Alex Kelly - IR
Fred Hassan - Chairman, CEO
Bob Bertolini - CFO
Carrie Cox - President, Global Pharmaceuticals
Chris Schott - Banc of America
James Kelly - Goldman Sachs
Jami Rubin - Morgan Stanley
John Boris - Bear Stearns
Catherine Arnold - Credit Suisse
Bert Hazlett - BMO Capital Markets
Seamus Fernandez - Leerink Swann
Steve Scala - Cowen and Company
Roopesh Patel - UBS
Barbara Ryan - Deutsche Bank
David Risinger - Merrill Lynch
Schering-Plough Corp. (SGP) Q2 2007 Earnings Call July 23, 2007 8:00 AM ET
At this time I would like to welcome everyone to the Schering-Plough second quarter earnings conference call. (Operator Instructions) I would now like to turn the call over to Alex Kelly, Vice President of Investor Relations.
Thank you, Jennifer and good morning, everyone. Welcome to the Schering-Plough 2007 second quarter conference call. We know that it's a busy day and you have other conference calls lined up this morning, so we will wrap up our call by 8:50.
Before we begin, I need to remind you of a few items. First, some of the statements that we make during this call may be considered forward-looking statements. The company's SEC filings, including part II, Item 1(a) of the 2007 first quarter 10-Q identifies certain factors that could cause our actual results to differ materially from those projected in any forward-looking statements we make this morning. The company's SEC filings, as well as today's press release, are available on the Schering-Plough.com website.
Finally, I'd also like to remind you that during the call we may refer to non-GAAP measures, included adjusted net sales or just the top line sales. This is a non-GAAP measure that we defined as our GAAP net sales plus an assumed 50% sales contribution from our cholesterol joint venture. We may also refer to adjusted R&D expense, which excludes certain upfront R&D payments; as well as adjusted earnings, which excludes the R&D payments and items related to our planned acquisition of Organon BioSciences. Please refer to the non-U.S. GAAP reconciliation tables in the financial highlights section of our investor relations website. There you'll find a reconciliation of these adjusted figures to GAAP.
This morning, I'm joined by Fred Hassan, our Chairman and Chief Executive Officer; Bob Bertolini, our Chief Financial Officer; and Carrie Cox, the Head of our Global Pharmaceuticals business. Now I'd like to pass it over to Fred Hassan.
Thank you, Alex and good morning, everyone. You will have seen our press release. Once again, we are pleased with our performance this quarter, our 11th consecutive quarter of strong adjusted top line growth and we've delivered a strong performance in the first half of this year.
Our people have been sustaining the strong growth momentum of our company. We continue to advance our build a base phase of our action agenda. We have continued to gain momentum in R&D and we have continued to invest for the long term. We have made steady progress on our planned combination with Organon BioSciences. We're focused on doing the right things to make this combination work for the long term.
For the second quarter, we delivered 13% GAAP sales growth, adjusted for an assumed 50% share of Vytorin and Zetia sales; that is, a 15% adjusted sales growth versus the same quarter last year. We continue to grow Vytorin and Zetia market share even in the face of the new wave of generic statins. In fact, Vytorin and Zetia are the only major cholesterol-lowering brands that have gained market share in total prescriptions since the end of '06. At the same time, we're also pleased to see that a substantial part of our growth came from our other key RX products, products such as Nasonex and Remicade.
Our consumer healthcare business continued to grow. Claritin OTC continues to impress us with its strength. According to the Nielsen's, Claritin market share is higher than it was the same time last year. This is an example of long-term value of consumer brands.
Our animal health business also grew nicely during the quarter. So we're growing on a broad front. In fact, some 70% of our company's adjusted sales growth in the second quarter came from outside our cholesterol franchise.
We're also seeing continued evidence that our geographic expansion strategy is working. During the second quarter, we continued to drive strong growth in markets such as Turkey and China. Our continued strong top line momentum reflects the sharp focus of our people on our customer relationships and on growing our business.
We're continuing to execute on our basic long-term strategy; the long-term strategy that has made us the fastest-growing company in our peer group over the past several quarters. We are driving strong top line growth, we have been reinforcing that growth with financial discipline, and this has been driving strong EPS growth and solid cash flows. We've been investing for the long-term in R&D, in our global supply chain, in global quality systems, in our sales force, and other key areas. Our long-term strategy is paying off.
As we look ahead, we're focused on continuing to build our base so that we can remain strong in the future. We continue to build our most important strength, the winning spirit of our people and their convergence on our global strategies and objectives. Today, we're speaking to you from a meeting of our front line sales managers in the U.S. We're very proud of how close our top management team is to the front lines and how in tune our front line people are with the direction of the company. This is a special strength as we look ahead.
We are investing in our pipeline and products. In animal health, an important launch is underway of Resflor, a combination anti-infective/anti-inflammatory. In our human pharmaceuticals business, we're investing for the future in internal innovation and in delivering on our pipeline. We're also bringing in external innovation.
On our internal innovation, our novel thrombin receptor antagonist compound, or TRA, for preventing deadly arterial blood clots is on track to begin Phase III later this year. Also during the second half, we expect to see further Phase II data for Boceprevir, our protease inhibitor compound for HCV and Vicroviroc, our compound for HIV AIDS.
In the meantime, we registered some important R&D successes during the quarter and first half. We achieved the approval and launch of Zetia in Japan. We see Zetia's special clinical profile as a very attractive one in the Japanese market. We gained yet another indication for Remicade in Europe for pediatric Crohn's disease. We also gained EU approval for the use of Pegintron combination therapy for patients co-infected with HCV and HIV. So we're investing strongly in R&D and we are continuing to advance our pipeline.
In the meantime, we've also been bringing in external innovation. I will talk about Organon Intervet in a moment. In addition to that planned acquisition, we've been doing other strategic deals to build our key businesses and diversify our profile. One recent deal was our end licensing deal for Asentar from Novacea. Asentar is a promising compound for prostate cancer now in Phase III clinical trials. The Asentar deal reflects our strong commitment to building out our oncology franchise. We were able to move swiftly and decisively to bring in Asentar even as we were in the midst of the OBS transaction. It was a reflection of the strength we built in our management team.
We've also been expanding our consumer health care portfolio. We brought in MiraLAX, which we have launched as an Rx to OTC laxative switch and we brought in Zegerid, in development as an OTC heartburn medication. Each of these deals has been a strategic move in our build a base phase, which means honing our [inaudible] and extending our core.
With the many clinical and regulatory hurdles that are part of the R&D process, no one can be certain of the success of any one compound. However, our R&D pipeline progress is giving us more shots and greater strengths to get shots and goals.
That takes me to our planned acquisition of Organon BioSciences, the Organon Rx human health business and the Intervet animal health business. As we plan for the integration, I'm taking the lead in making sure that we understand the product assets, the science and technology and pipeline assets, and most importantly, the people assets of the two companies. I've led a number of successful integrations, so I know from experience how important it is to keep the top line moving to keep key programs and projects advancing during an integration. That'll be our focus with this integration.
We're also working hard on the various needed clearances and approvals. This is a complex, global combination so we had planned that the clearances would take some time. However, we're making progress. We continue to expect to close the deal before the end of the year.
As we learn more about Organon and Intervet, we become even more convinced that there truly is a strong strategic fit, a strong scientific fit and a strong financial fit. We gain access to new products, prescribers and patients in important new areas; in gynecology and fertility, in anesthesia, in psychiatry. Organon's five late stage products roughly double our Phase III pipeline. They complement our strong earlier pipeline. We will be gaining more momentum in R&D. We also gain important biologics manufacturing capabilities. They are a strong fit with our promising early stage biologics products.
Then there is the strong fit in animal health between Schering-Plough animal health business and Intervet. We'll be bringing together two complementary growing businesses. With our planned acquisition of Intervet, we'll be one of the leading animal health companies in the world. The increased size and strength that we'll create with animal health will be a strategic asset for Schering-Plough going forward. Along with our consumer health care business, we see the combined animal health business as part of a strong, shared science platform. We also see this business as an important contributor to basically diversify our business portfolio.
We feel confident about the value of this combination for the long term and we believe that the other actions we're taking are also making our company a very strong company for the long term. As we look at the increasing complexities and challenges of our industry’s environment, I'm confident that we're building a company at Schering-Plough that is in tune with its environment. We're building a company that can transform itself, adapt, and thrive.
Now, let me hand over to Bob Bertolini.
Thanks, Fred and good morning, everyone. As Fred indicated, we had another strong quarter. We continue to drive both the top and bottom line. This morning, I'd like to cover three topics with you. First, our sales performance and factors that affected our earnings; second, our operations; and finally, I'll discuss some information pertaining to our outlook.
First, our sales performance for the second quarter. Our GAAP sales increased 13% to $3.2 billion, reflecting continued sales growth across each of our businesses. As you know, currency has been working in our favor. In the quarter, we had a 3% benefit on our sales from currency. Adjusted sales increased 15% to $3.8 billion as Vytorin and Zetia continued to grow. We launched Zetia in Japan this quarter and recorded sales of $29 million in our GAAP sales results. Keep in mind this reflects initial stocking of the customer channel in Japan.
We also had strong contributions from Remicade, Nasonex, Temonar, and Avelox and we are also pleased to see that our animal health and consumer health businesses each had double-digit growth again this quarter.
Let me just comment on the consumer and the animal health business. We value these businesses. They generate solid sales results; they throw off steady and predictable cash flow. They're an integrated part of our science platform and as Fred mentioned, they add diversity to our business portfolio. In the consumer business, OTC Claritin continues to be a very strong brand. According to data from Nielsen, OTC Claritin is gaining share against much cheaper private label competition. This illustrates the value of building trust with a strong consumer brand. We're also seeing success with our Rx to OTC switch of MiraLAX, which is quickly becoming a leading product in this category.
On the animal health side, sales grew 10% with good performance outside the U.S., especially in poultry, companion animal, swine and agriculture. We look forward to gaining additional breadth and depth in our animal health business when we complete our planned acquisition of Organon BioSciences.
So you can see, we drove double-digit sales growth across each part of our business. And this performance drove a significant increase in our earnings. On a GAAP basis, we earned $0.34 per share in the second quarter. Included in this number are special items of about $0.07 per share, including $0.04 per share related to an upfront payment for Asentar and $0.03 per share in items related to our planned acquisition. Excluding these items, we earned $0.41 per share this quarter.
Let me spend the next few minutes on our operations, starting with our gross margin. On a GAAP basis, our gross margin was 69.3%. This was higher on a year-over-year basis and sequentially. On a year-over-year basis, the gross margin improved primarily due to product mix and cost savings from our streamlining actions. On a sequential basis, the gross margin improved, primarily due to mix, especially due to higher sales of seasonal products. Keep in mind that if you were to include half the sales and half the costs of the cholesterol joint venture, our gross margin for the second quarter would be in the range of our peer group.
Moving on to SG&A, we've maintained our focus on controlling our costs through our value enhancement initiative. In the second quarter, we made additional promotional investments to drive the top line. Our SG&A expenses increased 11%, once again below the rate of our sales growth. Based on our previous comments about R&D expenses, it's no surprise that we continued to invest in the pipeline.
R&D expenses were $636 million, if you exclude the $60 million upfront payment on Asentar. Excluding this payment, the R&D expenses increased 18% versus the prior year. The growth in R&D spending was primarily due to increased investments in ongoing clinical trials, including those for recently-acquired products.
My final topic this morning is our outlook, first on sales. On cholesterol, we continue to anticipate that sales of Vytorin and Zetia will grow in 2007. As Carrie will tell you, we're confident in our key brands and we will continue to invest in them. However, as we mentioned last quarter, there is growing competition for our key brands.
On the gross margin, going forward we expect that our gross margin for full year 2007 to be better than it was in 2006. As we have said, this will be primarily the result of two things. First, the $100 million in annual savings expected from our streamlining actions. Second, product mix. Keep in mind that given the seasonality of some of our higher margin respiratory products, we would expect that the second half gross margin will be slightly lower than the first half.
On R&D, we anticipate that the number of patients in our clinical trials will continue to increase in the remainder of 2007. For example, we expect to begin dosing patients in our nearly 30,000 patient global TRA Phase III program in the fall. We will also be funding clinical trials for the projects that we recently end-licensed. As a result, we continue to expect R&D expenses, excluding any upfront payments, will grow faster than adjusted sales in 2007.
On taxes, our tax rate will vary between quarters depending on the product and country mix of earnings. We expect that our overall tax rate for full year 2007 will be in the mid-teens on a GAAP basis.
Finally, on Organon BioSciences, we will continue to have a number of special items in advance of the close, just as we had this quarter. These include integration planning-related costs, as well as currency-related activity associated with the purchase.
In summary, it's clear that our strategy is paying off. Top line growth reinforced by financial discipline is driving bottom line earnings growth. At the same time, we're also continuing to invest in the R&D pipeline to build long-term value.
Now let me turn it over to Carrie.
Thanks, Bob. Good morning. We're very pleased that we have maintained good momentum across our prescription business. The key to this solid performance has been the strength across geographies and brand. We are seeing important contributions from established and emerging markets. Including our cholesterol franchise, our core growth drivers continue to deliver incremental sales despite intensifying competition.
Turning to our product portfolio, our global cholesterol franchise delivered another impressive quarter with global franchise sales increasing 34% to nearly $1.3 billion. Please keep in mind that our global franchise includes sales in both JV and Schering-Plough only territories.
In the U.S., Vytorin and Zetia continue to grow despite the availability of multi-source generics. New prescription growth for the franchise remains strong, increasing 20% versus the prior year and more than double the growth of the entire cholesterol market. Both Vytorin and Zetia set new market share highs and remain the only branded growth products in the LDL lowering category.
As we've anticipated, clinical practice continues to shift towards more aggressive LDL management. With lower clearly better, only Vytorin provides more than a 50% LDL reduction at the usual starting dose through the dual inhibition of both sources of cholesterol. Vytorin simply gets more patients to goal at the initial starting dose and across the dosing range. First line therapy continues to represent the majority of Vytorin business. Vytorin is also the brand of choice for patients needing to upgrade their medication for greater efficacy. We believe both Vytorin and Zetia are well-positioned in a post-generic marketplace.
Outside of the U.S., sales from the cholesterol franchise increased 83% to $330 million. The big news, of course, is the June launch of Zetia in Japan, the second-largest cholesterol market in the world. As Bob mentioned earlier, Q2 Zetia sales in Japan reflect broad initial stocking. We therefore do not expect significant factory sales for several months until demand builds beyond that level. Today, an estimated 30 million people may be eligible for lipid lowering therapy in Japan, though less than one-third are currently receiving treatment for high cholesterol; thus, the growth potential over the long-term could be attractive.
Zetia is the first novel cholesterol-lowering medication in Japan since 1989 and as indicated, is monotherapy or in combination with a statin. We believe the clinical profile of Zetia is a good fit for the Japanese market and we will invest appropriately to maximize its potential over time.
Remicade continued to perform extremely well with Q2 sales increasing 28%, despite increasing competition. Remicade plays an important role in changing the treatment paradigm for the approximately 150,000 patients with moderate to severe ulcerative colitis. Until Remicade was approved for this indication early last year, patients had limited therapy options, with many facing surgery. Since this approval, the use of biologics, as well as the number of prescribers for ulcerative colitis has more than doubled. With its recent approval Remicade is now the only biologic agent approved for pediatric Crohn's disease in the EU. The advent of other products entering the adult Crohn’s segment should help expand the overall market for biologic therapies.
In allergies, global Nasonex sales increased 22% with good growth in both U.S. and international markets. Nasonex remains the global market leader among nasal steroids with a value share of more than 37%. In the U.S., Nasonex new prescription growth continued to outpace the market with new prescription share increasing 120 basis points versus the prior year. Nasonex remains the number one prescribed nasal steroid among allergists, pediatricians, and ENTs.
In hepatitis, global Pegintron sales increased moderately, reflecting strong performance in emerging markets, offset in part by expected decline in Japan. As we've discussed previously, sales in Japan will continue to reflect a reduction in the available patient pool as well as the introduction of competitive combination therapy. During the quarter, Pegintron combination therapy was approved in the European Union for the treatment of hepatitis C in patients coinfected with the HIV virus. Pegintron provides both efficacy and an early indicator of response for hepatitis patients already facing the complexities of managing their HIV. Approval for this indication demonstrates our continued commitment to the hepatitis community.
In oncology, combined global sales of Temodar and Caelyx increased 25% to $281 million. Across most core geographies, Temodar has already achieved significant market penetration for first-line treatment of gleoblastoma. As you may recall, Temodar was launched in Japan late last year and is quickly becoming part of the standard of care we have used in nearly two of every three new patients.
With Caelyx, promising data was presented at ASCO highlighting its potential in metastatic breast cancer. In this Phase III study, maintenance chemotherapy with Caelyx significantly improved time to progression and may provide an important treatment option along with current standard of care.
As Fred mentioned earlier, we are very excited about the Novacea collaboration for Asentar; a novel, oral treatment for an advanced form of prostate cancer. In the U.S., prostate cancer is the second-leading cause of cancer deaths in men. Currently in Phase III, we believe Asentar in combination with Taxotir may provide a new option to increase survival and decrease some of the toxicities of current therapy. We are also committed to exploring indications in early stages of prostate cancer, including in the adjuvant setting.
Lastly, I want to comment on our global licensing of Acadesine from PeriCor Therapeutics. Acadesine is currently in Phase III development for the prevention of certain complications from cardiac surgery. It complements our expanded presence in the hospital channel and provides an important strategic fit with Integrilin and TRA. We are very excited about the potential to extend our emerging leadership in cardiovascular care.
In summary, we are proud of the performance delivered by our people worldwide. We believe our second quarter results further underscore our focus on execution and maintaining our momentum. We look forward to continuing to build a high performance company for the long term.
Now I'll turn the call back to Alex. Thank you.
Thanks, Carrie. Now we'd like to open up the call to take your questions. In order to get through as many callers as possible, please limit yourselves to one or two questions. Note that we won't take follow-up questions, but if you do have additional questions, you're welcome to rejoin the queue.
Operator, we're now ready for the Q&A.
(Operator Instructions) Your first question comes from Chris Schott - Banc of America.
Chris Schott - Banc of America
First as we look out to 2008 and Medicare part D, can you talk about the initial discussions you're having with payers? First, I assume it will be a tougher round of negotiations as compared to the initial part D contracting? From a high level, do you expect price to be positive, negative, or flat across your part D business in 2008?
Second, can you talk about the currency impact on operating income and earnings this quarter? Thanks.
I'll ask Bob to answer the second question and then we'll come back to Carrie on part D.
Sure, Chris. I would estimate that the bottom line impact on EPS was about $0.02 on the currency, positive.
The part D discussions are underway and we are expecting that we will have very similar coverage to our current commercial availability. As you know, we are quite competitive in this space and have good access across the board.
Basically part D strength reflects the strength on the commercial side.
Your next question comes from James Kelly - Goldman Sachs.
James Kelly - Goldman Sachs
The question has to do with the R&D expenditures, which were sequentially down in this quarter. I know that you mentioned in the prepared comments that we would expect to see an increase going forward. Could you talk a little bit about why we saw them sequentially down and while they're going to be growing at a rate faster than adjusted sales, can you help us maybe benchmark that a little bit more; if there are important quarterly flows we should keep in mind? Thank you.
I will just make a general comment and then I'll ask Bob to explain the details regarding the quarter. We are very fortunate that compared to many of our peers, we have a much larger Phase III component in our R&D portfolio coming up. That's just the nature of the way our products have developed. We worked hard at developing this new wave. So now we have to work on this Phase III part of our pipeline. That's one reason overall the R&D expenses are going to grow. We already signaled this as early as '05 when we had signaled the very, very important progress that we had made in our Phase II pipeline.
Bob, can you explain the details in the quarter?
Sure, Jim. Keep in mind we had the $60 million from Asentar in the quarter. If you pull that out we were about 18% of an increase versus our adjusted sales growth of about 15%. Now sequentially, the growth was about 4% as you've pointed out. Really it's a reflection of timing of the clinical trials. Going forward as I mentioned, TRA will ramp-up in the fall so you should see some increases at that point in time and it'll be based on clinical trial enrollment.
Your next question comes from Jami Rubin - Morgan Stanley.
Jami Rubin - Morgan Stanley
You had discussed previously that you may consider partnering the TRA as it moves down the development pipeline. Now that you are fully enrolling in Phase III, is that option now off the table? Or, is that something that you could still consider given the risky nature of this trial and the size of the R&D commitment? So that's the first question.
Bob, you had talked earlier in the year about your financing plans for Organon. Since then, the stock has had a significant increase in value. I'm wondering if your thoughts have changed in terms of the mixture of cash, debt and issuance of equity. I think previously you talked about issuing $3 billion to $5 billion in equity. Just wondering if, just given the strength of your stock if your thoughts have changed at all? Thanks.
Jami, that's a very good question and diversification is a very important part of our strategy. We are very open to partnerships. In general, our company does very well as a very good partner as we've seen with our JV on cholesterol and with Remicade. So it's a very strong part of our culture.
In this instance, we're very excited about TRA. We were encouraged by the Phase II data. We were encouraged by the efficacy we saw in the small sample of patients. More importantly, dose dependent efficacy. Based on this, we are very excited about moving forward. If a partner wants to come forward and work with us, we are very open to such a discussion, but we can do it alone. Our people are very excited, we do have the head room to do it ourselves. We do believe we can deliver on this project.
Bob, on the second question.
Jami, we feel very good about our financing situation. As you know, we have a committed bridge facility right now for 11 billion euros so we have flexibility. I think the current thinking is still $3 billion to $5 billion of equity with the remaining coming from a mix of both cash and debt. That's kind of where we are, Jami.
Your next question comes from John Boris - Bear Stearns.
John Boris - Bear Stearns
First question just had to do with overlap. Are regulators seeing any overlap on the pharma or animal health business that you can point out?
Secondly, is there any breakup fee that's associated with the transaction, at least if it were not to go through? So if you can comment on that.
Carrie, in the back half of this year, can you just comment on what your assumption is for the growth rate of the cholesterol market in the back half of this year? Thanks.
We are doing a good analyses of our broader portfolio compared to the OBS portfolio. I think, John, your question was about overlaps that might have some issues of antitrust considerations?
John Boris - Bear Stearns
Well, the biggest challenge is in the animal health business. John, we are both quite strong in Europe and also in the U.S.. As you know in the animal health business, you're dealing with several species and several customer groups. As a result of that, there may be smaller components that might have possible issues where one needs to educate the regulators and to have a proper dialogue with the regulators.
The regulators are not accustomed to looking at animal health deals very frequently. So getting them to work with the right format is very important. We have made a lot of progress in the U.S. and we're also making progress in Europe, Europe is a little more complicated because the European Union tends to look at the 27 member states and you can see that there is some complexity in all these major deals that we're looking at. But we're making very good progress.
John, on the breakup, keep in mind we're buying a division of [Axanovel]. The way I would characterize the arrangement we have with them, it's a binding deal. It's really a division, it's not a separate public company. They never did their IPO. I would characterize it as a binding deal.
Lastly on the cholesterol market, I would say we expect it to continue growing in the high single-digits. This is a market that tends to stay strong over time because there's still such a great need for patients to get to goal. Still the vast majority of parents have not reached their LDL lowering goals and that's why we continue to feel so optimistic about the opportunities for both Vytorin and Zetia in that space.
Your next question comes from Catherine Arnold - Credit Suisse.
Catherine Arnold - Credit Suisse
First of all, could you tell us when we're going to get the data on your hepatitis program for the protein inhibitor? Is that at your analyst meeting later this year or is that going to be the clinical venue?
Secondly, Carrie, could you give us an update on the growth of the cholesterol category in Europe and where your business is coming from? Is it coming from generics or is it coming from battling it out with the more potent brands? Thanks.
On the hepatitis, Catherine, we're, as you know, making good progress on our first trial, which is with the treatment experienced patients. We also have started our treatment naive trial. The treatment experienced patients data should read out in the second half of this year. We will be looking for an appropriate venue, possibly a clinical venue to show the results.
We also anticipate an R&D day in '08. We were going to have an R&D day in '07, but in light of the OBS transaction, we're going to delay it until we're able to launch our one company, one culture, one team meeting, which is going to be in late March. So sometime after that time, we will be able to have our R&D day.
The cholesterol market in Europe overall is growing in low single digits. Recall there that Ezitrol or Zetia and Vytorin are indicated for second line treatment so you tend to see there in a broader use of other medications earlier, quite often it is generics simvastatin, but as you know generally simvastatin will not get patients to their target goal. So we see very good uptake of Zetia being added on to existing therapy or patients being switched to Vytorin.
So the difference in the indication there has not held the business back. And in fact, we are just delighted with the growth that we've been achieving in Europe. These brands are on track to be some of the most important across the European portfolio. Thanks.
Your next question comes from Bert Hazlett - BMO Capital Markets.
Bert Hazlett - BMO Capital Markets
Could you just discuss briefly some of the components that would lead to lower gross margin in the second half, which was, again, I believe your guidance? Again, if you could discuss some of the components of the significant pickup in SG&A expense in the second quarter and maybe talk a little bit about what we should expect continuing on? Is it advertising, is it additional reps? Thank you.
Let me first comment on the gross margin. Our first half rate was about 68.9%, that was 68.5% in Q1, 69.3% in Q2. Now clearly as the second quarter rate was held on a sequential basis by our seasonal products, our respiratory products carry a higher gross margin. So they tend to drop to the bottom line with respect to that. In the back half when our seasonal products basically come off cycle, we expect to see a reduction. That was really the rationale for that.
On the SG&A, I would say the high level in the second quarter, as with each second quarter it is promotion and that's across all our businesses, also in the OTC business. So it was a promotional impact going forward. I think we'll see gradual improvement in our SG&A ratio on an adjusted basis as the JV continues to grow going forward.
Overall our plan is to grow our SG&A slower than our adjusted sales. That will give us the leverage for the bottom line. But we don't really make any predictions on a quarter-to-quarter basis. We kind of follow the programs. And if we can have the next question, please?
Your next question comes from Seamus Fernandez - Leerink Swann.
Seamus Fernandez - Leerink Swann
One, if you can just give us an update on the timing of the filings from Organon for the two products that you discussed in the initial transaction conference call, Asenapine and Sugammadex?
Separately, if you could update us on the timing of completion of several outcomes trials. Most importantly, I think the Vytorin trial called Enhance, we would just like to get an update on the timing. In addition, some of the other trials that are ongoing with Vytorin, when we might expect those results. Finally on the completion of the Ideal trial with the PEG interferons, when we might expect to see the data. Thanks very much.
You've asked for that lot of important information here. Alex, do you want to try to give a sense of the dates here on these trials?
Sure. So on the Vytorin trials, the Enhance trial is the most developed trial. That trial is still blinded and the data analysis is still ongoing by a third party. So when that data is available, then we'll find the appropriate medical forum to present that data as soon as possible thereafter.
Other trials that are going on, the C trial, this is a trial going on in aortic stenosis that trial will probably be complete in 2008, 2009 timeframe. It is fully enrolled. The Sharp trial is the trial looking at renal protection, and that trial, I don't believe is fully enrolled at this point and that trial will be probably be done in 2009 or so. The big trial is the Improva trial and that's the real hard outcomes trial that we're looking at. While Enhance is a surrogate marker trial, the Improva trial is the real hard end point trial looking at patients with acute coronary syndrome. We are making good progress on the enrollment in that trial. We'll probably have the results probably 2010, maybe 2011 on that trial.
On Sugammadex and Asenapine it's still with Organon BioSciences. We're pleased to note that their filing has been accepted by the European authorities for Sugammadex. As you had heard from us in March, we do believe Sugammadex is a very, very important advance in anesthesia, the first major thing that's happened in that field in 30 years. We look forward to have the ability to access that compound. Asenapine is still a Phase III compound at Organon. Next question, please.
Your next question comes from Steve Scala - Cowen.
Steve Scala - Cowen
First, I understand the tax rate fluctuates and that the 2007 guidance is mid-teens, but it appears that the first half tax rate is a touch below this guidance. So is the second half tax rate likely to be above mid teens or is your guidance leaning conservatively?
Secondly, how is the legal situation around Organon's NuvaRing and Implanon being handled? Is [Axanovel] likely to share in any potential legal costs and liability post the closing of the transaction? Thank you.
On the tax, Steve, you're right. It's going to vary based on country and product mix. As I said in my remarks, we would expect mid-teens on a GAAP basis. First quarter, second quarter so it was a little bit lower. We would expect slight increases in the back half. But again, the overall guidance would be towards a full year rate, mid-teens on a GAAP basis.
On the legal matters, we are very comfortable that it's being well-handled by Organon. As you know litigation and allegations are not unusual in the area of hormone products. Our people have looked at these products, our people have also looked at the data around these products, and we're pretty confident that these are good, modern products overall. We hope that once the closing has occurred by year end '07 we will be then able to move forward with these products. But as I said earlier, the litigation in the U.S. environment is not unusual with these products. Next question, please?
Your next question comes from Roopesh Patel - UBS.
Roopesh Patel - UBS
I was wondering if you could give us a breakup of the reported sales growth as far as price and volume are concerned. I understand you stated that foreign exchange contributed 3% to the 13% growth.
In that context, I was also wondering if you could comment on the pricing environment in the U.S. It seems that Schering-Plough's pricing strategy in that context, Schering-Plough taken fairly healthy price increases on several drugs so far this year. They seem to be holding pretty well. It doesn't seem to imply that we are in a very tough pricing environment and I'm curious about your perspective on this. Thanks.
In general, I'd say Roopesh, that the pricing environment in the U.S. is very competitive. There is tremendous pressure for discounts and rebates. As we have said, overall we have not that much of a reliance on price. We have to rely more on volume and product mix and that's been our strategy for growth. We customarily don't give out details on pricing and product mix. Bob, do you have a comment on that?
The only thing I would say, Fred, is we don't break out price volume. But I would say in the quarter it was primarily volume. We did have the 3% benefit of currency. The rest, while we don't break out price and volume, it was mostly volume driving the quarter.
Your next question comes from the line of Barbara Ryan - Deutsche Bank.
Barbara Ryan - Deutsche Bank
Thanks for taking my question. It was really Steve's on the tax rate, but maybe just a little bit further because you have made the distinction, Bob, of the tax rate relative to reported GAAP earnings. If we look at the $0.34 reported GAAP and then for adjustments the $0.41 that you reported it doesn't look like there's much difference on the tax rate for either of those numbers. Is that true, and then would there be any reason that wouldn't be the case in the back half?
Barbara, that's a very good question.
In the second quarter on a GAAP basis we did about 16%. If you take out the special charges, it was about 14%, so slightly lower. The full year rate we think will be in the mid-teens, slightly lower if you exclude special items. I think you'll see the first quarter rate was about 14% on a GAAP basis, 12% on an adjusted basis. So when you look still for the year, I would say mid-teens, slightly lower if you exclude special items for the full year rate. But there was a 2 point differential between GAAP and special if you exclude special charges in the quarter, Barbara.
Your final question comes from David Risinger - Merrill Lynch.
David Risinger - Merrill Lynch
I have two high-level questions. First, Fred, I was hoping that you could talk a little bit about your M&A communication strategy. I've noticed that in Reuters you had an interview talking about your acquisition agenda, specifically your interests in oncology and Alzheimer's. You also did an interview with a pink sheet. If you could talk about your M&A communication strategy.
Second, with respect to the company's pre-tax margin, if you adjust in half of the JV sales, Schering is running at among the lowest of the global drug companies. I'm wondering if you see cost-cutting opportunities ahead in SG&A and R&D like your competitors do? Thank you.
Thank you, Dave. Very good questions. On M&A, we recognize that Organon BioSciences brings a lot of diversity to our company, but it does not bring oncology, where we do need to have more products. We have demonstrated that we know the area well. Our oncology portfolio has grown dramatically in the last four years, but we need to access more products in order to build out our oncology. Asentar was an important move, but we what need to do more. If the right opportunity comes along, we will certainly work at it.
Also, Alzheimer's is an important area for us, now that we're going to be a big player in central nervous system thanks also to the OBS acquisition. We want to be a much bigger player in Alzheimer's as part of our CNS strategy. That is a very important area of unmet medical need around the world, especially as the populations around the world get older. This is going to be a public health crisis, a public health challenge for the developed world and we want to be a player in that. Our scientists have some very good early ideas that we're working on. But if the right opportunity comes along there, we will make our move, as well.
As far as the margins are concerned, we have done a great job improving our margins year after year, but our strategy has been very clear. We like to grow with high quality; we don't like to grow with low quality and we like to grow based on the top line. We also want to invest in R&D and that, over the long term, drives up the margins which is exactly the way it's happened over the last four years. That's the strategy that we set and that's the way it's happened. That's the way we plan to go in the future.
As you know from some of our very large peers, they do have very large and impressive margins, but they're not doing very well as large companies and they're not doing very well as TSR plays. So our company has done well for our shareholders over the long-term and we plan to do the same going forward.
Now with those comments, let me just make a few concluding remarks. We're very, very pleased with our performance, very pleased to be growing on a broad front, especially pleased to see the momentum in our pipeline as it continues to advance; that's the basic core driving engine of our business. We look forward to our planned combination with OBS, we look forward to becoming not only a bigger company, but also to becoming an even better company as a result of our OBS transactions.
Thank you very much, this is an exciting time to be at Schering-Plough.
Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.
THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.
If you have any additional questions about our online transcripts, please contact us at: firstname.lastname@example.org. Thank you!