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Cubist Pharmaceuticals (NASDAQ:CBST)

Q2 2012 Earnings Call

July 19, 2012 5:00 pm ET

Executives

Eileen C. McIntyre - Senior Director of Investor Relations

Michael W. Bonney - Chief Executive Officer and Director

David W. J. McGirr - Chief Financial Officer, Principal Accounting Officer and Senior Vice President

Robert J. Perez - President and Chief Operating Officer

Steven C. Gilman - Chief Scientific Officer and Executive Vice President of Research & Development

Gregory Stea - Senior Vice President of Commercial Operations

Analysts

Mario V. Corso - Caris & Company, Inc., Research Division

Thomas J. Russo - Robert W. Baird & Co. Incorporated, Research Division

Eun K. Yang - Jefferies & Company, Inc., Research Division

Steve Byrne - BofA Merrill Lynch, Research Division

Alan Carr - Needham & Company, LLC, Research Division

Adnan S. Butt - RBC Capital Markets, LLC, Research Division

James F. Molloy - ThinkEquity LLC, Research Division

Howard Liang - Leerink Swann LLC, Research Division

Stephen Willey - Stifel, Nicolaus & Co., Inc., Research Division

Operator

Good day. My name is Nikki, and I will be your events specialist today. At this time, I would like to welcome everyone to the Cubist Pharmaceuticals Second Quarter Earnings Call. [Operator Instructions] At this time, I would like to turn today's program over to Eileen McIntyre. Eileen, you may begin.

Eileen C. McIntyre

Good afternoon, and thank you for joining us for our review of Second Quarter 2012 Business Performance and Financial Results of Cubist Pharmaceuticals. Before introducing our speakers, I will read the safe harbor statement and describe the context for use of non-GAAP financial measures.

Today's presentation includes forward-looking statements relating to our business, including those set forth on this slide. We may also make forward looking statements during the Q&A session following our prepared remarks. These statements are neither promises nor guarantees and there are a number of risks and uncertainties that could cause actual results to differ materially from those set forth in these forward-looking statements.

These and other risk factors are described in the slide shown and to the Risk Factors section of our most recent quarterly report on Form 10-Q, filed with the SEC. Forward-looking statements are made as of today's date, and we do not undertake any obligation to update any forward-looking statement.

We will also refer to certain non-GAAP financial measures that involve adjustments to GAAP figures in order to provide greater transparency regarding Cubist's operating performance. Please refer to the slide being shown regarding our use of non-GAAP financial measures, as well as additional slides on the Investor Relations page of our website, which contains the reconciliation between our non-GAAP financial measures and GAAP financial measures.

Speakers on today's call will include Cubist's CEO, Mike Bonney; President and Chief Operating Officer, Rob Perez; Chief Scientific Officer, Steve Gilman; and Chief Financial Officer, David McGirr. You will first hear from Mike Bonney. Mike?

Michael W. Bonney

Thanks, Eileen. Before providing an overview of our financial results for the quarter, I wanted to comment on some important goals we shared with you last month.

On our June 11th Investor Day, we announced our 5-year targets for top and bottom line growth, with revenue expectations of $2 billion and non-GAAP adjusted operating income of $700 million in 2017. We also set forth goals for maintaining a robust late-stage pipeline, expecting to have 4 products in late-stage clinical trials at year-end 2017.

These goals, which we referred to as our building blocks of growth are aspirational, but we do think they're achievable. And they provide a useful framework for our strategic and tactical decision-making in the months and years ahead. We also think it's helpful as we continue to build a channel-focused acute care company to share with you our vision of what Cubist can become.

Now turning to the financial results we announced earlier. As you've seen in today's news release, Cubist has delivered strong results from the top and bottom line in the second quarter of 2012. In a year focused on execution, we continue to see important progress against key goals for the year.

Our total revenues for Q2 2012 were $231 million, this is our second consecutive quarter with year-over-year top line growth of 30%. Operating income for the quarter is $61.5 million. This is an $86 million positive swing year-over-year, which reflects the impact of $82 million of contingent consideration expense on GAAP operating income in the year ago quarter.

On the top line, there are multiple contributors to our strong results this quarter. CUBICIN momentum in the U.S. continues to be the most important contributor to our top line growth. Q2 net revenues in the U.S. grew 19% versus a year ago, resulting in our first $200 million quarter in the U.S. for CUBICIN.

CUBICIN international revenues from our x U.S. partners in Q2 totaled $11.4 million, up 47% versus Q2 a year ago. I'm pleased with the uptick we have seen in international results through the first half of 2012.

ENTEREG results also contributed to our top line in Q2. In our second quarter of commercializing this product, which we brought in with the acquisition of Adolor late last year, we achieved just under $10 million in net revenues.

As we begin Q3, we are, as planned, increasing our call universe for ENTEREG to a significantly larger percentage of the hospitals for clinical business managers call-on in the U.S.

As Rob will discuss, an important component of this expansion will be some adjustments we are making to incorporate key learnings in the first 6 months of the relaunch.

And finally, as part of the service revenues from Optimer for the co-promote of DIFICID, in Q2, we recorded a $5 million bonus based on achieving the revenue target for the first year since the launch of DIFICID in the U.S. This brings service revenues for the quarter at $8.7 million.

Q2 has also been an important quarter for our late-stage clinical pipeline. You'll hear from Steve about how we are navigating some challenges associated with conducting large global trials, but we've continued to make good progress with our ongoing and planned Phase III trials for ceftolozane, tazobactam, for CB-315 and for CB-5945.

An important transaction impacting the Cubist balance sheet in Q2 was our individually negotiated repurchases during June of approximately $75 million of $109 million in outstanding convertible notes due to mature in 2013. We determined that it was attractive to retire a portion of these notes at this time, leveraging our strong cash position.

This action impacts our 2012 guidance for cash, cash equivalents and investments, as well as reducing our debt balance.

Now David will discuss the financial highlights of the quarter and provide a few updates to our 2012 guidance.

David W. J. McGirr

Thanks, Mike. Overall, a good quarter, very good to see the continued momentum for CUBICIN, both in the U.S. and internationally. CUBICIN U.S. net revenues for the first 6 months of this year are up 19% versus the first half of 2011. International CUBICIN revenues received by Cubist for the first half of this year are up 50% versus the first half of 2011.

The first 6 months of revenues for ENTEREG this year are up 22% compared with Adolor's product revenues in the first half of last year when ENTEREG was co-promoted by Adolor and GSK.

As Mike mentioned, in Q2, we recorded the $5 million bonus revenue from Optimer with the achievement of target revenue for DIFICID for the first year sales period. The first year sales period ends on July 31, but as the second quarter closed, we had sufficient confidence that target revenues were achieved to book this performance bonus.

We are eligible to earn additional revenues based on the agreed split of Optimer's gross profits on the net revenues of DIFICID above the prespecified 1-year revenue target. We expect to have clarity on this by the time we report Q3 results.

Gross margins for the quarter reflect a problem encountered in the API purification process for CUBICIN. This was a single event, which was identified and is now fully resolved.

The extra costs incurred due to some scrap product are completely reflected in the cost of goods sold for Q2.

As a reminder, our guidance for GAAP gross margins this year already reflected the amortization of ENTEREG assets to COGS, which resulted in lower margins versus 2011.

Operating costs excluding cost of goods sold came in lower than our internal expectations for the quarter. While this is largely a timing issue, we do expect that it will reduce our planned R&D spend for the full year. And you'll see this when I take you through the updated guidance. SG&A continues to track to plan.

GAAP operating income of $61.5 million in Q2 2012 is up $85.7 million versus Q2 2011 as the year-ago quarter included $82 million of contingent consideration expense, which resulted in a loss.

For the first 6 months of 2012, GAAP operating income is up $101 million versus the first half of last year, which also reflects the 2011 contingent consideration expense.

Book tax is at a rate of 14.2% this quarter and 25.3% for the first 6 months of the year. This is lower than originally budgeted.

We now have certainty regarding our manufacturing status in Massachusetts, which resulted in a onetime tax benefit to tax expense in Q2 of approximately $11 million.

A couple of key items to note regarding our non-GAAP results. Note the adjustment in non-GAAP net income associated with our convertible debt buybacks this quarter, the amount of $3.7 million shown reflects the accounting around the extinguishment of debt.

The other item to note for Q2 is the adjustment for the manufacturing tax benefit. In June of this year, we received a ruling from the Massachusetts Department of Revenue Office of Appeals that classified Cubist as a manufacturer after 2006. This resulted in a discrete benefit of approximately $11 million in Q2, which is a catch-up since 2006.

We remove this amount from the non-GAAP pro forma net income because it is a onetime P&L benefit and is noncash in this period. However, in future quarters, it will become a cash benefit.

While we're discussing tax, let's update you on the estimate for the effective tax rate for all of 2012. We are now forecasting a book tax rate of around 31% and a cash tax rate of around 26%.

Non-GAAP diluted EPS of $0.68 for Q2 2012 is up 28% from Q2 2011. The 6-month non-GAAP EPS of $1.50 is up 39% from the 6-month period in 2011.

Table 3 in today's press release is the reference for the following comments: Non-GAAP adjusted operating income of $71.1 million in Q2 is up 23% from $57.7 million in Q2 of 2011. For the first 6 months of this year, non-GAAP adjusted operating income is up $39.6 million to $142.6 million or up 38% versus the first half of last year.

Now moving to guidance. As shown on this slide, we are making no change to guidance ranges provided in April for the revenue lines. We are adjusting guidance for gross margin. We now expect the full year to come in at around 75%.

Within the operating cost lines, we are bringing R&D for the full year down by $10 million and are now guiding to a range of between $275 million and $285 million. R&D expenses are on trend of catching up with previous guidance, but are unlikely to completely close the gap by year end.

Guidance for other operating lines is unchanged from last quarter. As a result of the ins and outs just discussed, guidance for the 2012 operating income is up and now in the range of between $235 million and $245 million.

For non-GAAP adjusted operating income, our guidance for the full year is now in the range of $265 million to $275 million.

The debt buyback executed in Q2 impacts our 2012 guidance for cash, cash equivalents, investments and for the outstanding convertible debt balance. The buyback allowed us to take advantage of the lower stock price, which reduced the price of the convertible notes.

Purchasing the notes supported the price of our securities in the market. And we reduced the fully diluted share count by 2.4 million shares. The lower share count doesn't show up in the GAAP Q2 calculation, which uses a weighted average numbers of shares, but we expect that it may benefit the calculation in future quarters.

We repurchased the convertible notes using cash flow. The net cash generated by Cubist in the first 6 months of 2012 of around $90 million is close to the $103 million used for the buyback.

We are now guiding to year-end cash, cash equivalents and investments of around $925 million. For the remaining convertible debt outstanding, our balance now has been reduced to approximately $484 million face value, leaving us with a projected net cash, cash equivalents and investments balance of around $440 million, subject as always to BD activities.

Now Rob will provide some perspective on our operating results for the quarter. Rob?

Robert J. Perez

Thanks, David. I'll focus my remarks today on 3 things. First, our ongoing success with CUBICIN in the U.S. and the continued uptick we see in our revenues from international sales of CUBICIN. Next, I'll discuss our first 6 months of experience selling ENTEREG in U.S. hospitals and the learning that will guide us as we expand our call points for ENTEREG in the second half of this year. And finally, I'll close with some brief comments on the very positive news you've heard today about the success to date of our co-promote support for Optimer's DIFICID in U.S. hospitals.

First, some perspective on CUBICIN's continued growth in the U.S. As you may recall, from Greg Stea's presentation at our June Investor Day, a natural -- a structural shift of care from inpatient to outpatient settings in the U.S. began in the 1990s and has continued since 2000.

In this slide from a 2010 article, you can see that as of 2007, outpatient care represented almost 40% of gross revenues for community hospitals in the U.S, about 15 percentage points higher than in 1990.

In the early years of CUBICIN's launch, we saw this trend starting to be a factor in how CUBICIN was used, and we responded by giving the outpatient segment increasingly greater attention.

In recent years, we've been able to spend more time understanding decision-making for the different segments of the outpatient infusion market, from home health, which continues to be the largest contributor to our outpatient success to settings such as hospital outpatient clinics and long-term care institutions.

In some of these treatment settings, as we've mentioned in the past, we believe the 2-minute injection form of administering CUBICIN has become an additional reason for adoption of CUBICIN. And now that CUBICIN is well into its ninth year on the market, we believe the key driver of outpatient adoption is increased familiarity with and confidence in CUBICIN's efficacy and safety profile, as well as in the overall value it can deliver for the health care system and for the patient.

In the past several months, we've seen additional hospitals adopt CUBICIN for use in their outpatient infusion clinics, either as a 30-minute or 2-minute infusion. We've also seen some integrated delivery networks begin to adopt or pilot hospital avoidance protocols involving the use of CUBICIN.

In one pilot involving patients diagnosed in the emergency room with cellulitis, which is one type of bacterial skin infection, they're starting treatment with a 2-minute administration of CUBICIN in the ER, and then continuing the course with daily, 2-minute injections of CUBICIN through the hospital outpatient department.

In Q2 of this year, CUBICIN outpatient revenues grew by 21% versus Q2 2011. Outpatient share of CUBICIN revenues in the U.S., as we are able to measure it, is now 48%. In reality, CUBICIN outpatient use is likely greater than 50% as inpatient revenues include some use in hospital outpatient clinics served by inpatient pharmacies.

Inpatient growth in the U.S. was also strong at 17%, and we believe this also was due in large part to increased familiarity with CUBICIN.

Increasing numbers of physicians on staff in hospitals in the U.S. today would have done their medical training at a time when CUBICIN was already approved and available.

CUBICIN U.S. growth again came from both volume and price. Overall in Q2, vial growth for CUBICIN was 8% versus Q2 of last year. I'm also very pleased to see the continued strong growth in CUBICIN sales outside of the U.S.

x U.S. sales of CUBICIN have shown some increased momentum recently, and Q2 was another example of this very nice trend. Q2 international revenues to Cubist from sales of CUBICIN by our x U.S. partners were $11.4 million, up 47% versus Q2 2011. This growth largely reflects continued momentum for CUBICIN in some of the Novartis territories, notably France, Brazil and Turkey.

Novartis' overall net sales for CUBICIN for the first 6 months showed growth of 25.2% year-over-year on a noncurrency adjusted basis.

We now completed our first 6 months of commercial support for ENTEREG, the only approved therapy in the U.S. for accelerating upper and lower GI recovery after partial bowel resection. Our clinical business managers continue to report considerable enthusiasm amongst surgeons and others based on the ENTEREG clinical profile and the drug's success in helping patients achieve an earlier discharge from the hospital following its use.

However, getting ENTEREG used routinely for appropriate bowel resection surgeries, ideally by having it added to orders, requires interaction with multiple stakeholders and this takes time. The stakeholders involved can vary quite a bit from institution to institution.

We are rapidly sharing learning on proven path to success with ENTEREG so that the selling time involved is manageable and does not infringe on time needed to support CUBICIN and DIFICID. We've also begun, as planned, to increase the number of institutions we're targeting for the ongoing relaunch of ENTEREG.

In the second half of this year, the ENTEREG call universe will increase by somewhere between 50% and 100% for each of our clinical business managers.

Shifting now to our co-promote with Optimer. I want to take this opportunity to recognize all involved for executing such a successful partnership for the launch of Optimer's DIFICID. The bonus achievement we announced today is of course important and gratifying. But of equal importance is the working model we've created, with learning that both companies can leverage in the future. We look forward to continuing our support of DIFICID through mid-2013.

I'll close with some perspective on our business development activities. We continue to be quite actively engaged on 3 fronts.

First, we continue to look for late stage acute care assets. Those that are either in or very close to the market. We continue to see an opportunity to leverage our U.S. acute care commercial infrastructure as we await the launch of.

ceftolozane/tazobactam, assuming success.

Second, we are actively seeking a commercial partner for our opioid-induced constipation therapy candidate, CB-5945. As you know, the market opportunity for OIC therapy is mostly in primary care. As we engage in conversations, we will be weighing the relative advantages of out-licensing the rights before or after we see Phase III data.

Since our last call, top line Phase II data on 2 potential OIC competitors has been announced. We remain optimistic that 5945 has the potential to be the best-in-class OIC therapy because of its differentiated profile, which balances the efficacy needed for success with the tolerability that physicians and patients are seeking.

Third, as we mentioned at our Investor Day, we are beginning to look at earlier-stage assets we might in-license as one way to renew our late-stage clinical pipeline in the years ahead. Ideally, our financial capacity will expand before we would take on additional assets requiring investment in clinical trials.

As you all know, that sequencing isn't always possible, though it is our goal. Independent of the sequencing challenge though, we remain committed to growing non-GAAP adjusted operating income to $700 million in 2017.

Now, Steve Gilman will review some highlights of the quarter for our clinical pipeline. Steve?

Steven C. Gilman

Thanks, Rob. This had been a very busy and productive quarter in both -- terms of both clinical and regulatory developments.

For ENTEREG, we are making good progress in preparations for our radical cystectomy supplemental NDA filing, and are on track to file the sNDA by year-end.

For our Phase III candidate for infections caused by Gram-negative bacteria, ceftolozane/tazobactam, as we discussed at last month's Investor Day, after meeting with the FDA and obtaining formal scientific advice from EMA, we've arrived at a single protocol that we believe will meet the data needs of each agency. And assuming the trial is successful, will allow us to register ceftolozane/tazobactam for nosocomial pneumonia in those geographies.

This is a significant accomplishment and we expect that when we initiate this trial, we will be the first to begin a registration study in VABP since the FDA issued its draft guidelines in November of 2010.

The unmet medical need, particularly for hospital pneumonias caused by Pseudomonas aeruginosa continues to be a significant concern for the infectious disease community as you heard from Doctor Kollef, who spoke at our Investor Day.

Our other Phase III trials for ceftolozane/tazobactam, 2 each in complicated urinal tract infections and in complicated intraabdominal infections are continuing to enroll. We have experienced delays in opening some clinical trial sites outside of the U.S.

For example, in India, clinical trial approvals have essentially come to a standstill over the past year because of multiple reorganizations within India's Central Drug Standard Control Organization. This impacted clinical trials across the board in India.

While we continue to work with the health authorities in India and are prepared to rapidly get India online once approval to proceed is granted, we have already taken steps to add additional sites elsewhere to mitigate the impact of these issues on trial completion.

Now turning to CB-315. As you know, we have been in the startup stage of our Phase III program with CB-315, a potential new therapy to treat Clostridium-associated diarrhea. As announced last week, we are pleased to report that we have now enrolled the first patient in our Phase III CDAD program.

For CB-5945, which is in development as a treatment for opiate-induced constipation, we continue to expect to initiate our Phase III program by year end.

And finally, an update on our acute pain candidate, CB-625. We successfully completed the single-assembling dose Phase 1a study, with no safety signal seen that were attributable to 625, and are now planning the Phase Ib study to examine the safety of multiple doses of 625.

And now back to Mike.

Michael W. Bonney

Thanks, Steve. As you've heard, we've made continued progress this quarter against the 2012 milestones we announced in January. Also of importance this quarter were some promotions and appointments in Cubist's senior management, most notably, the promotion of our Chief Operating Officer, Rob Perez.

Rob has now assumed the role of President, reflecting our decision to separate the roles of President and CEO. In addition to the responsibilities he has had as Cubist's CEO -- COO rather since 2007, Rob will now have management oversight for our commercial expansion into Europe, assuming clinical and regulatory success for ceftolozane/tazobactam.

We expect to announce the general manager for our international business in the coming week.

Also, we have announced the promotion of Mike Tomsicek to Senior Vice President, Deputy CFO, reporting to David McGirr. And the appointment of Tom Rollins with the new position of Senior Vice President, Program and Portfolio Management, reporting to Steve Gilman.

These recent organizational announcements, along with our declaration of 5-year top and bottom line targets, the building blocks of growth I referenced earlier, reflect decisions we are making to chart our path for continued growth and value creation as Cubist becomes a more complex international biopharmaceutical company.

In line with our emergence as an industry leader, Cubist has also been part of the activities in Washington, leading up to the approval of PDUFA-V and in particular, the adoption of the GAIN Act as part of the legislation. Signed into law earlier this month with strong bipartisan support.

The GAIN Act provides incentives for industry investment in the discovery and development of much-needed therapies to treat serious and often life-threatening infections caused by resistant bacteria.

I want to applaud the bipartisan efforts of Representatives Gingrey and DeGette and Senators Corker and Blumenthal in leading the charge to get the GAIN Act introduced and approved by Congress.

This is an important achievement for the infectious disease community and very good news for all of us whose lives may someday depend on the availability of effective antibiotic therapies.

We expect both tazobactam -- ceftolozane/tazobactam and CB-315 to be designated as qualified infectious disease products, allowing for the data exclusivity extensions, fast track and priority regulatory review.

Operator, let's now open up the lines for questions.

Question-and-Answer Session

Operator

Your first question comes from Mario Corso.

Mario V. Corso - Caris & Company, Inc., Research Division

I was wondering if you could talk a little bit about ENTEREG and kind of what you've been able to accomplish so far and what you haven't been able to accomplish so far that you were hoping to. And then, can you talk specifically about what the API issue on CUBICIN was? And I couldn't hear if you actually quantified it or not.

Michael W. Bonney

Rob, do you want to take the ENTEREG issue?

Robert J. Perez

Sure. We remain very enthusiastic about ENTEREG. I think the great news is that our team and the reaction that they've gotten from the marketplace has been very positive, that ENTEREG is a drug that certainly works and that the people who have tried it like it. And there's a lot of enthusiasm for its use. I think we have confirmed the hypothesis that we had going in that it's a complex sale and it takes a lot of time and effort to connect the dots, to convert the demand. That is, someone who wants to use it to an actual purchase of the product. And that's really the stage that we're in. The challenging part is the conversion of that demand to the actual purchase of the product is different for each institution, so it does take a lot of time for each CBM to kind of connect those dots and convert that demand. And that's the process that we're in. As we said when we launched ENTEREG at the beginning of the year, we wanted to go through this first 6 months as kind of a learning opportunity in the institutions that had used ENTEREG previously, that was about 600 institutions. And now we feel like we're done with that assignment. We have some best practices that we can now leverage in the broader hospital universe, so that's what we're doing currently. We've increased our call targets, and we're looking forward to kind of pressing the accelerator on the ENTEREG launch. So that will give you some sense for it. It's certainly -- as hard as we thought it would be, we didn't think it would be easy, but we still remain committed to our $100 million top line objective and committed to the success of the product.

Michael W. Bonney

Rob, do you also want to talk about the API?

Robert J. Perez

Sure. We've said this all along that the CUBICIN manufacturing is a highly complex process and not something that's easily duplicated. And as David mentioned, we had some challenges with a couple of loss of API that ultimately is downstream and then ultimately upstream. We had to scrap some drug product loss from those API batches. The good news is that we have fully corrected the situation, and we've been producing API since without this problem for some time. So we completely -- we have a complete corrective action in place, and the problem is behind us. But unfortunately, we did have to throw away some batches this past quarter, and that's what you see in the results.

Operator

Your next question comes from the line of Tom Russo.

Thomas J. Russo - Robert W. Baird & Co. Incorporated, Research Division

I will start off with just U.S. CUBICIN, I think for the first half, you're now up. You mentioned that and put it in the press release, 19%. The full year guidance is I think 13% to 17% growth, is that -- I just wanted to confirm, is that mainly just the tougher comps versus the second half of last year, which was really strong?

Michael W. Bonney

Yes. I think that's a fair representation of that, Adam. We started to see an uptick in the -- as you mentioned in the third quarter of last year.

Thomas J. Russo - Robert W. Baird & Co. Incorporated, Research Division

Okay. And then on the R&D spending, the $10 million that isn't going to be spent in 2012. I don't know if I heard, but conceptually does that -- I assume just shift into 2013 whatever we have there, we should have much more. And then I guess the second part of that question, can you comment at all directionally on how we should be thinking about R&D as the first several Phase III trials for 201 start to wrap up?

Michael W. Bonney

Yes. So let me take the second question first and then I'll turn the R&D spend timing question over to David. Directionally, we do believe and we talked about this on June 11 that over the 5-year period that we're talking about, between now and 2017, that we expect our R&D as a percentage of revenue to trend down from this year's guidance, which is in the high 20s to the further 25% range. In terms of more specifics about what it means in 2013, 2014, we're not going to change our historic practice. We'll provide you guidance on our year-end call on -- in January of 2013, about what we expect the cost to be, R&D expenses to be in that year. David, do you want to talk a little bit about the timing?

David W. J. McGirr

Yes, absolutely. Tom, you are correct. The $10 million is a timing issue, just -- I'd slip that into 2013.

Thomas J. Russo - Robert W. Baird & Co. Incorporated, Research Division

Okay. And then last question, and I'll hop out. The comments on opioid-induced constipation, you even referenced 2 competitors. I guess I'll just be interested if there's any additional color, how do you see your potential to differentiate? I know, one, put theirs on the shelf because they didn't think it was necessarily best in class. And I think the other looked better than what we had seen last time. The efficacy still looked pretty good, and it looked like one of the key tolerability issues have been addressed. So just curious if you can, is that -- do you see a point of difference? Or just that it's a big enough market, it makes sense to go forward and turnover some more cards?

Michael W. Bonney

I think it's really a combination of both of those aspects, Tom. I think that it is a large market. There's many, many prescriptions written, as you know, in the U.S. for various opioids for chronic pain. But we also, based on the Phase II data, think that 5945 is delivering as strong an efficacy signal as any of them, really second to none, but at a tolerability level that looks a heck of a lot closer to placebo than what we've seen in the other Phase II studies that have been presented to date. Steve, do you have anything you want to add?

Steven C. Gilman

No. I think, Rob may want to -- I think on the differentiation.

Robert J. Perez

No. I think as Mike said, what you see in the other products is different strategies to try to get both efficacy and tolerability, sometimes they have to use higher doses to get efficacy. But when they do that, they lose some of the tolerability that they're looking for. I think what you see in 5945, we hope, if the Phase II data are replicated, is the perfect balance, which is a drug that will give you a normalized bowel function, but will have tolerability that is close to placebo. So we've seen nothing yet from a competitor that has shown that it can achieve both those objectives.

Operator

Next question comes from the line of Eun Yang.

Eun K. Yang - Jefferies & Company, Inc., Research Division

Steve, in terms of India, where patient enrollment hasn't happened yet, what first does that impact -- although you are including other sites, doesn't that impact the Phase III data read time line?

Steven C. Gilman

Does it affect the time line, so...

Eun K. Yang - Jefferies & Company, Inc., Research Division

Time line.

Steven C. Gilman

No, we don't think that's the case right now as we sit, Eun. We've added some additional sites to compensate for that loss, and those are now getting up and running. And India for the time being, we're continuing those conversations. We think we can get them back up line. We think we'll recover some of that but not all, so we've made some mitigation plans to try to keep on the same time line here.

Eun K. Yang - Jefferies & Company, Inc., Research Division

Okay. And then a question to Michael. In terms of the GAIN Act. So under the GAIN Act, I guess it goes by qualifying pathogens, so does that mean it applies to all the indications that you are pursuing?

Michael W. Bonney

The language there, Eun, is for qualifying infectious disease products, which are defined based on a list of highly resistant pathogens, and it does encompass all of the indications for those qualifying infectious disease products related to those resistant pathogens. So we do think that it would be applicable to both -- actually all the indications for ceftolozane/tazobactam, as well as C. difficile-associated diarrhea for 315.

Eun K. Yang - Jefferies & Company, Inc., Research Division

So when would you find out whether CXA-201 and 315 are designated under the GAIN?

Michael W. Bonney

Yes. I think the agency needs some time to work through how they're going to do this, but I would expect it will occur, assuming we have positive data in Phase III.

Eun K. Yang - Jefferies & Company, Inc., Research Division

Okay. And then a quick question to Rob. What was the gross-to-net adjustment for CUBICIN in the second quarter?

Robert J. Perez

It was 13.2%, Eun.

Eun K. Yang - Jefferies & Company, Inc., Research Division

So it kind of came down from the first quarter?

Robert J. Perez

It come down a little bit from the first quarter, up from last year. Last year at Q2, it was 12.6%.

Operator

Your next question comes from the line of Steve Byrne.

Steve Byrne - BofA Merrill Lynch, Research Division

Rob, I wanted to drill into the CUBICIN data a little more. Did I understand you correctly that out of the 19% year-over-year revenue growth, 8% would be vials, leaving 11% for price?

Robert J. Perez

Yes. That's right.

Steve Byrne - BofA Merrill Lynch, Research Division

So you're effectively realizing all of the 5.5% increase every 6 months, that you've been on this pattern, is that sustainable going forward, that you're able to realize all of that price increase?

David W. J. McGirr

I might jump in on that, Steve. Remember, it's more than 2 price increases that cumulatively add up to give you the price increases now. So I would not suggest you think that we're picking up all of the -- 100% of price increases. We still believe the -- due to gross-to-net deductions, so therefore, you get in at about 87%, 84% -- 86%. And then half of that turns up in the first 6 months, the other half can take as long as 12 months to turn up. But there's multiple layers here. So you have to go back further than 12 months to get to the 11%.

Steve Byrne - BofA Merrill Lynch, Research Division

Okay. And then on the volume growth, the outpatient bucket is increasing faster than inpatient. Is it fair to say that, that most of that outpatient volume is still coming from inpatient? And is it increasing at a faster rate because patients are being discharged in less time, and thus more of the therapy is administered in the outpatient setting? Or is it this other pathway of going from ER directly into outpatient that's moving it?

Michael W. Bonney

Yes, Steve, you're right. The vast majority of it is coming from the inpatient side where patients are being discharged sooner. I think that, as you know, we've focused on showing hospitals and physicians how CUBICIN's efficacy and it's overall profile could be beneficial to helping patients transition from in to outpatient care, and you're seeing that. I mean one of the things that we saw was of the outpatient growth, home health continues to grow the fastest of our outpatient channels. So again, that tells you that the vast majority of the outpatient is being driven by patients going from the inpatient setting and being discharged sooner. The example I gave, the pilot program, which is the hospital avoidance pilot, is a very interesting one. And we're seeing these pop up throughout the country, but they are still kind of few and far between. So I wouldn't want to give the impression that, that's a big driver of the outpatient growth. It is an interesting phenomenon, however, particularly in integrated care networks and accountable care organizations where you have a more holistic view of treating the patients. And in that setting, if you can avoid the hospital altogether, that can be a significant savings for the accountable care organizations. So that's kind of a watch this space, but still a pretty small percentage of what's driving the outpatient growth.

Steve Byrne - BofA Merrill Lynch, Research Division

And can you comment on your traction in the long-term care setting? And are those files used in that setting reported as outpatient?

Michael W. Bonney

Yes, they are, and we continue to grow nicely in the outpatient in the long-term care setting. I believe currently, it is the second-largest treatment setting in the outpatient, behind home health. So we are still growing there. And it didn't grow as much as home health did in the quarter, but we are still seeing significant growth in long-term care.

Steve Byrne - BofA Merrill Lynch, Research Division

And just one quick one for you, Dave. What was the diluted share count at the end of the quarter?

David W. J. McGirr

Look at the table and you'll see that it's -- the number that's in the calculation is 81.2 million. But it's -- we can talk about that some other time if you want. But that's the number that's actually in the calculation.

Operator

Your next question comes from the line of Alan Carr.

Alan Carr - Needham & Company, LLC, Research Division

One of them, about the Optimer bonus payment. Did -- I'm trying to sort out, was that -- did you feel that you thought you would meet the quota there or the threshold or that you actually have passed it? And then for the profit split, would that all be recognized in third quarter?

Michael W. Bonney

David?

David W. J. McGirr

Yes. No, we -- as we came to the quarter end, we felt we were achieving the goal we had, then subsequently had confirmation from Optimer that we -- that they had achieved that target number, so that allowed us to feel comfortable about booking that number. So that was not -- that was a number confirmed by Optimer to us. And the spread above the target number, so that profit split would be a Q3 event.

Alan Carr - Needham & Company, LLC, Research Division

Okay, entirely in 3Q. okay. And then now, Steve, I would imagine that patients in India would be helpful in these Phase III trials because of some of the severity of infections over there that would potentially help differentiate ceftolozane from the comparator in that trial. Is that the case? And what other territories are you looking for to enroll patients to compensate?

Steven C. Gilman

So, Alan, fortunate for us and unfortunately for patients, resisting Gram-negative and Pseudomonases everywhere. So it's not related really to the -- this particular geographic location. The trial is -- some trials run without India in them. So it's not a fundamental thing to the trial at all, it's just a matter of enrollment kinetics. So we have a very global, international and global trial, South America, North America, Western Europe, Eastern Europe, Africa, South America, so we have a very broad geographic distribution at all. So it won't affect either the sort of assessment of strains and that kind of thing or geographic distribution, which is always something you want to have a nice spread in, in Phase III trials.

Alan Carr - Needham & Company, LLC, Research Division

Okay. Do you have a rough estimate of what percent would have come from India?

Steven C. Gilman

It was only, in the grand scheme of things, a couple of hundred patients. But still, we have to try to recover those. And as I said to -- even we're working as hard as we can to keep the trial on track by supplementing it with other sites.

Alan Carr - Needham & Company, LLC, Research Division

Okay. And then the Phase II VAP trial, I didn't -- I may have missed it in the slides, but is that supposed to start soon?

Gregory Stea

Yes, we expect that to start around the same time as the Phase III 1b. We obviously focus our attention because it's a registration supporting trial on the formal Phase III, if you will, as opposed to the supplemental unblinded Phase II.

Operator

Your next question comes from the line of Adnan Butt.

Adnan S. Butt - RBC Capital Markets, LLC, Research Division

Congrats on hitting the $200 million mark. Firstly, can you say a bit more on what's driving the hospital avoiding experimentation? Is it the 2-minute injection optionality? Or is it something else? And has the skill trajectory changed at all since the introduction of the 2-minute infusion?

Michael W. Bonney

Rob, did you hear all those questions?

Robert J. Perez

Yes, I did.

Michael W. Bonney

Okay. Go ahead.

Robert J. Perez

So the hospital avoidance protocol, what's driving that, really, I think it is -- again, as you look at the proliferation of accountable care organizations and integrated networks, that one payer that's now looking at the patient across hospital outpatient, et cetera. So instead of just looking at a DRG in the hospital and looking at the incentives that exist there, all of a sudden, if you own the hospital and the outpatient clinics, you may have a different perspective, so the idea of having a patient never go into the hospital is a more attractive opportunity for you, if you're an accountable care organization. So what you're seeing I think is some -- because of the flexibility that CUBICIN provides and I think this will answer your other question about the 2-minute infusion, that's certainly very helpful. The thought is hey maybe if we treat these patients in the ER and move them directly to the outpatient clinic, we can avoid the hospital admission altogether, which obviously avoids a lot of expense. So the 2-minute infusion is not absolutely vital. I mean, 30 minutes is still doable in the hospital outpatient clinic department, but it certainly helps for a patient to come in everyday, get a 2-minute injection and then move on. So to answer your question about, is the 2-minute infusion -- has there been a real kind of trend breaker or because of it, the 2-minute injection in and of itself, I would say no. I think that's one of the drivers, but not the only one, because CUBICIN was already in an advantageous situation for a 30-minute infusion. But it does help in those outpatient environments, particularly in the outpatient -- hospital outpatient clinic, where people are driving in and out of the hospital each day. So it's definitely helpful and allows people to experiment a little bit more with these new protocols to hopefully keep people out of the hospital.

Adnan S. Butt - RBC Capital Markets, LLC, Research Division

Would you expect that the share of 2-minute infusion to increase over time? And then a question for Steve, are there other CUBICIN trials ongoing Phase III, Phase IV, and what's the purpose of those?

Robert J. Perez

I could take the 2-minute question. Again, the one challenge we have, Adnan, is that we really can't see exactly how the drug is used. So we can tell from market research that certainly we've seen increased use of the 2-minute infusion but we don't have great clarity on how the drug is used because all we see is the vial getting purchased. So we think that it's been increasing, it's been increasing in the outpatient settings, more so than the inpatient. But it's hard to say exactly what the percentage of uses and what it -- and how it's changing.

Steven C. Gilman

Yes, with respect to other CUBICIN trials. First and foremost, we have no registration supporting new indications seeking clinical trials underway with CUBICIN. We are quite active in pushing forward with the FDA our pediatric exclusivity trials, which will be starting sometime shortly. We're also doing, as every company has to, the sort of normal post-approval commitment trials in the immune impaired and in pediatric pharmacokinetics and the like. So there are handfuls of smaller trials, but nothing's going to change the label of CUBICIN.

Operator

Your next question comes from the line of James Molloy.

James F. Molloy - ThinkEquity LLC, Research Division

I was wondering if you could talk a little bit about sort of the R&D guidance coming down on a GAAP versus non-GAAP basis. I assume that's a guaranteed number, is a GAAP? And on a non-GAAP basis, any suggestion on how we might look at that? Or even how we might allocate the non-GAAP add back to various elements of COGS, G&A and R&D?

David W. J. McGirr

Yes, Jim, it's a GAAP number. I mean, that's what we're showing you on the guidance slide is that the R&D going down by $10 million is GAAP. And then, what you see in the operating income numbers as a result, we've got a GAAP operating income, which reflects that change and some other changes. And you also see the adjusted non-GAAP operating income change, but the delta between the GAAP and the non-GAAP operating income is driven by contingent consideration and the amortization of the ENTEREG purchase price, which flows through COGS. So we add those back. And they round out to about $20 million -- about $30 million, $10 million for contingent and $20 million for that. So it's a pretty straightforward calculation on that one. So I wouldn't get -- make it any more complex than that.

James F. Molloy - ThinkEquity LLC, Research Division

That's right up my alley. The ENTEREG and so all the add backs for the second quarter to get to the non-GAAP performance, those are all COGS as well?

David W. J. McGirr

Yes. So if you -- yes, it's actually broken out in the non-GAAP Table 3 in the press release, right? You can see the 2 ENTEREG add backs as the intangible asset amortization, which is the purchase price flowing through COGS, and that was $4.6 million. And then we also have to amortize the fair value of the inventory when we bought the company, we had to write the inventory up to fair value. And in the quarter, that was an $830,000 hit. So those 2 numbers are broken out in the table.

James F. Molloy - ThinkEquity LLC, Research Division

So is it fair to say that the 75% gross margin, is that a GAAP gross margin? We should -- non-GAAP would be somewhat higher?

David W. J. McGirr

Yes, exactly right.

Operator

Your next question comes from the line of Howard Liang.

Howard Liang - Leerink Swann LLC, Research Division

Can you talk how -- what are the costs of the Phase III program for 5945? And could we see out-licensing before you start Phase III?

Michael W. Bonney

David, why don't you answer the cost one, and I'll come back on that out-licensing.

David W. J. McGirr

We haven't given that number yet, Howard. We don't like to give out the costs until we actually are launching the trial because, we fine-tune these trials until the last minute. So once we're ready to go, we will be giving that number, we haven't given it yet.

Michael W. Bonney

And Howard, As Robert -- as Rob said in the script here, we are actively engaged in partnering discussions. And as those mature, we'll make the decision with whether we want to out-license it sooner or wait until we have the Phase III data.

Howard Liang - Leerink Swann LLC, Research Division

Okay. And there's some additional antibiotic candidates now on Gram-positive side that have been in the pipeline for a while, like oritavancin or dalbavancin, that will maybe getting data soon, somehow if a single-dosing or infrequent dosing. Can you talk about how you see them as competitors given the trend of increasing outpatient use?

Michael W. Bonney

These products have been in development or in the regulatory process since I joined Cubist 10.5 years ago. And we think the big challenge is really 2 things and I'll ask Rob to opine after I -- get in my two cents here. One is they have very long half lives, and in the acute real patients that's always a bit of a challenge. And there may be a rare patient where the convenience trumps the risk of putting a drug on board for a week or 2 weeks with really, very little way of getting it off, if the patient experiences any problems. But in general, we think that this is a problem in an acutely ill patient population to have a very long half-life drug. The other thing I would point to is we've had now, let's say since we launched CUBICIN, we've had 3 or 4 different anti-MRSA drugs come into the market and -- sertraline, pagasil. And some come in and go out, like Telavancin. And clearly we've seen no wobble in our ability to position CUBICIN and get it used for appropriate patients. So we think there's plenty of room in this marketplace. There may be some niche patients where these long half-life drugs look positive. But in general, we're not terribly concerned about it. Rob, do you have anything you want to add?

Robert J. Perez

I think that was well said. And as I've mentioned in the script, the other piece is that this market is one that -- it takes a long time to get established, and I think we're in the midst now of being an established choice for the infectious disease community. And it's one of the reasons that's driving our growth. So when you're new, it takes you a while to build that up. And given where we are on the Gram-positive life cycle, to be entering now is a real challenge because of CUBICIN's foothold. So in addition to the things Mike mentioned, we just have the benefit of now being available for physicians for so long that I think CUBICIN is very well entrenched.

Operator

Your next question comes from the line of Stephen Willey.

Stephen Willey - Stifel, Nicolaus & Co., Inc., Research Division

On the ENTEREG launch, can you maybe just talk a little bit about the fact that some hospitals seem to be trying to institutionalize decreased postsurgical opioid use to try to improve discharge times? And if that's kind of one of the headwinds that you guys feel like you might be running into as you relaunch this product?

Robert J. Perez

So if I'm understanding your question, Steven, you're saying that hospitals attempt to reduce POI in the first place?

Stephen Willey - Stifel, Nicolaus & Co., Inc., Research Division

Yes, yes.

Robert J. Perez

Well, actually I don't see that as a headwind. I see that really, as almost a tailwind if you will. Because ENTEREG is -- I think can be part of that strategy. What you're trying to do, you want to have this drug on board so that you can ultimately impact this disease before it becomes a big problem. And that basically is what hospitals are trying to do. So I don't see it as a major issue. We're not having a problem convincing people that there's a need for ENTEREG. As a matter of fact, every time I talk to a sales representative, they're overwhelmed by the amount of surgeons and nurses who see the need and want to use it. But where the challenge comes is there's so many steps along the way that have to be coordinated. And I guess you could say that the surgeons aren't so enthralled that they are willing to go through the extra effort to break down all those barriers. So that's what we have to do. So I'm not concerned about the demand per se, I'm concerned about converting the demand.

Stephen Willey - Stifel, Nicolaus & Co., Inc., Research Division

You actually see a lot of scripts being written for patients that are on either reduced opioids or I guess no opioids at all?

Robert J. Perez

No. If that's your point, that one of the ways to reduce POIs, that they're trying to reduce opioid use, then that's different. But I don't think -- we're not seeing significant changes in opioid use across the U.S. I mean, I know that it's been an area of focus for a long time. But we haven't seen major changes in the uses of opioids. In the U.S., opioids are very well entrenched, and we obviously watch that in terms of our pain pipeline as well.

Michael W. Bonney

On the acute setting, Stephen.

Stephen Willey - Stifel, Nicolaus & Co., Inc., Research Division

Maybe just one more question out of curiosity. But as you go to these x U.S. trial sites, is there much of a delta with respect to the percentage of patients that are microbiologically evaluable in these trials?

Steven C. Gilman

No. Globally, they're all about the same, none of the territories have particularly big differences in our anticipated microbiological evaluated population.

Operator

At this time, there are no further questions. I'd now like to turn the conference back over to our CEO, Mike Bonney.

Michael W. Bonney

Thanks, operator. And thanks all, for your time today and for your continued support. 2012 is an important year for us at Cubist as we take important steps on our path to becoming the world's leading company focused on the discovery development and commercialization of important therapies for patients treated in acute care settings.

As we come to a close on this call, I'd like to draw your attention to the date for our third quarter earnings call, which is now scheduled for October 18, 5:00 Eastern Time. Thanks, and have a great evening.

Operator

Thank you, again for joining us. This concludes today's web conference. You may now disconnect.

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