Horizon Therapeutics Public Limited Company
Q3 2015 Earnings Call Transcript

Published: 6 Nov 2015

[Operator:]

Good morning, ladies and gentlemen, and welcome to the Horizon Pharma Plc third quarter 2015 earnings call. As a reminder, today's conference call is being recorded. I would now like to introduce and turn the conference over to John Thomas, Executive Vice President, Corporate Strategy and Investor Relations. Please go ahead, sir.

[John B. Thomas:]

Thank you, Kaylee. Good morning, everyone, and thanks for joining us. On the call with me today are Tim Walbert, Chairman, President and Chief Executive Officer; Paul Hoelscher, Executive Vice President, Chief Financial Officer; Jeff Sherman, Chief Medical Officer and Executive Vice President, Research and Development; George Hampton, Executive Vice President, Global Orphan Business Unit and International Operations; John Kody, Executive Vice President and Chief Commercial Officer; and Bob Carey, Executive Vice President, Chief Business Officer. As you're well aware, there's been a lot happening in the market as of late. So, this morning, Tim will provide a high-level review of our exceptional third quarter performance and also discuss our strategic, and patient-focused company objectives. Paul will provide additional detail on our financial performance, including our new full-year 2015 guidance that we raised significantly this morning. And finally, Jeff Sherman will provide an update on our clinical development programs in our orphan business before turning the call back over to Tim for some closing remarks. In addition, as we announced earlier this week, we're hosting an Investor Day this coming Monday, November 9, in New York beginning at 11

[Timothy P. Walbert:]

Thanks, John, and good morning everyone. I am pleased to report that we reported another exceptional quarter that substantially beat Street expectations for sales, adjusted EBITDA, and EPS. As a result, today we are also increasing our guidance for the full year 2015 by about 13% in sales and about 30% in adjusted EBITDA. Our business fundamentals are stronger than they have ever been, and I'm extremely proud of the impressive results achieved by each of our more than 700 employees. Specifically, today we reported Q3 net sales of approximately $226 million, representing year-over-year growth of more than 200%. Our third quarter adjusted EBITDA of $131 million reflects year-over-year growth of nearly 500%. In addition, adjusted EBITDA was approximately 58% of sales, a significant improvement from the first and second quarters of this year. Adjusted operating cash flow was once again very strong for the quarter, coming in at more than $100 million for the second consecutive quarter. Our strong quarterly financial results certainly deserve a lot of attention, including our newly raised guidance for the full year as well as improving our balance sheet and steady cash flow generation. Our company is performing at an extremely high level as we near the end of another transformative year. To that end, it is important to understand that our company, as it continues to grow, diversify, evolve, and as we advance our strategic financial, patient, and centered goals and objectives, we have a lot to cover. As John mentioned, I will provide an overview of our business and address what's been happening in the market recently. Paul will then cover the financials for the quarter, and Jeff will review the clinical development programs in our orphan business. We believe there is significant unrealized value within our orphan business which is not fully contemplated in our current stock price, and that's without assigning any value to ACTIMMUNE for Friedreich's ataxia or a potential clinical program for ACTIMMUNE in certain cancers. This is a topic we'll address further in detail at our investor meeting on Monday. So let me start at a high level. The Horizon Pharma of today looks quite different than it looked just a few short months ago, not to mention a year ago. Our current phase of rapid market-leading growth is exciting, dynamic, and has been rewarding for all of us. It represents greater financial flexibility for us to consider additional reinvestments in the business or external growth opportunities that further strengthen and diversify our company. Yet in the past few weeks, one challenge particularly has been increasingly apparent to us and to our long-term shareholders, and that is our investment identity. There has been a tremendous amount of noise in the marketplace and media recently about pharmaceutical companies, biopharmaceutical companies, and so-called specialty pharmaceutical companies, how they operate and do business, the cost of their medicines, and so on. There has been a lot of misinformation and misleading commentary provided by many incented to do so. So given this new market uncertainty, I would like to clearly articulate and remind folks of who we are, how we operate our business, and what defines our investment identity. If you're a long-term holder, you probably already understand this. First and foremost, it is important to understand that at our very core, we do put patients first. Patient access and affordability is at the heart of everything we do. It is the cornerstone of our company culture and something that we talk with each of our employees. In fact, I believe there's not a single company in our industry that has done a better job than Horizon in providing free medicines or medicines at greatly reduced costs to our end customers, the thousands of patients that we serve. I know firsthand about the cost of medicines and the difficulties that patients can experience simply trying to get a prescription filled for a medicine prescribed by their personal physician for an FDA-approved indication. I believe our healthcare system is the best in the world. But to be honest, it is complex and confusing and can be very frustrating for patients, doctors, and for our companies trying to work within its vast framework, especially when there's misinformation in the marketplace. I know this because I'm a patient myself. I have suffered from several autoimmune diseases for the last 25 years. I've been fortunate enough to take HUMIRA, an injectable biologic, to manage my disease and treat my symptoms. In dealing with my disease, some days are better than others. It's like the stock market. Each day I also take one of our own medicines, DUEXIS, a combination of the anti-inflammatory NSAID ibuprofen and the GI protective agent, famotidine. The reason I take DUEXIS is the same reason doctors prescribe it to thousands of their patients, for the clinical benefits it offers. I myself have had many stomach ulcers from taking NSAIDs over the years. FDA-approved clinical trials have demonstrated that DUEXIS can reduce NSAID-caused ulcers associated with taking ibuprofen, which is an effective pain and inflammation reliever for both osteoarthritis as well as rheumatoid arthritis. For anyone who doubts or doesn't understand the importance of GI protection, I would simply remind you that in the United States it is estimated that there are more than 100,000 hospitalizations each year and more than 16,500 deaths each year from GI bleeding and related complications associated with taking NSAIDs chronically. That is more people dying from taking their NSAID pain reliever than patients having opioid overdose and certain types of cancer. The bottom line is physicians believe that the value proposition of DUEXIS and VIMOVO is clear and compelling. And as a result, they prescribe it for their patients. For anyone who questions the use of DUEXIS or VIMOVO as a proven treatment option, when we look at DUEXIS, the facts are that it took seven years, two double-blind, placebo-controlled Phase III trials involving more than 1,500 patients, and more than $100 million in investment capital to develop this novel treatment. These are the two largest clinical studies ever completed for an NSAID with an H2 antagonist to reduce NSAID-caused upper gastrointestinal ulcers. And it demonstrated a 50% reduction in the incidence of those upper GI ulcers versus taking ibuprofen alone. So yes, this is an important medicine with powerful clinical data to support its use by physicians to treat an unmet medical need in the marketplace. It's also important to understand that just taking the two generics separately is rarely the solution. In fact, physicians co-prescribe a GI protective agent less than 25% of the time when prescribing an NSAID. And on the rare occasion that a patient is co-prescribed a GI protective agent, after three prescriptions, data shows that 60% of patients no longer take the GI protective agent. That's how I got the ulcers myself. So on a net basis, less than 15% of patients are potentially being protected against these upper gastrointestinal ulcers. This is what leads to the hospitalizations and more than 16,000 deaths every year which occur. Those who say patients can just take the two generics separately are ignorant as to how these patients are treated in today's marketplace. Taking two generic agents is impossible for more than 20 years, yet we continue to still see significant hospitalizations and deaths each year associated with these GI bleeds and their complications. Compliance is critical to clinical outcomes, similar to what we've seen in the evolution of treatment of HIV and hepatitis C. To say otherwise is not understand how patients are treated today. So, the bottom line is that DUEXIS and VIMOVO are innovative, patent-protected medicines that meet significant unmet needs. Physicians believe in these clinical benefits, and that is why they prescribe them. As a patient, I also understand the direct cost of medicines. And as a 25-year veteran of the pharmaceutical industry, I also understand that the complexity of the health care system and the push to limit choices for patients and doctors driven by alternative profit motivations is difficult. That is how our U.S. pre-market health care system works. It is far from perfect, but it still delivers, I believe, the highest-quality and most comprehensive patient care in the world, albeit with some room for improvement on access and affordability. It is for these reasons that our company created a patient-focused support program that puts patients first, ensuring that they get the medicines that their physicians have determined offer them the clinical benefit they need while limiting their out-of-pocket cost. And we take our responsibility to these patients very seriously. Out-of-pocket cost to patients had been increasing dramatically over the last several years as other profit-takers in the drug supply chain implement tactics to alter a physician's clinical decision. Rather than facing the impediments, limitations and complexity of the current system alone, we at Horizon offer a patient support program as an option to make it easy and affordable for patients to get the medicines that their doctors have specifically prescribed to them based on their FDA-approved clinical benefits. The end result is straightforward. Physicians prescribe our medicines based on clinical need. The patient receives the medicine their physician intended that they receive. And most importantly, patients receive their medications at the lowest level of out-of-pocket cost and as fast and efficiently as possible because the patients matter. Pharmacies that participate in our patient support program play an important role in improving patient access. These pharmacies are not owned by Horizon Pharma. We do not have any type of ownership stake. We do not have any options to purchase them in the future. These pharmacies solely dispense the prescriptions that physicians prescribe, and we work to ensure that patients receive what his or her physician has prescribed. And these pharmacies are not involved in changing prescriptions or disrupting the healthcare system. That is a fallacy created in the market to justify others' motivations. The pharmacies we work with are fully independent, full-service pharmacies that serve both retail and mail-order pharmacies. These pharmacies are non-exclusive and also fulfill prescriptions for many other drug manufacturers. Currently there are less than 10 independent pharmacies that participate in our patient support programs. And they work every day to ensure patients get the medicine that their physician has prescribed. We continue to work with additional pharmacies as we further diversify the number of participating pharmacies. In fact, no one pharmacy makes up more than approximately 13% of our net sales in our primary care and specialty businesses. And for any pharmacy that uses this program, we work diligently to ensure that they're meeting all of our strict compliance criteria and standards. If they don't, we quickly terminate participation, and we've done so. Furthermore, it is important to understand that these are independent businesses that operate in a very competitive and complex marketplace. There are nearly 70,000 pharmacies in the United States. So certain information about these pharmacies is confidential to their business and not available to us. We realize that some of you are asking for additional information about these pharmacies that distribute some of our medicines based on what's been happening recently with certain other companies. Please understand that the information on these pharmacies is not our information to share. It's proprietary to them. So, we will fully share the information and be fully transparent on what we have available to us. In addition, these pharmacies primarily purchase our products directly from major wholesalers. One pharmacy who purchased directly from us is in the process of moving to purchase product directly from a wholesaler. We ship our products directly to these major wholesalers and book sales at that time. Our net sale is a result of taking deductions for rebates to managed care organizations, creating the access to patients that I've referenced along with fees for wholesalers and other typical administrative thoughts. Importantly, our medicines are also available at traditional mass market retail pharmacies throughout the United States as we understand that many patients prefer to go to their local pharmacy. And about 25% to 30% of patients who take our medicines do just that. Finally and most importantly, nearly all the patients taking our primary care and specialty medicines, more than 96%, in fact, take $10 or less out of pocket, and some patients receive medicines their physician had prescribed for no cost at all. That is our commitment to ensure the system doesn't divert the physician's clinical decision for their own pockets. Our patient support programs are designed to subsidize part or all of a commercially-insured patient's financial burden, whether it's a co-pay, a patient's co-insurance payment or a prescription that a commercial payer rejects in spite of the physician's clinical decision. Have we been successful ensuring patients get the medicines physicians intended them to receive? Yes, we have. And we are proud we're doing the right thing for these patients. We're ensuring that the patient gets what their physician prescribed based on their FDA-approved clinical benefits, nothing more. We have done an outstanding job executing in a highly-competitive market by educating physicians on the FDA-approved indications and benefits and risks of our medicines. Has it cost our company significant dollars to manage this program? Well, obviously, it has, and we are proud of that spending. In fact, we have invested approximately $670 million in our patient support programs through free medicine and co-pay support this year alone, a remarkable commitment for a company of our size. Expanding this program earlier this year wasn't without risk, despite the concept of using specific pharmacies that have been around for many years and is used by most major pharmaceutical and biopharmaceutical companies. Still, it was a critical strategic decision for us to benefit patients and enable access for them to the medicines their physicians prescribed. As a result, patients get the medicines their physician intended at an affordable out-of-pocket cost, very quickly, typically within 24 hours. And that is an important part of the equation because patient compliance is critical to reducing these stomach ulcers. Through our patient support programs, commercially-insured patients get the exact medicine that their physician prescribed based on its FDA-approved clinical benefits. Those are the facts. The results speak for themselves. Over the last seven quarters, or nearly two years, through September 30 of this year, prescription growth throughout primary care and specialty products has increased approximately 190%, while our average net realized price has increased approximately 9% annually over the last two years, cumulatively 16%. So it's clearly that significant volume growth is driving our net sales, not price. This is an extremely important point that we want to make sure everyone understands, and it's why we consistently and transparently discuss our gross and net percentages with you, our investors. We have and we will continue to be transparent on all aspects of our business. We realize that we have to balance what we're doing for patients on the access and affordability side with what you, the investors, expect from us. It is an important balance that we owe to you as well as the patients we serve. It is one thing that we're managing well and we continue to execute commercially to drive significant volume growth at least with exceptional net sales and adjusted earnings growth you've seen today. While I've spent my time this morning clarifying our primary care business and specialty business, I want to comment on our orphan business, which we have significantly built through acquisition of three highly valuable products, ACTIMMUNE, RAVICTI and BUPHENYL. It is our belief that the value of our orphan business exceeds the combined value for primary care and specialty businesses due to the long lives of these medicines, their higher contribution margins, and lack of other approved therapies. Jeff Sherman will discuss the most exciting part of this business, our clinical development investment in ACTIMMUNE, including the Phase III trial under way for Friedreich's ataxia, a degenerative and crippling neurologic disease for which there are no approved therapies. You will also hear more about our plans for our orphan business, as well as our short- and long-term financial projections at our Investor Day on Monday. With that, let me turn the call over to Paul who will review our financial results in more detail.

[Paul W. Hoelscher:]

Thanks, Tim. Before I begin, as John referenced, this morning we provided information in our third quarter earnings news release and on the Investors portion of our website that reconciles our GAAP results to certain non-GAAP financial measures. Therefore, my comments will focus mainly on our non-GAAP, or adjusted results, which provide investors with a better picture of our ongoing business performance. As Tim indicated, today we reported third-quarter net sales of $226.5 million, an increase of 202% versus the third quarter of 2014 and an increase of 31% sequentially versus the second quarter of 2015. Sales growth was driven by strong performance across all three business units. Adjusted EBITDA for the third quarter was $131 million, or 58% of sales, significantly exceeded our expectations. This was a significant improvement for the second quarter of 2015, when our adjusted EBITDA margin was approximately 44% of sales. The increase in EBITDA primarily resulted from higher net sales driven by both increased volume along with improvements in our gross-to-net percentage versus the second quarter of 2015, as we expected. Based on the strong performance through the third quarter, we are again increasing our full-year 2015 net sales and adjusted EBITDA guidance. We are raising our full-year 2015 net sales guidance to $750 million to $760 million from $660 million to $680 million previously, and are raising our full-year adjusted EBITDA guidance to $350 million to $360 million from $265 million to $280 million previously, increases of approximately 13% and 30% respectively. Now I'll walk through our P&L in more detail. And as I referenced, we will refer to non-GAAP or adjusted results. The third quarter adjusted gross profit margin was 92.1% of sales, and we expect our adjusted gross profit margin for the full year of 2015 to be between 91% and 92%. Total adjusted operating expenses were $77 million or 34% of sales in the quarter. Adjusted R&D expense in the third quarter was $8.9 million or 4% of sales, and reflects our continued investments in ACTIMMUNE, where as Jeff will discuss, we continue to enroll patients in our Phase III trial for FA. As this trial progresses, we continue to expect full-year adjusted R&D expense to be in the mid-single digits as a percentage of sales. Adjusted sales and marketing expenses in the quarter were $44.8 million or 19.8% of sales, and G&A expense was $23.3 million or 10.3% of sales. We expect sales and marketing expenses to increase in the fourth quarter as the company continues to expand its sales and marketing efforts to drive prescription growth of our medicines. We also anticipate a higher G&A expense in the fourth quarter as we continue to build out our infrastructure to support Horizon's growth over the long term. Adjusted net income for the third quarter of 2015 was $117 million. And adjusted diluted earnings per share were $0.70, representing an increase of 268% as compared to the third quarter of 2014. The weighted average diluted shares outstanding used to calculate adjusted diluted earnings per share in the third quarter of 2015 were 166.8 million shares. We expect our weighted average diluted shares outstanding for the fourth quarter to be approximately 172 million, which results in an estimated full-year weighted average diluted share count of approximately 159 million shares. These diluted share amounts are lower than previously estimated, as the amounts will vary based on our share price. Moving on to taxes, on a non-GAAP or adjusted basis, we had a small tax benefit in the third quarter of less than 1%, reflecting a decrease in the cash taxes we estimate that we will pay for the year. For modeling purposes, we continue to suggest that you assume an adjusted cash tax rate of less than 1% for the remainder of 2015. Looking longer term, we expect our cash tax rate to be in the low single digits over the next few years, increasing to the high single to low double digits in the 2018 – 2019 timeframe, and then moving into the mid-teens thereafter. We continue to be aggressive in our pursuit of M&A. To that end, as we've previously stated, future acquisitions may impact these forecasted rates, and we will update our guidance as appropriate when that happens. And finally, let me provide a few high level comments on our third quarter cash flow and balance sheet as of September 30, 2015. For the third quarter 2015, we generated $88.4 million of operating cash flow on a GAAP basis. After adjusting operating cash flow for transaction-related payments, adjusted operating cash flow was $100.8 million in the third quarter, our second consecutive quarter of more than $100 million. While there were a number of moving parts within operating cash flow in the first and second quarters, we believe our third quarter operating cash flow is a better reflection of the company's normalized quarterly cash flow generation. We would estimate a similar level of non-GAAP operating cash flow in the fourth quarter. Cash and cash equivalents were $684.3 million as of September 30. The total principal amount of debt outstanding was $1.274 billion as of September 30, which is comprised of $475 million in 6.625% senior notes due in 2023, $399 million in senior secured term loans with an initial interest rate of 4.5% due in 2021, and $400 million of 2.5% exchangeable senior notes due in 2022. This capital structure results in a weighted average cash interest rate of approximately 4.7%. In summary, Horizon Pharma has never been in a better position financially. We generated another record quarter of sales and adjusted EBITDA, and again raised our full-year 2015 guidance for both of these metrics. Our operating cash flow generation is strong, and we have significant flexibility on our balance sheet to continue to execute accretive growth-focused M&A. Our current net debt to the last 12 months adjusted EBITDA leverage ratio is strong at 2.1 times. Now I'd like to turn the call over to Jeff.

[Jeffrey W. Sherman:]

Thanks, Paul, and good morning, everyone. I want to take the opportunity this morning to briefly discuss our pipeline and how we approach clinical development at Horizon. As the company has grown and become more diversified, we have built a stronger commercial foundation that has allowed us to invest even more in our internal development platform. Our clinical development strategy is underscored by two primary goals

[Timothy P. Walbert:]

Thanks, Jeff. In summary, regarding our third quarter, I'm very pleased with the team's overall performance in the third quarter and also year to date. We again far exceeded Street expectations for the quarter as we continue to drive strong commercial execution, expand prescription growth, deliver for our shareholders, and ensure patient access. We significantly raised our full-year 2015 net sales and adjusted EBITDA guidance ranges reflective of this strong growth. We're also delivering on our core principles, strong commercial execution, and aggressive and disciplined acquisition strategy, and expanding patient access while increasing affordability to our medicines. Moving forward, we will continue to drive and motivate our small but growing organization to deliver exceptional financial performance that creates market-leading shareholder value. With that, let's open it up for Q&A.

[Operator:]

[Operator Instruction] Our first question comes from the line of Annabel Samimy with Stifel. Your line is open.

[Annabel Samimy:]

Hi. Thanks for taking my question and congratulations...

[Timothy P. Walbert:]

Hi, Annabel.

[Paul W. Hoelscher:]

Hi, Annabel.

[Annabel Samimy:]

...on a great quarter. Thanks. I have a few, actually. First on RAVICTI, I wanted to know if you could talk a little bit about the penetration of the diagnosed population and the switch from BUPHENYL as well as your thoughts on infrastructure expansion once you get EU approval and when you might expect that. And then I wanted to talk a little bit about what seems to be pretty – do you think gross to net compression, and you've telegraphed this pretty well already that you've been able to renegotiate some fulfillment fees quite favorably. How sustainable is that going forward? What can we expect on that? And then, my last question is related to, obviously, we've seen the whole entire market re-price, rightly or wrongly. You clearly haven't been spared. So, given where stock price is now, how would you consider share buyback in this environment rather than large acquisition using equity which could be more dilutive than you might want, and then are you hampered in any way at this point to continue other business development? Thanks.

[Timothy P. Walbert:]

Thanks, Annabel. I'll start with the back first. We're not buying back shares.

[Annabel Samimy:]

Okay.

[Timothy P. Walbert:]

We believe that our capital on hand puts us in a great position as we've guided to complete or announce one to two transactions this year and we will continue to be disciplined in that manner. In fact that we think as the asset valuations have come down, it has increased the potential available opportunity for us to aggressively pursue. When it comes to gross to net, as we've said, we've guided to 75% from the beginning of this year until now, and what we did see moderation in that number for several reasons, and one is negotiating wholesaler fees, based on increased volume through our business, being aggressive in bringing down administrative costs related to managing our patient access programs, as well as discontinued acceleration of commercial growth of the product, and that put us across our primary care and specialty business at about 67% of our business with prescriptions going through our access programs in pharmacies we work with of about 69%. And that range is with, I'll just go through the numbers so everyone has them, DUEXIS is 68%, VIMOVO is 68%, and PENNSAID 67%, RAYOS 50% gross to net. So, those are the numbers. And on a go-forward basis, we continue to expect that the gross net will fall within the range we've guided. And all this, as we've said, enables prescriptions that are written by the physicians to get to the patient, and we continue to expect and see volume growth. On RAVICTI, the patients in the quarter were 355 versus 295 on a year-over-year basis, a 19% increase. We continue to see penetration increase and on a net basis, a number of anywhere from two to four new patients per month. We had guided all along and have been taking strong efforts to move patients in the retail channel for BUPHENYL into our reimbursement hub where the patients can be communicated with, help understand the benefits, get the product to them more efficiently, and we have about 100 of those patients moved into our hub. And we continue to supply BUPHENYL there and help these patients understand the benefits of RAVICTI. So, that is on, if not ahead of track on the overall integration of Hyperion that is complete and we continue to expect $100 million in adjusted gross – adjusted EBITDA for that business alone in 2016. So...

[Annabel Samimy:]

Okay. And the last one in terms of European infrastructure?

[Timothy P. Walbert:]

Oh, sorry. European infrastructure. We're going to do it on a very measured basis. George Hampton is building a small team of less than a handful of people right now to focus on really the market development, the health technology assessments, and all the work that's required to get into individual countries. But we're not going to build a broad infrastructure across each market as Europe is a slower penetrating market for all medicines including in the orphan space. So, you won't see significant infrastructure build, you will see that moderated, we've got a great partner with SOBI in Europe and BUPHENYL. So, we'll continue to leverage partnerships and efficient spend while we introduce RAVICTI to those markets.

[Annabel Samimy:]

Good. Thank you so much.

[Operator:]

Our next question comes from the line of Marc Goodman with UBS. Your line is open.

[Timothy P. Walbert:]

Hi, Marc.

[Marc Goodman:]

Good morning. So, you mentioned with the gross to net so I was curious whether they were much different as far as the average on the quarter versus where you ended the quarter, just given how much of a change it is, if you can comment on that. Second...

[Timothy P. Walbert:]

Yeah – go ahead.

[Marc Goodman:]

I was just – second, were there any inventory channel, inventory sales changes in the channel, just curious about that. Previously, you had mentioned M&A, you talked about getting deals done potentially even by the end of the year. I was curious how you're thinking about that? And then lastly, accounts receivable, still seem to be moving up, can you comment on that? Thanks.

[Timothy P. Walbert:]

I'll take the first two. Bob will address M&A and Paul can address the accounts receivable. So, when we look at gross net to the quarter, I would say it was at the highest in July. In August and September, it moderated. So, we've seen it flatten out in August and September and we expect it to continue to stabilize. On inventory, we have a kind of control agreement. It always ranges between 17 and 24 days. We didn't have any significant difference in any quarter over the last two years beginning an exit inventory in the channel. And in fact, our inventories at the end of the third quarter probably it's very low levels relative to prior year. So in fact, we have less in the inventory than historically we've had, but that all averages out over the quarter. The key is that on the beginning and end of a quarter, inventories don't change and during a very narrow defined time. Bob can address the deals and timing.

[Robert F. Carey:]

Sure. So, Marc, we continue to move ahead on several transactions and we're confident that by the end of the year, we're going to be in the marketplace talking about one or two of those. So, no change on that front, good progress. And I think the last question was on AR, and maybe Paul can take that.

[Paul W. Hoelscher:]

Marc, I've explained this in the past, but as we've said, AR is based on our gross sales because we sell to the customers at gross and even with the high 60s gross to net, all of those deductions are sitting there as accrued expenses that have – or have either have been paid or they are an accrued expenses on the liability side. So, we have a growing level of receivables based on our growth in gross sales, and we have a growing level of accrued trade discounts and co-pays and so forth based on...

[Timothy P. Walbert:]

Higher volume.

[Paul W. Hoelscher:]

...higher volume, so yes.

[Timothy P. Walbert:]

So, it's reflective of just the gross levels of bottles that are going out the door and the substantial increased volume that we've seen. Okay. Next question.

[Operator:]

Thank you. Our next question comes from the line of David Amsellem with Piper Jaffray. Your line is open.

[David A. Amsellem:]

Thanks. Just a couple. So, in terms of your thinking on M&A, just because of the firestorm over specialty pharmacies, do you have now greater sensitivity to adding an asset or assets or group of assets that you would run through PME, or is your thinking there unchanged? And then secondly, just remind us what your deal capacity is in terms of additional leverage and the extent to which you would further lever up – not the extent to which you would further lever up. But what's the upper end of the debt-to-EBITDA range that you think you could realistically go to in the near term? And then lastly, just another M&A question. In terms of ex-U.S., is the goal with building the infrastructure to add more orphan assets ex-U.S., or is the idea to add orphan assets in the U.S. and then try to bring them overseas? Just give us some color on your thinking there. Thanks.

[Timothy P. Walbert:]

I'll start with the last one. We continue to look to expand our orphan business from an ex-U.S. standpoint. We are looking to add orphan assets into our European infrastructure to offset that expense and accelerate revenues efficiently. We're also continuing to look at orphan assets that fit into our U.S. business. When it comes to the type acquisitions that you first referenced in the U.S., we look at it very simply. If there are medicines that have clinical differentiation, long-life IP, we will always be committed to ensuring that the patient gets what the physician prescribes. We don't look at it as going through whether it's retail, mail order, any other channel. It's simply is there clinically differentiated benefit, will doctors write it? And then our commitment is to ensure the patients get the product at the lowest cost. So that's how we look at acquisitions. We don't have any one pharmacy that has distributed our medicines with over 13% of net sales in primary care and specialty. And we continue to diversify that percentage with incremental pharmacies we work with. But as I said, 30% of our business is also going through the retail channel, so that does not affect how we move our business going forward. And then on leverage, Paul, maybe just touch on the leverage and capacity...

[Paul W. Hoelscher:]

We have quite a bit of capacity right now, David. If you take our guidance for this year now at the midpoint and use that, the $355 million midpoint with our $1.274 billion debt, we're only 3.6 times levered at this point if you look at our total debt, and on a net debt basis only 1.7 times. So we have a lot of capacity. We said we want to keep our leverage at five times or below, but we'd be willing to go up to six times for the right transaction, but it's got to be the right transaction that really makes sense. And then if we did that, we would bring it down back under five times pretty quickly within 12 to 18 months.

[Timothy P. Walbert:]

And we've got almost $700 million on the balance sheet, as you saw.

[Paul W. Hoelscher:]

That's right.

[Timothy P. Walbert:]

So that gives us a lot of flexibility to do bolt-on type transactions, which Bob can maybe speak to that.

[Robert F. Carey:]

Yes. And so we continue, David, to, as Tim has talked about, look at assets that we believe we can generate additional growth with. We're not just buying tail assets or generic products. We're buying differentiated assets with clinical features and benefits that physicians will appreciate and therefore write scripts on. And if we can find those, we're going to drop them into the overall portfolio and continue to diversify what we sell. So the strategy has not changed. We understand there's a lot of controversy out there about specialty pharmacies and the way some companies have done business, but we don't believe that that applies to us. We've conducted ourselves in a very patient-focused, ethical manner, and we'll continue to do that.

[Timothy P. Walbert:]

And overall, we expect our orphan business as a percent of our overall net revenue to rapidly accelerate over time. And as you've seen, as we move from the first quarter under 30% to this quarter, our EBITDA margins have rapidly accelerated. We think our overall business as it's constructed can approach 50% EBITDA margins. And then over time, obviously, the success of our orphan business will dictate that. Next question?

[Operator:]

Our next question comes from the line of Ken Cacciatore with Cowen & Company. Your line is open.

[Ken Cacciatore:]

Hey, good morning, guys.

[Paul W. Hoelscher:]

Hey, Ken.

[Ken Cacciatore:]

Just one specific question, then a general question. On the specific, can you just talk about the specialty pharmacies, how they get compensated so we just understand the mechanism in which they're compensated? Then on the general question, the M&A environment clearly seems to be changing in terms of maybe who might even be participating and looking at orphans versus you. Can you just talk about your ability to secure these differentiated assets that you're describing? It seems like a lot of folks would want to get their hands on the type of assets that you would as well in terms of orphan. Can you talk about maybe thoughts, or why better-financed companies may not be able to compete or you might be able to out-position them? Thank you.

[Timothy P. Walbert:]

First, we think that from a capacity, as Paul talked about, our leverage rate is in the low three times, net below two times, and we've got a strong balance sheet. So we think we've got lots of opportunities. When it comes to how pharmacies are incented, retail pharmacy, mail order pharmacies are all incented through the system working with payers and PBMs and for filling prescriptions. That's it, nothing more to add.

[Robert F. Carey:]

And, Ken, on assets availability and the ability to access them, we had always planned for the market correcting itself. Trees don't grow to the sky, but it was going to happen at some point in time. And what we have done is to bolster our balance sheet when we could in the second quarter in anticipation of that happening. That's why we have about $700 million in cash on our balance sheet. Asset values have come in, and there are opportunities out there now that because of the reset in pricing have become more available to us. And so we believe that we'll be able to identify and execute on assets at prices that are more favorable. And as to orphan assets, we've been successful. We bought two different companies that have attractive orphan assets. And we'll continue to look for additional products in the area, and that was in the face of significant competition for orphan assets at that point in time. So, we acknowledge that they're scarce, but we think we've got a team that is astute in evaluating those and then experienced in being able to go out and execute on acquiring them.

[Ken Cacciatore:]

Thanks, guys.

[Timothy P. Walbert:]

Thanks.

[Paul W. Hoelscher:]

You're welcome.

[Operator:]

Our next question comes from the line of Louise Chen with Guggenheim. Your line is open.

[Louise Chen:]

Hi, thanks for taking my questions. I had a few here. So, first question...

[Paul W. Hoelscher:]

Hi.

[Timothy P. Walbert:]

Hey, Louise.

[Louise Chen:]

Hi, good morning. First question here is on the ASP trend for your paying customers. Can you talk about how that's changed between today versus a year ago? Secondly, on the capital consent process. Just curious how that is progressing and your commitment to see that to an end. And then, last thing is just on your Investor Day, what should we be focused on here that you're going to cover on Monday, and what was the reasoning for the timing of the event next week? Thank you.

[Timothy P. Walbert:]

So I'll handle this. ASP trend I went through in my prepared remarks, over the last seven quarters to September 30, our – we've had a 189% growth in volume prescriptions that are written by the physicians, and the average annual price side of that is 9%, 16% cumulatively over seven quarters. So obviously, rapid acceleration, almost 20 times of growth of volume versus prescriptions and the Depo – do you want to take it?

[Robert F. Carey:]

Sure. I mean, we're – there was a record date on the 29. We continue to collect proxies from that record date. There's a second record date on the 13th. Our plan is – in the back half of November is to submit those proxies and set a meeting date for the special meeting, which will occur most likely in the back half of January. And so we're on track for doing that. The process will play out in the December or January timeframe. So, a lot will happen between now and then. And we will be monitoring closely moves in the marketplace and the price of our security as well as Depomed. And we'll make the right decision at that point in time to pursue the transaction or not, depending on what happens. So, we're committed to it at this point and we believe we can be successful.

[Timothy P. Walbert:]

And relative to Monday, John can summarize in his remarks – and I don't know if you want to just kind of quickly summarize Monday again, John.

[John B. Thomas:]

So Monday we just plan to go through our overall plans for the business. To give you a little bit more color on the various components of the business that you've been asking about, orphan in particular, some M&A update opportunities, a financial summary and maybe a couple of other things, too. So, it will be two to three hours total with Q&A. There'll be plenty of time in between our different sections for Q&A. And we're also going to have a couple of guest speakers to add some color so that all of these different questions that have been coming out that we're answering here today, we'll just fill in some of the details on that for you.

[Timothy P. Walbert:]

And the reason we're doing it is there is just a lot of misinformation and misunderstanding in the market and I'll walk through our business transparently and that will be it.

[Louise Chen:]

Okay. And just really quickly just back on the ASP, I just want to clarify a little bit. I was curious as to your ASP for paying customers versus non-paying. Would you give any color there?

[Timothy P. Walbert:]

There is no such thing as ASP for paying versus not. ASP is an average selling price, an average of all the business, and it's as I discussed.

[Louise Chen:]

Okay. Thank you.

[John B. Thomas:]

Okay.

[Operator:]

Our next question comes from the line of Donald Ellis, JMP Securities. Your line is open.

[Donald Bruce Ellis:]

Good morning, everyone.

[Paul W. Hoelscher:]

Morning.

[Timothy P. Walbert:]

Hi, Don.

[Donald Bruce Ellis:]

I just have a couple questions. And I get a lot of questions back from institutional clients. Simply, you deal with four to six specialty pharmacies. What percentage of the prescriptions, for example, for DUEXIS are tracked by IMS? And are any of those for the six pharmacies being tracked? Are they in the database for IMS or are they all outside the IMS?

[Timothy P. Walbert:]

So when it comes to – we have over six. We have less than 10 pharmacies that – and up to 70,000 U.S. pharmacies that actually distribute DUEXIS. So that's where prescriptions are moved through. What was the second part of that?

[Paul W. Hoelscher:]

How much was in IMS or what's not in IMS?

[Timothy P. Walbert:]

We don't specifically who IMS tracks versus not. If you look on a quarter-over-quarter basis or year-over-year for the third quarter, prescriptions for DUEXIS were up 107%; 35% for VIMOVO; 467% for PENNSAID; and over 149% for RAYOS. So, it seems like there's a good capture rate. We don't know exactly which ones. Most of them are – seem to report. We have heard mix on a couple of them. But we think that the prescription growth that you see on a quarter-over-quarter or year-over-year basis is reflective of – and when you link it back to the substantial net sales growth, it seems like there is a pretty accurate capture rate.

[Donald Bruce Ellis:]

Okay. Great. Next question I get a lot – and I know for competitive reasons, you are not going to disclose specific numbers for this. But also back to Louise's question about the ASP versus AWP versus the number of free scripts through. Granted you're not going to dispose much of that, but investors would like to know, I mean are half of your prescriptions reimbursed at AWP and half are given away free or those numbers significantly smaller than that 5% may be reimbursed at AWP and 5% given away free. Can you give us some guidance on where those numbers come out?

[Timothy P. Walbert:]

So, we give less than 50% of our medicines away free. And no one in the United States pays full wholesale acquisition cost.

[Donald Bruce Ellis:]

Okay, all right. Great, thank you very much for taking the questions.

[Operator:]

Thank you. Our next question comes from the line of Irina Koffler with Mizuho Securities. Your line is open.

[Irina Rivkind Koffler:]

Hi, thanks for taking the questions and congratulations on the quarter.

[Paul W. Hoelscher:]

Hi, good morning.

[Irina Rivkind Koffler:]

Good morning, so two questions. One, could you go through products by products and sort of dissect the price versus volume contribution? And then the second question is just on the qualitative basis. In order to drive more growth in these primary care drugs, do you need to penetrate the existing accounts further, or are they basically fairly saturated at this point and you need to go out and acquire new territories, new clinics, and that's why you need to maybe spend a little more in the fourth quarter? Thanks.

[Timothy P. Walbert:]

So, relative to spending, we look at the third versus fourth quarter, and we've guided to approaching 50% EBITDA. It was 58% in the third quarter, and that will probably average out and it's more timing than anything, so there is no substantial change in spend profile. It's just really about timing of when things occur. Relative to driving incremental business, our sales force continues to – every day, we have 325 primary care representatives, and they're out there driving the – and helping to educate physicians on benefits/risk to the products and that continues to accelerate, so get more out of the doctors you call on. We're not greatly expanding the number of doctors that we call on. Each rep has their prescribed audience, and their job is to get them to write more, and that will continue to be our focus. As far as our ASP, it's on our website and in our presentation. It's very similar data. I think the average selling price per product is listed there. I think it's on slide 18 of our corporate text so you can look at that there.

[Paul W. Hoelscher:]

And on the price volume, I mean if you just look at the Q we filed this morning, it's the MD&A for DUEXIS, VIMOVO and RAYOS, we break out price versus volume, those are the three products that have a price versus volume versus the prior year.

[Irina Rivkind Koffler:]

Thanks.

[John B. Thomas:]

Okay. Operator, I think we have time for one more question please.

[Operator:]

Our last question comes from the line of David Risinger with Morgan Stanley. Your line is open.

[Unknown Speaker:]

David, are you there?

[David R. Risinger:]

Thanks. Sorry about that. Yes. Sorry about that. I was on mute. So I have three questions. First, could you just provide a sort of a rough framework for what percentage of the PME prescriptions are dispensed mail versus retail? Second, I think that it was mentioned on the call that a pharmacy is switching to buy through a distributor rather than directly, could you just explain why that's happening? And then third, it would be helpful to just understand the gross-to-net adjustment. Obviously, there's a lot of accounting scrutiny going on. And if you could just maybe provide a framework for the math for gross-to-net adjustments, how much is estimated, how much certainly there is. And then when you do – when you take reserves and do reserve reversals, how much of a swing factor that is just so that we understand that accounting for gross-to-net adjustments a little bit better? Thanks so much.

[Timothy P. Walbert:]

So relative to the gross-to-net, on a quarterly basis, it's trued up to actuals. So there is some variability relative to how much inventory is in the channel. And if, let's say, we have 70% gross-to-net, then whatever is in the inventory is applied against that as far as a reserve. So, Paul can walk through some of the specifics.

[Paul W. Hoelscher:]

And I mean, the majority of our gross-to-net is our patient support programs. And we're – our co-pay vendor bills us weekly for that. So, we have actual data for almost the entire quarter and before we close the books we have invoices for the full quarter. So, the actual co-pay and everything for the quarter is expensed...

[Timothy P. Walbert:]

Which is a vast majority of our gross-to-net.

[Unknown Speaker:]

Right.

[Paul W. Hoelscher:]

And we use that current history to estimate the amount that we need to accrue for the inventory that's out there in the channel. So...

[Timothy P. Walbert:]

Probably well over 90% of the gross-to-net is actual what we get weekly and it's trued up before we close the quarter. So, it's true numbers. There is no games going on here. The second part...

[David R. Risinger:]

Okay. Thank you.

[Timothy P. Walbert:]

...distribution. There was one of the pharmacies that was buying direct and they decided to buy from a wholesaler. That's their decision and you can ask them. When it comes to our pharmacies and mail versus retail, all the pharmacies that we work with are both retail and mail-order. So, they're all – do- both.

[Paul W. Hoelscher:]

And we don't have that data.

[Timothy P. Walbert:]

And anything beyond that is their own proprietary information.

[David R. Risinger:]

Okay. Thank you very much.

[John B. Thomas:]

Okay. Thanks. Thanks, Kaylee. That concludes our call this morning. A reply of the call will be available in approximately two hours by calling 1-855-859-2056. The pass code for the replay is 62-744-788. In addition, we hope to see you all on Monday, November 9, beginning at 11

[Operator:]

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program and you may all disconnect. Everyone have a wonderful day.