Alpharma Inc. Q4 2007 Earnings Call Transcript

| About: King Pharmaceuticals (KG)

Alpharma Inc. (NYSE:ALO)

Q4 2007 Earnings Call

February 26, 2008, 8:30 AM ET


Dean Mitchell – Chief Executive Officer, President and Director

Jeffrey Campbell – Executive Vice President and Chief Financial Officer

John Howarth – Vice President of Investor Relations


Lei Huang - Summer Street Research

Frank Pinkerton - Banc of America Securities

Gregg Gilbert - Merrill Lynch

Kevin Kedra - Gabelli

Ian Sanderson - Cowen and Company

Ken Trbovich - RBC Capital

Frank Pinkerton - Banc of America Securities

Elliot Wilbur - Oppenheimer

James Kelly - Goldman Sachs


We now have our speakers in conference. Please be aware that each of your lines is in a listen-only mode. At the conclusion of the presentation, we will open the floor for questions. At that time instructions will be given as to the procedure to follow if you would like to ask a question.

I would now like to turn the conference over to Mr. John Howarth.

John J. Howarth

Thanks Jane. Good morning and welcome to Alpharma’s fourth quarter 2007 conference call. For today’s call, we’ve provided a PowerPoint presentation to go along with our comments, and that’s available on our website at When you go to the website, click on the tab for Investor Support. In that section on the left, you’ll see the tab for this presentation.

Joining me on the call today are President and Chief Executive Officer, Dean Mitchell and Executive Vice President and Chief Financial Officer, Jeff Campbell.

Going on to slide 1, before we begin, it’s important to note, that in the course of this conference call, we will make certain statements related to future events or future business performance, which are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

These statements including those relating to future financial expectations involve certain risks and uncertainties that could cause actual results to differ materially from those in the forward-looking statements.

Information on other important potential risks and uncertainties not discussed on this call may be found in the company’s filings with the Securities and Exchange Commission, including its Form 10-K for the year ended December 31, 2006 and its Form 10-Q for the quarter ended September 30, 2007.

On slide 2, we’ve laid out an agenda for today’s call. Dean will begin the call with some overview comments; Jeff will then review the financial results for the quarter, and Dean will then make some closing comments.

With that I’ll turn the call over to Dean.

Dean J. Mitchell

Thanks, Jack. Good morning everyone and thanks for joining us. Earlier today we reported impressive fourth quarter and full-year 2007 results which I’ll review briefly and then hand over to Jeff to go into more detail.

On slide 3, in the fourth quarter we reported EPS from continuing operations of $0.13 which exceeded the high end of our guidance range. These results exclude the $60 million up-front payment for the exclusive U.S. rights to ketoprofen in Transfersome gel.

The payment was made this past October in conjunction with the closing of the transaction with IDEA. The remainder of my comments will exclude the impact of this payment on the operating results.

For the fourth quarter of 2007, revenues grew 17% and operating margins reflect targeted investments in both R&D and SG&A. Our Pharmaceuticals business had record revenues with impressive growth of 40% in the quarter reflecting increased KADIAN volumes and price.

In the quarter we also made significant investments in both R&D and SG&A including continued investments our abuse-deterrent platform which features our lead product candidate EMBEDA and two future compounds currently known as ALO-02, oxycodone NT and ALO-04, hydrocodone NT.

The increase in SG&A investment was related to the doubling of the size of our sales force and preparations for the January 2008 launch of the FLECTOR Patch.

Revenues grew 19% in our Active Pharmaceutical Ingredients business. Excluding currency effects, revenues increased 15% over 2006 levels driven primarily by increased volumes of the business’ major products.

Operating income amounted to $3.4 million, and operating margins were impacted in the quarter by foreign exchange and several other factors that Jeff will take you through in detail later in the call.

The most significant development since the end of the year was the announced divestiture of the API business and I’ll cover that a little later in the presentation.

Animal Health revenues grew 8% to a record $102 million for the quarter, primarily attributable to growth in most regions and market segments. Also operating margins were right around 20% for the quarter, reflecting our eleventh consecutive quarter performance at about this level. Another solid quarter for the Animal Health business.

Let’s turn to slide 4, and spend a minute on full-year results. We reported EPS from continuing operations of $1.06, excluding the $60 million up-front payment to IDEA, which exceeded the upper end of our guidance range of $0.90 to $1 that we provided to you on our last earnings call.

Revenue grew 10%, with each business meeting or exceeding the revenue guidance we set as goals a little over a year ago. Excluding licensing and milestone payments, R&D came in at approximately 11% of sales, a level that we believe is appropriate for investing in long-term growth initiatives for the company.

Finally, if you exclude the up-front payments to IDEA that I mentioned earlier, EBITDA was $114 million and free cash flow was $45 million. We believe our 2007 annual performance was strong with robust sales growth across all lines of business as well as targeted investments in R&D and business development directed towards driving future growth.

The year was also a successful one from the standpoint of critical achievements against milestones. On slide 5, I’ll briefly update you on our progress versus the milestones we committed to for 2007 during our Investor Day held in December of 2006. We identified several clearly tangible goals, and as you scan the slide we met or exceeded all of our goals across all three businesses.

As you can see from this grid, we made great progress in 2007 on all of our growth initiatives. In the Pharmaceuticals business, we were particularly active on the business development front, in-licensing the FLECTOR Patch and FDA approved-topical NSAID patch for acute pain due to minor sprains, strains and contusions, and another topical NSAID for the treatment of chronic pain associated with osteoarthritis, ketoprofen in Transfersome gel, currently in Phase III clinical trials.

Speaking of this program, we are in discussions with the FDA regarding a special protocol assessment for the Phase III trials that IDEA will be supporting. We expect to initiate these trials during the first half of 2008.

We also received positive results from the EMBEDA Phase III clinical trial, which we expect to advance the company’s efforts to commercialize our proprietary abuse-deterrent platform. As I mentioned earlier, this program will add two additional product candidates, oxycodone and hydrocodone.

The Animal Health business reached its goal of obtaining 7 new product approvals and 20 new approvals of existing products in new geographies. The business also exceeded its target of several approvals for new indications and product combinations for existing products.

We also announced two investments in China, which are expected to provide supply chain flexibility and expand the Animal Health’s commercial base in Asia.

Two key growth initiatives in the Active Pharmaceutical Ingredients business were the increase in Vancomycin manufacturing capacity in China and the expansion of manufacturing in Copenhagen to allow for the forward integration into injectable vial dosage forms for several of our active ingredients.

Turning to slide 6, as a result of these two investments as well as building out the new product pipeline, we’ve been able to build a robust Active Pharmaceutical Ingredients business.

In order to remain competitive, however, further development of this business in a fast changing global API market would require continuing significant investments. At this point in the evolution of Alpharma we felt that strategic opportunities in the Pharmaceuticals and Animal Health business presented more attractive areas for investment.

So earlier this month we announced the divestiture of the API business to 3i, for $395 million in cash or roughly 8 times 2007 EBITDA, which is subject to final closing adjustments.

We expect net after cash proceeds of approximately $365 million, which will be used as strategic investments in the remaining businesses, as well as a potential share repurchase program which we’ll have more comments on at the close of the transaction.

Turning to the slide 7, one of the more significant milestones for Alpharma this past year was the addition of the FLECTOR Patch to our pain portfolio. Our business development team worked diligently to get this product for us and our pharmaceuticals team has worked in a very condensed period of time to put together a comprehensive launch plan which included more than doubling the size of our sales force and redirecting our selling efforts to 48,000 physicians that are likely to prescribe both KADIAN and the FLECTOR Patch.

On this slide you can see the weekly prescriptions for the FLECTOR Patch for the first five weeks since the launch on January 14. As you can see there seems to be a tremendous amount of initial interest in the product after the first month, very much in line with our market research that was done pre-launch and we are cautiously optimistic that these trends will continue.

Moving to slide 8, in November we announced positive results from the Phase III trial of our abuse-deterrent extended-release opioid EMBEDA. The primary endpoint was agreed with the FDA through the special protocol assessment process and the outcome of the trial was statistically significant.

Results from this pivotal trial and the long-term safety trial indicated that adverse events associated with EMBEDA were comparable to those associated with KADIAN. These data will be part of a new drug application for EMBEDA which is on track for filing with the FDA this quarter.

Moving to slide 9, 2007 was a successful year of execution. We set some very ambitious goals designed to transform Alpharma into a diversified specialty pharmaceutical company. We delivered on our financial commitments while expanding our pharmaceuticals pipeline through business development transactions and further investment in our abuse-deterrent platform.

Our Animal Health franchise continued solid performance with record fourth quarter 2007 revenues and a third consecutive year of 20% operating margins; impressive result in this tough marketplace.

We also embarked on a program to recruit experienced talent to build the skills needed to execute on our strategy. And finally, we enhanced our capital structure with a convertible debt offering that provides the financial flexibility to reinvest in our businesses as we find compelling opportunities.

With that summary, I’ll turn the call over to Jeff Campbell to discuss our financial results in more detail.

Jeffrey S. Campbell

Thanks Dean, and good morning. We’ll go to slide 10. Before I review our financial performance, I would like to first walk you through the components of our earnings per share and bridge our reported and adjusted results.

First, starting with 2006, on a continuing operations basis, we reported EPS of $0.34 in the fourth quarter and $1.11 for the full year. Adjusting full year 2006 EPS to exclude the first quarter 2006 debt prepayment charges and also adjusting for the $7.5 million fourth quarter 2006 pension curtailment gains, EPS from continuing operations in the fourth quarter and full year of 2006 were $0.25 and $1.25 respectively.

Moving to 2007, we reported a fourth quarter diluted loss per share of $1.24 and a loss per share of $0.32 for the full year. Adjusting these amounts to exclude the $60 million up-front payment for ketoprofen in Transfersome gel, EPS in the fourth quarter and full year of 2007 were $0.13 and $1.06, respectively.

As Dean highlighted, the $1.06 of EPS for the full year exceeded the upper end of our guidance range of $0.90 to $1, reflecting stronger revenue gains; lower than anticipated fourth quarter selling, general and administrative expenses, and a favorable effective tax rate.

Moving on to slide 11, I would like to now walk you through the financial results for the quarter. Revenues were $199 million, a 17% increase over fourth quarter 2006 levels. This reflects increases across all three businesses.

Fourth quarter gross profits increased by $14.6 million or 15% due to the revenue growth. Gross profit margins were 55.1% in this year’s fourth quarter compared to 55.8% last year.

Excluding unfavorable currency effects in our API business, fourth quarter 2007 gross profit margins were 55.8%, comparable to 2006 levels. This reflects the favorability of a growing pharmaceutical franchise, offset by the effects of increasing raw material costs in our Animal Health business.

SG&A expenses increased $15.4 million to $78.7 million, due primarily to the expansion of the Pharmaceuticals sales force and related marketing expenses in preparation for last month’s launch of the FLECTOR Patch.

Excluding the $60 million up-front payment for ketoprofen in Transfersome gel, research and development spending increased $7.3 million to $24.3 million. This reflects increased investments in all three businesses to support growth initiatives with the majority attributable to our Pharmaceuticals business and spending related to EMBEDA, the first product candidate in our proprietary abuse-deterrent platform.

The comparisons of operating income and EPS between 2006 and 2007 reflect the investments in growth initiatives, partially offset by the gross profit contributions from significant revenue gains.

Turning to slide 12, we’ll now provide an overview of fourth quarter financial performance for each of our three businesses. Our Pharmaceuticals business reported a strong fourth quarter with 40% revenue growth to a record $48.2 million.

The increase was driven primarily by increased volumes and to a lesser extent favorable pricing. The increased volumes reflect both prescription growth and fourth quarter 2006 revenues that were impacted by a targeted reduction in channel inventory levels.

During the fourth quarter of 2006, channel inventories were reduced by approximately one half of a month from 2 months on hand to 1.5 months. Throughout 2007, we have operated with very consistent KADIAN wholesaler inventory levels and ended the year at slightly below our target level of 1.5 months.

Prescriptions for KADIAN grew 8% versus the fourth quarter of 2006. However, reported prescription data in 2006 included prescriptions related to a voucher program that the company discontinued. Excluding the voucher-related prescriptions, fourth quarter 2007 KADIAN prescriptions grew 11% versus the same period one year ago.

In addition, beginning in December 2007, our Pharmaceuticals business began shipping the FLECTOR Patch to the distribution channel in preparation for the January 2008 launch. All revenue associated with these shipments, approximately $3 million, was deferred at December 31, 2007, due to the lack of requisite historical data to reliably estimate net revenues.

Fourth quarter R&D spending in Pharmaceuticals increased by approximately $65 million over 2006 levels principally as a result of the October payment made in connection with the exclusive U.S. rights to ketoprofen in Transfersome gel.

The remaining increase in R&D was attributable to new product development activities. As Dean noted, the successful completion in November of our Phase III clinical program for our abuse-deterrent long-acting opioid EMBEDA was a significant milestone for the company and we continue to expect the first quarter 2008 NDA filing for this important product candidate.

Fourth quarter 2007 SG&A spending in Pharmaceuticals increased by $16 million versus the fourth of 2006, reflecting incremental cost associated with sales force expansion and marketing and related activities in preparation for the January 2008 launch of the FLECTOR Patch.

Turning to slide 13, fourth quarter revenues in our Active Pharmaceutical Ingredients business increased 19% to $48.9 million in 2007 compared to $41 million in 2006. Excluding currency effects, revenues increased 15% over 2006 levels, driven primarily by increased volumes of the business’ core products.

Operating income in the fourth quarter of 2007 amounted to $3.4 million and operating margins were 7%. Excluding the impacts of year-over-year currency changes the operating margin in 2007 was approximately 15%.

During the quarter, API made certain investment in Copenhagen plant maintenance. In addition, both SG&A and R&D costs increased in support of the business’ growth initiatives. These increased costs were partially offset by the contribution from increased revenues.

API’s operating income in 2006 included a $7.8 million curtailment gain related to a defined benefit pension plan. Excluding this gain, fourth quarter 2006 API operating margins were 14.6%.

Two key growth initiatives in the API business are the increase of Vancomycin manufacturing capacity in China and the expansion of manufacturing in Copenhagen to allow for the forward integration into injectable vial product dosage forms of several active ingredients. Both of these initiatives continued as planned in the fourth quarter.

Let’s move on to slide 14, and the fourth quarter results in our Animal Health business. For the first time Animal Health recorded quarterly revenues in excess of $100 million. Revenues of $102 million increased 8% over prior year levels and the sales gains were realized in most regions and market segments.

You may recall from our third quarter call in October that we were expecting a robust fourth quarter, particularly in our U.S. livestock business. The traditional second half seasonal movement of livestock was earlier in 2006 than 2007, principally due a lot drier conditions last year.

As a result, we experienced more favorable fourth quarter livestock revenues in 2007, as we anticipated. We also experienced solid revenue gains in our U.S. Poultry business as well as in Europe and Latin America. In addition, the year-over-year effects of currency favorably impacted fourth quarter revenues by approximately $2.6 million.

Despite higher input costs, which continue to be a challenge and increased R&D investments supporting new product initiatives, fourth quarter Animal Health margins remained strong at just below 20%.

Operating income in the fourth quarter was $20 million, consistent with the prior year. This business has been a consistently strong performer for Alpharma over the past three years, with operating margins at or near the 20% level.

Let’s turn now to our cash measures on slide 15. We’ve presented these excluding the $60 million up-front payment related to ketoprofen in Transfersome gel. Free cash flow representing our operating cash flow less capital expenditures amounted to $22 million in the fourth quarter and $45 million for the full year.

In addition, our cash earnings continue to be strong. We generated $19 million of EBITDA on the quarter and $114 million for the full year.

Turning to slide 16, we’ve provided certain other financial data. Our cash on hand at the end of 2007 was $302.8 million. Debt totaled $311 million, of which $300 million relates to our convertible senior notes issued in March 2007.

The remaining $11 million principally relates to outstanding borrowings under our Chinese credit facility. Including amortization of restricted stock, depreciation and amortization totaled $53.8 million and $48.2 million for 2007 and 2006 respectively. Our API business accounted for approximately $16 million of this D&A.

Capital expenditures were $60.5 million in 2007 versus $36.2 million in 2006. The 2007 amount includes approximately $41 million of API capital expenditures, where significant investments were made in 2007 for the expansion of our Vancomycin manufacturing capacity in China and for expanded manufacturing in Copenhagen to facilitate our forward integration initiatives.

Slide 17 sets forth our financial scorecard for 2007. Again, we have presented this scorecard excluding the $60 million up-front payment for ketoprofen in Transfersome gel. In our Pharmaceuticals business, revenues grew 21%, exceeding our outlook range of 15% to 20%.

R&D spending increased approximately $29 million compared to our $32 to $37 million outlook. The most important thing to note here is that we completed our Phase III clinical trials for EMBEDA successfully and on time and are on track for an NDA filing this quarter.

As far as SG&A spending, it was up $28 million year-over-year in our Pharmaceuticals business as compared to our initial outlook of $10 to $15 million of increased spending. The difference, of course, reflects our fourth quarter investments to double the size of our sales force and to begin promoting the FLECTOR Patch in preparation for our January launch.

As far as wholesaler inventories, we maintained them in a very tight band throughout the year, consistent with our target of 1.5 months on hand. In our API business, we exceeded our 8% to 10% revenue growth target in 2007 in absolute terms and we’re right in the middle of it at 9% on a constant currency basis. Excluding the unfavorable year-over-year effects of currency, API’s operating margins were 24% as compared to an outlook of 26% to 28%.

In our Animal Health business, we achieved revenue growth of 6% in 2007 versus our 6% to 8% outlook. Since 2003, this business has grown revenues at a compound annual rate of 7%. Margins continue to be a terrific story in our Animal Health business despite increased cost pressures. Once again the business achieved its target and reported full year operating margins of approximately 20%.

As far as corporate and unallocated expenses, we achieved reductions of approximately $12 million from 2006 levels achieving the higher end of our target range of $10 to $12 million in reductions.

And finally, as we noted earlier, our full year EPS of a $1.06 exceeded our latest outlook range of $0.90 to a $1.00. All in all we are very pleased with our 2007 financial performance as we met or exceeded the majority of our guidance estimates.

I will wrap up on slide 18, with a few comments on 2008. In connection with the company’s recent announcement of the sale of its API business, we will report API as a discontinued operation beginning in 2008 and we will record a gain upon the transaction’s closing.

The preliminary 2008 financial outlook we communicated in December will be revised to reflect only the continuing operations of the company. We expect to provide this updated 2008 outlook at or about the time of the transaction’s closing.

That concludes my comments and I will now turn the call back over to Dean.

Dean J. Mitchell

Thanks Jeff. Turning to our last slide, slide 19. As we enter 2008 we have significant market opportunities in front of us. We are making substantial but very targeted investments to drive those opportunities that we think will provide sustainable growth over multiple years.

We are maintaining rigorous cost discipline and focus on expense management to drive return from these investments. We have a strong financial position which means we can continue to look at further opportunities to grow our business, should we of course find the right opportunities.

And finally, we will continue to focus on our capital structure and our portfolio to make sure we have the optimum mix of opportunities to build long-term shareholder return based on a sustainable business model.

Overall, we believe we’ve developed a great foundation for value creation over the next several years and that our performance in 2007 should generate a good deal of confidence that our strategy to transform Alpharma is on the right track.

Thank you for your attention, and now I will turn it back to the operator and we will address your questions.

Question-and-Answer Session


(Operator Instructions). Our first question today comes from Greg Gilbert - Merrill Lynch.

Greg Gilbert - Merrill Lynch

I have a couple. First some housekeep stuff for Jeff. I was hoping you could provide actuals or estimates for gross margin for API for the fourth quarter and the full year and perhaps the same for allocation of eliminations in Other to API for 4Q and full year.

Secondly, for Dean, can you provide some color on the FLECTOR stocking at both the wholesaler and retailer levels and to what extent you’re already getting reorders?

Jeffrey Campbell

I’ll take your question maybe in reverse order. As far as corporate and unallocated expenses, Greg, we basically run the business as a portfolio of three businesses so they are just that, corporate and unallocated expenses. And of course we’ll provide more insight into our view on those for 2008 when we give our guidance call.

And as far as gross profit margins, when we report in 2008 on a discontinued operations basis you’ll of course get a better line of sight as to the gross profit of the company for our Pharmaceuticals and Animal Health businesses together.

We’ve traditionally reported three operating margins and haven’t broken gross profit margins out separately by business. I’d ask you to wait till we recast the discontinued operations and I think you’ll have a better line of sight to that then.

Greg Gilbert - Merrill Lynch

Maybe I could ask it in a different way. The operating margin of the Animal Health business obviously fluctuates based on seasonality. Is there any reason to think that the gross margin does not fluctuate in a similar manner relative to operating margin for Animal Health?

Jeffrey Campbell

I think the seasonality of Animal Health which is basically a second half, U.S. livestock being more robust in first half. Other than that Animal Health isn’t very seasonal at all, and I think their variable contribution holds true throughout the year. So it would just follow the natural seasonality of the business in that regard, Greg.

Greg Gilbert - Merrill Lynch


Dean Mitchell

Greg just to answer your question on the FLECTOR Patch. We had a very comprehensive distribution program ahead of the launch early in January. We had approximately over 50% of pharmacies stocked at the launch period which was about 18,000 pharmacies. A number of those were on auto-shipment programs, so we’ve actually had a fair amount of reordering both from major chains and smaller pharmacies. So we are pretty encouraged by that so far.

Greg Gilbert - Merrill Lynch

And one more quick one before I get back in line. Dean, it looks like FLECTOR is already annualizing north of your 2008 guidance. So my question is if FLECTOR continues to outperform, what are the R&D and/or SG&A programs that may benefit from more investment, and how committed are you to making sure such investment results in earnings leverage in some predictable timeframe? Thank you.

Dean Mitchell

I think it’s a good question, Greg, and we are obviously looking at week-by-week performance. We are not getting carried away with what we’ve seen so far; it’s only five weeks. But by the time we give updated guidance at the close of API, I think we’ll probably be in a position to give you some sense of what we’re thinking about in terms of FLECTOR’s run rates and more importantly what we’re thinking about in terms of any upside that comes from that.


Our next question comes from James Kelly - Goldman Sachs.

James Kelly - Goldman Sachs

Just starting off on SG&A. How fully loaded was the SG&A cost for the new sales force adds inside the fourth quarter, so we can think a little bit about a run rate going into the first quarter of 2008?

And then also on the SPA, could you talk a little bit about your comfort and any early pre-NDA dialogues that you have with that? SPAs are very important though we have also seen them go against a couple of companies. I want to get a sense of your comfort with that and how specifically it ends up dealing with missing data in a last observation carried forward basis or how that compares to where the FDA’s headed these days?

Jeffrey Campbell

Jim, as far as the SG&A as being fully loaded, I think the way to think about it is that we commenced our program to ramp up the sales force really beginning of the fourth quarter and by the time we ended the fourth quarter had the rolls completed. We kicked off the launch for the FLECTOR Patch on the 7th of January with a national meeting and so the sales force was all on board.

Of course, you have to think about that on a pro rata basis throughout the fourth quarter as we were hiring those individuals through the fourth quarter, but as we turn the clock to the 1st of January of 2008 we essentially had the team on board.

Dean Mitchell

And then the only one thing I’ll just add to that, Jim, is we also had all the recruiting costs built into the fourth quarter. It’s a fairly substantial one-time cost associated with doubling the size of the sales team.

So the impact of the EMBEDA NDA, clearly we’ve had pre-NDA discussions with the agency and there is nothing to indicate there is any lack of commitment to the SPA commitments that we negotiated a year and a half ago. No indications of anything that should cause us any concern.

But again, FDA is always slightly unpredictable, so it will only be once they get the NDA in their hands and start reviewing the data, we’ll see what the questions actually are.

In terms of the analysis, we went through that fairly rigorously at our Investor Day back in December. And I’ll just make a general comment that we used a pretty conservative data imputation technique, which was absolutely in line with current thinking at FDA and again no reason to believe that’s changed since we agreed that biostats analysis within the SPA. I hope that gives you enough information, Jim.

James Kelly - Goldman Sachs

Yes. Thank you very much.


Your next question comes from Elliot Wilbur - Oppenheimer.

Elliot Wilbur - Oppenheimer

I just want to ask a single question around the strong initial uptake for FLECTOR. I understand it’s very early, maybe even too early to answer this question but do you have a sense in terms of the uptake, what the source of patients are, meaning are these primarily new to therapy patients or are these primarily oral NSAIDs switches, or is it possible that you are also seeing some LIDODERM switches?

Dean Mitchell

Great question, Elliot. You are exactly right. It is a little early to have any sense of that, but what we are hearing qualitatively from our sales force and from field visits out in conjunction with our sales reps is essentially in line with the market research, as I said during my comments.

So we are drawing patients from largely patients who are currently treated with NSAIDs, Cox-2s, a little bit from physicians who are patch supporters, so there is a little bit coming from LIDODERM. But it’s much too early to tell where the bulk of the business is coming from.

Still the prescriptions are relatively small compared with total market opportunity. So from our point of view, it will probably take about three months of real in-market experience to get any sense of source of business.

Elliot Wilbur - Oppenheimer

Okay; fair enough. And then just so I am clear in terms of the updated outlook with respect to 2008, I understand that you’re not going to provide that until the API transaction closes, which I think is still on track for second quarter.

But my question is, are we going to see first-quarter results from you prior to the close of that transaction and if so, would API be reported as a discontinued op in the first quarter even though we wouldn’t have necessarily an updated outlook from you with respect to 2008?

Jeffrey Campbell

Elliot, the API business will be reported as a discontinued operation beginning in 2008 regardless of the timing of the transaction close.

Elliot Wilbur - Oppenheimer


Jeffrey Campbell

So we would report our first quarter with it as a discontinued operations and we said at or about the time of transaction closing. Should that transaction not close by that time, we’d evaluate what we do in connection with the first-quarter announcement.

Elliot Wilbur - Oppenheimer

Okay and then as follow-up there Jeff. Outside of deciding for ourselves what you may do with the cash proceeds of the transaction, what would we be missing by simply extrapolating perhaps 2007 operating income performance in that segment to your 2008 revenue guidance and perhaps backing that out of our models?

I am trying to figure out if there is any other cost elements in the P&L or something that we’d be missing if we were just to do that simple exercise?

Jeffrey Campbell

We provide guidance in December of 2007 for 2008. We’re not updating those factors now. We principally run the businesses as independent reporting segments, and as you say, API is just that. So certainly from an historical prospective you have good line of sight based on our reporting today and we will file our 10-K very shortly so you’ll have a good line of sight as to API’s performance.

I would use the historical API reporting segment as a good proxy. Recognize that as I said earlier the corporate unallocated line is just that: it’s unallocated expenses that broadly go across to support a public company and a portfolio of business and use that as a starting point.

Dean Mitchell

And I think Jeff was also quite helpful giving you a little bit of specific guidance on API D&A and capital expenditure in 2007. So I think you can also begin to use that to help with your modeling.


Our next question comes from Frank Pinkerton - Banc of America Securities.

Frank Pinkerton - Banc of America Securities

First question: can you give a little color and an update on the efforts to lower sourcing cost in your Animal Health business, particularly the two investments in China and what we can expect out of potentially getting some lower sourcing cost there going forward?

Dean Mitchell

Good question, Frank. The challenge obviously in the Animal Health business is that we have an input cost which is a little bit challenging this year. We’ve seen increases in soy and corn and energy but we also have a team which is very dedicated to continuing productivity.

We view the Chinese efforts as being just part of an ongoing long-term productivity improvement program. So I wouldn’t expect to see anything significant specifically designated by the Chinese acquisitions but they will be part of that broader supply chain management approach.

The goal that the team is thinking about, the Animal Health team, is to try and balance the productivity gains with the input costs to try and keep them at the very positive 20% operating income margin levels they have had for multiple years. And, again I have confidence in the experience and prior results of that team that they are resourceful enough to be able to find a way to do that.

Frank Pinkerton - Banc of America Securities

And, you did mention pricing increases in that answer; is there a possibility to push some of these higher input costs through or is pricing difficult to come by?

Dean Mitchell

We are working with all of our customers to see what potential there is for passing some of the increased costs on and I think many of you are aware there is a lot of cost inflation in the whole food production chain and we expect to be able to pass at least some of those increased costs on to our customers.

Frank Pinkerton - Banc of America Securities

Okay, great. And then just as a secondary question, you mentioned both the abuse-deterrent oxycodone and hydrocodone, can you just give us an update longer-term where you are with those projects? Can you give us maybe in several out years, when we would expect those to be entering Phase III or filings or any other targets you have set there? Thank you.

Dean Mitchell

Frank, the update that we gave at the Investor Day in December still stands so we’re looking at taking the oxycodone product into Phase III development before the end of this year. Probably fourth quarter will be when we start that program which will take us, if I remember the exact dates, to a target launch date of 2011 for the oxycodone product.

And then ALO-04 which is a hydrocodone obviously is still at an earlier stage of development during this year, but we’re looking at potentially a 2012 launch; it’s about a year behind where we are with oxycodone.


Our next question comes from Ken Trbovich - RBC Capital.

Ken Trbovich - RBC Capital

First, Dean, to go back to your comment earlier about the pharmacy stocking, could you give us an update on where pharmacy stocking is now post-launch?

Dean Mitchell

That’s a good question, Ken. I don’t have that at my fingertips. I am not even sure quite how we’d measure that. Perhaps, we can follow that one up offline and we will see if we can get you a bit of extra information on that.

Ken Trbovich - RBC Capital

Sure. And then just out of curiosity, I know it’s early but any sense around whether or not the sampling strategy that was used at launch is going to be continued or expanded?

Dean Mitchell

Again, another good question. We have been very targeted with our sampling and we are really trying to tie the use of samples to patient generation and that seems to be working pretty well.

We have a lot of examples of physicians providing a single sample which is two patches and a prescription, so patients having the chance to try the patch for a day and then still be able to fill their prescription, which with an acute product like this we felt was important.

That seems to be working. The sampling level seems to be about right and we are constantly monitoring if we have enough samples out there given the high level of physician interest. So it’s one of those things that we certainly expect to be an important part of the ongoing promotional mix for the product and the levels seem about right but we are continually monitoring.

Ken Trbovich - RBC Capital

And then just with regard to the current run rate. I know obviously it’s very early in the launch and you aren’t updating guidance, but from our figures we think that the baseline is perhaps in the $40 to $50 million range for FLECTOR. Is there anything about the product or the lifecycle of the product that gives you pause around us using that as a baseline for the product sales going forward?

Dean Mitchell

Ken, we’re not updating guidance, as you said, and I think that’s obvious. We’re constantly looking at both the qualitative and quantitative feedback we’re getting from the market. And I can assure you we’re as keenly interested as you are in making sure we have our supply chain completely covered and that we’re providing the appropriate guidance.

As soon as we have a good feel for that we’ll definitely update it. Nothing that’s surprised us though in terms of feedback compared with our market research. So again, it’s very consistent with the market research that we started before we even in-licensed the product. So in a way it’s pretty encouraging that the market research was a good predictor of how physicians would actually react.

Ken Trbovich - RBC Capital

Okay, and then just with regard to the follow-up on the ketoprofen in Transfersome gel development, is there a timeline for the duration of studies and given the early success of FLECTOR, is there any way that you perhaps can provide inducements to your partner to make certain that enrollment in those trials proceeds as planned?

Dean Mitchell

Again, let me try and address what we are doing and then see if I get to what you are interested in, Ken. We remain on track with our negotiations with the agency around the SPA. We’ve had a couple of rounds of SPA discussion, which is typical for a complex product like this.

I think once we complete that activity then we’ll be able to update you on how exactly we’ll be running the clinical program, but we still expect that IDEA will be starting their clinical trials in the second quarter, or certainly during the first half. No real change there.

In terms of encouraging the partner, IDEA have been very collaborative and it’s in our mutual interest for them to run the clinical trials as expeditiously as possible and they’ve been nothing but positive and supportive. So, I think the deal structure that we have which has a lot of back-end incentives for them provides all the right incentives economically for them.

Ken Trbovich - RBC Capital

Okay and then final question, actually for Jeff. Could you break down the annual EBITDA by division?

Jeffrey Campbell

Sure. Order of magnitude, let me just do it broad based for you, Ken, the EBITDA for the Animal Health business is just over $90 million. The EBITDA for the API business is right about $50 million. The EBITDA for the Pharmaceuticals business excluding the $60 million payment for ketoprofen in Transfersome gel is a little under $10 million, I think about $7 million and then at the corporate unallocated level the EBITDA is roughly $35 million negative.


Our next question comes from Ian Sanderson - Cowen and Company.

Ian Sanderson - Cowen and Company

First on FLECTOR Patch, can you provide an update on discussions with formularies on reimbursement and what the response has been to-date and whether there is any couponing going on?

And then the second question is on the Animal Health side, what are the attractive strategic opportunities for Animal Health that you alluded to in the presentation?

Dean Mitchell

Great questions Ian. We’ve continued to have good discussions with managed care organizations and we are right in the stage now where there are a lot of detailed formulary assessments happening. The P&T Committees are meeting which is pretty typical after a product’s been out for a month or two.

We are not hearing anything which is surprising or different again to the work that we did during our pre-launch research with payers and their providers. I think we are in detailed discussions around contracting on the commercial side. We’ve got better access than we expected, particularly to Medicaid formularies, and that continues to go well, pretty well right across the country.

Not surprising, we are seeing a couple of plans starting to put a couple of barriers in place, which is absolutely typical with a new product like this. I think we have a couple of plans who have put limits to the number of patches and a couple of plans who have put prior authorizations in place but no significant plans who are absolutely blocking the product at all.

And in terms of couponing, we’ve literally just this month started our couponing program. And again, if you remember back to the strategy at launch time, it was really to make sure the coupons were targeted at patients who are getting Tier 3 reimbursement to try and reduce their payments down to roughly Tier 2 type payments.

All the research that we did with both physicians and patients would suggest that Tier 3 really wouldn’t be much of a barrier but we just want to make sure that there is no economic reason for patients to make a choice not to go with the FLECTOR Patch, so very early days with that.

Ian Sanderson - Cowen and Company

Is it possible to roughly give a percentage of patients or scripts to which the couponing is being applied?

Dean Mitchell

Way, way too early, Ian. We’ve literally just started the program. We are also making it available through the website that we have, so it will be accessed directly through the internet. So it is going to be several months before we actually get to have any assessment of that.

As usual with these couponing programs, we will be looking at them very rigorously to evaluate return on investments and deciding if it’s the sort of thing we want to expand or reduce.

Then you also asked, Ian, about Animal Health. You know the nice thing about the Animal Health business is we continue to have a strong number two market share position in this business and there are quite a few opportunities for products which are complementary to the medicated feed-additives that we have, particularly in the cattle and poultry area.

We are looking at in-licensing opportunities, potentially small acquisitions. We are also looking at companies who could help us expand our geographic focus. And there are just tremendous growth opportunities in Latin America and the Far East and targeted acquisitions would make a lot of sense in both of those regions. So it’s all about using our very efficient global reach to be able to commercialize additional products.


Our next question comes from Kevin Kedra - Gabelli.

Kevin Kedra - Gabelli

A couple of questions on FLECTOR. First with the new alignment in the sales force, can you tell us what impact you are seeing on KADIAN either quantitatively or qualitatively?

Also if FLECTOR continues to perform as well as it is, do your foresee possibly increasing your sales force or having a significant increase going into the EMBEDA launch so you can have a similar uptake for EMBEDA but keep FLECTOR growing at the rate that it has being going?

Dean Mitchell

Thanks Kevin, good strategic questions. On the first one the good news is we’ve doubled our sales force, which has given us the opportunity to expand our reach for KADIAN. We are getting a lot of two product calls, so that’s the good news.

But obviously with about almost two-thirds of our sales force being new and a lot of excitement around the FLECTOR Patch launch we are having to work at making sure the sales force is adequately trained in the more complicated area of dealing with opioids and moderate to severe pain. So that continues to be an opportunity for us to improve our sales force ability, not surprising at this stage of the launch.

In terms of sales force size, we deliberately sized the sales force to be adequately sized for both EMBEDA and FLECTOR Patch but we’re going to be constantly assessing that as we go through the first few months of the launch but certainly we have no plans as we’re thinking about the business today in terms of expanding the sales force further.

The one other element that we are continuing to watch very closely is the contract sales force. If you remember we added Vantive to expand our reach to two additional deciles of prescribers.

We are essentially prescribers for FLECTOR Patch but not KADIAN, so we felt that it was a much more efficient way to reach those two deciles and we will be monitoring the performance of that effort and deciding to dial it up or down based on performance as we go through the year.

Now, what was your second question?

Kevin Kedra - Gabelli

No, I think you answered.

Dean Mitchell

Got it, okay. Great thanks, Kevin.

Kevin Kedra - Gabelli

Thank you.


Our next question comes from (inaudible)

Unidentified Analyst

I too like the others have a question about FLECTOR Patch. I believe your deal closed third quarter or beginning of fourth quarter of 2007. I noticed in the deal with IBSA that you combined FLECTOR with tyrosine to the deal for $100-million valuation. Can you share what the relative valuation was of FLECTOR in that bundled deal with IBSA?

Jeffrey Campbell

Peter, we have as you know have launched the FLECTOR Patch now and I think it’s suffice to say the way to think about it is the majority of the value of the transaction has been ascribed to the FLECTOR Patch.

Unidentified Analyst

Okay, no specific percentage. Okay; thank you very much.


Our next question comes from Gregg Gilbert - Merrill Lynch.

Gregg Gilbert - Merrill Lynch

First, Jeff, what’s a good gross margin to assume for FLECTOR? I am not sure if you have shared that publicly or if you care to, but it could help.

Dean Mitchell

Let me give a response to that one. I think we have been reasonably reticent to give specific product-level margins. Obviously it’s not something we want to be committed to going forward. However, we have also said that it’s not unreasonable that with this being a patch product and an in-license product, a typical product in this area would be mid-60s in terms of gross margin. That would be fairly normal industry standard and it’s not unreasonable to consider that for FLECTOR Patch.

Gregg Gilbert - Merrill Lynch

Okay, and then just a quick follow-up on Animal Health from a different angle, Dean, is it safe to say that you expect to retain and grow the Animal Health business as opposed to exploring options in both directions at least for the near to mid-term?

Dean Mitchell

Yes, we think the Animal Health business is a very attractive business. It’s performed extremely well. We see good growth opportunities there to even accelerate the 7% compound growth they’ve had over the last several years, and, we very much like the model of having the two businesses.


Next question comes from Frank Pinkerton - Banc of America Securities.

Frank Pinkerton - Banc of America Securities

Just on the FLECTOR Patch, and I know this is one where we went through a theoretical pricing calculation back at the Investor Day, but as you look forward at things such as couponing and rebating and other things going on out there, when we are looking at prescription data, what kind of a discount off the theoretical price should we think of when we get to steady state for all of the other things going on with that product?

Dean Mitchell

Frank, that’s one where we’d need a crystal ball. And it’s the difficulty of trying to give gross-to-net guidance on a product that’s just been launched. It’s difficult whilst we’re right in the middle of negotiations with managed care organizations, and we really don’t know what the run rate of couponing is going to be, what the returns might be.

So there are a whole number of variables which probably won’t shake out until we’ve been in the market for about six months or so. Again, what we’ve said generally, though, is it’s not unreasonable to think about this in typical terms as being 20% to 25% gross-to-net discount. That would be normal for a product in our industry with this sort of profile. That’s probably not a bad working assumption. That’s definitely due to be updated as we get real-life experience.

The one other thing I will just add to that is as we’ve had the first five weeks of prescriptions, we have average prescription size which is running at about 45, 46 patches. So that again may help you with some of your modeling.

Frank Pinkerton - Banc of America Securities

Great. And then just a follow-up, as I watched Alpharma here over the last couple of years and the transformation that has gone on, it’s almost like a different company. But again with the potential selling of the API business you would free up more capital.

Should we expect another flurry of deals in late 2008 and 2009 that again increase the pharmaceutical franchise like we saw with the last round of capital being freed up? What is the prospects for the continued changing landscape for Alpharma here? Thank you.

Dean Mitchell

That’s a very good forward-looking question, Frank. I think since we launched our strategy for the new Alpharma as you describe it, we said that we would be very active on the business development side and we’ve been true to that commitment during 2007.

We continue to look at opportunities to build our portfolio and strengthen our presence in the pain space. We think it’s a very attractive market, continues to have good opportunities out there but we are only going to do good deals.

I think we’ve done some good transactions so far and if we can find other things which help add value to our business and add value to our shareholders we will do deals in that space.

I would like us to find opportunities in the Animal Health area. We’ve said that we’d like to find opportunities which allow us to very efficiently build that business and as I say we’re encouraged that there are potentially deals out there as well.

But again the Animal Health deals will probably have a slightly different profile than the Pharmaceuticals deals and they will tend to be shorter-term return focused rather than perhaps the longer-term dilution effect of some of the pharma deals.

So, we are continuing to evaluate opportunities. We are continuing to look at ways of building that long-term value for our shareholders.


Our next question comes from Lei Huang - Summer Street Research.

Lei Huang - Summer Street Research

Coming back to your comment about the average number of patches per prescription around the mid 40s, again I realize it’s still pretty early, but can you give us a sense of what’s driving that, I would say, above expectations average prescription size? Is it longer duration of use more, is it multiple patches being used on average or is it a combination of different things?

Dean Mitchell

It’s again very early to be able to give an answer to that, Lei. But I hope I am not being too simplistic about this but I think the one way to think about it is that the patches come in boxes of 30 and the 45, 46 reflects that roughly half of the prescriptions are being written with one box and half, two boxes.

If you remember 30 patches gives two weeks of treatment; two boxes would give a month. So, it’s probably not unreasonable to think that acute treatment is being interpreted as either two weeks or four weeks by physicians and obviously as we get more data on that we will be able to share with you on future calls.

Lei Huang - Summer Street Research

Great. And then just a quick second question, I know you are not updating your guidance but from everything you said about the FLECTOR launch it sounds like everything is going on plan as far as physician feedback, managed care discussions, stocking acceptance, et cetera.

But it seems like the prescription run rate, at least up to this point, is ahead of expectation. So can you maybe talk about those two in terms of other factors being in line with expectations that maybe the prescriptions being ahead of expectations and how to match those two up?

Dean Mitchell

No, it’s not a matter of matching it up, I think your assessment was absolutely right. All the factors are looking positive. But in terms of prescriptions, we literally have five weeks of weekly data and it’s just very early to be able to project that yet.

We are only just starting to get patients who’ve had their first prescription going back and giving feedback to their doctors and a lot of the long-term potential of the product will be based on how effective it’s deemed to be by patients who get scripts. So it’s just a matter of wanting to be a little bit prudent about not getting carried away with the first five weeks of prescription data.


(Operator Instructions). We have no further questions today.

John J. Howarth

Thank you Jane. A replay of today’s call will be available after noon today and may be accessed on the internet at or by telephone using the following information: In U.S. dial in at 877-919-4059; international dialing is 334-323-7226, and the participant code is 83509638. As always, if you have any follow-up questions, please give us a call. Thanks again for participating.

Dean J. Mitchell

Thanks everyone.


This concludes today’s presentation. You may now disconnect your lines.

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