OSI Pharmaceuticals Inc. Q4 2007 Earnings Call Transcript

Feb.21.08 | About: OSI Pharmaceuticals (OSIP)

OSI Pharmaceuticals Inc. (OSI) Q4 2007 Earnings Call February 21, 2008 5:00 PM ET

Executives

Kathy Galante - Head of IR and PR

Colin Goddard - CEO

Michael Atieh - CFO

Gabe Leung - President of Oncology

Analysts

Geoff Meacham - JPMorgan

Katherine Kim - Banc of America

Steve Harr - Morgan Stanley

Eric Ende - Merrill Lynch

Maged Shenouda - UBS

Jessica Li - Goldman Sachs

Mike King - Rodman & Renshaw

George Farmer - Wachovia Capital Markets

Operator

Good day everyone and welcome to today's OSI Pharmaceuticals Fourth Quarter Year End 2007 Financial Results. Just as a reminder, today's call is being recorded. A telephone replay will be available from 7:00 p.m. central time today through midnight on March 6 by dialing 888-203-1112 or 719-457-0820 with an access code of 9608247.

At this time I would like to turn the call over to Ms Kathy Galante, Head of IR and PR. Please go ahead ma'am.

Kathy Galante

Good afternoon and welcome to our year end call. Joining me today I have Colin Goddard, our Chief Executive Officer; Mike Atieh, our Chief Financial Officer; and Gabe Leung, President of our Oncology Business.

We will begin with Mike, who will provide you with a summary of the financial results and guidance for 2008, after which Colin will come back and discuss corporate developments in our oncology and diabetes-obesity program.

Before we begin, I would like to remind you that we would be making forward-looking statements relating to financial results and clinical and regulatory developments on the call today. These statements cover many events that are outside of OSI's control and are subject to various risks that could cause the results to differ materially from those expressed in any forward-looking statement. I refer you to our SEC filings for a detailed description of the risk factors affecting our business.

Now, over to Mike.

Mike Atieh

Thank you Kathy and good afternoon. This afternoon, we reported fourth quarter EPS of $0.29 per share from continuing operations versus $0.15 a share from a year ago. For the full year 2007, our net income from continuing operations totaled $103 million or $1.70 per share. For your information, the per share impact of equity-based compensation included in these results was $0.06 per share in Q4 and $0.25 per share for the full year of 2007.

Sales of Tarceva reported by our partners Genentech and Roche for the fourth quarter and full year on a worldwide basis were $250 million and $886 million respectively with the US representing $112 million and $417 million respectively. Annual worldwide sales in 2007 represent a year-on-year growth of 36%, despite the fact that US sales were negatively impacted by $22 million in return for reserve adjustments in Q2 and Q3. Total Tarceva related revenue reached $74 million for Q4 and $268 million for the full year 2007, with the full year amount growing 29% versus 2006, largely driven the growth in royalties related to sales of Tarceva outside of the United States.

During the fourth quarter, we generated $7.4 million of revenues related to our DP-IV patent estate, all of which were from royalties. For the full year, we generated $35 million revenues from our DP-IV patent estate, of which $17 million were from royalties. Total revenues for 2007 reached $341 million, a 41% increase over 2006.

Turning to expenses, what you see here is a reproduction of our P&L included in our press release. I’ll start with research and development. R&D expenses including acquired in-process R&D totaled $38 million for Q4, an increase of $7 million versus a year ago, with the increase driven primarily by higher spending on oncology related research and development, including and an [availment] milestone in $2 million acquired in-process R&D related to a small acquisition in the diabetes area that we closed in Q4.

For the full year 2007, R&D expenses including acquired in-process R&D totaled $133 million, an increase of $16 million versus 2006 with approximately two-thirds of the increase coming from acquired in-process R&D. The remaining part of the increase was related to spending in oncology. Oncology related spending for 2007 totaled $94 million or 70% of total R&D spending.

SG&A expenses totaled $25 million for Q4 and $99 million for the full year 2007, a decline of 8% on a full year basis. The decline was driven by reduction in maintenance fees, related to Novantrone and savings related to expense controls around G&A spending, partially offset by increased spending on Tarceva related commercial costs. For the full year 2007, G&A spending declined to $64 million.

Finishing up the P&L, please note that we have added a tax expense line, which shows a tax provision of $2.7 million on effective tax rate of less than 3% for the full year. The lower rate relates to the alternative minimum tax and our ability to utilize NOLs for the first time. These taxes were previously included in other expenses.

The tax expense line will now become a permanent part of our quarterly and annual P&L. I will remind you that at some point in the future, we will reverse all or a portion of the valuation allowance against our deferred tax assets, including net operating losses. This will result in a large credit for tax expense, at which time we will begin providing a tax provision based on US statutory rates. However our cash based tax cost will remain at or close to the alternative minimum rate.

Finally, our loss from discontinued operations totaled $7 million for Q4 and $36 million for the full year 2007, with a negative cash flow impact being $3 million and $20 million for Q4 and a full year 2007 respectively.

Now let's move to guidance. As is our usual practice, we will provide guidance for 2008, and we'll update this guidance when we release our Q2 results. Let's start with Tarceva. On a worldwide basis, we expect Tarceva sales to exceed $1.1 billion, a greater than 24% increase over 2007 sales levels, driven primarily by the growth in rest of world sales, including sales in Japan. Please note that our guidance on worldwide sales of Tarceva represents our view only, and not necessarily the views of our collaborators, Genentech and Roche.

Our guidance assumes that data from competitive studies for Erbitux, Zactima, and Alimta will have only a modest impact on Tarceva sales in 2008. We expect total Tarceva related revenue to be approximately $340 million, an increase of 27% versus 2007. This includes revenue from our unconsolidated joint business for Genentech on US sales, royalties from Roche on rest of world sales, and the amortization of Tarceva related milestones.

Turning to DP-IV related revenues, assuming worldwide sales of DP-IV inhibitors, subject to licenses reached $1.5 billion in 2008. Our royalties will be approximately $35 million, representing 100% increase over 2007 royalties. There is also the potential for upfront fees, if we sign new licenses and for milestones related to the approval; and first sale of new DP-IV inhibitors which we have not included in our guidance.

Finally, we expect total revenues from our core business which excludes potential new business related revenue, should reach $375 million, representing a 23% growth over core business revenues of $306 million in 2007.

With respect to expenses, we remain focused on making disciplined choices around our pipeline and will manage R&D expenses to approximately $140 million with the objective of having four core candidates in-man by the end of 2008. We will also continue to apply financial discipline to our SG&A expenses, which we believe will total approximately $95 million in 2008. The G&A component of SG&A will be approximately $55 million, which represents a significant decrease versus 2007 G&A spending. The increase in the selling components is related to the annualization of costs associated with the expansion of our sales force in mid-2007 and new Tarceva related selling initiatives.

Turning to EPS as we have previously discussed at our analyst meeting in November of last year, our per share results for 2007 include approximately $0.54 per share, from business development activities related to licensing transactions with Eli Lilly, Renovo and OncoVista. The OncoVista transaction closed in Q4. Excluding these items, our core business delivered approximately $1.16 per share in 2007.

We expect to deliver approximately $2.10 per share from continuing operations in 2008, excluding any potential revenue related to business development activity. In effect, this represents earnings from our core business and an increase of 81% compared to the $1.16 core business results of 2007.

This EPS guidance is based on an expected full year average share count of approximately 64 million on a fully diluted basis which should not differ by more than plus or minus 500,000 to 750,000 shares based on the expiration in September of this year of the no-call, [no-put] provisions relating to the 20-23 notes. Our EPS guidance includes a negative impact of equity-based compensation of $0.25 per share.

With respect to the balance sheet, we exited 2007 with $305 million of cash and investment, generating approximately $90 million positive cash on 2007, including results of iTech. Including the net cash receipt from our $200 million convertible note offering in January 2008, cash and investments were approximately $430 million in early January. I’ll point out that the vast majority of our portfolio is invested in US treasuries and US agency paper.

Finally, we expect to generate positive cash flow in excess of $140 million in 2008. With respect to our 20-23 notes in the September, October timeframe, we believe would we put to OSI resulting in yearend cash of approximately $425 million, or we will call the notes and they will be converted into OSI stock resulting year end cash of approximately $575 million.

Thank you. Now over to Colin.

Colin Goddard

Thanks Mike. In 2007, we set out to appropriately balance the business around three core tenets, execution together with our partners at Genentech and Roche on our Tarceva program. The privatization of our R&D investments around mobile and highly differentiated assets, and delivery of strong financial performance in the year that we committed to taking the company profitable in an emphatic fashion.

We believe that 2007 was a very successful year, one that has the company on track for a strong 2008. As Mike has mentioned, 2007 was a strong year for Tarceva and we exited 2007 with a full quarter annualized run rate of $1 billion for global Tarceva sales. The universally recognized standard for blockbuster in our industry. We're proud of the fact that Tarceva has achieved this milestone just three years after its November 2004 US launch, and most importantly, has become an important and valuable contributor for the treatment of lung and pancreatic cancer patients around the world.

While completion in the oncology arena continues to be significant, we believe this established growth for Tarceva in the care of cancer patients coupled to our robust, ongoing development and label expansion program, positions the brand for continued growth as we go forward.

In 2008, we shall see the potential for credible US sales growth based on a refrained promotional program in pancreatic cancer. Tactical programs designed to ease reimbursement issues, continued selling efforts to counter the practice economic to disadvantaged old therapies. And the impact of recent price increase, which was effective on February 6.

We know that there are no unusual inventory or return issues in the fourth quarter and believe that the combination of the increased reserve levels and the outcome of ongoing discussions with Genentech concerning possible changes of Tarceva returns policy, should substantially ameliorate this as an issue going forward.

We believe that we will continue to see robust growth in the rest of the world markets in 2008. We're continuing to witness an effective roaming European launch of Tarceva for pancreatic cancer, and our Japanese partner Chugai is in the early stages and what we think will be a successful Japanese launch for non-small cell lung cancer.

Our partner was successful in achieving a favorable price in Japan, at 10,500 yen with

150-milligram tablet, and is demonstrating a strong commitment to the brand.

Many of you will have noticed both press and analyst commentary concerning an ongoing legal clash with the generics industry in India. Tarceva was one of the first small molecule oncology drugs granted a patent in India in July 2007, following India's 2005 amendment of their patent laws to conform to the WTO's agreement on trade related aspects of intellectual property rights.

Recently, Cipla Ltd, a major Indian generics manufacturer, announced its intention to launch a generic version of Erlotinib in India. And we together with our partners at Roche, vowed for injunction against this launch. The decision is anticipated any time. The situation is symbolic of the increasingly aggressive activities of the generic industry to innovate our intellectual property rights with challenges to innovate our intellectual property around the world becoming increasingly common.

We together with Genentech and Roche, have continued to assess the Tarceva IP estate in the US and around the world, and have developed an aggressive and proactive strategy going forward designed to protect and pursue our IP interests on a global basis.

We continue to conduct a robust development program for Tarceva and we remain confident that our program will continue to drive label expansion and sales growth of the brand.

Clearly, the anticipated second-half BETA un-blinding SATURN and BETA lung phase III trials, if positive has the potential to substantially improve the competitive positioning of the brand by demonstrating the value of Tarceva in a maintenance mode following frontline treatment of mostly non-small cell lung cancer patients, and in combination with Avastin, in extending the survival of second-line non-small cell lung cancer patients.

We believe the convenience of all Tarceva therapy is ideally suited to a maintenance setting and are excited about the prospect of an all-target therapy combination regimen in the second line setting. There are no remaining planned interim analyses for SATURN, while the beta protocol includes one remaining planned interim analyses after a certain proportion of events have occurred, which will assess safety and also efficacy. We also filed a smoking PK data as a supplement to the NDA at the end of 2007 and anticipate action on this in the fourth quarter.

In addition to the 2008 phase III data readouts, we anticipate the possibility of top line data from three additional phase II-III trials in 2009 and 2010. The ATLAS, Tarceva-Avastin front-line maintenance non-small cell lung study. The CALGB sponsored front-line [meta-smoker] study in lung cancer and the EORTC sponsored front-line maintenance study in ovarian cancer.

We are also making good progress and catching up on accrual to our Radiant non-small cell lung cancer trial and the Agilent at stage I-IIIA setting. We have approximately 300 patients screened and approximately 100 patients randomized to-date. We continue to believe that this study, which we don’t expect to read out until 2014-2015 timeframe, remains a critical component of the latter stages of the Tarceva lifecycle plan.

In addition to these studies that we have previously highlighted for investors, we would like to draw your attention to some of the planned or recently initiated studies that we believe will play a [pivotal] role in building the Tarceva franchise in the longer term.

We are contemplating a Tarceva phase-III trial, comparing a combination of Nexavar and Tarceva with Nexavar monotherapy in hepatocellular carcinoma. Separate phase-II trials have indicated the median survival of 10 to 13 months of Tarceva monotherapy in HTC, and the phase-II Avastin-Tarceva combination trial, demonstrating a median survival of 19 months which was presented last year at ASCO meeting, shows the compatibility of an Anti-Angiogenesis, anti-EGFR regimen in this setting.

The plan study could address an important strategic goal for OSI in demonstrating the value and utility of all oral combinations of target therapies in treating human cancer and could potentially readout in 2011.

Our partner Roche has recently initiated a randomized phase-II trial named [Task] that treats patients with either Avastin plus Tarceva or chemotherapy plus Avastin in the first line non-small cell lung cancer setting. They are also preparing to run a second randomized phase-II trial called Rachel, which seeks to examine the impact of dose escalating Tarceva, to grade II rash, in combination with a fixed standard dose of gemcitabine in pancreatic cancer patients.

The third randomized phase-II trial called [MOC] focuses on evaluating a number of bio markers in addition to assessing efficacy outcomes to Tarceva monotherapy and best supported care treatments in advanced pancreatic cancer patients, who have failed prior chemotherapy.

We also have a comprehensive investigator sponsored trial program for Tarceva currently comprising over 250 ongoing or planned clinical trials. This program is aimed at exploring additional potential treatment regimens and opportunities for the brand. The program includes some strategically important exploratory initiatives, such as three trials exploring the ongoing use of Tarceva in a treatment beyond progression mode.

In 2008, we see three major competitor events on the horizon. At this year's ASCO meeting, we anticipate data presentations for Alimta and Erbitux phase-III trials in non-small cell lung cancer, that have been previously announced as having positive outcomes. We also expect a top line data announcement of the ongoing Zactima versus Tarceva phase-III trial. While we, from our assessment of published Zactima data and our understanding of Tarceva, consider it relatively unlikely that Zactima will prove to be superior for Tarceva, we recognize an element of competitive risk in all three of these events.

There are additional ongoing studies that could impact the Tarceva franchise and we fully appreciate the ongoing long-term competitive nature of the cancer, and particularly the lung cancer markets.

Nonetheless, with $1 billion a year global sales exit rate from 2007, and the robust ongoing development and label expansion program outlined above, we believe that it will take a remarkably unfortunate and we think unlikely confluence of negative events in order to counteract our anticipation of continued growth for the Tarceva brand.

Moving on to the pipeline. As you know, we have identified four key development assets in our portfolio, two each in oncology and diabetes/obesity, what we believe have significant potential. We have two ongoing phase-I trials, OSI-906 our small molecule IGF-1 receptor inhibitor, exploring both continuous and intermittent dosing schedules. And we expect to initiate an additional combination phase-I trial with Tarceva later in the year.

We have submitted an IMPD to the European regulatory authorities, with a view to initiating the clinical program for OSI-027, our next-generation mTOR in the third part of this year.

OSI-027 inhibits both the TORC1 and TORC2 mTOR signaling complexes and preclinical results have shown this to be very active with a carrying appreciable toxicity burden. The biology of our approach is very attractive from an ENT perspective, and we are hopeful that we can explore an effective regimen for what could be a very promising clinical agent.

On the diabetes/obesity front, the preclinical programs of both PSN821 and GPR119 Agonist and PSN602, our syrup program candidate, continue on track the clinical program initiation later this year.

Our oncology research efforts continue to focus on exploiting our growing understanding of epithelial-to-mesenchymal transition biology and in support of this effort, we paid our first milestone to our partner AVEO in the fourth quarter, for transfer of the first of the series of animal models that we believe will provide benefits to both our drug discovery and translation of research efforts in this arena.

We've also completed another acquisition from a very small company called [Dentigenix], totaling approximately $2 million in the fourth quarter. The Dentigenix platform adds useful fat cell screening technology and some early chemistry in support of our diabetes and obesity drug discovery research efforts.

Our DP-IV patent estate continues to be a very valuable asset to the organization and with Merck reporting a 2007 annualized exit run-rate for Januvia and Janumet sales of approximately $1.2 billion, we expect to see continued growth in the royalty stream that we received from this patent estate in 2008.

The reason for the termination of our internal DP-IV program, lack of sufficient DP-89 selectivity is likely to be an issue for some, but not all players in this space, and has in the near-term allowed Merck to secure dominant position. Merck were the original partners of the Probia drug from whom we acquired the estate and as such we have a more robust royalty schedule from that license from the [norm].

Royalties escalate modestly as milestone sales levels are met, but it is reasonable to assume slightly more than a 2% average royalty on Januvia/Janumet sales.

In summary, we believe the company has enjoyed a successful 2007 with an important transition to profitability. We also believe the company is well-positioned for successful 2008. As Mike has indicated in his guidance commentary, we anticipate 2008 EPS of approximately $2.10 excluding any supplementary business development revenues driven by global Tarceva sales which should exceed $1.1 billion. We look forward to key top line data for the SATURN and BETA studies in the second half of the year, which if successful, will provide the basis for reacceleration of US growth in Tarceva sales and a continuation in the global growth of the brand.

As we exit the year, we anticipate being close to clinical proof-of-principle on several of our core pipeline programs, setting up with 2009, where we have the possibility of witnessing the emergence of a wholly owned, highly differentiated and clinically validated follow-on pipeline behind a growing Tarceva and a continued improvement in financial performance.

With that I will finish and Nathan, I will be happy to handover to take questions.

Question-and-answer Session

Operator

Absolutely. (Operator Instructions). We will first go with Geoff Meacham from JPMorgan.

Geoff Meacham - JPMorgan

Hi guys and thanks for taking the question. I wanted to go over some of your underlying assumptions for worldwide Tarceva sales. To the extent that you can comment, I am wondering if you can give us any visibility into number one price increases for Tarceva; two, commentary on the European uptake, particularly in the UK and then three, any assumptions in that number for a roll out in other countries?

Colin Goddard

Well, you will recall Geoff that we just took the price increase February 6 and I think it is reasonable to assume that's an attempt, like this year. Dave, you want to update the UK situation and basically bid on that?

David Niemiec

Yeah, a few processes are still ongoing. We are awaiting the NICE authority of issue, their final recommendation sometime in the second quarter. And then we'll see what that is. Otherwise in the US, the growth continued to look good. Obviously we're expecting Japan to be a significant contributor to the incremental growth in 2008 because they just launched in December.

Geoff Meacham - JPMorgan

So just to be clear, you haven't assumed UK NICE reimbursement or rollout in any new countries.

Colin Goddard

As I said Geoff, that all our models are sort of risk adjusted elements and across the board. So what you are hearing is a sort of comprehensive workup of lots of assumptions.

Geoff Meacham - JPMorgan

Okay. Thanks.

Operator

And we'll go next with Katherine Kim from Bank of America.

Katherine Kim - Bank of America

Hi thanks for taking my questions. First is: the net revenues you get on unconsolidated joint venture line, do you expect it to fluctuate the way it did in 2007 or do you expect it to be more stable?

Mike Atieh

Katherine, its Mike. Recognizing that in 2007 we had the returns, reserve adjustment- that kind of hit that number a little bit. But when you think about going forward and those three pieces of the total Tarceva related revenue, you do get revenue from unconsolidated joint business and that should grow in line with Tarceva growth. So whatever is within your model and obviously you get royalties from rest of world sales and you have Tarceva related milestone. So I think you should assume that you get steady growth along with that, if you have steady growth in the US in your model.

Katherine Kim - Bank of America

So you don't anticipate any type of inventory returns in the US dollar that make the percentage fluctuate?

Mike Atieh

Well, we think the Genentech has done a very good job of getting their arms around this issue. They have increased their reserves against future returns, which is good and we are working with them to change their policy in the US with respect to how they accept returns and what they pay for those returns. And that should happen.

So we think they've done a very good job of anticipating and being proactive in reacting obviously. So the answer is no, but in the end anything can happen.

Katherine Kim - Bank of America

Okay. And then in terms of the tax rate you expect going forward, what was the actual total amount in 2007 --

Mike Atieh

The total amount?

Katherine Kim - Bank of America

The tax number, I mean?

Mike Atieh

The tax dollars. Yeah. $2.7 million, with $7 million less than 3% effective tax rate and as I walked everybody through in November, we have these NOLs and we're going to continue to apply them, so our out-of-pocket tax cost will be the alternative minimum rate. 2% to 3% is a reasonable number.

At some point though, we are going to reverse this valuation reserve, get this big credit through the P&L, and then start to provide a tax provision at the US statutory rate. But remember, our out-of-pocket tax cost will remain at that alternative minimum tax rate of 2% to 3% until we utilize our NOLs.

Katherine Kim – Bank of America

Okay, great. And my last question is on the BETA trial. You mentioned earlier that there is one more interim analysis. When is that going to happen, and assuming that it passes, when do you expect the final data?

Colin Goddard

Katherine, as you know, it's a Genentech run study and it's up to them to disclose when those interim analyses occur and the outcome from them. I mean, clearly if there is anything material, we will hear about it.

Katherine Kim - Bank of America

So your assumption for second half readout is from the final data output or is it from the interim analyses?

Colin Goddard

Absolutely from the final data read out.

Katherine Kim - Bank of America

Okay. Thank you.

Operator

And we'll go next with Steve Harr from Morgan Stanley.

Steve Harr - Morgan Stanley

A couple of questions. In your inputs, how much of your year-over-year growth is currency related?

Mike Atieh

Steve, its Mike. I will give you some statistics and then you can calculate the math. 80% of our rest of the world sales are really represented by six currencies; the Euro, the pound, the dollar, Chinese Yuan, and the Swiss Franc. But 60% of the rest of world sales are Euro based. So obviously the Euro, the Canadian dollar, the pound, well that's moving a little bit, they did all fluctuate against the dollar and are really strengthening [against?] the dollar, and that did have a positive impact on rest of the world sales.

Clearly the vast majority of growth year-over-year is all about volume growth, the continued roll-out in those markets. But based on those statistics you can do some math, calculate the numbers and come up with a percentage.

Steve Harr - Morgan Stanley

But what was it, I mean you could do that for us, right, the currency?

Mike Atieh

I do. But it's a general statistics and these are Roche's numbers. I'd rather not quote a number and just give you those facts and then you can just figure it out. But if you come with a number between 10% and 15%, you are probably doing a good job.

Steve Harr - Morgan Stanley

And what was the size of the US price increase in February?

Mike Atieh

8%.

Steve Harr - Morgan Stanley

8%, again, okay. And what's your general view on where we stand on the price curve here. I know that in the past, you guys have commented there was still significant room for price increases, whether it was Genentech's policy or job is to win and how much and where do you think we are on that curve?

David Niemiec

Yeah. As we have talked about before, we are in the court with our partners in terms of the value that Tarceva provided to lung cancer and pancreatic cancer patients. Looking at where the competitors are, such as Alimta. Alimta's price point is still significantly north of us. I believe there is still some potential for price going forward. So we will continue to test with Genentech, so we could tell you what the next appropriate pricing action would be.

Steve Harr - Morgan Stanley

Alright and last question, when do we get a result regarding Macugen?

Mike Atieh

So as we talked to you last quarter, we had to delay it through November while we made sure we could access the NOLs. We are now actively working on a spin-out model. If the management team would like to go with that, so we are trying to match financing against that management team to get that transaction executed. And obviously we need to bring this thing to a juncture as soon as we can. One thing as we said before, neither good nor bad, but an observation from a financial materiality perspective, this thing's down to $3 million or less cash burn through the fourth quarter last year and we would expect that to continue to be very, very tightly managed for the duration when we continue to pursue this. So very active, still very much the discontinued ops spin-out mode that we are moving towards executing and we still feel confident we can get something concluded.

Steve Harr - Morgan Stanley

Great, thank you.

Operator

And we will go next to Eric Ende with Merrill Lynch.

Eric Ende - Merrill Lynch

Thanks. You guys mentioned that total Tarceva revenues are going to be $340 million- that includes collaborative JV, revenues, royalties, and then amortization of milestones. I estimate that about $20 million of that 340 is amortization milestones. I was wondering where it was in '07 and also where you actually report that with a line item?

Mike Atieh

It is reported in the line called License Milestone and Other Revenues, Eric, and it is closer to $4 million. But the annual amortization is about $4 million a year.

Eric Ende - Merrill Lynch

So, it is also going to be $4 million in 2008.

Mike Atieh

Exactly. It is really, it's a stable piece. We have these milestones we receive from Genentech and Roche and we amortize over the life of the contracts about $4 million a year.

Eric Ende - Merrill Lynch

Alright. So your conversion rate for Tarceva must be substantially higher next year or in this year '08?

Mike Atieh

Well you know we're not going to give guidance on the conversion factor this year. But let me just give you a little background. '05 it was 31%, '06 it was 38%, '07 it was 41%. So you can see obviously that it is slowing and it should as Tarceva matures, and we're not going to give guidance, but I think probably most people are thinking that it is still going to expand in '08 and continue to expand in '09. But the rate of expansion will not be as high.

Eric Ende - Merrill Lynch

Alright. Thanks a lot.

Operator

And we'll go next with Maged Shenouda with UBS

Maged Shenouda - UBS

Sure. Hi. Thanks for taking my question. I just want to go back to a comment on the add-on to FLEX and your (inaudible) data. What are you assumptions for how these data sets are going to affect the US and ex-US non-small cell lung cancer markets?

Colin Goddard

Well I think we like everyone else need to wait and see the data before we can fully assess quite what the impact will be and there is a whole gamut within the spectrum for either set of data that could mitigate some of our thinking in the markets going forward.

The comment we made relative to 2008 is we would expect that minimum impact in 2008 because quite simply, these things will have to be filed and approved before they can be promoted to and have a material impact in any of the markets.

So we've contained our thinking, if you will, in that context and we, like you, when we see the actual data, will go figure out what the impact can be.

Maged Shenouda - UBS

Yeah, thank you.

Operator

(Operator Instructions). And we'll go to Jessica Li with Goldman Sachs, next.

Jessica Li - Goldman Sachs

Thank you. I have a question on the Tarceva use pattern in second-line non-small cell lung cancer. I just wanted to see whether there is any correlation between the first-line Avastin use and the second-line Tarceva use. Meaning, what percentage of the Tarceva treated patients were previously on Avastin?

Mike Atieh

We don't really have good transparency from the order data that we have in order to answer that question, because as you may know the data that we use to look at market share trends and so on, tends to be cost sectional data that basically you take a cut and look at where it is right now. Longitude in old data are not easily available.

So it will be difficult for us to give you an answer on that question actually.

Jessica Li - Goldman Sachs

Thank you.

Operator

And we'll go to Mike King with Rodman & Renshaw.

Mike King - Rodman & Renshaw

Thanks for taking my question. Colin, I was wondering if you could comment about your perspective on the emerging data on K-ras mutation, and whether there is any plan to take advantage of that, from a development standpoint, for Tarceva?

Colin Goddard

Well, obviously as you know, Mike, there are a lot of small studies being published fairly widely, from academic studies mainly investigating the impact of K-ras in this space. And we amongst others are looking at that very actively. We will shortly get one of the most comprehensive looks of that space in the form of the large database for SATURN, where we're doing a lot of biomarker follow-up. And I think we all need to develop a better and more complete understanding of what's going on here.

I will remind you that some of our subset analysis in pancreatic cancer, where we looked at this in our subset showed actually for those patients with K-ras mutations, who got a rash, there was a very creditable survival benefit in the Tarceva arm. And remember, 90% of pancreatic cancer patients also have the K-ras mutation anyway. So, if it wasn't a lot more complicated than some folks are speculating, then we would have hardly expected to see that result.

So, I guess our view is there is a lot to understand here, a lot still to learn. And we think we may have one of the more valuable databases coming to fruition out of SATURN to help us get us some of those questions answered.

Mike King - Rodman & Renshaw

Okay. But I assume that since SATURN won't read out till later in the year, we won't see that till later in the year or somewhere in '09?

Colin Goddard

Correct.

Mike King - Rodman & Renshaw

Great. Thanks.

Operator

And we'll go next with George Farmer with Wachovia Capital Markets.

George Farmer - Wachovia Capital Markets

Hi, thanks for taking my question. Just wanted to talk a little bit about your Tarceva revenue assumptions, and since you have got in the past this conversion ratio I'm quite wondering why you are not guiding this year, and maybe if you can just kind of give us some thought process about what goes into figuring that out?

Mike Atieh

Sure, George, it's Mike. Well, a couple of things. We continue to guide to total Tarceva related revenue, which is a combination of our U.S. earnings, rest of world, and the amortization of milestones. Clearly as the conversion factor stabilizes, there is less of a need to guide to it. So as I mentioned, when Eric asked, that I think most people are assuming a continued expansion of that, but not to the extent that it expanded when you saw the '07 versus '06 expansion. So, as that number stabilizes, there is less of a need to give guidance around it and that's certainly why we dropped it.

George Farmer - Wachovia Capital Markets

Okay, I will live with that. And then maybe you can talk about some of your thought process that's behind the confidence you have that Zactima will not outperform Tarceva in the ongoing trials.

Colin Goddard

Well George, if you look at the published data on Zactima in the Phase II studies that have been out there, they are obviously designing around a PFS endpoint. PFS for the Zactima arm is in an around 11 weeks. Now on the face of it that might be considered to be a fairly positive result when you compare to the BR21 PFS data which is out there at 9.9 weeks, but the missing piece of all of this, of course, is that the Zactima patient population in that study was vastly different to that in the BR21 study being all second line and there was a much better performance status overall.

If you look at the equivalent subset in the BR21 study, that’s the PFS01 only group then the data is 13.4 weeks for Tarceva. So, given that and recognizing that there is always some precariousness to comparing between studies, it is just for us to believe that we will see Zactima being superior to Tarceva.

George Farmer - Wachovia Capital Markets

Great, Colin. It is very helpful. Thanks.

Operator

And it appears there are no further questions at this time Mr. Goddard. I would like to turn the conference back over to you for any additional or closing remarks.

Colin Goddard

Thanks, Nathan, and thanks everyone for joining us on the call. We’ve a very interesting year coming up. We’re very confident, we go into it and feel pretty good about where the business is positioned right now. 2008, you can look to the same things that you saw in 2007, which is a focus on a well-managed business, delivering financial performance, executing on development programs that are highly differentiated, and we think give us a chance to best- or first-in-class, and of course continued execution on Tarceva with the two big studies in the second half.

Thanks a lot, thank you very much, and take care.

Operator

And that does conclude today’s presentation. Thank you for your participation. Have a great day everyone.

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