Mallinckrodt plc
Q2 2017 Earnings Call Transcript

Published: 8 Aug 2017

[Operator:]

Good day, ladies and gentlemen, and welcome to the Q2 2017 Mallinckrodt Earnings Conference Call. As a reminder to our audience participating in this conference, it is being recorded for replay purposes. It is now my pleasure to hand the conference over to Mr. Cole Lannum, Senior Vice President of Investor Relations. Sir, you may begin.

[Coleman N. Lannum:]

Thank you, Brian, and welcome to today's call. Joining me are our CEO, Mark Trudeau; Matt Harbaugh, our CFO; and Dr. Steve Romano, our Chief Scientific Officer. Mark will start us off with some brief comments, and Matt will follow with the financials, and Dr. Romano will also be available for the Q&A session. Before we begin, let me remind you of a few details. On the call, you will hear us making some forward-looking statements, and it's possible that actual results could be materially different from our current expectations. Please note, we assume no obligation to update these forward-looking statements even if actual results or future expectations change materially. We ask you to please refer to the cautionary statements contained in our SEC filings for a more in-depth explanation of the inherent limitations of such forward-looking statements. We'll also provide some non-GAAP adjusted measures related to our financial performance. Reconciliation of these adjusted measures to GAAP is available in our earnings release and its related financial tables which can be found on our website, mallinckrodt.com. We use our website as a channel to distribute important and time-critical company information, and you should look to the Investor Relations page of the website for this information. As noted in our press release, unless otherwise specified, all comparisons are to the comparable 2016 period. In addition, the revenue growth ranges we'll be discussing will be on a constant currency basis, again unless otherwise noted. For the second quarter of 2017, we reported GAAP diluted earnings per share from continuing operations of $0.72, compared to prior year of $1.62. After adjusting for specified items, our non-GAAP adjusted diluted earnings for the quarter was $1.85 versus $2.03 in the prior year. We are not changing our 2017 overall guidance range for adjusted diluted earnings of $7.40 to $8 per share, but we expect the mix to shift a bit, with Specialty Brands likely a little lower than previously expected and Specialty Generics likely a bit stronger. We provided greater detail on specific line items in our release and I'll refer you there accordingly. One last reminder, before I turn it over to Mark, as I'm sure most of you recall, the results in our upcoming third quarter will be comparing a normal 13-week period in 2017 to a 14-week period the prior year. We discussed the math behind this in great detail last year and I'm happy to go through it with any of you offline. Looking solely at the time period however, you should expect every reported net sales line growth rate in the third quarter to be negatively affected by about 6 percentage points to 9 percentage points. With that, let me turn it over to Mark. Mark?

[Mark C. Trudeau:]

Thank you, Cole, and thanks to all you for joining us today. As we complete our fourth full year as an independent company, Mallinckrodt continues to make good progress on our strategy to transform the portfolio and become a high-performing specialty pharmaceutical company. We closed out the second quarter of 2017 with solid performance across our Specialty Brands and Specialty Generics portfolios, and in the period also made significant progress advancing key assets in our growing pipeline. Just last week, we announced the planned addition of another product for this pipeline with news that we will acquire InfaCare and Stannsoporfin, a novel agent in late stage development for severe jaundice in infants. The NDA for Stannsoporfin has been filed with the FDA in a Fast Track Rolling Submission and, if approved, will launch in late 2018, another important therapy in a portfolio of products indicated for fragile pediatric patients. Today this list includes Acthar for infantile spasms, and INOMAX for hypoxic respiratory failure in infants, along with Therakos which is in Phase 3 development for a new indication in pediatric acute graft versus host disease. Turning to operational performance, our three largest specialty – Acthar, INOMAX and OFIRMEV – all delivered net sales growth within the range of our long-term expectations. Net sales for Therakos, however, were substantially below expectations for the quarter due to complexities that Matt will describe in more detail later. Acthar growth in the quarter was 7%, within our long-term range of mid-single to low double-digit. We've always said the both price and volume will contribute to Acthar's performance and in this quarter price was the driver. Our expectations longer term are that growth will be predominantly volume driven and we expect to see that in the back half of the year. But we've been building on the strengthening formulary positions we reported in the first quarter and are pleased to see that new patient prescriptions have reached their highest point in the last 12 months across the majority of promoted indications as we reach a broadening base of prescribers with additional data. To that point, we were also pleased that four new Acthar papers were published in the last several months, which we believe provide additional evidence for payers and prescribers to support the positioning of the product, primarily for refractory patients. Three of the publications report on clinical experience for Acthar in key promoted indications

[Matthew K. Harbaugh:]

Thanks, Mark. Our second quarter of 2017 came in with net sales of $825 million. Net sales in the period for the Specialty Brands segment were $595 million, growth of about 1%. This reflected solid performance in the three key brands Mark mentioned, offset somewhat by an unanticipated slowdown in Therakos that I'll describe in a moment. Acthar once again delivered results within our expected long-term growth range of mid-single to low double digits, with net sales of $319 million, up 7%. INOMAX generated $126 million in net sales, a 4% increase. As we've said in previous quarters, INOMAX is returning to its historical mid-single-digit growth rate, albeit off a significantly higher base than when we acquired the product more than two years ago. With just its current indications alone, INOMAX now represents nearly $0.5 billion in annual net sales and is a significant contributor to cash and profitability for Mallinckrodt, highlighting the growing diversity of our portfolio. Turning to OFIRMEV, as we said last quarter, we're seeing this product return to stronger growth rates with the $76 million we posted in net sales representing a 7% increase. Therakos presented a challenge for us this quarter with net sales of $51 million, up 1%. We're clearly disappointed by these results, which we believe are rooted in our accelerated market transition from the older XTS device to the newer model Cellex photopheresis unit. We underestimated the complexities involved in this transition and expect to work through it in coming quarters. Turning to Specialty Generics, net sales were $216 million, an 18% decline but better than expected. As we look at results in the second quarter, we see that our API business is now roughly a percent (17

[Coleman N. Lannum:]

Thanks, Matt. Before we start the Q&A session, I want to remind everyone, if you would, please limit yourself to a single question with a brief follow-up only if needed. Feel free to put yourself back in queue afterwards. I promise we'll get through as many questions as possible. With that, Brian, may we please have the first question.

[Operator:]

Yes, sir. Our first question will come from the line of Anthony Petrone with Jefferies. Please proceed.

[Anthony Petrone:]

Thanks and good morning, guys. Maybe Mark, could we start maybe on Specialty Generics. Just given some of the headwinds the quarter has seen from some key competitors, specifically Teva, and now this morning, Endo reporting 34% pressure in the base generics business. Just maybe your update on generics broadly and then more specifically anything to share on, perhaps, the strategic review of the business generally? And then, I have a quick follow-up on guidance.

[Mark C. Trudeau:]

Yeah. Certainly. Let me start with that and thanks for the question, Anthony. So I think we've over the course of the past couple years, have tried to give as much clarity as we possibly can regarding not only our generics business but how we see the market evolving, and recognize that our business, while still down, has performed a bit better than we expected. I think it's also really important to recognize that our generics business, while it's convenient to think about it as a kind of monolithic, say, oral dose generics business, actually it is a combined API and finished oral dose business. And it's that vertically integrated model that we believe has given us some insights over time as to what the trends in the market are likely to be. We continue to see significant primarily pricing pressure in the marketplace going forward. But our business at least is performing a bit better than we expected. And we're very pleased to be able to think about it that way. In terms of the strategic review of the business, I think we've been quite clear to say that we now operate this business as a stand-alone operation. It's a vertically integrated and the business itself is run almost as an independent kind of operating unit. Important in the strategic review for us, which we referred to in the prepared comments, was a comprehensive review of pipeline opportunities. And historically, we didn't have as much visibility to pipeline opportunities as we do now, given the way that we're running the business. We now feel quite comfortable that we can be filing ANDAs continuously in the range of five or so per year starting in 2018, and a few this year. And we would expect that the filing of those ANDAs should be sufficient over time to drive some modest growth in this business. We've also talked about the role of Specialty Generics in our portfolio. And while it's not specifically strategic for us and our belief is that our main objective will to become more of a pure play branded specialty pharmaceutical company. Just because it's not strategic for us, doesn't mean it's not important. In fact, it's very important, it has been very important as a cash flow generator. And we want to ensure that we get as robust cash generation out of that business as possible. That's one of the reasons to operate it in the way that we do, and another reason to make sure that we have a comprehensive review and visibility to the long-term pipeline.

[Matthew K. Harbaugh:]

Yeah. And Anthony, before we go to your other question around guidance, I just want to reiterate what I said in my prepared remarks. In the second quarter, we saw that our API business is now roughly 50% of net sales in this segment. So that isn't a really important nuance that I think does get a bit lost with investors.

[Anthony Petrone:]

That's helpful. And Matt, maybe just a follow-up on guidance sort of the second half here now with Specialty Brands, by our math calls for a pretty good acceleration, sort of in the 6% to 15% range in order to hit the 4% to 7% target range. And then, similarly on earnings, you now have the $0.15 to $0.20 headwind in InfaCare. So just maybe walk us through the moving parts on the expectations for the second half? Thanks again.

[Coleman N. Lannum:]

Yeah, Anthony. So I would point you back, first of all, to the color that I gave at the top of the call. While we're reiterating the EPS guidance, we're not going to give you specifics on any ranges on the segment side, but clearly we're going to do a little bit better than we originally thought that we were going to do on the generic side and we're going to do a little worse than we originally thought on the branded side. So I would take that into account revenue wise. On earnings and specifically on the InfaCare acquisitions, want to make sure everyone understand this. Obviously, we were very pleased with the EPS results this quarter. We came in well above, I think, most expectations, but the dilution from InfaCare is very real. This is money that we're happy to spend because we need to spend it primarily on the R&D side of things to get this product to market as quickly as possible. But I think the way you should be modeling this is, while we're still comfortable with the range, I would expect everyone modeling us to take $0.15 to $0.20 out of their numbers after this quarter to account for dilution from the acquisition. The last point I'll make on this is you understand that that $0.15 to $0.20 is going to take place in the third and fourth quarters, so you want to make sure that you address that, probably offsetting some of the benefit that we're getting from the additional share repurchases that we took in the beginning of the year. The last point I'll make on guidance, I want to again go back to this third quarter phenomenon of the 14-week quarter last year versus the 13-week quarter this year. If you recall last year, we got a great benefit on the operating expense line and the leverage line, two expenses because of the big revenue growth we had last year. And I think we talked extensively about that at that time. But of course mathematics cuts both ways, and when we compare against that, remember that we'll have some year-over-year pressures on the profitability line, just because of the 14-week comparison last year. All this stuff, I'm more than happy to go through off-line but I think it's important for you to understand that people really do need to take into account the dilution of this deal. Does that make sense?

[Anthony Petrone:]

Absolutely, thank you.

[Matthew K. Harbaugh:]

Yeah, Cole, and just to add one more element of this, as we think about that guidance, you should be thinking about it hitting the cost of goods sold line item and the R&D line item this year. And then next year, as we get closer to launch, obviously we'll see a bit more spending in the sales and marketing line.

[Coleman N. Lannum:]

Next question, please.

[Operator:]

Thank you. Our next question will come from Douglas Tsao with Barclays. Please proceed.

[Douglas Tsao:]

Hi. Good morning. Thanks for taking the questions. Just turning to Acthar performance, Mark, I think you referenced the 7% growth was largely attributed to price this quarter and you expect volume to be the bigger driver in the second half of the year. Just curios, when you look at where that growth is going to come from, is that predominantly on the commercial side or will that be from government-sponsored healthcare coverage programs?

[Mark C. Trudeau:]

Yeah. Thanks, Doug. So, yes, first of all, again Acthar we're very pleased continues to deliver right in that mid-single to low double-digit growth rate that we've consistently been delivering quarter-on-quarter. And yes, while this quarter the growth was predominantly price, let's recognize that last year virtually the entirety of significant growth came almost exclusively from volume. And that's what we're going to expect quarter-to-quarter, sometimes it's going to be a more price, sometimes it's going to be a bit more volume. But our long-term view of this is the predominant opportunity for growth is on the volume side, given that we've got roughly a 4% penetration rate of that refractory patient population that we target. In terms of the growth, we would expect kind of a similar type growth rates regardless of the payer mix whether it's a federal reimbursed patients, Medicare primarily, or commercial patients, we would expect similar growth rates regardless of the type of reimbursement that occurs. In terms of specific indications, in this quarter for example, we saw really good growth in ophthalmology and pulmonology and also in infantile spasms. And so, we as you know market across a range of indications and we continue to be very optimistic about the growth of Acthar, again within that range of mid-single to low double-digit.

[Douglas Tsao:]

And then, Mark, if I can just ask one follow-up. Maybe an update in terms of any contracting efforts and sort of formulary coverage, less of an impact in 2017, but anything that we should be considering when we're thinking about modeling out 2018? Thank you.

[Mark C. Trudeau:]

Sure. So again, in the first quarter if you recall, we commented on the fact that, for the first time, we actually had some significant strengthening of formulary positions. In fact, in very important case, we actually got a de novo formulary acceptance in a pretty important closed model plan. And we would expect over time for Acthar to continue to make good progress on formulary positions, and again over time we would expect to continue to get more of commercial covered lives under contract. And so our efforts here are fundamentally driven by the same set of factors that we've described before. One is having consistent, very open and direct dialog with managed care organizations to appropriately position the product for refractory patients across the spectrum of our indication set, and supporting that with datasets that give both payers and prescribers appropriate information to identify the correct patients for Acthar. And again to make sure that those patients get access to Acthar in a way that can provide benefit to them in the healthcare system. It's been a very effective strategy for us going forward. We would expect to continue to make incremental gains going forward. And we would continue to expect to drive incremental datasets across the indications that we have.

[Douglas Tsao:]

Okay. Great. Thank you.

[Coleman N. Lannum:]

And Doug, one other thing I'd note, don't miss the point that Mark made about the very, very strong volume growth we had last year. While we're not going to talk about 2018 specifically, remember those comps volume-wise should get a little bit easier in 2018 whereas right now, we're comping against some very, very tough volume growth last year. And then, again, that's not even counting the year-over-year comp for the extra week last year. Okay.

[Douglas Tsao:]

Okay. Thank you.

[Coleman N. Lannum:]

Next question.

[Operator:]

Thank you. Our next question will come from the line of Chris Schott with JPMorgan. Please proceed.

[Chris Schott:]

Great. Thanks very much. Just a question on the recent pipeline addition, looks like a nice fit with INOMAX. Could you give us a little more detail about how you think about launch trajectory for an asset like this once it's approved next year? Is this a market that's going to take time to develop or are you anticipating relatively fast uptake? And a similar question on the OpEx associated with this, is there much in the way of OpEx at all we should be assuming or post launch is going to almost immediately drive margin expansion? Thanks very much.

[Mark C. Trudeau:]

So maybe I'll take the first one on launch trajectory, and maybe I can ask Matt to address the OpEx question a bit. So we're very excited about this asset. We think it is a tremendous strategic fit for what we do in the hospital. Clearly, we already have significant presence in the NICU with INOMAX. This is very complementary, and in fact we should be able to essentially drop this product in directly into our hospital infrastructure. Although certainly there will be launch expenses associated with this, but, again, we think it's a very good strategic fit and expands significantly our presence that we have with INOMAX in that key pediatric population. We also think it provides a tremendous benefit for patients, recognizing that severe jaundice can have some pretty significant implications if it's not treated effectively, and this is a novel treatment for severe jaundice. And so, we think it's a great fit for patients, and we think it's a great fit for our business. It will be targeted for those most severe patients, as you might imagine, and that's the expectation that we would have initially that that's likely to be the place where prescribers will find the greatest use. Obviously over time, as prescribers get more experience with this, the utilization is likely to expand. What I would caution, though, like any new product launch in the hospital, if we just look across therapeutic areas and across new launches, hospital launches typically are slower rather than faster, and we would expect that's likely to be the case with Stannsoporfin as well. Albeit we believe that we're offering tremendous value to patients, again in a very strategically aligned product for us.

[Matthew K. Harbaugh:]

Yeah. So Chris, turning to your question around OpEx. Just to kind of walk you through the P&L, the product does have very attractive margins. As I mentioned a bit earlier, we are going to see some pressure in cost of goods sold and R&D as we get into the back half of this year for spending for InfaCare. And then, next year in the back half of the year, we'll see some incremental spending particularly in kind of marketing. This is very efficient, as Mark mentioned earlier, from a sales perspective. We'll also continue to see some spend in R&D. So the product does have very attractive margins, akin to what we see in our brands business. But to Mark's point, to really see it manifest itself in our gross profit as a percent of sales, it's going to take some time as we launch the product. And then, there is no impact to speak of on the tax rate.

[Chris Schott:]

Thank you.

[Coleman N. Lannum:]

Thanks, Chris. Next question, please.

[Operator:]

Our next question will come from line of Gary Nachman with BMO Capital Markets. Please proceed.

[Gary Nachman:]

Hi. Good morning. Mark, for Therakos, what exactly went wrong with the conversion? I'm not sure why you didn't anticipate that, and what has to happen over the next few quarters in order to fix it? And then how much capacity do you still have with your hospital infrastructure. Can you keep adding more bolt-on assets like InfaCare? And then just speak to if there are lot of opportunities out there in the hospital space?

[Mark C. Trudeau:]

Yeah, certainly. So yes with Therakos, as you recall, we experienced some production issues, primarily with the kits with a third-party manufacturer. As we address that particular issue, part of the solution was to accelerate the planned transition from the older XTS therapy to the newer Cellex technology. That was our plan all along, but the production issue really gave us an opportunity to accelerate that transition. And we've had some experience in doing that in European markets, and we accelerated – in a more gradual fashion. We accelerated it in the U.S. market. What we've seen is that that transition has required or has resulted in more disruption than we would have expected, and we're managing through that with primarily our U.S. customers but some of our international customers as well. It's a matter of getting people set up and trained, getting comfortable with the new technology. And whenever you make a transition like this, particularly when you do it faster than slower, it does have a bit of disruption. We underestimated the degree of that disruption, and that's what we're addressing at the moment. The issue is multi-factorial, and that's why we're suggesting at this point, it's likely to take us several quarters to work through it, but we're quite confident that we can do that based on the experience that we've seen in doing this previously in international markets. With regards to the hospital market, we believe there are a number of very, very attractive assets out there. And in fact, the infrastructure that we've built in the hospital enables us to bolt these things on, add them in to our portfolio, whether it's in acute care sector or the critical care sector, we think in a very relatively straightforward fashion. So, we want to continue to build out the diversification in our hospital portfolio, think there are a number of very attractive assets and we'll continue to do that much like we've done with InfaCare. And in the prepared comments, I mentioned that you should expect to see us doing a number of things in a similar vein going forward. That's just reflective of the capability that we have, but also the range of attractive assets that we see in this space.

[Gary Nachman:]

Okay. Thank you.

[Coleman N. Lannum:]

Next question, please.

[Operator:]

Thank you. Our next question will come from the line of Marc Goodman with UBS. Please proceed.

[Marc Goodman:]

Morning. If you could just come back to Acthar just for a second and just give us more of a flavor for why we didn't see better volume growth and how much visibility you have in that volume growth as the year progresses, just with respect to the commercial plans that you've signed with coverage and just that whole trade-off and stuff. I mean I understand it was mostly pricing in the quarter, but I'm still trying to understand how you have that visibility on the volume? What happened this quarter?

[Mark C. Trudeau:]

Yeah. So again, Marc, this is very consistent with what we would expect. We've been, I think, very specific to say, this is likely to be quarter-to-quarter a mix of price and volume, but over the long-term it's likely to be more volume-driven than price. And again, I think you saw significant volume, in fact almost the exclusive growth in 2016 was almost exclusively volume-based, and we have very, very strong volume comps that we're comparing to now in 2017. So, 7% is exactly where we would expect the business to be. It's right in the middle of the range of mid-single to low double-digits. What gives visibility obviously and what gives us confidence is that we continue to see good strong formulary positioning, strengthening formulary positions that we alluded to in the first quarter, and we continue to publish new information that's supportive of our positioning for Acthar for refractory patients. I referenced four papers just in the last couple of months, three of which are clinical studies that support that positioning in key indications. One of the things that we do know is that whenever we publish new datasets on Acthar, typically we get good volume response as a result of that and we wouldn't expect anything different here going forward.

[Coleman N. Lannum:]

Thanks. Next question, please.

[Operator:]

Thank you. Our next question will come from the line of Esther Rajavelu with Deutsche Bank. Please proceed.

[Esther Rajavelu:]

Hi. Good morning. This is Esther Rajavelu on for Gregg Gilbert. I have two quick questions. With the capital allocation activities completed this quarter, what should we expect for the remainder of the year? And then, longer term with the stronger R&D and potentially SG&A investments, should we anticipate any changes in the capital allocation priorities?

[Matthew K. Harbaugh:]

Yeah. So for the back half of the year, I think as Mark mentioned, we still continue to be active on the business development front. So hopefully, we'll be able to continue down that path. We did take advantage of the share price volatility that we saw in the second quarter, obviously, we bought back $101 million. But we also were paying back debt, and I'd say notably the investment there was little bit less than what we did in share repurchases. So all three still remain a focus area of us. But I would say I'm hopeful that we'll be delevering a bit here as we get into the back half of the year. This being said, as I noted in the prepared remarks, I thought the cash flow was just fantastic in the quarter, it was really strong. We've seen that continue into the third quarter. So the business is throwing off a lot of cash, which enables us to pursue all three.

[Esther Rajavelu:]

Got it. Thanks. And then, quickly on StrataGraft. Is that product targeted more towards independent burn centers or will it fit right into your hospital infrastructure?

[Mark C. Trudeau:]

So as we start to think about the long-term commercial launch plan for StrataGraft, one of the things clearly the we have some insight around is burn treatment in general, because obviously with OFIRMEV we do have some experience in burn centers. We're still establishing what the launch platform will be, likely we will be expanding somewhat to additional burn centers that we currently don't cover. Because clearly with this type of a product and the technological advancement that it would offer to burn patients, we want to make sure that we're covering the landscape here. So we're probably still a couple of years out. We'll be developing the launch platform and planning for that, but in terms of significant increment investment requirements, we've probably got that already embedded in our current hospital infrastructure. We may just need to flex a little bit and expand a bit some of our targets.

[Matthew K. Harbaugh:]

Yeah. And going back to your capital allocation question, I'm not sure whether you also were alluding to R&D spend and capital expenditures. I would say our capital expenditures are at all time highs right now and I do expect that to moderate as we get into 2018. So we've got a number of projects right now that we're kind of in the middle of the river on. As it relates to R&D spending, you should expect to see us to continue to reinvest in R&D. Obviously, we just put in a developmental asset with InfaCare that's going to put more pressure on our reinvestment in R&D which we're happy to do. Especially since our cash flows are so strong, we're in a great period here of reinvesting in the business.

[Coleman N. Lannum:]

Thanks, Esther. Next question, please.

[Operator:]

Thank you. Our next question will come from the line of David Amsellem with Piper Jaffray. Please proceed.

[David A. Amsellem:]

Thanks. I joined late, so I apologize if you already addressed this, but just big picture question on how you're thinking about bizdev and particularly the acquisition of development stage assets? I mean, you paid a relatively low amount upfront for InfaCare. I guess the question, Mark, is do you see a lot of these assets out there, how much of a priority is it for you to add late stage or even mid stage assets versus commercial stage assets? I think you've talked in the past about diversifying significantly away from Acthar. I guess the question there is the acquisition of development stage assets the way now that to get there? Thanks.

[Mark C. Trudeau:]

Yeah. Thanks, David. So, look our long-term objective again is to be a company that can deliver sustainable organic growth and we believe the best way to do that is to have a very well diversified branded commercial portfolio and a broad and deep branded pipeline. And while we have some very attractive, highly durable differentiated assets in both our commercial and our development pipeline now, we certainly want to continue to diversify and add to both of those. So we continue to be in the market looking at both commercial assets and development assets, but most importantly, we want to do things that are strategically aligned, have good durability, good differentiation and clearly we have a point of view on how we're going to create value for shareholders. Now the InfaCare acquisition to us is a perfect example of fitting those criteria and we believe there are a number of these kind of late stage or mid stage or even early stage development assets that are very attractive for us and we have the capability to develop and long-term launch. It doesn't mean we have necessarily a preference for those versus commercial assets. We're in the market for all of these types of assets and we're going to take these things as they come. And again, our long-term objective, as we've been very clear to say, is we want no single product to account for more than a third of our operating income. We're not there today. We're a company under construction. There are multiple ways to do that, you can add commercial assets and do it now. You can add development assets and do it over time. And our belief is that we want to do both, we have the financial capability to do both and we think there are a range of strategic assets that fit very well the capabilities that we have. We've been very specific to say we're going to focus primarily in the areas of immunology and in the hospital arena, places where we have capability either commercially and/or developmentally, again to drive value and continue to diversify this portfolio with the objective long-term of being an organic growth driven company.

[Matthew K. Harbaugh:]

I think an element of your question was also around the milestone payment structure and the upfront. One of the things we really like about bringing Stannsoporfin in the portfolio is the long durability of it, it's akin to a lot of the other assets in our portfolio. And so, as we win, our partners win through those payments. And since we've got such a long runway, obviously, it gives us plenty of time to maximize the net sales opportunity we have for the company.

[Coleman N. Lannum:]

Thanks, David. Next question, please.

[Operator:]

Thank you. Our next question will come from the line of David Maris with Wells Fargo. Please proceed.

[David Maris:]

Hi. I'm sorry if you already answered this, but can you talk about your expectations for the increased R&D spending for the year, the cadence for this year and should we just expect that to carry forward as you've brought on some R&D projects and you're doing more and more with the Acthar and other programs? Thank you.

[Matthew K. Harbaugh:]

Yeah. So David, I'm sure you saw on the quarter we just reported, we were at 8.4%. I would say, in the back half of the year, we're probably going to stay in the same zone, probably a bit more especially since the acquisition we announced last week. As I mentioned earlier, you may have missed it, we'll see a bit of incremental expense in R&D and also in cost of goods sold in 2017 as a result of that acquisition and that's where you're going to see that dilution of the $0.15 to $0.20. But over time, as we get into 2018 and beyond, I do expect our R&D spend in absolute dollars will increase and likely as a percent as well.

[David Maris:]

Great. Thank you very much.

[Coleman N. Lannum:]

Thank you, David. Next question, please.

[Operator:]

Thank you. Our next question will come from the line of Elliot Wilbur with Raymond James. Please proceed.

[Elliot Wilbur:]

Good morning. Just a couple of question around the recently acquired Stannsoporfin asset, specifically, is this a global asset, can you confirm that you actually have global rights to it and maybe just sort of characterize the potential global opportunity versus the U.S. opportunity? You talked about IP in the press release going out to 2032. I know the asset's been around a while. So I'm not sure exactly what that IP covers, whether it's uses or formulations? And then just a follow-up for Matt on Stannsoporfin, you talked about the potential pressure on the gross margin line going forward from the acquisition of InfaCare, I guess. I'm struggling a little bit to sort of figure out why that is. I mean, I would assume that this product is being produced by a contract manufacturer and that you probably wouldn't have anything flowing through COGS until actual launch but everything, even inventory, will go through R&D, but obviously I missed something. If you could just clarify that? Thanks.

[Mark C. Trudeau:]

Yeah. Thanks, Elliot. So three questions, and we'll take it in parts. I'll talk about the global opportunity. I'll ask Dr. Romano to comment on the IP specifically, and then Matt can address the specific questions you had around gross margin. So with regard to the global opportunity, in fact we do have global rights to Stannsoporfin. We would look to commercialize it ourselves certainly in the U.S. market but, as you know, we also have presence in certain other select international markets with INOMAX, and it will make sense for us likely to commercialize Stannsoporfin there where we already have an INOMAX presence. So that would be markets like Japan, Canada, Australia, for example. And there may be other markets internationally, for example, where we have a presence with Therakos in Western Europe where it may make sense for us to commercialize there as well on our own. Obviously, we long-term have the potential to partner or look at other markets either on a direct basis or a partnered basis. If we look at the U.S. opportunity compared to the ex-U.S. opportunity, and we look only at the markets where we currently have a presence, so – and I would say specifically a presence with INOMAX, we would see a similar sized opportunity for infants with severe jaundice. So in the U.S. market, we're estimating that number on an annual basis is 70,000 to 125,000 infants annually would be in the severe jaundice category. We would see a similar sized market opportunity for those select international markets where we have an INOMAX presence today. Let me ask Dr. Romano to address your specific question regarding IP, and then we'll come back to the gross margin question.

[Steven Romano, M.D.:]

Yeah, sure. Thank you, Mark, and briefly just to remind you Stannsoporfin is a new chemical entity. So it's a new chemical entity, we have protection based on that. We're also seeking of course pediatric exclusivity, we're going to be doing work that extends the utility of the product in preterm infants under 35 weeks of gestation, so obviously that will help as well. And there are patents, as you mentioned, there are patent families and claims directed to methods of treating hyperbilirubinemia in infants using a low dose of Stannsoporfin as well as claims primarily directed to high purity Stannsoporfin compositions or high purity family.

[Matthew K. Harbaugh:]

Yeah. And then to get your question around margin, let me be clear, this acquisition is not going to be a huge needle mover in the grand scheme of things. What you're going to see in the back half of the year as it relates to our gross profit as a percent of sales for total Mallinckrodt is some ongoing pressure. And what's driving that is the Specialty Generics segment with the declines that we've seen both at the beginning of the year and the declines that we foresee. While the results are a bit better than what we expected earlier this year, that segment still does remain under pressure. But specifically to InfaCare, we won't be launching the product till late 2018 so you'll see mostly R&D expense this year and early part of next year. And then, as we get into launch, then you'll start seeing the pressure in the SG&A. But as I said earlier, we really like the gross margin profile of this product, it's akin to the Specialty Brands business. So longer term, it will be accretive to the gross profit of the company.

[Mark C. Trudeau:]

And Elliot, let me just clarify. When I'm referring to the international opportunity, I mean both the place where we have INOMAX presence as well as Therakos presence, so that would include the European markets Japan, Canada, and Australia.

[Coleman N. Lannum:]

Thanks. Next question, please.

[Operator:]

Thank you. Our next question will come from the line of David Risinger with Morgan Stanley. Please proceed.

[David R. Risinger:]

Thanks very much. So I wanted to ask a question about the generics business. I guess it's two-fold. First with respect to Econdisc at Express Scripts and Walgreens Boots coming together with a new buying group, this is something that they announced in May. First of all, is this relevant at all to your generics business? And second of all, if it is, is it impacting your second half results at all? Thank you.

[Matthew K. Harbaugh:]

Yeah. Thank you for the question, David. So as it relates to Specialty Generics, I would say there is some modest impact from the Econdisc announcement back in May. But we factored that into our comments that we provided today as it relates to the segment. And I would say we are anticipating some modest impact in the back half of the year. I would say a lot of the channel consolidation that we've seen over the last 18 months has been very notable, and we have factored that into our guidance and also our thinking around where we see this business playing out. But keep in mind, 50% of the revenue at this point is API. So that's not going to be impacted by Econdisc or any further consolidation going on, but, yes, it certainly is another impact that I think a lot of the industry players are going to feel.

[David R. Risinger:]

That's great. And then one quick follow-up on that. So that I understand, the timing of impact is difficult to see from the outside, the announcement of the partnership was in May. Do you already have new contracts with them and you know what the new pricing is going to be or you just are taking it down to the lowest common denominator in your assumptions, because you know that that's what they're going to drive it to, or do you really have to wait for new pricing terms to have clarity? Thank you.

[Matthew K. Harbaugh:]

Yeah, in the grand scheme of things, I wouldn't say this is hugely impactful. We're not going to comment on specifically on where we're at with Econdisc, but what I can say is, generally, when these announcements come out, you do see the price harmonization playing out in kind of the two-month to six-month timeframe, depending on how quickly the organizations come together and look at the price lists. So generally, you should expect that kind of a timeframe from a negotiation and impact perspective.

[David R. Risinger:]

Great. Thank you.

[Coleman N. Lannum:]

Thank a lot, David. Operator, why don't we try to see if we can get one more question in. I know it's a busy morning for earnings for all of you, but let's try to get one more in, please.

[Operator:]

Yes, sir. Our next question will come from the line of Louise Chen with Cantor Fitzgerald. Please proceed.

[Louise Chen:]

Hi. Thanks for taking my questions here. So first question I had was there seems to be a disconnect between how durable you view Acthar to be versus the Street? And if you could give us your thoughts on whether this is because you don't think competitors will actually make it to market or they won't take as much share if they actually do make it to market, or is the disconnect something else here? And the second question here is, we've been asked the question a couple times, whether an acquisition of additional corticotropin products in development would have any FTC issues and why or why not? Thank you.

[Mark C. Trudeau:]

Yeah. So, regarding the disconnect on durability, again that disconnect I think depends on who's got the disconnect. I mean if you look at the equity markets, clearly there appears to be a disconnect, appears to be less of a disconnect than some of the other markets for example. But our view is clearly this is the highly durable product. It's been on the market for over 60 years and based on what we know today of the regulations regarding an AB-rated generic product to Acthar, we've talked about this many times. Today, based on the regulations, it appears to be difficult to see a direct pathway to get there. A pathway obviously exists and an ANDA could be created. But again, typically an AB-rated generic has to prove some type of bioequivalence which can be relatively straightforward for a single agent that's well-characterized as a reference listed drug. When the reference listed drug in the case of Acthar, as is the case say for example with Premarin, is a mixture of active agents, that traditional pathway of approving bioequivalence which would theoretically lead to an AB-rated generic seems to be a pretty difficult way to go. We do believe over time, though, that there are likely to be additional corticotropin competitors to this product. There have been in the past. There aren't currently specific corticotropin competitors, but we would expect that over time, there'd be other corticotropins that come to the market. We would expect they'd come to the market through the traditional NDA route, which means they would be their own brand with their own labelling, their own data requirements, their own promotional and reimbursement requirements and so on. And so our view is that this area is likely to get more competitive over time. But if you just look at analogous markets, many times when you bring additional competitive products into a class, the class tends to expand rather than contract. So again, our view is not only is Acthar a very durable product, but the opportunity in corticotropins we think is very strong as well. So again, we've got a point of view. We continue to support our point of view with data, with dialog with managed care organizations and we continue to believe that Acthar's long-term growth trajectory will continue to be in the mid-single to low double-digit range, consistent with essentially what we've been delivering virtually every quarter since we acquired the product. With full recognition that occasionally we may have a quarter that falls outside that range as we have, but the overall kind of normalized growth rate expectation for this product should be in the range of mid-single to low double-digits.

[Matthew K. Harbaugh:]

Yeah. And Louise, just kind of turning to your question from a financial perspective. We had said late last year that since acquisition, we had spent greater than $0.25 billion on Acthar and we have continued to invest in Acthar both from a manufacturing perspective, from an R&D perspective. So that reinvestment that's going on in the product, I think really speaks to the way we think about the durability of the franchise.

[Coleman N. Lannum:]

So folks, I'm showing the bottom of the hour. So we're going to wrap it right there. I want to thank you for joining us on the call this morning. A replay will be available later today on our website, mallinckrodt.com. And of course, Dan and I will be available throughout the day to answer any follow-up questions you may have. Thanks a lot and have a great day.

[Operator:]

Ladies and gentlemen, thank you for your participation on today's conference. This does conclude the program, and we may all disconnect. Everybody have a wonderful day.