Akorn's CEO Discusses Q4 2013 Results - Earnings Call Transcript

Mar. 3.14 | About: Akorn, Inc. (AKRX)

Akorn, Inc. (NASDAQ:AKRX)

Q4 2013 Earnings Conference Call

March 3, 2014 10:00 AM ET

Executives

Raj Rai – Chief Executive Officer

Timothy A. Dick – Chief Financial Officer

Analysts

Louise A. Chen – Guggenheim Securities LLC

Matt G. Hewitt – Craig-Hallum Capital Group LLC

Randall S. Stanicky – RBC Capital Markets

Sumant S. Kulkarni – Bank of America/Merrill Lynch

David A. Amsellem – Piper Jaffray & Co.

Elliot H. Wilbur – Needham & Co. LLC

Jason Gerberry – Leerink Partners

Operator

Good morning, and thank you for joining Akorn Incorporated 2013 fourth-quarter and year-end conference call. If you have not yet had a chance to read the earnings release, you may access it through the investor relations section at Akorn's web site. Raj Rai, Chief Executive Officer, and Tim Dick, Chief Financial Officer, will host this morning's call.

The call is expected to last about 30 minutes, and may be accessed through our web site at Akorn.com. A replay of the conference will be available shortly after this call. Interested parties can access the replay by dialing 888-203-1112 in the United States, or 719-457-0820 internationally, and entering the access code 3623707. And again, in the United States that's 888-203-1112; internationally, 719-457-0820, and the access code 3623707. Before we get started, I'd like to remind anyone that any statements made on the conference call today, to that express a belief, expectation, anticipation or intent, as well as those that are historical facts are considered forward-looking statements and are protected under the Safe Harbor of the Private Securities Litigation Reform Act.

These forward-looking statements are based on information available to Akorn today and except as required by applicable law we disclaim any obligation to update any forward-looking statement in this document whether as a result of changes in underlying factors, new information, future events or otherwise. These forward-looking statements may involve a number of risks and uncertainties, which may cause the Company’s results to differ materially from such statements. Forward looking statements are qualified by the inherent risks and uncertainties surrounding future expectations generally and may materially differ from actual future experience.

Risks and uncertainties could affect forward-looking statements including the occurrence of any event, change or other circumstance that could terminate or delay any pending acquisitions including receipt of regulatory approvals, changes in the business or operating prospects of recently or soon to be acquired assets and anticipated synergies achieved in connection with such acquisitions.

Our success in obtaining new product approvals or launching new products, our abilities to obtain additional financing to grow our business, the effects of Federal State and other governmental regulation on our business and increased competition from other pharmaceutical companies.

Akorn provides additional information about these and other factors and the reports filed with the Securities and Exchange Commission including Akorn’s latest Annual Report on Form 10-K and subsequent quarterly reports on Form 10-Q. In addition, as required by Regulation G, reconciliation of non-GAAP financial measures mentioned during our call today to the most comparable GAAP financial measures can be found in our press release.

Thank you, and now I would like to turn the call over to Raj Rai.

Raj Rai

Thank you, Jamie. Good morning everyone and thank you for joining our 2013 year end conference call. On today’s call, I’ll summarize key highlights for the year and the plans for 2014, while Tim will discuss the financial results and guidance in detail. As expected, we had a strong finish to the year as we recorded approximately $85 million in sales in the fourth quarter or a 19% increase over the fourth quarter of 2012.

We ended the year with $318 million in revenues or a 24% growth over the year ended in 2012. Our business grew as a result of incremental investments in the sales infrastructure and products approved and launched in 2012. However, the highlight of our accomplishment was the announced acquisitions of Hi-Tech and the ophthalmic branded product portfolio. These acquisitions will be transformative and reshape Akorn’s strategic direction and build-[Author ID1: at Tue Mar 4 17:05:00 2014

] [Author ID1: at Tue Mar 4 17:05:00 2014

]up on our long-term plan, advancing the new vision, which we have laid out over three years ago.

While we had an impressive growth trajectory, we were behind our objectives in the ANDA submissions due to the changes that were implemented post Generic Drug User Fee Act or GDUFA in October of 2012 by the FDA. Following the implementation of GDUFA, FDA modified the ANDA review process. In the past, before GDUFA implementation we used to receive regular feedback from each discipline in the form of individual deficiencies. This regular feedback allowed us to stay on top of the status of review and resolve any issues in a dynamic and timely fashion.

Now, for all pending filings including those filed pre-GDUFA, the feedback is less frequent, and comes in the form of a Complete Response Letter, which is not issued until FDA has collected the feedback from each discipline. It is our expectation that this new Complete Response Letter process has significantly lengthened the time to approval. In 2013, we submitted responses to six Complete Response Letters received from the FDA. As of now, the Company has an additional 14 Complete Response Letters that will be responded to shortly. However, we expect to pick up the filings in 2014.

I will now turn the call to Tim to discuss the financial results for 2013, and I will come back after his prepared remarks to discuss the plans for 2014. Tim?

Timothy A. Dick

Thanks, Raj. I’ll walk through our Q4 results and then wrap-up with our 2014 guidance. For Q4, we achieved record consolidated revenue for the fourth quarter totaling $85 million, which is up 19% over the comparable prior year quarter consolidated revenue of $71.5 million. The increase in consolidated revenue was largely driven by the sale of products launched late in the fourth quarter of 2012 and at the beginning of 2013 such as progesterone oral capsules, Td vaccine, and the generic of EMLA topical cream.

In addition, in the fourth quarter of 2013 benefited from the recently acquired branded ophthalmic products, which contributed $2 million in sales to the quarter. Excluding these products the rest of the business benefited from increases in sales volumes, which were partially offset by decreases in average sale prices.

Consolidated revenue for the year was for the year 2013 was $317.7 million up 24% over the prior-year consolidated revenue of $256.2 million. Fourth quarter of 2013 ophthalmic segment revenue was $30.9 million versus $28.7 million in the prior-year quarter. Year-over-year growth was driven primarily by the recently acquired branded ophthalmic products, again which contributed $2 million in sales to the fourth quarter of 2013 along with increases in sales volume for existing products, which were effectively offset by decreases in the average sale prices for existing products.

Fourth quarter 2013, hospital drug and injectable segment revenue was $48.7 million versus $37.4 million in the prior-year quarter. Year-over-year growth was largely driven by the sale of products launched late in the fourth quarter of 2012 and at the being of 2013. As mentioned earlier progesterone oral capsules, TD vaccine, and the generic of EMLA topical cream and excluding these products the segment benefitted from increases in sales, which were partially offset by decreases in the average sale prices and we saw these predominantly on drug shortage related revival products, which we’re launched in the prior-year quarter.

Fourth quarter 2013 contract services revenue was $5.3 million compared with $5.5 million in the prior-year quarter, both the domestic component and Akorn India were essentially flat compared to the prior-year period in spite of a weakening rupee versus the dollar over that timeframe.

Consolidated growth gross margin for the fourth quarter of 2013 was 55.3% compared to 58.7% in the comparable prior-year period. The decrease in the company’s overall gross profit margin was due to a significant percentage of the revenue growth coming from products that were contract manufactured, some of which also contain profit sharing arrangements with development partners. Pricing pressure for various products was also contributing factor to the overall decrease in gross profit margin.

Fourth quarter 2013, gross margins by segment were as follows ophthalmic 57%, hospital drug and injectables 59%, and contract services 10%. Contract services margin are lower as a result of Akorn India where we’ve increased cost and preparation for the – for FDA inspection. We've also been impacted by government pricing controls enacted in India in 2013, which is limited our ability to adjust price in certain contract manufactured products.

Selling, general and administrative expenses were $14.4 million in the fourth quarter of 2013 compared to $14.4 million in the fourth quarter of 2012. Evidence we are leveraging the sales in infrastructure investment made in 2012. Acquisition related expenses from both the Hi-Tech acquisition and the ophthalmic products acquisition were $1 million in the fourth quarter of 2013 compared to zero in the prior year period.

Research and development expenses were $4 million in the fourth quarter of 2013, compared with $6 million in the prior year quarter, the year-over-year decrease was primarily due to the timing of the development projects in milestone payments as well as the one-time expense for FDA backlog fees incurred in the fourth quarter of 2012, when GDUFA went into effect.

Net income for the fourth quarter of 2013 was $16.7 million or $0.14 per diluted share, compared to net income of $8.8 million or $0.08 per diluted share in the comparable prior year quarter. We had several non-recurring non-cash items in the fourth quarter of 2013. We’ve adjusted for these in our non-GAAP adjusted net income to allow for better comparability year-over-year.

Non-GAAP adjusted net income for the fourth quarter of 2013 was $16 million or $0.14 per diluted share, compared to non-GAAP adjusted net income of $14.6 million or $0.13 per diluted share in the comparable prior year quarter. The diluted share count for the fourth quarter 2013 was a 116.5 million shares, and compares to 110.8 million shares in the prior year quarter. The increase is primarily a result of a higher stock price bringing additional shares into the count from our convertible debt.

Fourth quarter 2013 non-GAAP adjusted EBITDA was $30.9 million, compared with $24.9 million in the comparable prior year quarter. Non-GAAP financial measures are defined further in today’s earnings release under non-GAAP financial measures.

Moving to cash from in the balance sheet, the Company generated operating cash flow of $14.9 million in the fourth quarter of 2013 and record operating cash flow for the full-year 2013 of $57.3 million. We ended the year with $34.2 million in cash and cash equivalents after the fourth quarter acquisition of three branded ophthalmic products from Merck.

Fourth quarter of 2013, capital expenditures were $3.7 million and a $11.6 million for the full-year 2013, compared with $20.5 million for the full year 2012. Our capital expenditures have lagged significantly behind the level we guided to primarily as a result of lower spending for Akorn India. This spending which will add additional capacity and capabilities will roll into 2014 and is reflected in our 2014 CapEx guidance.

I’ll now move onto 2014 outlook hit on the highlights and some of the key assumptions that were in today’s earning release. 2014 revenue was projected between $540 million and $560 million, the revenue guidance factors in the following assumptions, we assume the acquisition of Hi-Tech closes on April 1, 2014, exclude the impact of any new product approvals, we assume no generic is launched for Nembutal. We reduced revenue for products the Company anticipates divesting as a result of the Hi-Tech acquisition.

Factored in a partial first quarter of sales for the recently acquired ophthalmic product, AzaSite, which we indicated at the time of purchase would relaunch in Q1 and the revenue projection also reflects lower sales contribution from Akorn India as a result of the elimination of some unprofitable contract business, which will allow our team there to put greater focus on U.S. FDA readiness.

2014 gross margin is projected between 52% and 54%. The gross margin guidance factors in a full year impact of partner products launched in early 2013 in the addition of Hi-Tech’s portfolio, an estimated 48% gross margin, which are offset in part by the higher gross margins on the recently acquired branded ophthalmic products. Hi-Tech’s projected gross margins are lower than their reported margins as a result of capturing their distribution cost as a cost of sales versus an SG&A item to be consistent with Akorn’s current practice.

2014 SG&A is projected to be between $93 million and $103 million and included in this range are the following; additional sales and marketing and legal expenses, totaling $9 million to support the recently acquired branded ophthalmic products. This spend was factored into the guidance we provided, when the acquisition was announced in November. Also, included are cost synergies resulting from the Hi-Tech acquisition, which are expected to be realized throughout the year and which will accelerate as the year progresses. We anticipate ending the year at $20 million annual run rate for these synergies.

Also, included are $15 million in one-time acquisition related expenses to close our Hi-Tech transaction and to realize synergies. These expenses are reflected as an add back to adjusted net income per diluted share in the GAAP to non-GAAP guidance reconciliation in today’s earnings release.

2014 R&D is projected to be between $39 million and $43 million are between 7% and 8% of revenue guidance. The four key drivers of this spending of the Generic Drug User Fee Act fees associated with a projected $35 million to $40 million and the filings for 2014 the cost of bioequivalent studies associated with high value products. We increased internal R&D costs resulting from the expansion of Akorn’s R&D infrastructure as well as the cost associated with product development and global filings out of Akorn India.

And finally, from the inclusion of Hi-Tech in this 2014 outlook, we view this ongoing investment R&D is key to our long-term growth objectives. 2014, adjusted net income per share as projected to be between $0.76 and $0.79 we expect to be in the year at an annual run rate of approximately $0.90 to $0.91 with Hi-Tech contributing at an annual run rate of $0.20 consistent with our original projections.

Fully diluted share comp is assumed to be a 180 million shares and is based on current share price a factor that impacts the diluted shares contributed by convertible debt all things equal year-over-year change in share count would reduce adjusted net income by $0.02 per share.

2014 capital expenditures are expected to be between $45 million and $55 million a significant portion of the 2013 planned capital spending related to the expansion of our Indian facilities and as rolled into that into this 2014 outlook. In addition the company is investing in modernization products at our Decatur, Illinois development injectables facility and this outlook also includes capital expenditures anticipated for Hi-Tech.

Finally, before I hand the call back to Raj I wanted to address the extension we filed today for our Form 10-K we took significant steps in 2013 to address the material weakness found in last years audit and one of these steps was strength in our internal audit function which we completed early in the third quarter. While we believe significant progress has been made against last years material weakness the heightened focused uncovered some additional areas in need of attention. These additional areas were uncovered late enough in the year that there was not sufficient time to remediate before year end. And the weaknesses identified in these controls for your additional year end testing that has resulted in the delay in filing our 10-K and let to today’s 15 day extension.

As indicated in today’s earnings release we do not anticipate any change in the numbers released today further we believe the material weakness identified in our internal controls this year end and can be addressed quickly following the conclusion of this audit.

I will now turn the call back over to Raj for his additional prepared remarks.

Raj Rai

Thanks Tim. Let me now discuss our plans for 2014, first and foremost, we plan to integrate the pending acquisition of Hi-Tech. We believe the Hi-Tech acquisition will transform our company to a larger and diversified generic player with other niche dosage form such as oral liquids with controlled substances in unit dose capabilities, nasal sprays, topicals, gels, creams and ointments. Furthermore, it enhances our generic ophthalmology franchise and expand the current over-the-counter portfolio of eye care products with more branded products in the categories of cough and cold, nasals and nutrition.

Hi-Tech continues to be on track with the financial performance as per our expectations. Within the final stages of getting full approval by the FTC and expect the approval by the end of Q1 2014 as expected. After close we expect to fully integrate key operating and business functions over six to 12 months timeframe.

I’d like to take a moment to reiterate our strategic reasoning behind this acquisition and why Hi-Tech is good fit to Akorn. First, it expands and diversifies Akorn’s existing product offering. Hi-Tech offers products in additional niche categories as mentioned before topicals, otics, nasal sprays and oral liquids.

Hi-Tech’s healthcare products division, the OTC product line provides additional breadth in the retail OTC market. Hi-Tech’s manufacturing capabilities will provide us with opportunities to private label launch several products. Second, Hi-Tech will add new manufacturing capabilities to manufacture non-sterile niche dosage forms and expand our existing ophthalmic manufacturing capacities.

Hi-Tech has two manufacturing plants in Long Island, New York; one, non-sterile and the second is a sterile facility that manufactures ophthalmic with redundant capabilities as our Somerset, New Jersey facility. Third, the combined business will bring critical mass in the generic business and strengthen our position with larger and independent retail customers.

In addition, we will strengthen our R&D pipeline with the addition of Hi-Tech’s filled ANDAs which will further enhance the growth prospects. And finally, it diversifies our revenue base from ophthalmics and injectables to non-sterile niche dosage forms as well as increased earning potential. Longer-term the acquisition of Hi-Tech will increase the overall market opportunity for Akron. With the acquired manufacturing capabilities we’ll be able to compete and approximately $16 billion in new addressable market consisting of nasal sprays, otics, oral liquids and topicals.

In addition to the added value from Hi-Tech’s generics business we believe we can expand our fast growing over-the-counter private label business with Hi-Tech’s manufacturing and R&D capabilities. This will further augment our private label ophthalmic offerings. We anticipate there is approximately $500 million in addressable market opportunity in the private label over-the-counter business in the categories of cough and cold and allergy, oral liquids, nasals and topicals. We believe this would give us the credibility and provide us with the cross selling opportunities with our existing clients and would further enhance our partnership with the retailers.

We also believe with Akorn’s focus and discipline in R&D, and given Hi-Tech’s R&D capabilities, we can accelerate the development of non-sterile products and build a robust pipeline, which will further enhance our growth opportunities.

We also plan to effectively launch the recently acquired branded ophthalmic products. To support the acquisition of the branded ophthalmic products from Merck and Santen. We are building a commercial operation around those products and expect to essentially be completed by the end of first quarter of this year.

We’ve taken steps to redirect entry in our existing ophthalmic sales force and add additional sales team to cover critical wide spaces. The sales force will promote the acquired products as well as our existing branded products including our branded over-the-counter TheraTears product line. The combined sales will then cover 39 states. In addition, we have augmented the field based sales force with the outsourcing of the expertise around managed care and government contracting, reimbursement, patient assistance programs, prior authorizations et cetera.

We have now launched all the acquired products including AzaSite, which was in short supply due to manufacturing challenges prior to the acquisition. We’re almost at the end of the development of all meaningful generic products in ophthalmology. And the addition of the branded ophthalmic products was the next logical step in further enhancing our ophthalmology franchise. We plan to further close this aspect of our ophthalmology business through acquisitions and licensing opportunities.

I’m pleased to announce that we have made our first submission out of one of the four facilities in India last month to the US FDA. As planned this would be followed by three additional filings one each from the remaining three facilities. Given our first product being a side transfer of our existing marketed NDA product, we expect the FDA inspection in the next six to eight months. We expect this strategy would facilitate the inspection of all our sites simultaneously. In conjunction with the new product filings from India, we’ve been strengthening the quality oversight in India with increased audits, incremental staffing, personnel training and compliance management, not only for the US FDA, but other international regulatory agencies.

As discussed in the last conference call we’re gradually transitioning away from lower margin domestic contract manufacturing business to shift our focus on building our international business with increased registrations of both existing and new products in the higher growth geographies around the world and supporting the growth of our injectable business in the U.S. To that extent we are planning to file 40 to 50 product registrations in 20 countries in 2014, and to develop three to four new products we are filing in 2015.

Moving forward, the majority of our R&D work for injectables for the U.S. market would be aligned with the capabilities of our manufacturing sites in India with the goal to manufacture products over there.

We have finally commenced the expansion projects and other upgrades in our India facilities and expect the majority of the work to be completed by mid 2015. These projects were year marked for 2013, but after careful deliberations we decided to move them for 2014 as we needed more time to plan.

We plan to continue expanding our pipeline through our R&D initiatives. We expect to file 35 to 40 filings in 2014. These would be a combination of filings for ophthalmic, injectables and non-sterile products through Hi-Tech. As discussed earlier in my prepared remarks, we deliberately slowdown the filings in the fourth quarter to respond to the complete response letters which are time sensitive. Also, such filings will be done in 2014 and are factored in our projections. In addition to the new review process there are new guidelines for filing ANDAs. These guidelines will go in effect in the middle of this year and would lengthen the time to file and increase the cost per filing. This will further affect the number of submissions in 2015.

Given the new guidelines, we are focusing on improving efficiencies in R&D and plan to staff the R&D team to support the new regulatory requirements. We also plan to introduce five to eight new private label over-the-counter ophthalmic products further enhancing our offering to the retailers.

We have a number of projects under development. The vast majority of these projects are high value injectables to be manufactured in our India facilities. In addition, we are also commencing the development of injectables for animal use, which would support the growth initiatives of our animal health business.

To support the growth of our overall business, we are taking necessary steps to ensure –to further strengthen our infrastructure and are planning to add resources particularly to support the integration of Hi-Tech, to enhance financial controls and to support the increase in regulatory and quality components.

We are also investing in the modernization of our Decatur facility, which was part of our long-term strategy. The enhancements would be made in various phases over the next 18 months, with an estimated expenditure of $18 million to $20 million. As you may recall, we went through the similar exercise in our Somerset facility in the last couple of years. These enhancements are geared towards risk mitigation and generating efficiencies.

And finally, we plan to remain focus on business development activities as well. Although Hi-Tech integration is the top priority for a company, will continue to value the opportunities that are good strategic fit to a business in operating platform. We are pleased with the progress that Akorn has made last year.

We’re moving in the right direction and the strategic investments we have made so far will help deliver meaningful and sustainable growth in the long run.

I would now like the operator to open the lines for Q&A session.

Question-and-Answer Session

Operator

(Operator Instructions) And we’ll take our first question from Louise Chen with Guggenheim.

Louise A. Chen – Guggenheim Securities LLC

Hi, thanks for taking my questions, I had a few. First question I had was related to Hi-Tech and potential divestiture of the ECR business. Is this still something that you're considering, and maybe some time frame around it? And then Secondly, I know you don't include new launches in your guidance, but are you expecting any potentially large or meaningful product launches before the end of the year? And then lastly, just you had made a comment in your release on the timing of - I was curious on the timing of margin improvement, you said this year was there were some products that had lower margin, but you would get back over time to the kind of margins we saw in 2013, and maybe even higher than that. I was just curious when do you think we should start to see that happen? Thanks.

Raj Rai

Okay, Louise, hi, this is Raj. Let me answer your first question around ECR. Our guidance for Hi-Tech includes ECR revenue, so at this moment there are no plans for ECR other than to integrate that business with Akron’s business, as you know that we are in the branded business now with our ophthalmics, and they have got a branded strategy, so it is complementary though the product line is different, so at the moment, I mean we are not really thinking in that direction. What was your second question, I’m sorry, I lost that.

Louise A. Chen – Guggenheim Securities LLC

Oh, second question was that I know that you don't include new launches in your guidance, but kind of curious if there are any big potential ones that we should be thinking about. You don't have to disclose it, but just curious if there's something there

Raj Rai

Right, I think we are getting really close in getting some approvals, and I think you know, we should see few approvals coming towards the end of the first half or beginning of the second half of this year, so there is definitely expectations and hope that we will get few products approved this year.

Louise A. Chen – Guggenheim Securities LLC

Okay, and last one just on timing of margin improvement?

Raj Rai

So the margins could improve with the new product approvals so that’s one way to look at it, and but over the long run, with Akorn India coming in the mix, we should see margin improving, better utilization of Hi-Tech’s manufacturing assets could also result in improvement in the margins. So yes, there is definitely a good possibility of margins coming back around.

Louise A. Chen – Guggenheim Securities LLC

Okay thanks.

Operator

We’ll take our next question from Matt Hewitt with Craig-Hallum Capital Group.

Matt G. Hewitt – Craig-Hallum Capital Group LLC

Good morning, gentlemen. Maybe first this one for Tim, on the internal controls and the potential for other material weaknesses, could you provide a little bit more color as to what - where the discrepancies are, and why investors shouldn't be a little nervous anytime you see those potential for internal control issues. I think there's just an overall market nervousness about that. Could you provide a little bit of comfort there?

Timothy A. Dick

Sure, sure. I guess stepping back the material weaknesses when identified, they were identified because there is a potential that’s a control can provide reasonable assurance that a material error could be made, it wasn’t that error wasn’t made, it was that, we couldn’t get comfortable that they were tight enough. So a good example of that would be around segregation of duties which was noted in the earnings release. We have seen significant growth over the last several years.

We had a fairly modest staff with pretty broad responsibilities and that created greater access to do something than you would want in an ideal scenario, so it’s something that’s easily addressed and resulted in additional testing, but didn’t identify any issues, but again, its one of those that from a best practice standpoint should be tightened up to avoid any potential for an issue down the road.

Matt G. Hewitt – Craig-Hallum Capital Group LLC

Okay, all right, thank you for that. Secondly, as I look at your revenue guidance, $540 million to $560 million, we were much higher than that, as was consensus, and it sounds like if I read the release correctly, if I'm listening correctly, the delta between expectations and your formal guidance is a little bit later closure of the Hi-Tech acquisition, which results in $20 million or so of revenues that just get pushed to Q2. But then also these divestitures which could be another $20 million. Am I reading that and listening correctly?

Timothy A. Dick

Yes, I think you have got the parts, I guess it would depend on exactly when people had modeled in the Hi-Tech close, I mean dependent on when that was modeled in the quarter, its roughly $60 million for the entire quarter that we would be loosing from the full year divestitures themselves were approximately $12 million step back there and then $10 million or so and some of other areas identified such as Akorn India and partial quarter sales of AzaSite.

Matt G. Hewitt – Craig-Hallum Capital Group LLC

Okay. All right. Maybe one last one, this might be more for Raj. The recent branded purchases from Merck, could you maybe talk about in the grander scheme of things, how they fit into your ophthalmic portfolio and your expectations for that business going forward?

Raj Rai

Sure. So, Matt as I’ve said in my remarks, that we are coming to serve a conclusion on the development of our generic product line in ophthalmology. And getting into the brand business for a natural extension and there are not that many branded ophthalmic firms to begin with. So it would be a group alternative to the market and there are a lot of products under development right now. And would give us the opportunity to either acquire or license those products, because now that we have developed or are developing in commercial front, to sell those kind of products. So it made a lot of sense.

Matt G. Hewitt – Craig-Hallum Capital Group LLC

Great, all right. Thank you very much.

Operator

We’ll take our next question from Randall Stanicky with RBC Capital Markets.

Randall S. Stanicky – RBC Capital Markets

Great thank guys. Just a couple Tim, can you just confirm for us you expect to file within the next 15 days the 10-K?

Timothy A. Dick

That is correct, that is correct.

Randall S. Stanicky – RBC Capital Markets

Okay. Good. And then just to move on to gross margins in the contract manufacturing products. Can you help us with some of the additional color there, in terms of how big is that portion of the business? What are the margins like there? I'm just trying to get a sense of the moving parts. How much they've impacted business, and then really more so, how we should think about that going forward?

Timothy A. Dick

That’s on contract manufacturing?

Randall S. Stanicky – RBC Capital Markets

Correct.

Timothy A. Dick

So contract manufacturing is about $5 million a quarter, we’ve stepped down the U.S. contribution from that segment significantly over the last couple of years, so the majority of the contribution is coming from Akorn India. You may recall when we acquired that business in Akorn India, it came with an existing bulk of contract manufacturing business at a fairly modest margin. We’ve had some challenges since then, one with the implementation of some government pricing controls in India on some of the key products that we were making for some of our contract customers which has limited our ability to increase price as our cost of manufacturing has gone up.

And as a result we chose to exit one of those relationships, which is going to result over an year-over-year step down in that business. And then we’ve also been in investing significantly in FDA preparedness, a lot of that at the site itself which has also put some pressure on those margins. So certainly as they start to grow the export oriented component of their business rest of world and then start supplying us in the U.S. and that contribution to our margin profile is going to expand significantly.

Raj Rai

So, Randall this is Raj. And I think there will be a transition period which starts now with the Akorn India as we are focussing more on making product for self consumption. The developing products for self consumption. It sort of becomes for a period of time a cost centre and then – then slowly moves into more of a profit center as we transition out of the domestic contract manufacturing business. So I think for a period of time we’ll be investing there for the future.

Randall S. Stanicky – RBC Capital Markets

Got it. And Raj, can I just ask you one more question? I mean one of the things I think some of us are struggling with is to try to understand the new launch opportunity. And I think you called out 14 CRLs that you have back, and can you help us – how do you think about, once you receive the CRL, and obviously, it will depend on how much work you have, how do you think about the timing to resubmit, and then potentially to gain approval? Because arguably, if you've got the visibility on 14 products, that's some visibility on what could be some approvals, arguably this year?

Raj Rai

Right, so on the CRL front first and foremost what is happened is in the past prior to this – this new process coming in Randall it would take FDA about two to three months to accept your filing. So that process is out of window and the new process would take between six to seven months. So that is one big delay that happens upfront is the acceptance of your filing. Once that comes – once that happens then it is taking approximately 13 to 14 months to get the CRL and then you get typically a year to respond on those CRLs.

And for the CRL that we’ve filed so far in 2013 it has taken us approximately six to seven months to respond because now you're getting a more comprehensive review as well as all the deficiencies are coming at the same time. So I think the overall impact is at least a minimum of a year, if not more on this new review process from the alleged 30 month review time cycle.

Randall S. Stanicky – RBC Capital Markets

All right. Thanks guys.

Operator

We’ll take our next question from Sumant Kulkarni with Bank of America.

Sumant S. Kulkarni – Bank of America/Merrill Lynch

Good morning. Thanks for taking my questions. My first one is on the R&D expenses. Is this year some kind of blip year, or should we expect the level of expenses still staying over time?

Raj Rai

Well, so Sumant, what happened was we deliberately slowed down the expenditure and some of the R&D, because you're responding to the complete response letters. So I mean the entire R&D team focuses on that. So, and that expense is going to get picked up as some of those filings blip over to 2014.

And also what is happening is as I said before, that middle of the year, there are new guidelines that are going to be effective which would increase the expense of an ANDA filing because one has to go from a 90 day stability batch to a six months stability batch and not just one batch, you have to make, three batches though it is further adding to the costs and the timelines of our filing in ANDA. And this doesn’t even factor in what they would do to the review process through a complete response letter.

Sumant S. Kulkarni – Bank of America/Merrill Lynch

All right. And this one is for Tim. Could you give us some color on what the operating cash flow that you expect in 2014?

Timothy A. Dick

Operating cash flow, let me answer a little bit different way, because I don’t have that data point exactly in front of me right now, but from a delivering standpoint, we’re going to go out at about 3.8 times total leverage post Hi-Tech close. By the year we expect to be down a turn and at a run rate down turn and a half, so about 2.5 times. So, and that incorporates in the cash flow generated over the course of the year as well as the higher EBITDA run rate will be operating at.

Sumant S. Kulkarni – Bank of America/Merrill Lynch

And we know that you have a tentative approval on generic Precedex. Can you talk about the situation there, and how closely you're involved with the Kyrob [ph] situation?

Raj Rai

Sumant, this is Raj. I think there is lot of discussion around this product. I think we’ll still have to wait and see what FDA allows with the label Kyrob. In absence of that, one of our competitors would have the advantage and I think the launch would be pushed towards the end of the year.

Sumant S. Kulkarni – Bank of America/Merrill Lynch

Okay. And this is a bigger picture one. Many of your competitors are now domiciled ex-US. Do you expect to do something that could address your 37% tax rate, so that you wouldn't be penalized on that front?

Raj Rai

Yes, Sumant, that’s the new fashion statement. And I think we’re looking at some opportunities because as I said it’s a new fashion statement everybody is – the target and conversion targets are coming into the deal so quite a bit now. And so yes, I mean that's something that we will evaluate as well.

Sumant S. Kulkarni – Bank of America/Merrill Lynch

Thanks.

Operator

We’ll take our next question from David Amsellem with Piper Jaffray.

David A. Amsellem – Piper Jaffray & Co.

Thanks. I wanted to come back to the 14 CRLs. I don't know if you said this, but can you give the underlying value of those 14 products? And then second question is on the private label footprint that you're hoping to expand. Give us a sense of the extent to which you'll have to undertake additional significant CapEx, in order to achieve or get that $500 million, or at least tap into that $500 million opportunity, and when you think these new private label opportunities that leverage what you've gained from Hi-Tech will get to market, and bear fruit. Thanks.

Timothy A. Dick

So, on your first question on the CRLs, I don’t have the value on those CRLs readily available, but that’s something that we can let you know. The second question that you had was around the private label opportunity and the investment needed over there. Now, Hi-Tech obviously has all the infrastructure to develop those private label opportunities.

And some of them could be faster than the others depending on the type of product, if the product does not require in FDA filing then it could be sooner than later. So it could be within a year, you could be launching one of those products, but if the product requires an ANDA approval then always be, it will be treated the same way as a regular ANDA product.

David A. Amsellem – Piper Jaffray & Co.

Okay. And then on AzaSite, what's the extent to which we could see pricing power on that, or even Cosopt to be up, for that matter. I mean these are sort of classic mature legacy brands. We've seen a lot of pricing actions across a whole range of legacy products in a lot of different therapeutic areas. So is it safe to assume that there's going to be room to take price on two products like that?

Timothy A. Dick

Well, I think, first we just – we’ve just launched the product. So I think we need a little bit time to evaluate what the market can absorb in terms of pricing. So we’ll be more informed perhaps in the next six months to give you a better answer there. But generally speaking, we think that some of these products, there will be an opportunity to raise price. But I think we need a little bit more experience and time before we can make the determination.

David A. Amsellem – Piper Jaffray & Co.

Thanks.

Operator

Our next question is from Elliot Wilbur with Needham & Company.

Elliot H. Wilbur – Needham & Co. LLC

Thanks, good morning. First question for Tim, Tim you had mentioned the change in Hi-Tech margins, owing to distribution costs. I'm just wondering what that percentage is approximately. I guess I would assume 150 to 200 basis points maximum. But just want to get a little better sense of how that shift impacts the number.

Timothy A. Dick

Sure, it’s in that range 250 basis points move from SG&A up into cost goods.

Elliot H. Wilbur – Needham & Co. LLC

Okay. And then, thinking about the synergy target that you laid out there, I think originally you said 15 to 20, and in today's release and in connection with guidance, you're talking about hitting that 20 number at year-end. I mean I would assume a lot of that is relatively low-hanging fruit kind of coming out of the SG&A line. It certainly doesn't look like, at least on a pro forma basis, there's a lot coming out of R&D. Maybe you could give us a little more color in terms of where the bulk of the synergies were being realized. And more importantly, does that rate begin to really flatten out now as you – as we head into 2015, or is that something that you think you can actually build on?

Raj Rai

Sure. This is Raj. I think the – as you mentioned that you know obviously there are a lot of synergies in terms of overlapping expenditures, public company related costs, back office functions. One thing that we have not factored is no synergies out of the operations. So that something that we have not, we’ve kept that as it is, but the bulk of the synergies are coming from sales and marketing and they’re coming from back office functions and distribution, where we will have a lot of synergies as well as some R&D expenditure?

Elliot H. Wilbur – Needham & Co. LLC

Okay. I guess my last question is…

Raj Rai

Once we achieve that target, we will further evaluate as to what other efficiencies we can get out of the combined asset. So, I think we’ll need little bit more time to assess that. But feel comfortable hitting that 20 million, target.

Elliot H. Wilbur – Needham & Co. LLC

Okay. Thanks, and then my last question is, Raj, specifically in the press release you guys called out pricing pressure on some of the base products, and I'm just wondering if there's anything specifically that's above what the normal range or levels that we've seen in the last couple years on any certain key products, and specifically thinking about perhaps now fluticasone, given that it's still going to be a relatively large product, even in the combined revenue base. What your thinking is there about the pricing and competition over the balance of the year? Thank you.

Timothy A. Dick

So, Elliot this is Tim, I’ll take that question. So the pricing change in ASPs that was referenced in my script as well as the press release, on cause that we’re doing the injectables was mainly on a few products that were still early in market formation like the oral vancomycin which was launched Spring of 2012, as well as current shortage products which we had very modest impact in, but we’re adding much higher price points and that price points come down and as essentially out of our 2014 outlook. On ophthalmics, it’s a little bit more broader single digit pricing pressure that we’re seeing there. And in terms of – so those are really kind of a two moving parts of the pricing license area, we do have some products with pricing opportunities that we look to offset those with those products.

Elliot H. Wilbur – Needham & Co. LLC

And then lastly Tim also I know it was a product that there was a fairly significant step down a couple of quarters ago and teams that have stabilized I guess having just sort of build-in kind of normalized rate of assumed pricing erosion there or anything you could may be offer us there in terms of little bit more specific color?

Timothy A. Dick

Yes our assumption is that the market is relatively stable given that it’s come off significantly from where it had peaked a couple of years back. And we didn’t know one contract loss that occurred right around the time we had announced the transaction which was factored into our thinking around due diligence and there hasn’t been much change in the unit volume and the market share distribution since then but from our pricing standpoint expecting relative stability.

Elliot H. Wilbur – Needham & Co. LLC

All right thank you.

Operator

And we have time for one more question. That question is from Jason Gerberry with Leerink Partners.

Jason Gerberry – Leerink Partners

Hey good morning, thanks for taking the question. Just want another follow up on the CRL, the 14 that you mentioned. Could you maybe talk about how much overlap there is with the 20 products you were previously targeting for launch in 2014? And thinking about that one-year impact, does that include any additional time for building inventory as visibility, maybe on those launches is reduced?

And then just on the 2014 CapEx number, you mentioned I think $18 million to $20 million in costs. Just incremental costs. Just curious how much of that's recurring? How much of that should we have going forward in our models. On the two ophthalmic brands that you have tentative approval on, could you just remind us, since those are publicly disclosed, what they are, and what the IP regulatory issues are? And last one, Tim, maybe you can front run the 10-K and tell us what Nembutal sales were in 2013? Thanks.

Raj Rai

So, Jason if keeping over the base of your questions, let me address the first one I think it was around the CRLs and the overlap between the approvable products that we were projecting earlier in 2014. So, I would say a big part of the overlap is with those – CRLs given the ageing of those products. So, I think that answers your question. And yes, we will be prepared to launch any product that comes along and it makes sense, we will do that.

Timothy A. Dick

The last question was Nembutal, so the Nembutal we’ve consistently report that as the one product that’s over that 10% threshold of significance and that’s in kind of the higher 11% low 12% of sales rate?

Jason Gerberry – Leerink Partners

Gotcha. And then just on the ophthalmic tentative approval product, I don't know if you can comment on those?

Raj Rai

So, we've got tentative on Moxifloxacin, and then a smaller unit and then a smaller unit dose version of Acular, Ketorolac. So we are obviously pleased that they show some signs of the pace I guess improving a little bit at the FDA Moxifloxacin, has IP that goes out a number of years. So it’s not immediately actionable. Ketorolac is a relatively modest product that have limited ability to contribute significantly to business.

Timothy A. Dick

Yes, when we had created the generic version of it and made it into filing it made sense at that point. But since then the volumes are tremendously declined, was that product.

Raj Rai

The innovators are reintroduced a more preferred concentration of that. And I think moved away from that 0.4 that we got an approval on,[Author ID1: at Tue Mar 4 17:34:00 2014

] which they have modest success at best.

Jason Gerberry – Leerink Partners

Okay, great. Thanks guys.

Operator

That concludes our question-and-answer session for today. I would now turn the call back over to Tim Dick for any closing or additional remarks.

Raj Rai

Okay, Jamie this is Raj. I’d like to thank everybody for their participation. I know this was an important call. We look forward and speaking with you soon. Hopefully, we will have some good news around Hi-Tech to report pretty soon. With that once again I would like to thank you for your participation and look forward and speaking to you soon. Thank you.

Operator

Thank you for your participation. This does conclude today’s call.

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