales persons selling PROVIGIL to nearly 1,200. We are thrilled with the continued strength of PROVIGIL, our product that has generated nearly 10 million prescriptions and over $2 billion in cumulative revenue since it's launch in 1999. PROVIGIL is on track to become our first $1 billion product.

We enter the fourth quarter focused on securing final approval for NUVIGIL and expect FDA action by December 31st PDUFA date. With PROVIGIL secured until 2012, the role of NUVIGIL has changed dramatically. As a result we are planning for a modest launch in 2007, focusing primarily on sleep specialists who are treating severe cases of excessive sleepiness, while we pursue a broader label for the product. New pharmaceutical products marketed as a single enantiomer traditionally have demonstrated advantages over older, racemic forms, often including improved efficacy, more predictable pharmacokinetics, or reduced side effects. NUVIGIL is no exception. Our clinical trials have shown the potential for NUVIGIL to treat not only excessive sleepiness, but also fatigue and cognition. Next year, we plan to initiate new clinical programs with NUVIGIL in each of these areas, with the objective of further differentiating NUVIGIL and expanding it's label to include new indications. With a broader label in hand, we will switch our marketing effort from PROVIGIL to NUVIGIL around 2010.

Many of you have asked me about the inclusion of the suspected SGS case of both NUVIGIL and PROVIGIL labels. The case in question will be included in the label of both drugs, and we're in discussions with the FDA to reach agreement on appropriate safety language. Since neither drug is indicated for children, we do not believe it will have a significant impact on product sales. Of course, our 2007 sales guidance has taken this into account.

Our other sales of approximately 63 million for third quarter come from a diversified portfolio of over 2 dozen products. The newest product in that portfolio is VIVITROL. We are encouraged by all of the interest in VIVITROL that we seen among healthcare professionals and the trade press and the major news media, including a very positive article about VIVITROL in U.S. News and World Report on October 16th. The article reviewed several new drugs targeted at treating addiction, and recognize VIVITROL as the first addiction treatment that addresses non-compliance in a meaningful way. During the first several months of launch, we have been focused on establishing the logistical platform to effectively deliver VIVITROL to patients suffering from chronic alcoholism. Over the past few months we have significantly reduced product delivery times, expanded the distribution channel with the objective of allowing easier access to the product. The results have been positive. The reimbursement environment has been quite receptive to date. Our data show that approximately 90% of the patients have received insurance coverage with no restrictions. In addition, physician feedback has been very positive.

Some anecdotal evidence, including an original VIVITROL clinical trial participant who decided to enroll after receiving a number of DUI convictions. We are happy to report that he's been sober for over 3 years now. Another interesting case is of a patient that has been unable to keep sober for more than 30 hours for the past 11 years, and had been constantly in and out of detox programs. She received her first VIVITROL injection 29 days ago, and has been sober ever since. 3 to 4 days after her injection, she reported not really even thinking about drinking, indicating a reduction in craving. This is the longest period of sobriety that this patient has had in a long, long time. Another example comes from the daughter of a man who has been alcohol dependent for over 20 years, and has been through rehab multiple times. Since receiving VIVITROL, he has no struggle with cravings. His mood and outlook on life have completely changed. Her mother is overjoyed, and said that VIVITROL has changed their lives.

Beginning in September, we began detailing VIVITROL to addiction specialists in earnest. This effort is beginning to pay off and VIVITROL gross shipments over the last 4 months are gaining momentum. Shipments in July were at $126,000, August $398,000, September $575,000, October was $784,000. We continue to believe that VIVITROL will be a successful product that will address an unmet medical need, and more importantly, contribute meaningfully to our top line growth in the years ahead.

Turning now to our oncology business, we remain on track and enthusiastic about our clinical studies in this therapeutic area, particularly for TREANDA and CEP-701. The target day for the completion of our Phase III study and new drug application for TREANDA, for the treatment of non-Hodgkin's Lymphoma, is the Fourth Quarter of 2007. We're currently developing plans to study TREANDA and additional indications, such as chronic lymphocytic leukemia, small cell lung cancer, and myeloma. The Phase III program for CEP-701 for Acute Myelogenous Leukemia is on a similar timeline, with completion of the study in late 2007, and NVA submission in early 2008. We also plan to initiate studies of CEP-701 in patients with myeloproliferative disorders in 2007, on the basis of its ability to inhibit Jak-2. These 2 product candidates give us 2 viable oncology products, with the potential to reach the market as early as 2008.

In summary, we have delivered an exceptionally strong third quarter. We look forward to continuing strong PROVIGIL growth, increased impact from FENTORA and VIVITROL launches, and further development of our oncology pipeline in the months ahead. Now, Kevin will discuss our financial performance during the quarter.

Kevin Buchi

Thank you, Frank. Today, we reported another very strong quarter. Third quarter 2006 financial results, which included adjusted sales of $457.2 million increased 55% over the third quarter of 2005. Basic adjusted income per common share of $1.78 increased 125% over last year's number. Sales came in $17 million over the high end of our sales guidance range, due to robust sales of PROVIGIL and continued strength of our ACTIQ franchise, as generic OTFC launched at the very end of the quarter, and consequently did not have a meaningful impact on our sales. CNS franchise adjusted sales increased 40% to $212.1 million. PROVIGIL prescriptions increased 18% versus the third quarter of 2005, to more than $676,000. Pain franchise adjusted sales, which include generic OTFC sales of approximately $8 million, were $181.7 million, an increase of 81% over the third quarter of 2005. Other adjusted sales was $63.4 million, a 47% increase over the same period last year, primarily due to additional sales related to our acquisition of Zenius. In anticipation of reduced demand for branded ACTIQ, wholesale inventories of ACTIQ were reduced by approximately $20 million during the quarter. At the end of the quarter, wholesale inventory levels of PROVIGIL remained at less than 2 weeks.

Both R&D and SG&A expenses were below forecast, as we initiated efforts to better control our cost structure in anticipation of a transitional 2007. Our adjusted effective tax rate for the quarter was 37%, 36% on a year-to-date basis, generally in line with our guidance. During the quarter, several adjustments were made to arrive at adjusted net income. We excluded $13.3 million of sales, which reflects amounts to be refunded to us by the Department of Defense under their Tricare program. We excluded $6.7 million of expense related to the adoption of the new stock option accounting rules associated with SFAS 123R. We excluded $20.8 million of ongoing amortization of acquired intangible assets, and we excluded 2$ million paid to Carlsbad Technology, Inc., related to the settlement of patent litigation.

2006 has turned out to be an exceptional sales and earnings year for Cephalon. Year-to-date, we have substantially exceeded our sales and earnings expectations, and expect the strength to continue for the rest of the year. October sales in our pain franchise was stronger than expected due to slower than expected generic erosion of ACTIQ, and a remarkably strong launch of FENTORA. As a result, we are markedly increasing our sales and earnings guidance for 2006. Our revised 2006 adjusted sales guidance is now between $1.66 billion and $1.675 billion, an increase of $100 million over our previous guidance. Our guidance for adjusted net income is increased by $60 million to between $311 million and $317 million. Our guidance of basic adjusted income per common share is increased by $0.90, or more than 20% to between $5.10 and $5.20 per share assuming 61 million shares outstanding. 2006 sales guidance for the CNS franchise is raised to between $770 million and $780 million. Sales for the pain franchise are increased by $105 million, to between $610 million and $630 million. And our guidance range for other product sales is between $255 million and $265 million. We expect R&D expenditures to be between 305 and $315 million. SG&A expenditures should be in the range of $620 million to $630 million, reflecting launch costs of FENTORA and VIVITROL. Our assumed tax rate for the year remains at approximately 36%.

With generic competition to ACTIQ, and the launches of VIVITROL and FENTORA, we anticipate that 2007 will be a transitional year for the Company. In spite of these challenges, we are pleased to introduce 2007 guidance as exceeds both our prior 2006 guidance and the current comparable First Call consensus estimate. Our 2007 sales guidance is between $1.675 and $1.725 billion. This represents a $50 million increase over our new 2006 sales guidance, and a $150 million increase over our prior 2006 guidance. The product mix is as follows. The CNS franchise, which includes PROVIGIL, GABITRIL, and NUVIGIL is 900 to $925 million. The pain franchise, which includes ACTIQ, generic OTFC and FENTORA, is between $375 million and $400 million. And our guidance for other sales is between $375 million and $400 million. Consistent with prior years, our sales guidance does not include other revenues. SG&A guidance for 2007 is between $680 million and $710 million, an increase from 2006 to support the launch of FENTORA, VIVITROL, and the continued PROVIGIL push into primary care supported by Takeda. R&D guidance for 2007 is essentially unchanged from 2006 at $310 million to $330 million. We anticipate that our tax rate for the year will continue to be 36%. On a basis comparable to 2006, our full year 2007 adjusted net income is between $279 million and $285 million, resulting in basic adjusted income per share of $4.50 to $4.60.

We now have a full year of experience with expensing stock options. As a result, we intend to include our stock option expense for the first time in our formal guidance for 2007. Including this expense, our 2007 adjusted net income guidance is between $260 million and $267 million, and basic adjusted income per common share guidance between $4.20 and $4.30. Our guidance assumes 62 million shares outstanding and continues to exclude amortization of intangibles. 2006 is turning out to be a great year. We've blown out earnings again for the quarter. We'll blowout the year. And we anticipate strong sales and earnings in 2007. That concludes our opening remarks. We will now open this call to you and your questions.

Question-and-Answer Session

Operator

(Operator Instructions). Our first question comes from Corey Davis with Natexis. Go ahead please.

Corey Davis - Natexis

Thanks very much. Two questions. The first one is on FENTORA. I know it's early, but can you tell what percent of the scripts are being written by the current high ACTIQ writers? And maybe the same question about the sources of FENTORA by patients coming from ACTIQ, switches versus newly diagnosed patients, because it doesn't, to me, at least, look like it's a 1 to 1 conversion from ACTIQ right now.

Dr. Frank Baldino

Corey, good afternoon. Yes, the FENTORA prescriptions are obviously real strong out of the blocks here, and that clearly wouldn't be the case if we weren't going to the same docs who we've been going to, and who we've known for years and years on ACTIQ. They are demonstrating an affinity for the product, a real liking for it, for the many elements it provides differently from ACTIQ. They are transitioning some patients who are established on ACTIQ over to FENTORA, but at least half the patients we're seeing coming through are new patients on the drug.

Corey Davis - Natexis

You said half are new patients?

Dr. Frank Baldino

That's our estimation.

Corey Davis - Natexis

And, okay, second question, probably for Kevin. Thanks for switching to the new methodology of including the options. But I'm assuming the SG&A and R&D ranges that you gave exclude options. So can you tell us what they would be?

Kevin Buchi

It's about 50/50, Corey. I mean, the option expense in round numbers is about $30 million pretax. And so it would be about $15 million out of R&D and about $15 million out of SG&A.

Corey Davis - Natexis

Great. Thanks very much. And awesome quarter.

Kevin Buchi

Thanks, Corey.

Operator

Thank you. Our next question comes from David Buck of the Buckingham Research Group.

David Buck - Buckingham Research Group

Thanks for taking the question. A couple for the 2007 guidance. Can you give a sense of what you'd expect gross margin to be in the transition year with ACTIQ now generic? What's the assumption there? And also, on the Takeda co-promote, Frank, or Bob, what's the expectation for when you start to see that become I guess breakeven to profitable for the CNS franchise? And what type of assumptions are you making in terms of sales per rep for their reps, as opposed to your own reps? Thanks.

Dr. Frank Baldino

Thanks, David. First let's answer your question about the '07 guidance number.

Kevin Buchi

We're expecting gross margins to be fairly comparable to the '06 numbers, David. Probably around 85%. There's a lot of moving parts, obviously, FENTORA has very good margins. Obviously, the generic version of ACTIQ has less good margins. But overall we shouldn't see a big change.

Dr. Frank Baldino

So, basically no change in gross margins. Regarding the Takeda co-promote, I think we're pretty open with everyone when we initiated the collaboration with Takeda. It takes a lot longer to get primary care physicians to write prescriptions, much more so in the key opinion leaders in say, psychiatry and elsewhere. We're seeing some general trends that are really exciting for us. Some awareness in the primary care space that we find very encouraging. And Bob maybe you could provide a little more color to these guys about what you're seeing with the Takeda reps, et cetera.

Bob Roche

Yes, I'll be happy to. The physicians that are being called on by the Takeda reps tend to be primary care docs and non-psychs, non-specialists, that have been the primary prescribers for PROVIGIL. Having said that, there's a fair amount of overlap. So it's a little bit hard to say who is having an impact on what physician, and who is not. But the good news is that the primary group that we're hoping that Takeda can really start to move for us, it looks like it is moving. Primary care is the most rapidly growing segment of the PROVIGIL prescribing base right now. And that's something that is a continuation of past behavior, but it's something that I believe we'll really see begin to accelerate through the end of 2006 and into 2007. And keep in mind that Takeda is putting on another 250 salespeople with this product with PROVIGIL in first position starting January of next year. And we think that that's really going to help the ramp up, and ultimately provide a lot of support for PROVIGIL in this audience.

David Buck - Buckingham Research Group

And just a quick reminder, what's the Cephalon-only sales force beyond PROVIGIL?

Bob Roche

The numbers?

David Buck - Buckingham Research Group

The numbers, yes.

Bob Roche

We've got about 400 salespeople selling PROVIGIL in the United States right now.

Dr. Frank Baldino

All told, David we'll have about 1,200 reps in total focused on PROVIGIL in 2007.

David Buck - Buckingham Research Group

Understood. Thanks.

Operator

Thank you. Our next question comes from Charles Duncan of JMP Securities. Go ahead please.

Charles Duncan - JMP Securities

Hey, guys, congratulations on a great quarter.

Dr. Frank Baldino

Thank you.

Kevin Buchi

Thank you.

Charles Duncan - JMP Securities

Had a quick question with regard to the PROVIGIL '07 sales guidance. Frank, I was wondering if you could give us a little bit more color as to your base case scenario with regard to the plan for the safety language that you anticipate?

Dr. Frank Baldino

Well, as I mentioned in the opening remarks, I reminded everyone that we were very public on this when we got the NUVIGIL approval letter back several months ago. We're in conversations with the Agency. And I think it's fair to say that there will be language in both NUVIGIL and PROVIGIL regarding the single individual child, and it will be language that's negotiated. It will be appropriate language in there. It's too early to tell exactly what it's going to be. We feel pretty confident in the outcome, especially since this drug is not indicated for children. And therefore, we believe it will have minimal, if no impact at all on product sales. I hope that's what you were looking for. If you want more color you can ask another question.

Charles Duncan - JMP Securities

No, that makes sense to me. With regard to the FENTORA guidance, can you give us a little bit more color as to kind of -- or the pain franchise guidance, kind of the percentage of FENTORA sales versus ACTIQ? You talked about gross margins not really changing, but any additional color there would be helpful.

Dr. Frank Baldino

Kevin, you want talk about how we are going to report this going forward?

Kevin Buchi

Yes, to answer your question bluntly, Charles, of course I'm not going to do that. That would take all of the fun out of the equation. Obviously -- not obviously, but we will be reporting FENTORA sales when we have actual sales results. We have always, as you know, liked to view our products kind of in portfolios, because frankly, when you are making estimates, sometimes your estimate on one product is a little high, on another product it is a little low. And if you have a portfolio effect going, you're more likely to come out with something that is closer to the middle of the mix. So I'd rather not go into details on the guidance. But I can assure you that when actual results come out, we will give you the details by product.

Charles Duncan - JMP Securities

Okay, strong guidance. I appreciate the help. Thanks.

Operator

Thank you. Our next question comes from Eric Schmidt with Cowen and Company. Go ahead please.

Eric Schmidt - Cowen and Company

Thanks. Another question for Bob Roche on FENTORA. What I'm trying to get at, I guess, is the value of each FENTORA script versus what you were getting from ACTIQ, prior to generic competition. Realize obviously, that FENTORA is priced at a lower price point, but also wondering if you're seeing a lower milligram average, given the greater bioavailability? And maybe you could just frame in numbers what a FENTORA script might be worth to Cephalon?

Bob Roche

I'll be happy to do that, and those data are clear in the IMS information that's available. The average value of a FENTORA script is about 40% less than the average value of an ACTIQ script right now. But keep in mind, that with the very high price of ACTIQ that we've been able to continue in the marketplace, that still allows for a very significant amount of FENTORA. And that number is actually just around $1,000.

Eric Schmidt - Cowen and Company

Thanks. That's very helpful. And Frank, when you mentioned the H2 '07 label expansion for FENTORA, is that into all of the various new indications that you're pursuing?

Dr. Frank Baldino

Yes, I think the goal is to complete our study of neuropathic pain, and then we've got a third study ongoing. Maybe I'll give Lesley Russell who is with us today, a chance to give you some color on the label we're seeking with FENTORA, and what the components are that are going to make up that NDA. Lesley?

Lesley Russell

Yes, there will be 3 studies in the NDA. 1 in the low back pain of which the data we've released, 1 in neuropathic pain, and then the 12-week study, which is kind of an all-comers, as long as they are opioid-tolerant and having breakthrough pain, they are eligible for the study. So we anticipate that the submission will include all 3 studies, and allow us a broader indication in breakthrough pain, taking out that specific cancer indication.

Eric Schmidt - Cowen and Company

Great. Thank you. And last question is for Kevin. We used to see some seasonality in the SG&A lines, sort of front-end loaded around some of the medical conferences. Are we going to see that kind of thing into first -- into 2007? Or how should we think about expenses ramping up?

Kevin Buchi

To a certain extent. I think the expenses in 2006 were relatively flat across the year, and I think that's probably a reasonable way to model it. Historically, our earnings have increased as we've gone through the year, and I would expect that trend to be similar in 2007.

Eric Schmidt - Cowen and Company

Thanks a lot. Congrats on a great quarter.

Kevin Buchi

Thanks Eric.

Operator

Thank you. Our next question comes from Greg Gilbert of Merrill Lynch. Go ahead please.

Greg Gilbert - Merrill Lynch

Thanks, I have a couple. First for Kevin, can you give us the inventory level estimate for ACTIQ at the end of the quarter? I know you said it was reduced, but what did we exit the quarter at?

Kevin Buchi

It's difficult to give it on a week's basis, because the demand is fluctuating, as you know. In dollar amounts, I believe, based upon the information we get from wholesalers, which is subject to some variability, that we had less than $15 million of ACTIQ inventory at wholesale.

Greg Gilbert - Merrill Lynch

Okay. And then a follow-up on the FENTORA label expansion question. Will that expansion of the label prompt a salesforce expansion and/or a partnership?

Dr. Frank Baldino

That's a really good question, Greg. I think the goal we have in here is to first get the label, get the data package complete, really understand the label we have, and where best to position it. I think it's fair to say that if there's a primary care element to this market, we'll have some choices to make, either build it internally, or go outside, as we did with PROVIGIL with Takeda. So I think we'll wait for a final decision on those choices based on what the data looks like, what the label looks like, and how we will best position it. I do think, and Bob can provide some more color here, that the key opinion leader population is going to drive use for FENTORA going forward, will remain the pain care specialist. Right, Bob?

Bob Roche

Yes. That will be the case, Frank. But a lot of opioids are used in the primary care marketplace. And we're just going to have to see how that label looks for back pain or for neuropathic pain, and make a decision as to whether we're going to go after them ourselves or partner the product out.

Dr. Frank Baldino

It's a really exciting decision to have to make, Greg, so we hope we have to make it next year.

Greg Gilbert - Merrill Lynch

And lastly, what are your latest thoughts on the timing of and the positioning for the NUVIGIL launch, and to what extent your current partner will be involved? Thanks.

Dr. Frank Baldino

The NUVIGIL launch is scheduled some time after the approval. The PDUFA date, I believe is December 31. So at the end of this year, so some time in early '07 is the current plan. As far as our partner is concerned, I think our partner is focused, as they should be, on PROVIGIL. We think it's a great drug. It's got a lot of growth. And we intend to keep Takeda focused on that opportunity. And I hope that gets at what you're asking about.

Greg Gilbert - Merrill Lynch

Okay, thanks.

Operator

Thank you. Our next question comes from Gary Nachman of Leerink Swann.

Gary Nachman - Leerink Swann

Hey thanks. Good afternoon. A few questions. First, looks like FENTORA and formulary coverage, have you had any real pushback now that generic ACTIQ is available? I'm assuming it's on tier 3 on most formularies?

Dr. Frank Baldino

The question was push back on what?

Bob Roche

On FENTORA?

Gary Nachman - Leerink Swann

Yes. Has there been any push back of FENTORA with respect to formularies?

Bob Roche

No. Very little that I've been made aware of. Keep in mind, we've only been out there for a couple weeks. I would expect that formularies are going to sit up and take notice, because with the kind of a growth pattern that we're on here, it's going to appear on their radar screen pretty quickly. I think if they really think about the metrics, though, they are going to see that using FENTORA is actually pretty much in their favor, because we priced it at a level that we anticipate will be pretty favorable when compared with both the types of products that are out there, both name brand ACTIQ and the generics.

Gary Nachman - Leerink Swann

Okay, great. And then a couple on the guidance for next year. First with the CNS, does that assume a NUVIGIL approval? And would that change at all if NUVIGIL, for whatever reason, is not approved?

Dr. Frank Baldino

I think with NUVIGIL, the guidance certainly assumes a NUVIGIL approval. But remember, NUVIGIL is going to have a modest launch. Our focus for the next several years is going to be on PROVIGIL. The future of NUVIGIL will be focused on the transition to the PROVIGIL market some time around 2010. So whatever NUVIGIL does going forward, it will be modest and probably not material.

Gary Nachman - Leerink Swann

Okay. And then on the SG&A guidance, I guess it was a little higher than I was expecting, especially given the restructured arrangement with Alkermes. So Kevin, maybe you could elaborate on that a little bit, just in terms of how that change in the arrangement with Alkermes is affecting the SG&A for next year?

Kevin Buchi

Sure. I mean, the deal with Alkermes, fundamentally from our P&L's perspective, causes some of the cost that we're incurring in the launch of the product to be reimbursed by Alkermes. So it reduces SG&A. The amount of reimbursement that we would expect in 2006 is greater than the amount of reimbursement from Alkermes we would expect in 2007, even with a restructured deal. The other thing which is affecting SG&A is, as you quite accurately noted, we're expecting significant growth in PROVIGIL. As you know, our deal with Takeda around PROVIGIL, our co-promotion arrangement, requires us to pay them a percentage of sales above a base. So the further we move above the base, the bigger the payment to Takeda. And those are really the factors driving SG&A up the most. Without those, it would be relatively flat.

Gary Nachman - Leerink Swann

Okay. And those additional 250 reps that Takeda is putting on the product, is that something new that you guys just decided? Or was that always part of the plan?

Dr. Frank Baldino

I think it was something envisioned when we struck the initial collaboration with Takeda. I think the good news is they feel justified in doing it. They see the same trends we see. So it's just going to be great having another 250 sales reps focused exclusively, in this case, on PROVIGIL. Don't forget, these 250 reps are not going to be selling anything else but PROVIGIL, and they will be -- so it will be a first position call, which we think has a lot of impact. I think Bob, in the past, has given everyone a tutorial on the value of those first position calls. I think 80% of the sales come from first position calls. And it's really nice to have 250 more guys doing this. So it was something we envisioned in the beginning. It's really nice that they follow through, and that's in the plan for '07.

Gary Nachman - Leerink Swann

Okay. Great quarter, guys. Thanks.

Operator

Thank you. Our next question comes from Dave Windley with Jefferies & Co.

Dave Windley - Jefferies & Co.

Hi, thanks for taking the question. Congrats on an impressive sales number. I wanted to get a little clarification. I'm looking at PROVIGIL. And if I exclude the adjustment, the PROVIGIL sales do seem to be running a little higher than, say, IMS channel movement. And I know Kevin, you commented on inventory, but did inventory increase just a shade in the quarter?

Kevin Buchi
Inventory was pretty flat in the quarter. I mean, I think what you're looking at is, if you compare it versus 2005 anyway, if you recall in 2005, we were actively reducing PROVIGIL inventories. So the comparable number in 2005 was actually depressed, if you will, by inventory reductions. That makes the comparison with 2006 a little bit out of line with the prescription growth.

Dave Windley - Jefferies & Co.

Right. And so also on that point, no real change in gross to net accruals, or anything like that, other than this specific thing that you've carved out?

Kevin Buchi

Just the Tricare thing. That was really the only significant change. There's the typical ins and outs, but nothing substantial.

Dave Windley - Jefferies & Co.

Okay. And then on ACTIQ, on kind of a similar note, would you expect that wholesalers would move pretty quickly to anticipate the lower levels for ACTIQ as the generic erosion continues to happen, and reduce inventory appropriately? Or will that be more of a gradual move?

Kevin Buchi

I mean, I think we were obviously very concerned about precisely that issue, which is why we decreased inventory so much at the end of the quarter. Obviously, as the product becomes more heavily [genericised], it becomes a smaller product, the wholesalers will adjust their inventory down significantly. But as I mentioned earlier, the good news is at the end of September, we really didn't have a lot of inventory left out there. (inaudible) most of it out.

Dave Windley - Jefferies & Co.

And just to clarify on that, your answer to that question was 15, not 50?

Kevin Buchi

That is correct. 15 million.

Dave Windley - Jefferies & Co.

Okay. And Bob, finally, on your 40% discount FENTORA to ACTIQ, is that -- could you add a little color on that as to how you see that trending?

Bob Roche

Well, I don't expect that percentage to change at all. Or if so, it will become perhaps a larger differential if we choose to raise the price of ACTIQ further. But we're not planning -- no, seriously, we're not planning to discount ACTIQ. There's generics out in the marketplace, and they fight out for the generic market amongst themselves. And we'll maintain the high ground with ACTIQ, and expect to maintain a nice little piece of business there.

Dave Windley - Jefferies & Co.

Right. I was thinking more along the lines of [tie traiting] up and the mix of strengths of FENTORA moving higher.

Dr. Frank Baldino

I think it's really hard to predict what's going to happen the price of our products in the future. It's probably not a good idea to have those predictions. I think if you follow the course we have with PROVIGIL over the years, and ACTIQ over the years, clearly, where there have been opportunities to change price, we have. And I don't think FENTORA is going to be any different in the future.

Dave Windley - Jefferies & Co.

Okay. All right, thank you.

Operator

Thank you. Our next question comes from Donald Ellis of Thomas Weisel Partners.

Donald Ellis - Thomas Weisel Partners

Actually my questions have been asked and answered. Thank you.

Operator

Thank you. Our next question comes from Thomas Russo with Robert W. Baird.

Thomas Russo - Robert W. Baird

Good afternoon. I was wondering if you guys, kind of looking out beyond the formal range of guidance for VIVITROL, can provide an update on your subjective expectations 2,3 years down the road. Can it reach the level of patient penetration for leading oral products? And if so, when might we start to see that?

Dr. Frank Baldino

I think making 3 year guidance claims is really tough. And we're certainly not going to do that. But one thing about -- I'd like to remind everybody, is that creating a new market is challenging, and we had an opportunity to do it twice here at Cephalon. One with PROVIGIL in creating the world's first market for an excessive sleepiness drug. And very quickly following, creating a market for a breakthrough pain, for which there was no product before ACTIQ. And now only ACTIQ and FENTORA are the 2 products in that space. If you look back historically at those products and how they behaved, VIVITROL is not that different in comparison. It takes time, a lot of education required, you're building a market 1 patient and 1 physician at a time. We're pleased with the performance of VIVITROL. We're please the with the growth trends that we've seen. We're pleased with the acceptance of the physicians, the feedback coming back from the marketplace. Would we like sales to be a lot higher? Absolutely. But we think they are going to be there with time. Everything we see is telling us that. And the original expectations of what we thought the value of VIVITROL would be to our organization is still there. We think it's going to be a meaningful contributor in the future. Bob, do you want to add anything to that?

Bob Roche

I can really only echo those sentiments. We get regular feedback from our sales team and from our partners at Alkermes on this. And really, the info that we get back from the marketplace is positive. It is enthusiastic. And it is indicative, I think, of a good trend, and one that was going to continue in the future, and ultimately, allow us to reach the kinds of sales projections that we saw going into this deal. So, yes, we're very excited about this opportunity, and continue to pursue it with total vigor.

Thomas Russo - Robert W. Baird

Okay, thanks.

Operator

Thank you. At this time, our final question comes from Michael Rockefeller with Morgan Stanley. Go ahead please.

Michael Rockefeller - Morgan Stanley

Good evening. Great quarter, guys.

Dr. Frank Baldino

Thank you.

Michael Rockefeller - Morgan Stanley

My question is back on the CNS guidance in '07. And Frank, you touched on the fact that the CNS guidance reflects some kind of warning in the NUVIGIL label, and subsequently PROVIGIL. Just wondering, does anything change if it's a bolded warning versus a black box warning?

Dr. Frank Baldino

Mike, these are really good questions, but I never used the word warning, when I mentioned it.

Michael Rockefeller - Morgan Stanley

Oh, yes.

Dr. Frank Baldino

I think appropriate language will be in the label. You had one child with a suspected case of SJS, and that will be in the label somehow in some form. Again, we are not concerned, because this drug, neither PROVIGIL nor the label we're seeking for NUVIGIL will have any indication for children. So we're not selling it into that space. So whatever language is in the label, we think will have minimal impact.

Michael Rockefeller - Morgan Stanley

Okay. Thank you very much.

Robert Grupp

That concludes our third quarter call. Thanks, everybody, for your participation. Have a good evening.

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