Alpharma, Inc. Q2 2008 Earnings Call Transcript

Alpharma Inc. (ALO)

Q2 2008 Earnings Call

July 30, 2008 8:30 am ET

Executives

Jack Howarth - VP of IR

Dean Mitchell - CEO

Jeff Campbell - CFO

Analysts

Gregg Gilbert - Merrill Lynch

James Kelly - Goldman Sachs

Tim Chiang - FTN Midwest Securities

Ian Sanderson - Cowen and Company

Dave Windley - Jefferies & Company

Scott Henry - Roth capital

Gary Nachman -Leerink

Kevin Kedra - Gabelli & Company

Frank Pinkerton - Banc of America Securities

Lei Wang - Summer Street

Ken Trbovich - RBC Capital Markets

Presentation

Operator

(Operator Instructions). I would now like to turn the conference over to Mr. Howarth. Mr. Howarth, you may begin.

Jack Howarth

Thanks, Kelly. Good morning, everyone. Welcome to Alpharma's second quarter 2008 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 www.alpharma.com. 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.

On the call with me today, our President and Chief Executive Officer, Dean Mitchell; and Executive Vice President and Chief Financial Officer, Jeff Campbell.

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

Our Safe Harbor statement as set forth in our SEC filings and in the accompanying slide presentation covers these remarks. The company recommends that investors review information in its SEC filings related to important potential risks and uncertainties including its Annual Report on Form 10-K for the year ended December 31, 2007.

In an effort to provide investors with additional information regarding Alpharma's financial results, as determined by US Generally Accepted Accounting Principles, or GAAP. The company has also provided certain non-GAAP information which management utilizes in its analysis of its business, and which it believes also provides useful information to investors.

This information includes earnings before interest, taxes, depreciation and amortization and free cash flow, which is operating cash flow, less capital expenditures and purchased intangibles. The company discloses this information to assist investors in understanding the impact of these items on the company's financial results, and the earnings generated by operations that the company believes can be more meaningfully compared with prior periods and forecasts. A reconciliation of reported to adjusted results for continuing operations for the three and six-month ended period June 30, 2008 and 2007, is attached to our earnings release.

On slide two, 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 make some closing comments on the outlook for our business.

With that, I'll turn the call over to Dean.

Dean Mitchell

Thanks, Jack. Good morning, everyone, and thanks for joining us this morning. Earlier today we reported second quarter results, which I'll provide an overview of, and then Jeff will go into more detail on the financial aspects of our results.

Moving to slide three, in the second quarter we reported revenue growth from continuing operations of 25% and an increase in gross profit of 30% versus the second quarter of 2007. Our pharmaceuticals business, once again had record quarterly revenues with growth of 91% in the quarter due in large part to the FLECTOR Patch, which had revenues of almost $38 million. In addition, KADIAN prescriptions increased 6.5% versus the second quarter of 2007 with revenues increasing to $43.6 million.

In the quarter, we once again continued to make significant investments in SG&A. The increase in SG&A was in large part related to doubling of the size of our sales force for the launch of the FLECTOR Patch, as well as advertising, promotion and other related costs to support the launch and growing the business.

Animal Health revenues declined 5% to $85.6 million for the quarter primarily attributable to reduced US livestock market sales. This was caused by a significant disconnect between high input costs and the prices of beef and pork in the market, leading to customers aggressively managing their production volumes.

These declines were partially offset by increased sales in international markets, where you know we're continuing to focus our expansion efforts. Also, operating margins were right around 13% for the quarter, which reflects both the reduced revenue, as well as the challenge of high input costs in the Animal Health business.

From a scorecard perspective, we received one approval for a new indication on an existing product, and received one approval to sell existing products in new geographic regions, a challenging quarter for the Animal Health business.

Finally, we reported diluted loss per share of $0.02, generated earnings before interest, tax depreciation and amortization of $7.4 million, and commenced the share repurchase program, all topics that Jeff will go into in further detail later on in the call.

Let's turn to slide four, and spend a few minutes on the FLECTOR Patch launch. This slide show the first six months of weekly total prescriptions since the mid-January launch. As you can see from the slope of the line, the past 10 weeks have been essentially flat and although the interest and feedback on the FLECTOR Patch continues to be quite positive, both from patients and physicians, we are focused on several key areas in our marketing efforts to further grow the brand.

Our primary focus is managed care coverage. As you know, obtaining formulary coverage generally takes between six and nine months of discussions, initially about the attributes of the product, followed by negotiations about formulary position and rebate levels. The initial strong ramp-up of FLECTOR Patch has caused a number of plans to increase their restrictions on usage of the product to improve their negotiating positions, which is again a fairly normal behavior.

We're now six months into the launch and are deep into the negotiation phase with many key plans and are anticipating news regarding additional coverage over the next several months. As you receive notification from the various plans, we intend to actively communicate these changes to formulary coverage and we believe these pull-through activities will help renew growth.

We also intend to communicate recent label enhancements. You'll recall that on June 4, the FDA approved labeling changes for the clinical pharmacology and clinical study section of packaging of FLECTOR Patch. These revised sections provide pharmacokinetic data from two studies. The first study demonstrated the low systemic level of diclofenac when administered topically through the FLECTOR Patch, compared to the administration of a single oral 50 milligram diclofenac sodium tablet.

The second study showed the low systemic level of diclofenac when the FLECTOR Patch is tested on healthy volunteers at rest or after undergoing moderate exercise. These studies, together with a low level of adverse events demonstrated in the clinical trial data and included in the product label, may help us to further differentiate the FLECTOR Patch.

We're also very aware of the launch of Voltaren Gel, another topical approach to the treatment of pain. Although this product has very different indications from FLECTOR Patch, and is helping to grow the market for topical pain therapy, there's no doubt that it's had an impact on our launch trajectory and has taken some business from us.

We believe that enhanced messaging in addition to label changes like the one I just mentioned will continue to be an important part of supporting the brand. There are a number of other initiatives we'll undertake to support the brand over the next several months and this represents just a sample of what we intend to do to return FLECTOR prescriptions to growth.

Moving on to slide five. You'll recall that last November, we announced positive results from the Phase III trial of our views to turn to extended release opioid EMBEDA. The primary end point was agreed with the FDA through the special protocol assessment process and the outcome of the Phase III trials was statistically significant. Results from this pivotal trial and the long-term safety trial indicated that adverse offense associated with EMBEDA were comparable to those associated with KADIAN.

We believe that the results from the EMBEDA clinical trial program, as well as the Euphoria Abatement Study showing the impact of EMBEDA and experienced opioid abuses will lead to an enhanced data set that will be considered for inclusion in the product label.

EMBEDA provides a pharmacological approach to abuse-deterrents, not just the tamper resistant approach, which should position us well for the regulatory review process. In terms of the submission we announced on June 30 for the resubmission of the new drug application for EMBEDA, after having withdrawn the application due to certain technical issues around data presentation which would have prevented a complete and timely evaluation by the FDA within a six-month priority review period.

These issues related to the way the data was presented, not the data itself, so we anticipate receiving a priority review when the FDA completes its initial review of the resubmission. Most importantly, we still continue to anticipate a first quarter 2009 launch of EMBEDA, potentially the first morphine-based abuse-deterrent product, which we believe, will offer patients with chronic pain and the physicians who treat pain a significant alternative in the opioid category.

Turning to slide six. During our last call, we indicated our ketoprofen in Transfersome gel licensing partner idea would be initiating two Phase III trials during the second quarter. Both of the trials commenced on schedule. The European trial in May and the US trial in June. The SPA went through two rounds of review by the FDA, an agreement on trial design of data management was reached.

However, the agency indicated that due to resource constraints, it might take more than 45 days to respond to our written comments; and subsequently we decided to begin the trials rather than wait for final documentation. For clarity purposes, this means that the two Phase III trials have been broadly agreed with the FDA, but are not being conducted under an SPA.

Two trials are structured as follows. The European trial will enroll 1320 patients in a 5-arm placebo-controlled trial which will last 12 weeks. The comparisons are 50-milligram active, 50-milligram placebo, 100-milligram active, 100-milligram placebo and celecoxib, all dosed twice daily.

The active arms are powered to show superiority to placebo, while the celecoxib arm is powered to show non-inferiority. This multi-arm study will evaluate ketoprofen in Transfersome gel as a viable alternative to the only marketed COX-2 inhibitor Celebrex.

The US study is a pivotal study in 400 osteoarthritis patients, also 12 weeks in duration, comparing 100-milligram dose twice daily to placebo. We believe these two studies will not only form the basis of our filing strategy with the US FDA, but also supplement IDEA's resubmission of their EMEA application which was withdrawn last week to wait for additional Phase III efficacy data.

Turning to slide seven, let me briefly review our second quarter 2008 scorecard. With respect to our second quarter results we delivered in line with our commitment to drive future growth, once again primarily due to the early success of FLECTOR Patch launch. For the second successive quarter, we announced record revenues for our pharmaceutical business. In addition to the launch of the FLECTOR Patch, KADIAN prescriptions have grown 6.5% versus the second quarter of 2007 which is indicative of the physician relationships being built by our expanded sales force prior to the launch of EMBEDA.

During the quarter, we also resubmitted our new drug application for EMBEDA having completed the electronic reformatting of the original submission.

The Animal Health business as you can see had a very challenging quarter. However, we continue to make gains in international markets and our operational effectiveness programs continue to produce results. We continue to review numerous business development opportunities in both of our businesses. And while there continue to be interesting assets available, we've maintained a high degree of financial discipline in our evaluations.

Finally, we repurchased 1.1 million shares of common stock at a cost of $26.4 million during the quarter, and 2.5 million shares to date at a cost of $59.5 million. So all-in-all, a busy and productive quarter.

With that, I'll turn it over to Jeff, who will take you through the details of the second quarter results.

Jeff Campbell

Thanks, Dean. Let's turn to slide eight, and I'll walk through the components of our earnings per share for the second quarter and the first six months of 2008. Starting with our continuing operations, we reported a second quarter loss per share of $0.02, compared to earnings per share of $0.13 in the second quarter of 2007.

As I will review in more detail in a few minutes, the second quarter 2008 loss is principally a result of the investments in selling, general and administrative expenses we are making in our pharmaceutical business in support of the FLECTOR Patch launch and the expansion of the franchise.

Our year-to-date results from continuing operations reflect the same factors, plus the impact of $37 million or approximately $0.85 of EPS, of R&D expenses related to the successful achievement in this year's first quarter of two progress milestones related to the development of ketoprofen in Transfersome gel.

Excluding the effects of these milestones, our continuing operations contributed a loss per share of $0.07 through the first six months of 2008, compared to earnings per share of $0.21 in the first half of 2007.

Moving to our results from discontinued operations, we completed the sale of the API business on April 1, with the transaction closing effective on March 31st. In connection with the closing, we recorded an estimated net after-tax gain on the sale in the first quarter of $209.5 million.

During the second quarter, we adjusted the estimated gain, principally related to foreign exchange, and also for certain transaction-related costs and true-ups. These adjustments totaled $6.5 million and constitute the net $0.15 loss from discontinued operations in the second quarter of 2008. As a consequence, results from discontinued operations for the six months ended June 30 include a net gain of approximately $203 million or $4.69 of EPS.

The remainder of my comments this morning will focus on our continuing operations, so let's move on to slide nine, and I'll review our second quarter financial performance in a bit more detail.

Revenues from continuing operations totaled $166.9 million, an increase of 25% over the second quarter of 2007. As Dean noted, the driver of this increase was our pharmaceuticals business which recorded a 91% year-over-year increase in revenues, primarily attributable to the FLECTOR Patch. This revenue growth in our pharmaceuticals business outpaced the second quarter decline in our Animal Health revenues, attributable to decreased demand for US livestock products.

Our gross profit increased by 30% to $108 million in the second quarter, and as a percentage of revenues, our gross profit was 64.6% in the second quarter of 2008 versus a gross profit percentage of 62.2% in last year's second quarter. The increase in the gross profit percent reflects the expansion in our higher margin pharmaceuticals business. SG&A totaled $96 million in the second quarter of 2008, an increase of $35.5 million compared to the second quarter of 2007.

The increase principally relates to our pharmaceuticals business and reflects more than doubling the size of our sales force and other investments to support the FLECTOR Patch launch and continued growth in this business. As a percentage of revenues, SG&A amounted to 57.5% in the second quarter of 2008 versus 45.5% in 2007. I'll comment a bit more on the second quarter investments in SG&A in a few minutes.

R&D expenses in the second quarter of 2008 increased slightly to just over $17 million, or 10% of revenues compared with 12% of revenues in 2007. These decline in R&D as a percentage of revenue reflects increased sales in 2008 and lower clinical R&D spending in our pharmaceuticals business in this year's second quarter versus last year.

Operating income declined to a loss of $5.2 million in the second quarter of 2008 compared to operating income of $6.9 million in 2007. This decline of about $12 million reflects the planned SG&A investments in pharmaceuticals partially offset by the increased gross profit on our higher second quarter 2008 revenues.

With that overview, please turn to slide 10 and I'll review the financial performance of our two continuing businesses. Pharmaceuticals revenues increased $38.7 million or 91% to $81 million in the second quarter of 2008. This growth is of course, principally driven by the launch of the FLECTOR Patch. Second quarter FLECTOR Patch prescriptions totaled 157,200.

Our average FLECTOR Patch script size has remained constant at about 45 patches or about three weeks of therapy. FLECTOR Patch second quarter net revenues totaled $37.7 million, approximately $29 million of these revenues relate to second quarter script demand, with the remainder principally attributable to additional stocking of the distribution channel.

We ended the second quarter at about our target level of one month of FLECTOR Patch inventory in the channel. Our average sales value per FLECTOR Patch script is almost $185 in the second quarter and on a year-to-date basis is a little under $180. We are in the midst of our managed care discussions and our net revenue value per script thus far does not reflect any significant commercial or Medicare Part D rebates.

Moving on to KADIAN. Compared with last year, second quarter KADIAN capsules revenues increased approximately $1 million, or about 2%. The revenue gain reflects increased prescriptions, up about 6% year-over-year and higher pricing. These increases were partially offset by higher Medicare Part D rebates and a different product dosage mix.

On a sequential basis, KADIAN's second quarter revenues increased approximately $2 million or 4% versus the first quarter of 2008 and prescriptions increased by 2.8%. Wholesaler inventories for KADIAN capsules remained almost level at the end of the first quarter at under 1.5 months on hand.

The second quarter 2008 operating loss of $5.1 million in the pharmaceuticals business reflects significant investments in selling, general and administrative expenses. These investments are in support, both of the launch of the FLECTOR Patch as well as the expansion of a more diversified and growing pharmaceuticals business.

With respect to the FLECTOR Patch, in addition to more than doubling the size of our sales force at the beginning of the year and engaging a contract sales organization, our second quarter results include continuing significant advertising and promotional spend. On a sequential basis, our pharmaceuticals SG&A spending increased over the first quarter.

In response to the current managed care positions and the competitive landscape, we accelerated certain promotional spending in the second quarter in support of the FLECTOR Patch. We are, of course, very mindful of the investments we are making in SG&A in the pharmaceuticals business and are looking to leverage the investments as we strive to drive further revenue growth in our two currently marketed products.

Moving to slide 11, I'll review our second quarter performance in the Animal Health business. Second quarter 2008 Animal Health revenues totaled $86 million, down 5% from the second quarter of last year. Excluding the favorable year-over-year effects of currency, Animal Health revenues were down about 8.5%, reflecting declines in sales of our US livestock products, partially offset by revenue gains in our international markets.

The decline in US livestock product revenues reflects the impacts that significantly increase commodity costs and challenging end-market pricing are having on our customers. This cost-price imbalance is impacting our customers' profitability and their purchasing behaviors. In the second quarter, this was most acute in our livestock business, where our sales were down significantly year-over-year.

The effects of declines in our US livestock business were partially offset by year-over-year revenue gains in all our major international markets reflecting the benefit of our geographic expansion initiatives. In addition, despite the effects of commodity costs, our US poultry business held up fairly well in the second quarter.

Our second quarter operating margin in the Animal Health business was 12.9% compared to 19% in the second quarter of 2007 or 17.9% in last year's second quarter after excluding the prior year benefit of certain asset sales and closed facility exit cost adjustments.

The year-over-year decrease in operating income and margins reflects the lower revenues, the effects that higher input costs are having on our product costs as well as increased research and development investment supporting the business' continuing new product development initiatives. These factors were partially offset by the favorable year-over-year effects of currency, pricing and productivity improvements.

The productivity programs in our Animal Health business continue to yield positive results. Despite revenue pressures in the first half and major commodity input costs increasing significantly. Animal Health gross profit margins have declined less than 100 basis points in the first half of 2008 in comparison to last year. Dean will comment a bit more on the market dynamics our Animal Health business is facing when he reviews our business outlook for the remainder of the year.

On slide 12, we have laid out certain other key financial data. We ended the quarter with a strong financial position. Our cash balance as of June 30 was $607 million, up $331 million from our cash balance at March 31. The increase is primarily attributable to the receipt of the sale proceeds from the API divestiture on the closing date, April 1. We continue to expect the net after-tax proceeds of this sale to approximate $365 million.

In addition, during the second quarter we paid $37 million in milestones to our partner in the development of ketoprofen in Transfersome gel, and also invested $26 million in our share repurchase program. I'll comment a bit more on that when I get to the next slide.

We ended the quarter with $306 million in debt consistent with our outstanding debt at March 31. As Dean noted, we continue to seek business development opportunities to invest our available cash as well as selectively repurchasing our common shares. At the bottom of the slide, we have included certain other financial metrics for our continuing operations.

Depreciation and amortization for continuing operations amounted to $10 million in the second quarter of 2008, compared to $8 million last year; and capital expenditures totaled $7 million in 2008, compared to $5 million in 2007. We continue to be very focused on cash generation, and in second quarter of 2008, we generated approximately $7 million of EBITDA from continuing operations, despite the significant investments we made throughout the quarter.

In addition, excluding the $37 million in milestone payments associated with the development of ketoprofen in Transfersome gel, our second quarter free cash flow from continuing operations was $18 million.

Now let's turn to slide 13 to review our share repurchase activity. In April this year, we announced the share repurchase program of up to $150 million. We commenced share repurchases under this program in May and through the end of the quarter had repurchased approximately 1.1 million shares for a total cost, including commissions of $26.4 million.

In addition, in July, we have repurchased an additional 1.14 million shares at a cost of $33.1 million. So on a program-to-date basis, we have repurchased 2.5 million shares at an average price of $23.54, and this represents approximately 6% of the company's common shares outstanding.

We will continue to evaluate the opportune time to repurchase additional shares under this program. The program does not obligate us to repurchase any particular number of shares and the program maybe suspended or discontinued at any time. As I noted before, we continue to seek business development opportunities to invest our available cash in both of our businesses and we will seek to balance our share repurchase activity with that objective.

Thanks for your attention, and I'll now turn the call back over to Dean.

Dean Mitchell

Thanks, Jeff. Let's turn to slide 14 in our review, our business outlook for the remainder of the year. During the first six months of 2008, we continued to execute against our growth strategy and our revenues from continuing operations were up just under 30%, slightly below our targeted full year revenue growth range of 30 to 35%.

As we discussed this morning, our pharmaceuticals business accounts for the vast majority of this revenue growth. Our second quarter revenues in our Animal Health business were clearly impacted by a combination of factors affecting our customers. Dramatic increases in commodity costs have an impact on our internal cost structure, but much more so they impact our customers' costs.

This increase in costs to our customers has not as of yet been accompanied with corresponding increases and end-market pricing. The resulting cost price imbalance has severely impacted the profitability of our customers and in turn impacted their purchasing behavior.

We saw the effects of this most acutely in our livestock business in the second quarter where demand for our products declined significantly. As a result on a year-on-year basis, our Animal Health revenues are up less than 2% over the prior year.

As we look to the second half of the year, it's certainly difficult to forecast the future direction of commodity costs and more importantly our customers' ability to realize pricing to offset some of their cost pressures is has yet to be seen. Accordingly, these factors and the uncertainty surrounding their future direction may continue to pressure our Animal Health business.

With that said, we and our customers collectively see the benefit of our products to the economics of their business and we've seen some encouraging signs of moderation and commodity costs and price adjustments in end markets over recent weeks. Overall, despite these challenges and uncertainties, we're maintaining our full-year outlook of 30% to 35% revenue growth from continuing operations and full year diluted earnings per share from continuing operations, excluding milestone payments to be in the range of $0.15 to $0.35.

This outlook reflects the diversity of our portfolio and a range of possible outcomes and business choices we can make as the remainder of the year unfolds. Thank you for your attention, and I'll now turn the call back to the operator, so we can address your questions.

Question-and-Answer Session

Operator

(Operator Instructions). Our first question comes from Gregg Gilbert with Merrill Lynch.

Gregg Gilbert - Merrill Lynch

Good morning. Dean and Jeff, hopefully you can provide some color, if not the specifics around your new outlook for Animal Health sales and margins for '08 and longer term goals there?

Dean Mitchell

Good morning, Greg. Thanks for the question. Obviously we're just focusing on 2008 today. And in keeping with our regular practice, we don't give specific guidance on components of the business. What we're doing is we're recommitting to our overall 2008 goals and at some more appropriate point probably as we think about our guidance for 2009; we'll give our view of the longer-term impact.

I think I would say that when you listen to the calls from some of our customers earlier this week, as I'm sure many of you have, there's a tremendous amount of pressure on the food-producing organizations and there's a fair degree of uncertainty around exactly how these things may play out. So we're continuing to monitor this very carefully. We're managing everything that we can internally, but there are a number of things in the macro environment which it is hard to predict.

Gregg Gilbert - Merrill Lynch

Fair enough. Then maybe more generally, Dean, as you're thinking about the importance of this business to how Alpharma evolved over the past several months as the environment has changed?

Dean Mitchell

It really hasn't. I mean the Animal Health business continues to be a well-run business, has sound financials. We believe it's going through a temporary adjustment of input costs, which you know the scale of which we've never seen historically. So it really is a dramatic change in the business, but we believe that that will work its way through in terms of protein prices in the end market.

And the question is how long does that take for that balance to work out? We have seen some fairly significant changes in terms of, particularly the livestock producers focus on the volume of their business, which is probably the biggest lever to being able to drive price in the end markets. And, you know, the uncertainty is how many quarters it takes for that to work itself through the system, but strategically the business is just as attractive as it was. We don't really see any difference in its contribution to the overall Alpharma story.

Jeff Campbell

Yeah, and Greg, I'll just supplement that from a financial perspective. Certainly, the second quarter was a challenging one from the revenue perspective as we went through, but the business continues to execute on the things that enabled it to have the kind of profitability it's had for the last three years.

So, in my comments I called on gross profit margins on a percentage basis, first half of this year versus first half last year, were down less than a 100 basis points and that's a function, not only of productivity programs, but we certainly are seeking price where we can, recognizing that end market pricing, there is a bit of an imbalance here and we think we can continue to leverage that business and if, as the markets clearly uncertain as we move forward, but as they change I think the business is well positioned to be a continuing strong business.

Gregg Gilbert - Merrill Lynch

And just one more quick one, Dean, a clarification on ketoprofen gel, Am I right to assume that the SPA is off the table because the studies have started and the SPA has not been finalized? Or is there still a chance to get agreement there officially? Thanks.

Dean Mitchell

Yeah, just to be absolutely clear on this, the regulations say that if you start the clinical trials, the FDA will not retrospectively approve an SPA. And again, just to get a little bit more color on this, we did go through two rounds of very rigorous discussion with the FDA.

We reached complete agreements on all of the elements that should be included in the study. We've done pretty well everything the FDA was recommending. So we believe that we have good understanding with the FDA of what's required. The FDA is clearly under tremendous resource pressure and they told us that although they are generally required under PDUFA to stick to the 45-day review of SPAs, they didn't believe they were going to be able to hold to that 45-day time period for a third round of review. And we decided we were better off starting the study, given the high degree of agreement that we had with the FDA.

And just as a reference point, these types of studies are actually a lot more straightforward in terms of their design than some of the opioid studies, so we feel confident we've got a study design which reflects the prior experience of IDEA with the product and what the FDA is looking for.

Gregg Gilbert - Merrill Lynch

Thank you.

Operator

Your next question comes from James Kelly with Goldman Sachs.

James Kelly - Goldman Sachs

Great, thank you very much. I have two questions. First off, on the refill data on the FLECTOR Patch, the one thing to look at is, the relative size of refills seems to be pretty stable recently. I wonder if you have any comments from the field on that.

And then secondly, SG&A was up in the second quarter versus the first quarter. I know there were some comments on that, but I think back in the first quarter call you said that we would start to see the leverage. Did anything change as far as that goes versus what we saw in the first quarter, and do you still expect to see some important leverage in the back half? Thank you.

Jeff Campbell

Yeah, thanks, Jim. The feedback from the field continues to be very consistent, really not seeing anything in terms of either the number of patches or the average number of patches per script, which has been very solid at 45, and the TRx to NRx ratio is pretty consistent at about 90% NRxs, which, again, for an acute product is pretty well what you would expect. The implication of that is that the product is largely being used on label and pretty consistent with the sort of support we have for managed care at this stage.

On the second part, on the SG&A, we consciously increased some of our promotional activities in the second quarter for two reasons really; one, reflecting the competitive situation with Voltaren gel, as I mentioned earlier, and more importantly, as a way of balancing the managed care situation.

We brought forward a few programs. The guidance that we talked about for the full year still stands, but this is very much a first half/second half story and we expect the proportion of SG&A first half to second half to be considerably lower.

Operator

Okay. Our next question comes from Gregg Gilbert -- I'm sorry, from Tim Chiang from FTN Midwest Securities.

Tim Chiang - FTN Midwest Securities

Hi, thanks. Just a couple questions. I guess the first one is; when do you expect the FDA to make a decision in terms of accepting your filing on EMBEDA?

Dean Mitchell

Tim, it's typically 60 days. And again knowing the pressure this division is under, I wouldn't be at all surprised that they take the full 60 days. They do typically have an internal review data of 45 days, so it can come up any time between that 45 and 60-day period. But we certainly don't have any expectations we'll hear in less than 60.

Tim Chiang - FTN Midwest Securities

And then circling back to FLECTOR; I noticed your ASPs are actually rising. What, do you expect that to continue actually in the second half of the year?

Dean Mitchell

Good one for Jeff to take.

Jeff Campbell

Yeah, Tim, certainly our average value per script in the first half is on a blended basis. It's been a little bit less than $180, but keep in mind we're early in our managed, we're in the midst of our managed care discussions, and our net price does not reflect much in the line of Medicare Part D or managed care rebate shift.

So we certainly would continue to expect that the average value per script would decline in the second half of the year, and assuming we stay at 45 scripts, even with that, we would expect it to continue to decline.

Tim Chiang - FTN Midwest Securities

I noticed that there was some inventory build on FLECTOR this quarter. How much inventory do you have there at this point in terms of…?

Jeff Campbell

We have right about one month in the channel.

Tim Chiang - FTN Midwest Securities

Okay.

Jeff Campbell

So we ended the first quarter at significantly less than one month in the channel and in the second quarter we've got the wholesale channel right at about one month which is our target, Tim.

Tim Chiang - FTN Midwest Securities

Okay.

Jeff Campbell

So we'd expect to maintain that level going forward.

Tim Chiang - FTN Midwest Securities

And given what happened with Animal Health, is there any way you can hedge some of your commodity costs at all at this point?

Jeff Campbell

Tim this is Jeff, I will comment on that in two respects. From our internal cost structure, we certainly look for opportunities to buy forward selectively and we've always done that. And keep in mind this is always one element of this equation.

The other element of this equation is the impact on our customers and their purchasing behaviors and the ultimate pricing they get in the end markets and of course that's a bit more out of our control. But certainly we do everything we can to mitigate the impacts.

Tim Chiang - FTN Midwest Securities

Okay. And then just one last question for Dean. What are your expectations for bringing in additional products in the back half of the year? Does this quarter's results sort of accelerate the need to acquire in-license more products?

Dean Mitchell

No, actually this quarter's results doesn't change anything strategically. We've seen a blip in one part of the Animal Health business, so I think we've got to keep that in perspective. Strategically, we clearly are focused on building our portfolio in both of our businesses. We've been looking very actively at a number of deals and potential deals and as I said, we're going to be very financially rigorous in evaluating those opportunities.

We're not going to do any bad deals, let me put it that way. We don't feel that we need to rush to do any deals. We have plenty of things operationally to focus on internally that we need to get right and that's our highest priority. But don't be surprised if we do some deals in the second half. We have plenty of things in our evaluation stage and if they meet our criteria, we'll execute because we have plenty of resources to be able to do that and it's in line with our strategy.

Tim Chang - FTN Midwest

Okay, great. Thanks.

Dean Mitchell

Thanks, Tim.

Operator

Our next question comes from Ian Sanderson with Cowen.

Ian Sanderson - Cowen and Company

Good morning, and thanks for taking the questions. First on EMBEDA, have you had any guidance in your discussions with the FDA as to whether a panel review will be required on that? And related to that, any additional color on what data might be included in the label? And then secondly, on FLECTOR Patch, do you have an update on where the prescriptions are being written. In other words, the split between the primary care and pain specialist?

Dean Mitchell

Okay. Let's start with EMBEDA, really no new color to add in terms of any of the data. The FDA hasn't given us any sense of how they are looking at this and we wouldn't expect that until they get into the full review process. In terms of an advisory committee, we expect to have one. I would be a little bit surprised given the controversial nature if this whole abuse-deterrent, the agency didn't want to have an advisory panel

We haven't been advised of that yet, and typically you wouldn't hear about that until perhaps 30 days to 60 days before the panel is held. It's our assumption that we will have a panel probably around the October, perhaps even November timeframe, and we're actively preparing for that. So based on what happened with the Purdue review, I think we've got a lot of things we can take from that to prepare our material and present the best case. What was your final question on FLECTOR?

Ian Sanderson - Cowen and Company

On FLECTOR, just an update on where the prescriptions are being written in terms of the split between primary care and specialists?

Dean Mitchell

Yes, it has actually again stayed fairly steady. It's just around 30% coming from primary care and then the rest is a variety of different specialist groups. Really not many changes in the six months it's been on the market.

Ian Sanderson - Cowen and Company

Okay, thank you.

Dean Mitchell

Thanks, Ian.

Operator

Our next question comes from Dave Windley with Jefferies & Company.

Dave Windley - Jefferies & Company

Hi, thanks for taking the questions. I wanted to ask, first a question about Animal Health. If I understood correctly, Jeff, you mentioned that on the gross margins, the diminution, there was 100 basis points or less. The overall margin certainly looking, sequentially overall margin declined some 600 basis points. So I wanted to get a sense for what the flexibility is in the cost structure, SG&A and R&D cost structure of that business. I have to conclude that it's fairly fixed based on what margins did with the lower volume in the quarter?

Jeff Campbell

Sure, Dave. First of all, let me make sure I'm clear. That was a first half to first half comparison.

Dave Windley - Jefferies & Company

Okay, okay.

Jeff Campbell

So it's a little bit more if you do second quarter to second quarter.

Dave Windley - Jefferies & Company

Okay.

Jeff Campbell

And we have a blend. We have some internal manufacturing. With that comes some fixed overhead, so obviously you can leverage that up or down, so as volumes move, there's impacts on that. I think it's also worth calling out in the quarter. Our R&D spending was up about $1 million and I wouldn't suggest that's the run rate. That's just somewhat the timing of some of our regulatory actions and programs and the like.

And SG&A costs are relatively tightly managed. There's some choices one can make there, but there are not nearly as many choices in the SG&A line in the Animal Health business as there might be in the pharmaceutical business. The other thing to call out Dave too is, remember the impact of energy and the like certainly impacts our distribution costs as well.

And while we have minimized some of our internal manufacturing over the last three or four years, what we have done is create a more diversified supply chain where we've been able to get some favorable pricing around the world and nice diversity in our supply chain, but that also entails a lot more movement of products. So as energy costs are up, that certainly impacts our distribution costs. I hope that gives some flavor for you as to…

Dave Windley - Jefferies & Company

Sure. So I guess getting back to the general statement that you hope to be able, through price and efficiency, to offset these commodity cost impacts on the business that basically the acute exacerbation of those commodity costs was difficult to offset in those ways in such a short period of time. Is that a fair statement?

Jeff Campbell

I just want to add one thing to it, Dave, is volume. Keep in mind that volume has a big variable margin. So volume is important here. So to the extent the second quarter is seasonally one of our lowest quarters and certainly we were down. So to the extent volumes are down, that impacts the equation significantly.

Dave Windley - Jefferies & Company

Okay. And moving to SG&A, Dean, you commented on the first half being a tale of two halves here on SG&A. I believe the comments before were something on the order of 48% to 50% of sales on the SG&A line. The first half is obviously well above that. Will the second half be enough below that to bring that down to that range on the full-year basis?

Jeff Campbell

Hey, Dave, maybe I should, I'll go first on that.

Dave Windley - Jefferies & Company

Sure.

Jeff Campbell

I think when Dean gave the business outlook, he clearly said there's a range of possible outcomes that encompass our view on the year and that 48% to 50% certainly had a cost assumption and had revenue assumptions in it and there's choices we can make depending on how revenues play out in both of our businesses in the second half of the year and in cost decisions that we make. So we've intentionally not specifically updated every individual assumption underneath our guidance, but we certainly are reaffirming our overall guidance because of the balance of range of assumptions and the balance of choices that we can make as the year unfolds.

Dave Windley - Jefferies & Company

Okay, and within the sales force deployment, could you comment on, say the timing of, I believe during the second quarter there was some training activities that went on and perhaps comment on the timing of that and your satisfaction or lack thereof with the contract sales team that's in place?

Dean Mitchell

Yes, your field intelligence is very good, Dave. Obviously we have regular, every four-month meetings with our sales force and as we have new information to update them on, we have small training meetings, so for example, the new label information that we got, it was worth pulling people out of the field for a day to do some specific training on. So that's fairly normal behavior.

In terms of the contract sales force, they are performing pretty well exactly as we had hoped, so remember, they are not calling on the highest potential positions, but they are generating approximately the number of prescriptions that we expected, so they are performing pretty well.

Dave Windley - Jefferies & Company

Okay, and my last question and I'll jump out. On the KADIAN, it looked like sales trailed script growth and you commented on I believe higher discounts. I missed the specifics around that, but was that the only item that kind of netted down the sales there, or was there -- I think you mentioned the inventories were relatively flat. I was just looking for anything else that might have dampened the sales growth for KADIAN?

Jeff Campbell

Yes, David, it's a couple of factors on discounting. Certainly year-over-year Medicare Part D is a factor and also Tricare coming back in this year. So that's certainly a factor on the discounting. There's a bit of a mix issue and that doesn't necessarily indicate a trend going forward, but there's a mix that we had a little bit less of the higher dosage and more of the lower dosage that impacted us. And the other thing to recall is in the second quarter of 2007, we launched the 200 milligram.

Dave Windley - Jefferies & Company

Okay. All right, great. Thank you. Thanks for the answers.

Dean Mitchell

Thanks, Dave.

Operator

Our next question comes from Scott Henry with Roth Capital.

Scott Henry - Roth Capital

Thank you, and good morning. First, on Animal Health, as we start to compare your operations to other people, I was wondering if you could give an update on what percent of your revenues are outside the US versus in the US, as well what percent of your manufacturing takes place inside the United States.

Dean Mitchell

Good morning, Scott. Roughly, about 40% of our business is international outside the US and, again, I'll just reiterate that that business did extremely well in the second quarter. Again, just to sub-segment the three parts of our business, the international did well, the poultry did pretty well and the real pressure was in the livestock business and then about 60% of our total manufacturing is in the US roughly and the rest is international.

Scott Henry - Roth Capital

Okay. And then, with regards to increasing price for your customers, have you materially tried to do that, or what tends to be the lag in terms of when you would pass on your input price increases to your customers?

Dean Mitchell

Yeah. Again, we have some contracts which are annual contracts, but we have a number of others which allow us to increase prices. We've been taking pretty well as much price as we feel is appropriate with our customers. And in fact, we've seen more price this year than the last several years and clearly our customers are trying to pass on price themselves. So we're trying to find that right balance, but we're certainly trying to be as assertive as we can in terms of passing on the increased commodity costs.

Scott Henry - Roth Capital

Thank you, and if I could just ask a question on the ketoprofen gel trial, as you've given more information now than you have in the past and when we try to contrast your Transfersome gel with the Voltaren gel, obviously it's twice a day versus four times a day. I did want to ask, did you say it was the US study going to use 100 milligram dose?

Dean Mitchell

That's correct. That's right, Scott, and the European will look at both 50 and the 100.

Scott Henry - Roth Capital

And, over how many joints is that 100 milligrams?

Dean Mitchell

It's an OA study. I believe it's single-joint. I believe it's single-joint.

Scott Henry - Roth Capital

Do you have any, I guess and you may not want to make these comments right now, but just qualitative comments with regards to your gel versus Voltaren gel, particularly in regards to the amount of gel needed? I mean, 100 milligrams is still a pretty substantial amount.

Dean Mitchell

Yeah, I think it's too early really, Scott. We would like to wait till we see the results of these clinical data. Obviously we'll have a lot more than to really understand the profile of the product, including the comparison arm with Celebrex, which I think will tell us a lot about the potential for a topical product to replace really one of the key oral therapies.

The other thing, which I think is probably good from our point of view is that for a relatively non-attractive product profile, I think the Voltaren gel has done reasonably well which validates that osteoarthritis gel segment from our point of view and we're very much targeting to come out with a superior product. But again, the clinical data will demonstrate what that superiority level is.

Scott Henry - Roth Capital

All right. Thank you for taking the questions.

Dean Mitchell

Great. Thanks, Scott.

Operator

Our next question comes from Gary Nachman with Leerink.

Gary Nachman -Leerink

Hi, good morning. First question is on FLECTOR, and now that you guys are in negotiations with accounts, what's the target for managed care coverage with FLECTOR in terms of Tier-2 and Tier-by the end of this year and then into next year?

Dean Mitchell

Yeah. Thanks, Gary. I'm sure you wouldn't expect me to give competitively sensitive details like that, but I will give you sort of the general strategy. Our analysis before we actually launched the product was, so long as we were at least a Tier-3 with no major restrictions, we would be quite happy with that sort of positioning.

We continue through our discussions to believe that's the case, although we are looking at Tier-2 in certain plans as well. Depending a little bit on what the LIDODERM patch positioning is on certain plans. And really what it then comes down to purely and simply is what are we prepared to pay in rebates to get the different levels of access and that's the type of negotiation we're in right now.

Gary Nachman -Leerink

Okay. And what types of restrictions have the formularies put in place, I guess to prevent use of your products? Is it mostly prior authorization? Is there anything else that they have been doing? Is it actually off formulary in a lot of cases?

Dean Mitchell

Yeah, there are very small number of plans that have NDC block, and that's less than a handful of plans. The real issue is prior-offs and limitations on the number of patches. So I think the biggest issue is prior-offs and the prior-offs range from sort of fairly simple administrative activity to be done which might be making a phone call or filling in a form to quite onerous prior-off including prior usage of oral NSAIDS.

And what we're trying to do is obviously minimize the restrictions both in terms of prior authorization, but also limitation on the number of patches which can be prescribed. And that's why it ends up being a fairly complex negotiation, because there are multiple dimensions that could be played with.

Gary Nachman -Leerink

Okay, and anecdotally, why are physicians and patients using the Voltaren gel you think versus your product, sounds like there is competitive dynamics going on there? And then could you briefly describe some of your programs that you put in place I guess to sort of combat that?

Dean Mitchell

Yeah, I mean anecdotally really it's still early in the Voltaren gel launch as well as the FLECTOR Patch launch. But, I think it demonstrates there is a market interest in topical products. It's another new and different approach. It does have an indication which is different from the FLECTOR Patch, and it's quite likely that physicians are trying it in places where the patch is not necessarily the most appropriate approach.

You know, obviously some joints are more amenable to a gel than a patch, and some types of physicians or some physicians generally prefer gels to patches. So I think we're seeing exactly what we've predicted when we did both deals last year, which is there's plenty of room for this topical segment of the market to grow and that there will be market segmentation over time, the differentiation between both patient and physician types.

And we're in the early stages of that segmentation happening. Just in terms of the things that we're doing, we're very actively continuing to refine the positioning of our product, the right promotional mix, and for competitive reasons, it's not appropriate for me to go into a lot of detail around that, but I'll just leave you with the thought that we are being very aggressive around our marketing efforts.

Gary Nachman -Leerink

Okay. And then last question, on the sales force, as you're thinking change in terms of will you take up the sales force in front of the EMBEDA launch, or do you think you have the right group in place? Thanks.

Dean Mitchell

Yeah, I think, Gary, when we did the sizing of the sales force last year, we said that we were sizing it with the expectation that would be the appropriate size for both FLECTOR Patch and EMBEDA. As we've rolled out the FLECTOR Patch launch, it's been obviously somewhat more successful than we expected in the initial stages and we continue to evaluate if there's further upside link to sales force size and structure, and it's appropriate that we continue to evaluate those things. But, we certainly haven't reached any different conclusions than the conclusion we gave when we did the original sizing.

Gary Nachman -Leerink

Okay. So increased sales force isn't factored into your plans right now, at least for 2008?

Dean Mitchell

Certainly not for 2008, correct.

Gary Nachman -Leerink

Okay, great. Thank you.

Operator

Our next question comes from Kevin Kedra with Gabelli & Company.

Kevin Kedra - Gabelli & Company

Hi, guys. On Animal Health, you just spoke about the mix between US and international. Can you talk a bit about the mix between livestock and the poultry business, and especially in the US?

Dean Mitchell

Yeah, good morning Kevin. The US business, as I said earlier, is about 60% of our overall Animal Health revenues. Poultry business is about 50% to 60% of the global business, so I think it's probably not an unrealistic think. It's 50% to 60% of US revenue as well, maybe a little less than that -- I might be overstating it slightly. It's not a number I look at as percentages very often.

Kevin Kedra - Gabelli & Company

Okay. And on EMBEDA, you spoke about resource pressure at the FDA in dealing with the ketoprofen patch. So on the timeline for EMBEDA and your Q1 launch projection, do you feel that there's increased risk there, given the pressures that the FDA, that they may take longer to review the product?

Dean Mitchell

Again, that's one of those things that's a little bit outside our control. But again, our expectation is that we will get a priority review. They told us that when we put the original submission in. Nothing's changed to alleviate their concern about the whole concern around abuse of opioids.

So I think that issue will suggest that this will be a high priority for them in terms of allocating their resources. I think if you sort of compared that with a third round of SPA review on ketoprofen, it's not surprising that they would allocate their resources to priority review opportunities.

Kevin Kedra - Gabelli & Company

Okay, thanks.

Jeff Campbell

Hey Kevin, and just to help Dean, I looked at, we're close to around 40% US business is poultry.

Kevin Kedra - Gabelli & Company

Okay.

Operator

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

Frank Pinkerton - Banc of America Securities

Hey, great. Thanks for taking the question. I mean, I guess we've been talking about commodity prices for the last couple of quarters and, you know, it's something that's been out there. Can you guys help me with another situation?

I guess now the guys here internally at least are pointing toward some different fundamental metrics showing that not only with crude, but some of the other commodity costs in general are coming off, especially in relation to the dollar.

So as we talk about what's been strong international business, what happens if we've got a flip scenario of what we have now, which is a little bit lower commodity costs, but weakening in the European markets, how would that impact your Animal Health business for the remainder of the year?

Dean Mitchell

Very, very good question, Frank, and obviously there are a lot of variables, and we look at each of the regions of the world separately. It's quite interesting that when you dig into commodity prices, there are big variations in commodity costs around the world.

And even though you expect commodities like corn to have consistent global pricing that's absolutely not the case and it gets somewhat distorted by regional subsidies, by imbalances in production in different parts of the world. So, for example, while we've seen corn in the US go as high as $9 a bushel, and it's now back in the low 6s, we've, for example seen corn in China stay at around $4 a bushel.

So I think there are a whole number of dynamics behind the top line that we understand and impact the business, but easily modeled in terms of their overall impact. Just as a general comment, as the dollar gets weaker, it's actually better for our international sales, but does hurt some of our US customers who focus on exports. So as I say, it's very multi-varied, let's say, in terms of the analysis.

Frank Pinkerton - Banc of America Securities

Okay, and then I just want to make sure I've got the commentary down on price increases potentially from Animal Health business. I know this is a question I ask every quarter, but as we go through the cycle here and we see the higher commodity costs, what is that actual ability to pass that on? I know you've talked in the past about just specifically saving money and operating better. Do we actually see now the environment for passing on higher costs in Animal Health?

Dean Mitchell

Yes. In fact, I think one of the earlier callers asked the same thing, Frank. We've taken a number of price increases in our Animal Health business this year and they have been sticking, which is good. And I think there's a reasonable assumption that all our competitors in the MFA segment are feeling the same pressures we are in terms of input costs and there seems to be a fair amount of market discipline.

Frank Pinkerton - Banc of America Securities

Okay, and then in expense, because I've been on and off maybe asking the same question someone else asked earlier, but when I look at your SG&A expenses, can you talk about the increases sequentially that happened first and second quarter, and which of those are maybe more permanent SG&A expenses, like sales force adds and maybe what percentage of that would be one-time sampling or heavy sampling or something else with the launch of FLECTOR, so we can think about a run rate there going forward? Thank you.

Jeff Campbell

Frank, its Jeff. The sequential increase in SG&A, I would say is pretty much all variable. It's things like speaker programs and additional promotion materials we did given the competitive landscape we saw in the quarter, and given where we were in our managed care discussion. So I would say it's much more variable than a fixed increase that we had Q1 to Q2.

Frank Pinkerton - Banc of America Securities

Right. Thank you.

Dean Mitchell

Thanks, Frank.

Operator

Our next question comes from [Lei Wang] with Summer Street.

Lei Wang - Summer Street

Hi, thanks. I have a couple of questions. As far as your pre-launch activities for EMBEDA, do you expect most of that cost to be in 4Q'08 or early part of 1Q'09 or would it be spread kind of evenly between the two?

Dean Mitchell

Lei, we've only given guidance on 2008 and obviously our pre-launch assumptions were based or built into our assumptions about what would happen to SG&A. Obviously, with the quarter 1 launch, all the key expenses would typically fall into the same quarter as that launch happens, although we have a number of activities planned which are preparing the market for EMBEDA. For example, market research and preparation of promotional concepts, that typically is done a little bit further ahead than one quarter.

Jeff Campbell

Right and Lei, I'd supplement that to say that there are investments in our second quarter for market research associated with EMBEDA, branding work, so there are costs already in our cost structure in preparation for that, and we would expect some continuation in 2008.

Lei Wang - Summer Street

Okay. Thank you. And then as far as your EPS guidance, I know you maintained a $0.15 to $0.35, and I understand there is unpredictability especially in the Animal Health business. But is there any way you can narrow that range a little bit or point us in one direction versus the other, given that we are halfway into 2008?

Dean Mitchell

Yes, Lei, obviously we give a range because that covers a range of possible outcomes and as we move through the year and we have more certainty, we'll narrow that range down as we have done in previous years.

Lei Wang - Summer Street

Okay, but you're still not comfortable doing it at this point?

Dean Mitchell

No, and as I say that's why we provide a range.

Lei Wang - Summer Street

Okay, fair enough. And then as far as the ketoprofen gel studies, I understand that both studies are 12 weeks, but can you tell us if there are any interim looks either at week 4 or week 6 or week 8 or something beyond, other than just the 12-week final look?

Dean Mitchell

Well, obviously patients come back more often than just at the end of the study and so data is gathered at various points within the study. But under good clinical practice, if you take a look at data, then you actually take a penalty in terms of the statistical analysis, so we don't plan to do that.

Lei Wang - Summer Street

I guess I was wondering more if when you have the entire study completed, I assume your 12-week endpoint is a primary endpoint, but would there be data to show effect or separation from placebo at earlier times?

Dean Mitchell

There will, yes.

Lei Wang - Summer Street

Okay. Okay. Have you disclosed what those might be?

Dean Mitchell

We haven't. That's part of our negotiation with the FDA and again, I don't feel inclined to share any of that and help our competitors.

Lei Wang - Summer Street

Okay, fair enough. All right. Thank you.

Operator

Our next question comes from Ken Trbovich with RBC Capital Markets.

Ken Trbovich - RBC Capital Markets

Thanks for taking the question. Just circling back to Animal Health, I know there's some reluctance obviously on specificity here, but historically second half results have typically been stronger than first half in terms of revenue. To what extent has that perhaps given you confidence that the operating margins have a chance at rebounding despite some of these other issues you've been facing in the second quarter?

Dean Mitchell

Yes, that's a good question, Ken, and you are absolutely right, particularly on the livestock side. Second quarter tends to be the lowest quarter anyway; and again, just thinking about the dynamics behind this, the livestock segment is made up of two parts of the business:

It's the cattle business, where typically their choice, if they have very high input costs, is to leave the animals out in pasture for longer, reducing their grain costs when they actually come into the feed lots. It's when they are in the feed lots they use more of our product. So typically that will happen in the third quarter and what we expect to see is whether that will be third or fourth quarter. That's the variable that depends quite often on climactic factors in the US or climate factors.

And then the second business is the swine business and that's the business that's probably been under the most pressure because basically pigs eat very little except grain. That's the food that they eat and therefore there's been very significant culling of herds in some of the major markets. And we've seen quite a significant adjustment of herd size, and we're already starting to see the early signs of that playing through in pricing increases, and also as you saw from some of the food producers earlier this week, that's provided an opportunity in international markets.

The reason I give that extra detail is that it's a fairly complicated patchwork of things that have happened in the second quarter and it's difficult to predict. It's not that we're reluctant to predict, it's that there are a lot of variables that could play out in different ways and I think it's fair for us to reflect that uncertainty in the comments we've made today.

Jeff Campbell

And Ken, this is Jeff, not to overstate the obvious, but obviously the volumes have an impact on the margins as we move through the year.

Ken Trbovich - RBC Capital Markets

Sure, sure. No, it sounds like from what you were saying that if the revenues would come in at a normalized level, the margin pressure would not have been as severe as what was reported in the quarter.

Dean Mitchell

Certainly. That's positively true.

Ken Trbovich - RBC Capital Markets

Okay. And then just as it relates to the overall business and the flexibility, I know there's been a lot of focus on the SG&A line as well. To the extent that you're trying to, on the one hand secure the managed care contracts and restart the growth in FLECTOR, what risk is there that as you reduce the SG&A spend in the back half of the year, that it has the opposite intended effect of perhaps holding back on what you otherwise hoped to be a rebound in FLECTOR script growth?

Jeff Campbell

Yes. One thing that gives us a fair amount of confidence there, Ken, is that we can balance what's actually happening with managed care and therefore the rebates with our investment in SG&A. And one is not a direct offset for the other, but clearly we think that we've got a fair amount of flexibility between those two lines. They happen to be in different places in the P&L, but when we think about the overall investment in FLECTOR, we have plenty of different levers to still be able to pull at this stage of a product's life.

Ken Trbovich - RBC Capital Markets

Okay. And then final question from me on the R&D side, obviously there is a slight sequential uptick, is there any development on ALO-02 or timeline for that that we can hear?

Jeff Campbell

Really no change. We continue to work on ALO-02 in terms of getting it ready for Phase III studies and no real change in our expectations there. We expect to be ready for Phase III studies by the end of the year.

Ken Trbovich - RBC Capital Markets

Okay. And as it relates to ALO-02 in the filing strategy, to what extent are you tracking the pain therapeutics application with Remoxy and hope to pursue a similar strategy as it relates to not having to certify against Oxycodone?

Dean Mitchell

That's a great question, Ken. We're watching it very closely.

Ken Trbovich - RBC Capital Markets

Okay. Thank you.

Operator

(Operator Instructions) Our next question comes from Gregg Gilbert with Merrill Lynch.

Gregg Gilbert - Merrill Lynch

Hi. Can you share your enrollment timeline goals for the ketoprofen product and what's the earliest timeline for a potential topline readout?

Dean Mitchell

Again, Gregg, typically we wouldn't give those expectations, but I will say that IDEA put out a press release yesterday which suggested they were hoping to complete enrollment by the end of the year. If that's the case, then it's likely that we'll get some sort of first read by the end of first quarter.

Gregg Gilbert - Merrill Lynch

And can you share whether you need success in both studies or just one?

Dean Mitchell

I don't necessarily want to go into a lot of detail, but what I will say is that when we did the analysis of the data that was available before we did the deal, our belief was that there was already one positive study that could be used from the prior clinical data, and so we need to get at least one of these two studies to be successful. Obviously we prefer them both to be, but I think we have a little bit more latitude.

Gregg Gilbert - Merrill Lynch

Thank you.

Dean Mitchell

Maybe, just one thing to add to that I suppose, which is if you have a look at topical NSAID studies, it's not unusual for there to be study successes and failures and if you have a look at Voltaren gel, I believe they had two successful studies and two failed studies. So it's fairly hard to get separation from placebo in these types of trials, part of the reason why we were pretty conservative and put two studies in place.

Operator

And our next question comes from Lei Wang with Summer Street.

Lei Wang - Summer Street

Hi, thanks for the follow-up. Just on the FLECTOR Patch, you mentioned, and I think we all see that prescription has been relatively flat over the last two months or so. How much do you think that is attributable to the fact to managed care stepping up restrictions a bit to leverage their negotiations with you as you suggested versus (inaudible) slowdown a bit, i.e. as we exit the summer over the next month or so, should we should expect to see a pickup in the trend, regardless of what happens on the managed care front?

Dean Mitchell

You're asking a lot of good questions, Lei, the sort of questions I ask on a regular basis and we're learning about this market as we develop this topical market. I think clearly there has been a little bit of seasonality and it will take several years of this market being in place before we really understand those types of dynamics.

Managed care has tightened somewhat, so that's obviously had some effect and typically what happens is for physicians who have perhaps used the product once or twice, if they get a negative reaction from managed care, it has a halo effect on their future usage of the product. And you also got to bear in mind here I think that ketoprofen gel has come in with another new and interesting story, which is a little bit different to FLECTOR Patch. So again, I think there are a number of dynamics. It's hard to apportion between those various things.

Lei Wang - Summer Street

Okay, thank you.

Dean Mitchell

Thanks.

Operator

(Operator Instructions). Our final question comes from Tim Chiang with FTN Midwest Securities.

Tim Chiang - FTN Midwest Securities

Hi, just one last question. You guys mentioned a little bit about seasonality playing a role in the Animal Health business. Do you expect that to help you in the second half of the year in terms of volume? I just want to get your thoughts on that?

Dean Mitchell

Typically, that's exactly what happens, Tim. The second half is a lot stronger than first half. Particularly third and fourth quarters tend to be higher volume in the livestock business.

Tim Chiang - FTN Midwest Securities

And I mean historically, what sort of sequential type of volume increases have you seen?

Dean Mitchell

That's a tough question for me to answer off the top of my head. Perhaps that's a good follow-up call with Jack. I would be happy to share that information with you.

Tim Chiang - FTN Midwest Securities

Okay. And you did indicate that you have raised prices on some of your products. And do you expect that to also augment the performance in the back half of the year?

Dean Mitchell

Correct, yes, we would certainly expect that to play through.

Tim Chiang - FTN Midwest Securities

Okay, great. Thank you.

Dean Mitchell

Good. Well, thanks, everybody, very active Q&A session today, I appreciate that.

Jack Howarth

Thanks, again. A replay of this morning's call will be available after 12:00 noon today. The rebroadcast may be accessed on the internet at www.streetevents.com, or by telephone using the following information. In the US, dial 877-919-4059, and dialing from an international location, 334-323-7226. The participant code is 62693692. As always, if you have any follow-up questions, please give us a call. Thanks again for participating.

Operator

Thank you. This concludes the teleconference. You may now disconnect your lines.

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