Mallinckrodt plc (NYSE:MNK)
Q3 2014 Results Earnings Conference Call
August 07, 2014 08:30 AM ET
John Moten - VP of Investor Relations
Mark Trudeau - President and CEO
Matt Harbaugh - SVP and Chief Financial Officer
David Amsellem - Piper Jaffray
Greg Gilbert - Bank of America
Christopher Caponetti - Morgan Stanley
Tim Chiang - CRT Capital
Roger Kumar - Goldman Sachs
David Maris - BMO
Good day ladies and gentlemen and welcome to the Mallinckrodt’s Fiscal Third Quarter Results Conference Call. My name is [Amy] and I will be your event specialist today. At this time, all participants are in a listen-only mode. We will conduct a Q&A session towards the end of the conference and additional instructions will be provided at that time. As a reminder this call is being recorded for replay purposes.
And now I would like to turn the call over to John Moten, Vice President of Investor Relations. Please proceed sir.
Good morning. This is John Moten, Vice President of Investor Relations for Mallinckrodt Plc. The press release with details of our third quarter results and updated guidance was issued earlier this morning and is available on our website and the Newswire’s.
During Today's call we’ll be making some forward-looking statements and it is possible that actual results could be materially different from our current expectations. Please note that under the Safe Harbor rules, we are under no obligation to update the information contained in these forward-looking statements, even if actual results or future expectations change materially. We ask you to please refer to the cautionary statements contained in our SEC filings for a more detailed explanation of the inherent limitations of such forward-looking statements.
We will also make some non-GAAP financial measures with respect to our performance today. A reconciliation of our non-GAAP measures can be found in our earnings release and its related financial tables.
With that, I will now turn the call over to Mark Trudeau, President and Chief Executive Officer of Mallinckrodt Plc. Mark?
Thank you John and thank you all for joining the call today. As you've likely seen in our press release, Mallinckrodt had another exceptionally strong quarter led by significant gains from OFIRMEV, Methylphenidate ER and our base specialty controlled substance generics products and also as a result of restructuring and cost management. Specifically, company’s third quarter net sales grew by approximately 15% on an operational basis and we reported adjusted diluted earnings per share of $1.20, results which are the strongest the company has posted since becoming independent. Our year-to-date results continue to be strong as well, with sales advancing 6% on an operational basis and adjusted diluted earnings per share increasing 41%. The success we’ve achieved year-to-date clearly demonstrates that pursuit of our growth strategies along with business and profit building activities is transforming Mallinckrodt into a leading specialty pharmaceutical company.
Accordingly, we’re updating our guidance today including raising two key elements net sales and adjusted diluted earnings per share for fiscal 2014. Matt will cover our revised guidance in greater details later in the call. With the addition of OFIRMEV we’ve significantly expanded our brands portfolio and the hospital platform providing an exciting opportunity for growth. Brands’ third quarter net sales were up nearly 55% led by the addition and strong performance of OFIRMEV. As many of you are aware in mid May we announced a strategic price increase for OFIRMEV positioning the product at a pricepoint that more clearly reflects its efficacy and safety and the potential health economic benefits it provides. Uptake for OFIRMEV continues to be strong with growing use among hospitals surgical specialties. We’re very pleased with the performance of OFIRMEV in our third quarter as revenues and volumes are up compared to the same period a year ago.
As expected, we did see high single-digit volume declines immediately following the price increase. We believe this decline will be transient, anticipate net sales will continue to increase significantly over time and that the product will contribute no less than $500 million in annual sales long-term.
Our integration of OFIRMEV and the hospital commercial team into Mallinckrodt is largely complete, more than a month ahead of schedule and we believe synergies will be achieved as expected. This integration has proceeded exceptionally smoothly and we’re pleased to have retained the vast majority of the sales and marketing team.
You likely saw the announcement yesterday of a settlement agreement we reached with Fresenius Kabi USA to resolve pending patent litigation involving OFIRMEV. This settlement validates our confidence in the strength, integrity and durability on the intellectual property covering OFIRMEV and we look forward to growing the strong presence that has been established by this brand in the hospital market. Also in brands, we continue to make good progress with our portfolio of pain products for office based physicians including the introduction of two internally developed medicines XARTEMIS XR and PENNSAID 2%.
While we retain broad formulary access and continue to see an increase in prescription volume for XARTEMIS XR, our launch of the product is trending more slowly than planned though within the range of what we’d expected for a Schedule II controlled substance drug. While XARTEMIS XR will contribute very modest revenues to our fiscal 2014 results, we continue to believe it has the potential to contribute substantial revenues to our brands portfolio over time.
Now, let’s turn to EXALGO. In May, we launched our authorized generic and our pleased with the results for the quarter. We’re the only manufacturer with all four strengths of the product available, and early trends indicate we’re leading the market in terms of generic EXALGO adoption.
The balance of our Specialty Generics and API business also delivered robust results, continuing to provide a strong growth platform for the base business. Third quarter net sales of Specialty Generics and API advanced approximately 30% on an operational basis. This was driven by Methylphenidate ER, other controlled substances and oxycodone.
In the highly competitive hydrocodone market, growth prospects remain a challenge, resulting in reduced revenues in this category as predicted. In the pipeline, we continue to advance MNK-155, our branded controlled release oral formulation of hydrocodone and acetaminophen that contains the same active ingredients as the branded drug Vicodin for which we are pursuing an indication from moderate to severe acute pain.
In May, the FDA accepted a filing of our new drug application for MNK-155 for a standard review. And we’re pleased, as just announced, that the U.S. Patent and Trademark Office granted a U.S. patent with composition claims directed to unique design, formulation, pharmacokinetic and release characteristics for MNK-155.
This patent conveys the same period of exclusivity for MNK-155 as XARTEMIS XR. With this extended period of exclusivity, we continue to believe both these assets will be highly durable. While we continue to pursue abuse-deterrent labeling for both these products, this remains a challenging endeavor.
Turning to our Global Medical Imaging segment. Overall, imaging showed a modest profit in the quarter driven by restructuring. While our [Nuclear’s] medicine supply chain return to normal operations, we continued to feel the residual effects of the recent supply challenges in the quarter. Although we do expect profitability to improve somewhat in nuclear imaging, remember that the new normal in this business includes permanently increased raw material costs which will limit our ability to return to historical profitability levels.
As we have discussed previously, we continue to drive efficiencies in imaging and have made significant progress in streamlining this business segment. Though it’s still a highly competitive market, our Contrast Media and Delivery Systems business stabilized somewhat on the bottom line.
Driving efficiency and operational excellence across our businesses continue to be important strategic levers to enhance our profitability. We have taken approximately $70 million in restructuring charges, including nearly $24 million this quarter since we announced our program a year ago. We’re already seeing tangible benefits from these efforts which are significantly reflected in our results year-to-date.
On the acquisition front, we are very excited about the prospects of bringing H.P. Acthar Gel into our business once we close the Questcor transaction and we were very pleased to see the strong performance that they highlighted in their recent quarterly earnings reports. Acthar will extend our brand’s platform into the highly specialized therapeutic areas of autoimmune and rare diseases and significantly enhance the sustainability and durability of our portfolio.
This acquisition coupled with our recent Cadence acquisition will also provide a strategic roadmap for future business development and R&D investments in key autoimmune and rare disease specialty areas like neurology, rheumatology, nephrology, pulmonology and also in the important hospital channel.
Our pre-integration plans for Questcor are well underway and the respective shareholders of each company are scheduled to vote on the transaction on August 14 with the close expected shortly thereafter.
While our immediate focus will be to successfully integrate Questcor, we’ll continue to look proactively for other business developments and licensing opportunities that will allow us to build out the strategic platforms we've created. We'll continue to focus future business development opportunities on highly specialized, highly profitable, fast growing and durable specialty pharmaceuticals which will create sustainable growth for the long-term.
In just over a year since becoming an independent company, we've substantially increased shareholder value, executing on our strategy to drive growth and enhance our profitability. But let's be clear, while we've been acquiring transformational assets like OFIRMEV in the hospital channel and the pending acquisition of Acthar Gel to help secure our future success. Simultaneously, we've also been effectively executing on a number of internal fronts.
We've strengthened our business by enhancing the profitability of our core specialty controlled substance generics portfolio and significantly expanded our brands portfolio with the introduction of XARTEMIS XR and PENNSAID 2%. These medicines along with OFIRMEV extend our pain management franchise, bringing broad opportunities for growth.
The patent protection granted is our XARTEMIS XR and MNK-155 and the recent Fresenius settlement significantly enhanced the breadth and sustainability of our portfolio, providing a durable growth platform. And we've also focused on a significant restructuring program to streamline operations and improve the bottom-line. All of these parallel activities demonstrate our ability to manage complexity well.
So, in summary our fiscal third quarter and year-to-date results show great promise for an extremely strong fiscal year for Mallinckrodt as we execute on our strategy to become a leading specialty pharmaceutical company. We’re continually striving to deliver a significant shareholder value and we remain highly focused on driving accelerated growth and profitability.
Now let me turn the call over to Matt to provide more detail on our quarterly results and provide further detail on our updated guidance. Matt?
Thanks Mark and let me add my welcome to everyone on the call this morning. Before I discuss Mallinckrodt’s third quarter results and our updated guidance, let me first talk about the pending Questcor acquisition which we expect to close shortly after the shareholders meeting scheduled next week. Clearly Questcor has had an exceptional year from a sales perspective, should we close mid August Mallinckrodt would have roughly six weeks of revenue into our fourth fiscal quarter at an adjusted gross profit level that we expect will be in line with what Questcor has achieved historically.
In the second quarter, Questcor selling and marketing expenses were $57 million and we believe will maintain similar levels post close. As it relates to G&A synergies we’re unlikely to see much decline in their current spending levels in fiscal 2014 but we will see benefit in fiscal 2015 which will be reflected in the full year company guidance we provide in October. For now we also encourage you to keep R&D spending in your models at their current rate. And as stated on the call announcing the Questcor transaction you should also assume a tax rate for Questcor in the range of Mallinckrodt’s current guidance which we provided in the release this morning.
Now, let me turn to Mallinckrodt’s fiscal third quarter results which include a full quarter of contributions for OFIRMEV. All of our results are compared against our performance for the same in the period year unless otherwise noted. We're happy to report that our third quarter results demonstrate the success of strategic initiatives we've undertaken to drive increased value from our Specialty Pharmaceuticals segment along with continued benefits from restructuring.
In the quarter both the brands and specialty controlled substance generics portfolios performed well, reflecting strong performance across multiple product lines are focused on driving margin expansion in our ongoing efforts to pare costs out of the business.
Given the strong performance, you can see in our results today, we've updated our fiscal 2014 net sales guidance in a range of $2.350 billion to $2.450 billion and our adjusted diluted earnings per share in a range of $4.00 to $4.30. You'll find the rest of our updated guidance in the release issued today.
In the quarter, total company net sales were $653 million versus $570 million, up 14.7% on an operational basis. Strong net sales in the Specialty Pharmaceuticals segment drove these results with significant contributions from both our brands and specialty control substance generics products.
Global Medical Imaging net sales for the quarter were down 8.7% on an operational basis in line with our expectations. Profitability for this segment is showing signs of stabilization due in part to restructuring initiatives undertaken in the past few quarters.
Net sales in our Specialty Pharmaceuticals segment were $414 million, representing operational growth of 34.4%.
Third quarter net sales reflected the strength of both our brands and specialty controlled substance generics portfolios. Brands net sales alone were up 54.6% led by exceptional OFIRMEV performance of 53 million in the sales for the quarter. Our Specialty Generics and API business experienced 29.9% operational growth driven by solid Methylphenidate ER results and continued gains in our specialty controlled substance generics products.
Notably both oxycodone and other controlled substances also had improved revenue and profitability when compared to the prior year quarter, which more than offset the continued weakness we've seen and predicted in hydrocodone. The improvement, we saw in our specialty controlled substance generics products in addition to the strong performance and brands has led to our increased guidance for this segment.
Total company gross profit was $284 million, up $18 million with gross profit as a percentage of net sales at 43.5% compared to 46.6%. This result was impacted by a $52 million increase in amortization and inventory fair value expenses. Primarily related to the Cadence acquisition, our adjusted gross profit was $345 million, up $71 million and adjusted gross profit as a percentage of net sales was 52.9% compared to 48.2%.
A gross profit continues to move higher as we drive our business towards our more profitable Specialty Pharmaceutical segment. SG&A for the quarter was $221 million compared with $167 million in the prior year quarter. This includes roughly $31 million in incremental expenses associated with Cadence in its integration. It also includes $17 million in transaction cost related to the pending Questcor acquisition and $12 million in recent legal settlement costs. Excluding these items, SG&A would have been down year-over-year despite the higher costs we have incurred associated with being an independent publicly traded company as we realize benefits from ongoing restructuring.
Speaking of restructuring, we have no completed year one of our three year $100 million to $125 million program and have made significant strides towards driving efficiencies throughout the company. In the third quarter, we incurred $24 million in restructuring charges, largely from reductions in our G&A from base Mallinckrodt as well as corporate overlap cost from Cadence. The projects we have initiated since launching this program, have continued to come with the relatively quickly payback period which has contributed to the strong results we posted this year and these savings are expected to be sustained in future quarters.
Total company operating loss for the quarter was $4 million compared to $1 million in the prior year quarter. Keep in mind that $52 million in higher amortization of intangibles and fair value adjustment of inventory primarily related to the Cadence acquisition is included in these numbers along with $17 million of Questcor transaction cost and the $12 million in recent legal settlement cost noted previously.
For the Specialty Pharmaceuticals segment, operating income increased 32% or $31 million due to strong performances in our brands and specialty controlled substance generics portfolios. In the Global Medical Imaging segment, operating income declined by $2 million or 17% due to higher inventory costs.
Regarding our tax rate, we continue to implement measures to reduce our rate over time. Our non-GAAP effective tax rate in the quarter was 23.4% which in part reflects the acquisition of Cadence and our ongoing efforts to drive tax efficiencies and we’ve revised our fiscal 2014 guidance to bring the expected tax rate down into a range of 22% to 25%. As of the end of the quarter we had $328 million in cash on hand. We continue to see our cash generation capabilities improve due to the performance of our base business and the addition of OFIRMEV. With the addition of H.P. Acthar Gel, we expect our cash flow generation to substantially accelerate, potentially allowing us to reduce our post acquisition debt, while also accommodating future business development opportunities. Please also note that last week, we largely completed our financing needs as it relates to the Questcor transaction and we feel we’re in great shape to close.
Third quarter adjusted diluted earnings per share was $1.20 compared to $0.49 in the prior year quarter. Year-to-date, adjusted diluted earnings per share is $3.04, up 41%. As evidenced by our increased financial guidance today, fiscal-2014 continues to be a remarkably strong year for Mallinckrodt. We’ll be providing guidance for fiscal 2015 which will include Questcor, in October.
Thank you. Now I’ll ask the operator to open up the line for questions.
At this time, we would like to take any questions you may have for us today. (Operator Instructions). And your first question is from the line of David Amsellem with Piper Jaffray.
David Amsellem - Piper Jaffray
Thanks for taking the question. So, I wanted to start with an OFIRMEV question. So, given the price point, any evidence thus far of any impact on volumes? I know it’s early, but how should we think about any potential impact on volumes with the higher price point, maybe you can provide color on that? And then just secondly on a general question on business development, beyond the closing of the Questcor transaction, can you give us a sort of a roadmap of how high you would lever upto get additional deals done, the potential scale of the additional deals, is there sort of sweet spot that you’re looking at? That would be helpful. Thanks.
Thanks David. This is Mark. I’ll take the OFIRMEV question first to give you some perspective on how we think about business development going forward and then I’ll ask Matt maybe just to comment on our thoughts around leverage.
First of all, with regards to OFIRMEV, the very good news is both before and after the price increase, we continue to see volume growth for OFIRMEV. I think this is reflective of the value that the product is delivering in the pain management space in the hospital. The rate of increase post price -- rate of volume increase post price increase has muted somewhat as we would have expected. And we expect over time that we will continue to grow this product on a volume basis. As you can imagine, the sales volume, the revenue increase has been dramatic given the fact that volume continues to increase at a higher price point.
So, we’re quite pleased with the initial performance of OFIRMEV, post the price increase. And again we're projecting that this product overtime will be at least $500 million in annual peak sales. So a really good outcome I think across the board for OFIRMEV, good response in the marketplace. And obviously, we're quite pleased that we're able to settle the Fresenius litigation as announced last evening.
With regard to business development again, as we mentioned in the prepared comments, we believe that we’ve really established several platforms for growth for the company, not only that we really identified several areas where we believe there are opportunities now to focus both on R&D efforts as well as our business development efforts. And we tend to focus on areas where we believe we can bring incremental value to the marketplace. There is relatively less competition than other areas and we're going to bring some type of basis or infrastructure and support to an area.
And so, for example the specialty areas where there are autoimmune and rare disease categories, we mentioned some of those specialty areas previously neurology, nephrology, pulmonology, rheumatology. And also the hospital chain areas that we believe there are assets available in the marketplace, that are accessible that we can add into now a platform of growth that we have already in the hospital chain with the acquisition of OFIRMEV and Cadence, and we expect to have with the acquisition of Questcor and Acthar Gel.
So, the roadmap going forward we believe is very clear and the focus is very clear as to what we're going to be looking for in terms of futures assets. And our plan is to continue to be opportunistic and add assets into our portfolio, because again we're looking to build out a broad portfolio of highly durable, highly profitable, fast growing assets like the ones that we’ve already acquired with OFIRMEV and expect to acquire with Acthar. Matt?
Yes. So as it relates to leverage David, a few things I would say, excuse me, sorry I've bit of a cold. The first thing is as Mallinckrodt has a little over $400 million in cash as we sit here today, you will see in the release that we were in the low-300s, but our cash generation continues to be strong. Questcor in there, end of June release had nearly $400 million in cash as well. So both companies have very strong cash balances if you will.
I think this is an area that has not been well characterized in general I don't think people spent the time to really figure out what our net debt leverage ratios are going to look like are we move forward. If you look at post close on Questcor and you look at our net debt leverage ratio, we are below 4 and that's enviable place and when we look at our competitive set that's where a lot our competitors are. So we feel really good about our balance sheet.
If you combine our EBITDA and Questcor's EBITDA for instance, you are over $1 billion alone. So the cash should continue to roll in here as we move forward on a combined basis. The other thing I would like to highlight in the release today is that I would encourage you to also look at the balance sheet, we haven't spent a lot of time talking about our balance sheet management. Despite the fact that we're growing sales and very aggressively generating cash, we've been spending a lot of time internally as aggressive as we've been on restructuring. We've been equally as aggressive in looking in our balances particularly inventory.
And if you look at our inventory balance its quite remarkable we are down from where we were at the end of last year, despite the fact that we are growing our top-line. We also today took our capital expenditures down as well so we are mining cash as fast as we can, so I am not overly concerned about our ability to fund BD&L as we move forward.
I think the one other question David you had was around the magnitude of the types of things that we would look for and again what we are looking for our assets that are going to be complementary to the growth platforms that we’ve have built, that build out the durability of our portfolio that are fast growing that are also profitable and we believe that there are a range of assets out there and we can do as Matt described a number of different things from smaller tuck-in deals to larger more transformational deals. I would say our currently focus is to look for assets that are more in the kind of moderate to large tuck-in range that are again going to be complementary to some of those specialty areas and fit very well with what we are building out in the hospital channel.
David Amsellem - Piper Jaffray
Your next question is from the line of Greg Gilbert with Bank of America.
Greg Gilbert - Bank of America
Thanks good morning guys. First Matt, can you help us get to an appropriate gross margin and SG&A run rate before layering in Questcor I know that’s a multifaceted question but I know you will try to be helpful on those moving parts? And then maybe secondly on Acthar, I know you are not guiding it, thanks for the comments about the September quarter. But conceptually would you agree that it would be reasonable to assume a period of some level of sales disruption of the key product as the new organization applies new strategies and reimbursement marketing et cetera, again not specific guidance but just conceptually to help set the bar there? Thanks.
Greg I will handle the gross profit question and then I will turn it over to Mark as it relates to your question around Acthar. If you adjust all the moving parts out of our results, our adjusted gross profit would be 52.9% in the quarter, which, someone that's been with the organization for seven years, I haven't seen this kind of margin since joining the company.
And as we move forward Greg, I would say we continue to see our gross profit strengthening, clearly when Cadence was publicly traded company, you have great visibility of what their gross profit as a percent of sales would have been on an adjusted basis. And obviously with the price we set that will further supplement our margin profile there.
And as that product continues to grow, I mean we booked $53 million alone in the quarter, that's going to give us even more margin lift. And with the pricing actions we've seen in generics, that also is being supplementing our margins. And that's why we've kind of been able to go up to 52.9% on an adjusted basis.
And then at this time last year Greg, we were 48%. So, roughly a 5% increase. And we've been saying it since before the spend and after it’s the reason why we are driving the business towards specialty pharmaceuticals, because it just gives you great margin lift. So, with that, let me turn it over to Mark.
Yes. So Greg, with regards to the potential for sales disruption around Acthar Gel and during the acquisition period of Questcor. There is certainly the potential for that and clearly Questcor has generated significant momentum now for this product based on their most recent quarterly results. We've obviously been planning for this transaction in this integration now for several months with the specific intent being to minimize that potential for disruption as we do the transition. Part of our plan for that is that the commercial organization comes over largely intact including all of their leadership reporting directly to me. Again as we learn this business even more and learn how to run it we want to make sure that we maintain that momentum. So, there is certainly some potential in the short-term for there to beat disruption, but we believe we’ve taken significant steps and we’ll continue to do so to minimize that.
Overtime of course, the main reason to do this transaction is that we believe that as part of Mallinckrodt, we can continue to actually enhance the value that Acthar Gel brings to both patients and to shareholders through the combined efforts of the two companies. So we expect that this is going to be a very, very well performing product both near and long-term.
I would also echo what Mark said in his prepared remarks around the cadence integration. I’ve spent my career involved in acquisitions and this was incredibly smooth, the sales team has done a great job out there in the marketplace and retention rates are very high. So, if the past has any indicator of the future we feel pretty good about our integration capabilities overall.
Greg Gilbert - Bank of America
Your next question is from the line of Christopher Caponetti With Bank of America -- I am sorry with Morgan Stanley.
Christopher Caponetti - Morgan Stanley
Thanks very much for taking my question, operator. I thought I got a promotion. On guidance, why would fiscal 4Q EPS be down sequentially? And then I know you’re not giving updated guidance for Questcor. But should we expect you guys to raise guidance for the fourth quarter on August 15th once the deal closes?
Yes, sure. Congratulations on your promotion. As it relates to guidance, our third quarter historically has always been our strongest quarter from a bottom-line viewpoint. So, it's more of a timing thing than anything else.
As it relates to Questcor, obviously we haven’t closed and a few days matter significantly as it relates to what the bottom-line performance will be. So as we're thinking about this, typically you'll see our third quarter being our strongest quarter from a financial viewpoint, albeit our business has been strong for a number of months now. But as it relates to Questcor, we feel strongly and I did my best to give guidance as to how we're thinking about it in this tough period. But we’re planning to give you guidance in October with Questcor included, so we will have brought it into fold, have had an opportunity to really do a lot of forecasting and scenario planning as it relates to H.P. Acthar Gel, and then come back and give you a real solid explanation of how we see 2015 unfolding.
Christopher Caponetti - Morgan Stanley
Great. And then just a follow up from me. On OFIRMEV, can you just talk about what the feedback has been from hospital P&T committees on the price increases? And what's your ability to take future price increases down the line?
Yes. Chris, Thanks. It’s Mark. So, with regards to OFIRMEV and the response in the marketplace, it’s largely been as we would have expected. The prescribers, the physicians, the surgeons love the product and they see the value that the product delivers, both to patients but also with the potential to enable patients to exit the hospitals quicker post surgery and so that’s where the potential for value creation is in the hospital.
Clearly, we’ve seen some what I would characterize as kneejerk reactions in some accounts, particularly those accounts where the focus is driven primarily by pharmacies focusing only the line item of the increased expense for the product. But what we’re finding and we really focused on kind of the top 5% of our accounts and really monitor what’s going on there. In most of the accounts, we’re continuing to maintain very solid formulary position. There have been some modifications and some restrictions placed on OFIRMEV, we would expect that. But what we’re also finding is as we’re getting into these accounts and getting past the kneejerk reaction, even the pharmacy directors admit that the product has utility. And we’re having the opportunity already to reverse some of those early actions. So we have a very positive outlook for the long-term prospects for OFIRMEV from a volume perspective. Clearly the sales impact has been quite dramatic.
What we will continue to do is look for future opportunities to drive OFIRMEV. We think the primary near-term opportunities are to drive volume growth either by use in more hospitals where the product is already on formulary, using in more surgical specialties within a hospital and also in the number of vials used per patient, right now that number continues to grow as physician, surgical specialties get more comfortable with the use of the product. So near-term, we think there is lots of opportunity for volume growth; longer term, clearly, we will be reflecting the price of the product relative to the value that it brings to the healthcare system.
Hey Chris, I have one more add as to your first question as well as it relates to guidance. The other thing that I failed to mention earlier is you should also look at EXALGO year-over-year. We had a very strong year last year. If you look in the release today, the brand went from 34 million in Q3 ‘13 down to 9 million in Q3 ‘14 and EXALGO did enjoy high margins. Obviously it’s in the brand segment historically. And so you do have that mix shift going on in addition to the fact that our third quarter tends to be our blockbuster quarter.
Christopher Caponetti - Morgan Stanley
Thanks very much and congratulations on awesome quarter.
Your next question is from the line Tim Chiang with CRT Capital.
Tim Chiang - CRT Capital
Hi thanks. Mark, could talk a little bit about how XARTEMIS XR has done in the marketplace; what the feedback has been with some of your customers with this new product?
Yes. So as we alluded to in the prepared remarks Tim that the product has had some very positive initial reactions in focused areas. So first of all, we have very good payer acceptance. The product has been largely put on most payer formularies at a Tier 3, no prior authorization, which is exactly the target that we had established for this product.
We have also seen very good response to the product concept from surgeons and we’ve seen uptake from those surgeons as well. And overall, the product continues to grow its prescriptions on a week by week basis. And it also is tracking ahead of what we saw with EXALGO at a similar point in its launch and also as we track some of the other competitive products that have been launched recently on a prescription volume basis. XARTEMIS XR is actually tracking ahead of those. However, it is going a bit more slowly than we had projected initially, part of that has to do with the market environment we believe. And we continue to believe that over time while this will be a modest contributor as expected to our 2014 revenues that over time, particularly given the fact that this product has a long period now of exclusivity with the enhanced intellectual property that we announced a number of months ago that this will be a significant and meaningful contributor to our revenues overtime.
Tim Chiang - CRT Capital
And Mark, maybe just one follow up, I know you are going to give guidance later this fall with Questcor. But how do you guys sort of look at R&D spend for Acthar Gel, I mean is it going to increase dramatically or would stay around the same level that Questcor has been at in the historical past, could you give a little bit of color on that?
Yes. So, what I'd like to talk about is how we're going to think about investing in R&D for Acthar. There are -- clearly one of the things that Questcor has done recently is significantly increased the investment around R&D, primarily in creating additional data both clinical and pre-clinical data, characterize the product more fully to provide additional clinical data in support of the products use and also to develop potential new indications.
We believe that all of those continue to be very worthy endeavors and we will look to enhance those efforts as we look to also create additional data, additional published data to support the safe and efficacious use of Acthar and it's 19 indications.
With regards to specific amounts of R&D spend. However one of the opportunities that we want to consider is the fact that now through the acquisition of Cadence, pending acquisition of Questcor and our based R&D business. There is clearly an opportunity for us to do some synergies there. The collective three organizations together should do more at a lesser spend rate than the independent entities alone.
So, we're evaluating now, what's going to make the most sense from an R&D spend level. But we want to be quite focused on driving additional data and support for Acthar as well as continuing to build out life cycle management opportunities for OFIRMEV while we also continue to support our base business.
And you can see Tim in our results, our R&D spending actually was down from this year versus last year, a part of that is timing of spend, a part of it also as you can see we’re preparing to bring all this on Board. From a financial view point, obviously we’ll have a lot of room for reinvestment in R&D. But I would just echo what Mark said, we are going to get some leverage as it relates to R&D spend across the portfolio when we bring all these entities together. And we can accommodate adding in programs because we’re getting synergy elsewhere.
I would echo what I said in my prepared remarks though for ‘14 as you’re modeling out Questcor coming into the fall I would just keep it flat because there is a lag effect when you’re doing these types of integrations where you do -- we want to be very judicious and careful as we think about bringing these together and integrating them. So, the benefit of all of this will likely come in fiscal year ‘15 which we will include in the guidance we provide.
Tim Chiang - CRT Capital
Okay, great. Thanks.
Your next question is from the line of Gary Nachman with Goldman Sachs.
Roger Kumar - Goldman Sachs
Good morning. This is Roger Kumar stepping in for Gary. Thanks for taking the question. So just had two for you; first, wondering how sustainable the performance in the generics business sales, have you guys seen any push back from formularies and just what your expectations are for volume growth in that business going forward?
Yes. So, I’ll take your question, thank you Roger. As it relates to the generics, I would encourage you to go back to what we said on our first quarter call and our second quarter call because what you see in our results today is pretty much how the market is played out thankfully. Hydrocodone is about where we thought it was going to be, oxycodone is about where we thought it was going to be. Obviously, we raised guidance on Methylphenidate. There is some market dynamics there that led us to increase our guidance. We've been in this market over 20 years so we do have a good sense as to how its trending. And I would tell you we're very pleased with the performance in the business and as we look forward from a financial viewpoint, the specialty controlled substance generics business should continue to post strong gross profit percentages as we move forward. I would also echo and I would encourage folks to look at the other controlled substance line in the release today, the performance there really has been impressive on a year-over-year basis posting about the same gains we posted in methylphenidate ER on a year-to-date basis. And if you were to go back over the last three quarters and look at that category you'll see a trend.
As you're well aware Roger, this is an area -- in terms of our controlled substance generics business, our generics portfolio is very focused in these controlled substances. We like that area primarily because we understand it and have been doing it for a long time. We are one of the major competitors in the space and we believe that there are significant and sustainable barriers to entry for new companies to come in, so it's a good position for us to be in. We enjoy a certain amount of market power and we've been exercising that market power to the advantage of the company and shareholders in this past year. So, we'll continue to do that in an opportunistic way going forward, we also want to continue to add to our portfolio and specialty controlled substance generics through the development of ANDAs. And again our ANDAs will be very focused in these controlled substances so we'll continue to add to our portfolio overtime, but the real emphasis will be to continue to optimize our market power where we continue and have an advantage.
Roger Kumar - Goldman Sachs
Okay, great, thanks. And just shifting gears a little bit the ultimate settlement with Fresenius. Are you guys giving up any economics to them and push the trigger for them to enter earlier than 2020. And if you could just provide any color around life of ascension plans it would be great? Thanks.
So we're not really giving much specifics on the deal term settlement. And again you saw in the release that essentially Fresenius has similar entry date, same entry date really to the other settlements that have occurred. And again that is an early date relative to when the patents actually expire. So we believe that this is a very favorable and positive development for Mallinckrodt, for Mallinckrodt shareholders, for the OFIRMEV product and again it speaks to the enhanced durability and the robustness of our intellectual property around this asset.
Roger Kumar - Goldman Sachs
Okay, great, thanks. Congrats on the quarter.
Your next question is from the line of David Maris with BMO.
David Maris - BMO
Great, thank you for the questions. A couple of few so first back on XARTEMIS. So you mentioned that payer acceptance has been good, but you said that some things in the marketplace may have impacted to new, talk a little bit about that, does that mean the doctor acceptance is not good as you expected, I mean is that a targeting issue doesn't have any implications for the launch of MNK-155. And then separately the loss return did a profile on Acthar a couple of weeks ago, there has been a lot of noise this past quarter about changes of formularies. Can you explain what the changes were in the quarter, what is that changes your expectations or your enthusiasm to the drug or why investors should look at that a little bit different way?
Yes, so starting with XARTEMIS David. When I'm referred to market factors I'm really talking about the fact that the overall marketplace for narcotic products has been trending down a bit, somewhat I think as a result of some of the information that’s currently out in the marketplace regarding addiction potential and so on which we have known about for quite some time, but that has tended to drive the overall utilization down. We are experiencing some of that, keep in mind XARTEMIS is a Schedule II product, typically Schedule II products take a relatively longer time to ramp up. We had that same experience with EXALGO where it took sometime to get started but once it got started it did quite well. So we are quite encouraged in fact that the prescription volumes is actually trending ahead of where EXALGO was at the same point in its launch.
With regards to physician acceptance, again as I mentioned surgeons the profile for this product is particularly appropriate for surgeons because it’s an acute pain management product and typically post surgery is where you see a lot of utilization of acute pain products. We also have seen a little bit less acceptance of the product from pain specialists primarily because pain specialists trend to treat chronic pain more than they treat acute pain. So we have modified our targeting somewhat bias a bit more towards surgeons and a bit less towards pain specialist and so we are making some corrections in the launch as we go. But again we feel quite good about this product overtime given the fact that its got a very, very long runway.
With regards to Acthar Gel, so you are right there have been some changes to the published guidelines for reimbursement of Acthar by some of the national payers and again this is really something that Questcor has seen happened with a couple of payers over the last couple of years. What we continue to see and we’ve seen this in the due diligence of the product is that the reimbursement status or the actual reimbursement of the product continues to remain strong, really regardless of what the changes to the reimbursement policies tend to be. And the simple reason for that is that this is a product that is used really by very few patients, there are very few patients on Acthar, there are really only about 10,000 patients that are on Acthar. It's a product that tends to be used at the end of the line for many patients in very debilitated conditions. And when it gets down to that, when the choice is between the Acthar versus any other alternative, in many cases, the payer decision is fairly straight forward, because of those other alternatives are many times much more expensive than Acthar.
So, we continue to feel very good about the reimbursement for Acthar, just because of the nature of the way the product is used. And I think these changes that have been published really are designed to ensure that the product continues to be used in that manner, but it's used kind of after virtually everything else has been tried. And that's the appropriate place for the product to be used.
Again based on what you see with Questcor’s recent quarter, you see that the prescription volume, that the number of vial, the sales for this product continued to rise over time. We feel very good about the pending close of the transaction. And this will be a significant product for us going forward.
David Maris - BMO
Thank you very much.
Operator, now I’d like to turn over the call to Mark Trudeau for some concluding comments.
Thanks John. And thanks all of you for questions today. As I said earlier, this has been another exceptionally strong quarter in what’s shaping up to be a very promising year for Mallinckrodt. This performance is being driven by the strength of our Specialty Pharmaceuticals segment in both brands and specialty controlled substance generics as well as streamline costs from our ongoing restructuring initiatives, all of which are contributing to meaningful top and bottom-line growth.
As we look to the future, we’ll continue to implement strategies that will capitalize on the broad growth platforms we’ve created. We will further enhance the value of our Specialty Generics and API business through profit building initiatives that better reflect their full potential. We’ll build our branded pharmaceuticals business by commercializing our internally developed portfolio of products for office-based physicians and building our hospital channel through organic growth complemented by strategic acquisitions.
We’ll pursue strategic business development and licensing opportunities that build upon the strategic platforms we’ve created in the hospital channel in autoimmune and rare disease therapeutic areas. And we’ll drive efficiencies through restructuring to make us more profitable and competitive for the future. Finally, the common thread critical to our past and future success is our strong ability to master and manage complexity. Simply put, we strive to make the complex simple.
We’re quite confident that these strategies and capabilities will drive sustainable growth, improve our profitability and deliver long-term value for Mallinckrodt shareholders.
In closing, let me remind you that materials concerning today’s earnings release and the replay of this call will be available on the Investor Relations section of our website. Thank you for your interest in Mallinckrodt and thank you for joining us on today’s call.
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