Novan, Inc.
Q2 2008 Earnings Call Transcript

Published: 13 Sep 2008

[Operator:]

Greetings, ladies and gentlemen, and welcome to the Noven Pharmaceuticals second quarter 2008 earnings conference call. At this time, all participants are in a listen-only mode, and a brief question-and-answer session will follow the formal presentation. (Operator instructions) As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Mr. Joseph Jones, Vice President of Corporate Affairs for Noven Pharmaceuticals. Thank you, Mr. Jones. You may now begin.

[Joseph Jones:]

Thank you, Jackie, and good morning, everyone. Thank you for joining us. Earlier today, we announced our financial results for the quarter ended June 30, 2008. On the line to discuss our results and answer your questions are Peter Brandt, Noven's President and CEO; Michael Price, our Chief Financial Officer; and others from the Noven senior management team. Before we begin, let me remind you that some statements today including our guidance will be forward-looking. Those statements will be made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act. Many factors may cause our actual results to differ significantly from the guidance and other forward-looking statements provided today. Please consider the risks, uncertainties and cautionary factors discussed in our press release and in our SEC filings. During the course of this call we will refer to certain non-GAAP financial measures, including adjusted net income and adjusted earnings per share. We encourage you to review our earnings release which is available at Noven.com in the investor relations section. For a reconciliation of these measures to their comparable measures and for an explanation of why management considers these measures useful. Now I would like to turn the call over to our CEO, Peter Brandt.

[Peter Brandt:]

Thank you, Joe, and good morning, everyone. While our financial performance for the second quarter reflects a number of positive operational events as well as the negative financial impacts of some of the challenges we are taking actions to address Novogyne once again reported outstanding results. However, on the other side of the coin, costs related to Daytrana, many of which are one-time in nature, reduced our overall profitability. On balance, we are making progress in advancing our opportunities and in tackling our challenges head-on. Now let's get into more detail beginning with the Novogyne joint venture. In the key areas of business Novogyne and Vivelle-Dot continued to demonstrate good if not impressive growth. Compared to the same quarter of last year, the joint venture's net revenue increased 21%. Net income increased 34%, and Noven's equity and earnings of Novogyne increased 35%. Total prescriptions for Vivelle-Dot increased 6% compared to the same quarter last year while total prescriptions in the overall hormone therapy market decreased 6%. Vivelle-Dot's share of total prescriptions in the transdermal estrogen therapy market has increased from 51% in June of last year to 56% at midyear 2008. Now for the same period, Vivelle-Dot's share of prescriptions in the larger overall estrogen therapy market, which includes the oral products, increased from 9% to 10.2%. One of the drivers of our first half results was an expansion of our targeted physician group based on an analysis of reach and frequency. We determined that by adjusting call frequency we could significantly increase the universe of physicians we can call on from 18,000 to 24,000, without an increase in the size of our field force. After five months of promotion to this expanded group, prescription data indicates that our strategy is working and, very importantly, that there is further opportunity for additional growth. Highly effective and efficient joint venture markets themselves a great product. Not only do we believe Vivelle-Dot is the best estrogen patch on the market we believe it is the best option outright for patients seeking estrogen therapy to treat vasomotor symptoms associated with menopause. We continue to work with Novartis to explore ways to take Novogyne and Vivelle-Dot specifically to new levels. Now there are going to be a number of topics in this call, but I will make the following comment that we are – at the end of the call we are going to hand it over to Mike Price, our CFO, and he is going to make some changes to the full-year guidance that we previously have provided. And this is the first point in that. The strong performance of the joint venture permits us to increase our full-year guidance on the profit contribution from Novogyne. And again, Mike will cover that toward the end of this call. Now let's move to Daytrana. So we are moving from one of our big opportunities, Novogyne, to one of our biggest challenges, and one that we are hitting head on. Now at our last update, I indicated that we were testing for a probable root cause of the Daytrana tight release issue, and that we understood the importance and urgency of this issue. Given where we are in the process, we try to convey our commitment to addressing the problem, but we could not provide much by way of detail regarding our plan of action or to be honest how long it would take. As you know, Daytrana is the only Patch therapy approved for the treatment of ADHD. As such, it is the only product that permits a parent to shorten the duration of dosing to meet their particular child's needs by simply removing the Patch. That's an important benefit in this category and as such, Daytrana is a product that can change lives. For some time, however, we have received complaints from consumers concerning the difficulty of peeling the release liner from certain Daytrana Patches. We refer to this or call this the tight release issue. And specifically, we mean the physical act of peeling the release liner off the patch so the caregiver can then apply the Patch to the patient's skin. This has been a problem for us for some time, causing the voluntary recall of two lots that affected our second quarter results of this year, as well as a voluntary withdrawal of over 20 lots in the third quarter of last year. It is also the principal reason that we received an FDA warning letter that is currently outstanding. So addressing this issue is obviously a top priority of the organization. Now, today, we can report that our root cause analysis is complete and that Noven and Shire believe we have definitively identified the root cause and the drivers that contribute to tight release. With our confidence as the root cause and contributing drivers are definitively established, we are now moving toward taking action on a potential solution. The Noven Shire team has identified and is aggressively pursuing parallel paths testing potential solutions with the full expectation these solutions will resolve or certainly acceptably mitigate the tight release issue. To make it a differentiating point between what we're saying in this call versus what we said a quarter ago, remember in our previous call, we basically told you that we were taking an analytically-based approach to identifying the root cause. Before simply jumping to potential solutions no matter how well educated our guess could be that those solutions might work. In short, we were asking you to trust us that we were taking a better approach to identifying the cause, and therefore, knowing in essence what we were solving for. So the news today is that we have identified that root cause and the drivers of that root cause. So as we move into testing of solutions, our comfort level or our confidence in those solutions addressing a known root cause are much higher than if we had simply gone right into potential solutions. So with that said, due to a number of factors including the time required to test and implement our solution and to see the results in the marketplace, realistically, we can't sit here today and say, declare victory on the tight release issue once and forever. However, we can say that we have defined in our pursuing a path that we believe will lead to the final resolution of the issue. And we are moving forward with due diligence and urgency on this project. Now if our testing is successful, and we expect it will be and proceeds on our current timetables, we would expect to be producing commercial product that incorporates the solution by mid-2009. I want to emphasize that Daytrana tight release situation, including the voluntary recall in the second quarter, has not affected the availability of Daytrana at the pharmacy level. As I mentioned earlier, the cost of addressing the tight release issue negatively affected our financial results in the second quarter and the first half of 2008. As Mike will discuss in his financial review, many of these costs are nonrecurring and should begin to mitigate as we move forward. While we are on the subject of Daytrana, we also have some – I would argue further positive news that sales of the product by Shire over the past 12 months were sufficient to trigger the third and final $25 million sales milestone payment to Noven. Under our agreement with Shire, payment is due in the third quarter of this year and Mike will provide additional details on that topic, as well. The next area of major progress and opportunity for Noven involves Stavzor. Stavzor was approved by the FDA on July 29 for the treatment of bipolar disorder, seizures and migraine headaches. The Stavzor NDA is a 505(b)(2) application that references Abbott's Depakote product. As such, it is therapeutically similar to Depakote, but it is not AV rated to or substitutable for Depakote nor are any of the available Depakote generics substitutable for Stavzor. Stavzor is 40% smaller than the highest and most commonly prescribed doses of Depakote and Depakote ER. Its smaller size and gel cap formulation make it easy to swallow with the potential to help patient compliance in a therapeutic category where compliance is truly critical. Our marketing and sales organization under the leadership of Anthony Venditti, Noven's new VP of Marketing and Sales is fully prepared to launch Stavzor through our well trained and highly motivated sales force. Next week is the national launch meeting and shipments to the trade begin the week of August 18. We've mentioned it before the 2008 is an investment year for the launch of this new product and revenues this year are expected to be minimal given launch timing and revenue recognition rules, and quite frankly, the ultimate potential of this product. While we don't expect this product to ever become a blockbuster, Stavzor should become a more significant contributor to our business in 2009, and it represents a major step in our efforts towards standalone profitability at Noven Therapeutics. Now the leadership that Anthony brings to the Stavzor launch is indicative of something broader at Noven. We continue to deepen the industry experience of the Noven senior management team. Since our last update, we've added three pharmaceutical industry veterans including Anthony to lead the critical functions of marketing and sales, transdermal research and developments and clinical regulatory and medical affairs. In fact, over the past nine months, half of Noven executive team is new to the company. And all of the new team members bring a track record of success and significant pharmaceutical industry experience to the Noven organization. With this close involvement of the new executive team members we have identified the critical business areas and processes where an organization redesign or other change is required to support our growth strategy and profitability goals. We have taken concrete actions in certain areas and we are developing definitive plans in others. A critical part of this organizational review relates to cost. As we discussed with you previously, we continue to undertake a comprehensive assessment of all areas of investment and spending at Noven to assure that they advance the interest of shareholders. The new members of our senior management with the broad industry experience and objectivity that they bring to the table are central to that process. Certainly, the biggest single area of investment in our business plan is the cost associated with the clinical development of Mesafem. Mesafem is a low-dose oral paroxetine mesylate product that we are developing for moderate-to-severe vasomotor symptoms associated with menopause. We see a significant unmet need for a nonhormonal product like Mesafem to help the millions of women who suffer from vasomotor symptoms, but who are not candidates for or have concerns about hormonal therapy. At our last update I indicated that we are analyzing whether to engage a development partner for Mesafem prior to entering Phase III studies or fund and proceed into Phase III on our own. Most recently, this project has had the benefit of the experience and close analysis of Dr. Joel Lippman, our new Vice President of Clinical Development and Chief Medical Officer. Our analysis of our clinical options determined that a strategy of moving directly into a large, multi-armed Phase III program would be costly, riskier than necessary without the benefit of low dose Phase II data, and not within our area of expertise, particularly before the arrival of Dr. Lippman. Led by Dr. Lippman the Mesafem team has proposed a modified development strategy that we believe will reduce both the cost and the risk associated with the project without meaningfully compromising the financial upside to Noven. Under this new lower cost, lower risk strategy, we plan to conduct a Phase II randomized placebo-controlled study evaluating the efficacy of Mesafem for VMS at doses lower than those currently approved for other paroxetine indications. While existing Phase II data are compelling and suggest that lower doses of paroxetine will be efficacious for both vasomotor symptoms, to-date, there has been no clinical work at any dose lower than 10 milligrams. Our intent is to conclusively demonstrate efficacy below the 10 milligram level with possibly better tolerability than the higher doses. We expect that in his study will take 12 months to 14 months to complete and planning and study design have already begun. With the successful completion of low dose Phase II studies we will be in an excellent position to partner with another company for Phase III if we so choose. Mike will be addressing R&D guidance later in the call to reflect the implications of this revised development program on 2008 spending. Before I turn the call over to Mike, we want to cover two more topics. The first relates to our pipeline. We frequently hear frustration from investors regarding the relative lack of public information about Noven transdermal pipeline. We certainly understand this sentiment. It's a legitimate criticism, and we take it quite seriously. Part of the reason for this has been the competitive and confidentiality concerns of development partners, but in fairness, that's only been part of it. So under the supervision of Steven Dinh, our new Chief Scientific Officer, we are putting together a framework of information on our pipeline that we hope will reduce this frustration and establish a more informed and transparent view of our pipeline. Our target is to share this framework with investors on a future call. Now you have to understand that it is unlikely that we are going to be in a position to disclose specific partner programs, but we do expect to provide in general terms the number and the nature and the magnitude of the opportunities that we are targeting. Now the second topic is business development, which is another high priority for the organization, supporting both are transdermal and Noven therapeutics strategies. On the transdermal side, we are aggressively seeking partners for the transdermal formulations that we are developing in-house, as well as seeking to partner with companies that are proprietary compounds that could benefit from a transdermal delivery system. On the Noven Therapeutics side, we're just as aggressively working to in-license a product that complements the current portfolio and helps leverage our existing marketing and sales infrastructure. Now on both sides of our business, we are actively engaged in discussions regarding potential transactions we hope will ultimately and meaningfully advance our growth strategy, but this falls into the same category as our pipeline. We haven't provided a lot of detail on this. We haven't been particularly transparent, and we do indeed intend to share more on this topic as well at a future call. Now I would like to turn the call over to Mike for a review of our financial results and an update on our 2008 guidance.

[Michael Price:]

Thanks, Peter. I think your assessment of the top of the call was right on the mark. Our financial performance for the quarter was mixed with Novogyne results up as a result of Vivelle-Dot growth and Noven's gross margin down because of Daytrana costs, many of which are one-time in nature. I'd also note that in the second quarter and for the year ahead we are also beginning to see the impact of the ongoing strategy and expense review that Peter mentioned, particularly in the area of research and development. Starting with Noven's consolidated results for the second quarter, we reported net income of $4.5 million or $0.18 per share compared to $7.6 million or $0.30 per share for the second quarter of last year. As noted, the quarter included a $1.7 million charge to general and administrative expense related to the second quarter recall of two lots of Daytrana. Adjusted to exclude that charge, second quarter net income would have been $5.6 million or $0.23 per share. Much of the decrease in quarterly net income related to the addition of sales and marketing expenses and amortization costs associated with the acquisition of Noven Therapeutics in the third quarter of last year, including costs associated with the upcoming launch of Stavzor. Noven's net revenues for the second quarter increased 31% to $24.6 million, reflecting the addition of $6.6 million in Noven Therapeutics product sales as well as increased licensing contract revenues. Our consolidated gross margin was 35% in the second quarter compared to 38% in the second quarter of last year reflecting the sales of Noven Therapeutics higher margin products offset by higher QA QC costs especially for Daytrana. Research and development expenses in the second quarter increased only slightly from the second quarter of last year. Selling and marketing expenses increased to $5.3 million from $200,000 in the second quarter of last year due to the addition of Noven Therapeutics. G&A expenses increased $3.4 million or 62% due primarily to the $1.7 million Daytrana voluntary recall charge and the addition of Noven Therapeutics. Novogyne had an outstanding quarter, permitting Noven to recognize $12.4 million in earnings from the joint venture, which represents a 35% increase over the second quarter of last year. The joint venture's net income increased 34% to a record $25.4 million and net revenues increased 21% to $43.8 million, also a record. Novogyne's gross margin for the quarter increased slightly to 80% and selling, general and administrative expenses were largely unchanged from the second quarter of last year. Now let's review Noven's cash position. At June 30, 2008 we had $35.4 million in cash and cash equivalents and $17.5 million in investments and auction rate securities. This represented an aggregate of $52.9 million. This compares with year-end 2007 balances of $14 million in cash and cash equivalents and $54.4 million in auction rate securities representing an aggregate of $68.4 million. Our liquidity has improved substantially since the end of the first quarter. At the end of Q1 we held auction rate securities with a fair value of $35.6 million. Since March 31st, we've liquidated over $18 million of these securities at par value. In total, since mid February when the auctions for these securities first began to fail, we've liquidated over $36 million in auction rate securities, all at par value. You may recall that we had recorded a temporary change in fair value of $500,000 relating to our investments in these securities in the first quarter of 2008. No additional change in fair value was required in the second quarter. We believe that the $15 million net use of cash in the first half of 2008 is not representative of our ongoing quarterly cash needs. The first half included a $3.3 million payment to Smith-Kline for Pexeva, a $3.3 million payment to Shire for the 2007 Daytrana market withdrawal costs, and other items that would not be part of our expected cash obligations in the second half of the year. As Peter noted, Shire recently confirms that its net sales of Daytrana had triggered the third and final $25 million milestone due to Noven. Under our agreement with Shire, the $25 million milestone is due to be paid in the third quarter of 2008, and is reflected as receivable and as deferred license revenue on our June 30th balance sheet. We plan to defer revenue recognition of this milestone and recognize it as license revenue beginning in the third quarter of this year, extending through the first quarter of 2013. On our last conference call, we mentioned that we were pursuing a $15 million credit facility to further enhance our liquidity. That facility was, in fact, established in July, and there are no amounts borrowed pursuant to that credit facility. Turning to financial guidance, as Peter indicated, there are a few areas of prior guidance that we are updating this morning and other areas that we are affirming. Let's begin with net revenues. We're reaffirming our previous net revenue guidance range for 2008 of $100 million to $105 million. This includes the recognition in the second half of the year of additional license revenue from the latest Daytrana sales milestone. Turning to gross margin percentage, we're reducing our gross margin expectations for full-year 2008 from our previous guidance of the mid-30% range to the low-30% range, primarily due to Daytrana and other manufacturing related expenses. And to be clear, we're referring to gross margin as a percentage of total net product revenues as reported on our income statement. Now, on to R&D, we noted on our last conference call that our R&D expense guidance could change as we work through our analysis and strategy from Mesafem development, and this has certainly proven to be the case. As a result of changes to our Mesafem development strategy that Peter described, we are reducing our 2008 full-year R&D guidance from the low-to-mid $20 million range to, as expressed in millions of dollars, the mid-to-high teens. Confirming prior SG&A guidance, we expect our 2008 consolidated SG&A expense to be in the upper $50 million range, including selling and promotional expenses in support of Noven Therapeutics existing products and the upcoming launch of Stavzor. This also includes the Daytrana voluntary recall charge that we recorded in Q2. And finally, as Peter mentioned, we're increasing our expectations for growth in our equity and earnings of Novogyne. Based on prescription trends and other factors, we currently expect that line item for full-year 2008 to increase in the low 20% range when compared to full-year 2007. Our prior guidance reflected 15% to 20% growth when compared to the prior year. That concludes our guidance for 2008, and now I will turn the call back over to Peter.

[Peter Brandt:]

Thank you, Mike. In summary, our financial results for the quarter were a mix of strength at Novogyne and challenge in Daytrana gross margin. However, the quarter also included definitive progress toward addressing the Daytrana issue, achieving a $25 million sales milestone for Daytrana, and moving forward on a lower risk, lower cost strategy for Mesafem development, as well as the new product approval and pending launch that has the entire organization excited. I speak for the entire management team, including our newest members, in saying that we're very much looking forward to reporting further progress in the second half of the year and in the years ahead. So now let's get to your very important questions. Operator, we're ready to open the floor for questions.

[Operator:]

(Operator instructions) Our first question coming from Scott Henry of Roth Capital.

[Scott Henry:]

Thank you for taking the question. Just a couple of them. First, is there any thought on the lithium once-a-day product in terms of are you going to take another look at that, or have you officially kind of dropped that product?

[Peter Brandt:]

We are finalizing another look at it. I would certainly expect and hope that by the time we have another quarterly conference call, we will have reached a definitive decision one way or the other. But no, we decided definitely to take another look at that product.

[Scott Henry:]

Okay, and then just a couple quick questions on the guidance. First, did I hear you correctly that your SG&A guidance does include the recall charge? And as well, given the pipeline milestone is in the revenue line, the fact that it didn't move, does that reflect kind of lower Daytrana manufacturing revenues or how should we think of why that range didn't shift upward?

[Michael Price:]

Let me take the second question first. I think that we are very comfortable reaffirming the range that we had given at the call last quarter, $100 million to $105 million. What this milestone does is it moves us up toward the top of that range, and we are very comfortable sticking with that guidance of $100 million to $105 million. We did have challenges with regard to Daytrana production during the quarter, as Peter mentioned, and it did impact our revenue for the quarter. We finished the quarter with a strong backlog that we expect to see benefits in the third and the fourth quarters. And if you take a look at Daytrana revenues, they were down substantially compared to the second quarter of last year by about $2.5 million.

[Scott Henry:]

Okay. And then just kind of a big picture question for, Peter. I commend you on you've made a lot of changes that seem to have Noven going in the right direction. And once again, there is a lot more cash coming in the door, certainly via the $25 million Daytrana milestone. What do you view as kind of your next act in terms of what you want to do, once you have that cash balance? Are you looking to bring in licensed products to leverage the infrastructure, or how should we think about the growth strategy from here?

[Peter Brandt:]

I appreciate the compliments and the question. I will say is I think we've been – well, we are certainly trying to be very transparent and open about things. We do feel that we are headed in a good direction, but that doesn't mean by any stretch of the imagination that we don't have a lot of work to do. We have still got an awful lot of challenges that we are grappling with. And I guess I am trying to convey that there is still an awful lot of sleepless nights here as we are trying to overcome the hurdles that we have in front of us. Now, to your point about what we do or the question about what we do with the cash coming in, it is – we have to make sure that we have the right cash to be able to handle what we think are going to be the best strategic uses of that cash. So what are we doing this year? Obviously, this year is preparing for and launching a major new product. But, in the future, to your point, the analyses include such things as getting an appropriately-sized product into our existing infrastructure, because we do believe that whether it be Novogyne or whether it be Noven Therapeutics, there is room in both infrastructures for more products to be effectively detailed and promoted. So it would make sense to leverage that type of infrastructure. So that look is aggressively ongoing to find the right types of compounds at the right price that would enable the leveraging of current infrastructure. In addition to that, I mean you've got – and it won't be much in 2008, as we've already revised our guidance – you also look to what type of cash needs you will be needing for, what types of clinical development programs in the future. Again, that's more now pending, in our opinion at least, on the Mesafem side, what we anticipate being strong results coming out of that 12 month to 14 month Phase II study that we referred to. So, in addition, you always look at some of the tried and true value generators, such as share repurchase, and I guess the way that we are now looking at it here at Noven. I mean that's kind of like the case to beat. The other internal uses of the cash have to at a minimum exceed the value that would accrue to shareholders through a share repurchase. But you gave a good example or two, Scott, of some of the things that are definitely part of the ongoing analysis as to how to best utilize the funds of the Company.

[Scott Henry:]

Okay, thank you for taking the questions.

[Joseph Jones:]

Scott, I will just double back. This is Joe. Your question about our SG&A guidance, I wanted to confirm for you that our guidance of SG&A expensing in the upper $50 million range does include the $1.7 million Daytrana charge that we took in the second quarter, and that was charged to SG&A.

[Scott Henry:]

Thank you, Joe.

[Joseph Jones:]

Yep.

[Operator:]

Our next question coming from Mike Krensavage of Krensavage Partners.

[Mike Krensavage:]

Good morning.

[Michael Price:]

Good morning, Mike.

[Mike Krensavage:]

What is the exclusivity on Stavzor? And my other question is, how much is the former JDS business losing at this point, and what is your timetable for turning that profitable? Thank you.

[Peter Brandt:]

Jeff, do you want to handle the exclusivity question?

[Jeff Eisenberg:]

Sure. Mike, Stavzor is a – as we noted is a 505(b)(2) application NDA, and there are patents that Banner has filed on the technology protecting Stavzor that have not yet been issued. So there is no orange book exclusivity for Stavzor. But again, the hope and expectation is that the patents will issue and provide protection. I would note that Banner's technology – gelatin technology is proprietary. And so we would expect that that alone would provide a level of protection to that product.

[Peter Brandt:]

In terms of your second question, Mike, let me take a stab at it. And Mike, if I miss something, you jump in on this. One – and I apologize, but it's kind of a minor point – now that we've integrated JDS into Noven and it's part of our Noven Therapeutics business line, my answers are going to be more addressed kind of the lack of profitability currently in our Noven Therapeutics business segment, as opposed to anything attributable directly to what used to be JDS. As we talked about and it's kind of obvious, I mean, this year we are not profitable in that segment of our business because it is an investment year to, in particular, see if we can get as we expect Stavzor off the ground and be a good size contributor for next year. We have not finalized our '09 plans, and we do indeed plan to share with all of you our outlook for '09 at a later date. But with that said, certainly, as we head into our discussions internally on '09, we are targeting to have, if you will, net of large clinical expenditures '09 be a year in which, at a minimum, we break even in Noven Therapeutics, headed towards ultimate substantial profitability and growth.

[Michael Price:]

Mike, I would just like to add a couple comments. When we file our 10-Q in the next couple of days, you will be able to take a look at the segment notes. And you will see that, for example in the second quarter, Noven Therapeutics had $6.6 million of revenues. If you back out the repurchase and development expenditures and the launch costs for Stavzor which total almost $700,000 in the quarter – just for Stavzor launch costs alone – you will see that we are approaching their objective.

[Mike Krensavage:]

Okay, thank you.

[Operator:]

Our next question coming from Allyn Seymour of Columbia Management.

[Allyn Seymour:]

Yes. My question has to do with the line of license and contract revenues, which was up pretty substantially. Can we infer anything from that? I guess I'm trying to get a handle on this issue of pipeline product and where pipeline products are in their development phase. Should we infer anything from the increase in revenues there, related to that issue?

[Joseph Jones:]

This is Joe. I will just jump in and let Mike correct me if I'm off track. I think the vast majority of that line item relates to the license revenue, not contract revenue. And the reason for the increase is the additional recognition of deferred license revenue associated with the Daytrana milestones that we received back in 2007. The contract portion of that line item, I think, is something in the $200,000 to $300,000 range. I think all you should conclude from that line item is we are recognizing more revenue from prior Daytrana milestones in the current period.

[Michael Price:]

I would like to just add that you will see that line item increase as we begin to recognize the revenue stream from the latest milestone that we will receive in the third quarter, and you should see that number go up about $1.3 million per quarter.

[Allyn Seymour:]

Okay. And my second question is since – the history of the larger pharmaceutical guys in terms of their pipeline, they talk about various different products and kind of enumerate them in terms of kind of therapeutic classes and kind of where they are in the – is that the kind of thing that you are thinking about in terms of additional disclosure for the pipeline?

[Peter Brandt:]

It is. You're absolutely right, thinking along the terms of more of kind of a traditional pipeline review of what are exactly our phases, how many projects do we have in each phase, what are the attrition rates or probabilities of success of each level, giving some feel for obviously what therapeutic area and, therefore, what type of commercial opportunity might we be looking at. And we should be able to do that, at least we believe, certainly in terms of things that are within our own shop. What we are grappling with is when it's a partnered project, to the extent to which – and historically, it's been quite limited that a partner has enabled us to say anything about those activities. So what we are trying to grapple with is how to shed some light on both the internally developed compounds, as well as partnered compounds, and make it make sense.

[Allyn Seymour:]

Okay, great. Thank you.

[Operator:]

Our next question is coming from Ken Trbovich of RBC Capital Markets.

[Ken Trbovich:]

Thanks for taking the question. A couple of quick I guess housekeeping items. Did you guys break out Daytrana revenues?

[Michael Price:]

We did not, but I can tell you what Daytrana is.

[Ken Trbovich:]

I backed into 2.7, and I just wanted to make sure that was accurate.

[Michael Price:]

That is right. $2.7 million for the quarter, $5.7 million year-to-date.

[Ken Trbovich:]

So within the $100 million to $105 million guidance, is the $10 million to $13 million on Daytrana still accurate?

[Peter Brandt:]

Ken, I don't think $10 million to $13 million accurately reflects our prior guidance on that. Our prior guidance on Daytrana revenue was roughly in line with 2007 sales, which –

[Ken Trbovich:]

Sorry, the $13 million to $14 million then. So there is no change then in the Daytrana line.

[Michael Price:]

That's correct.

[Ken Trbovich:]

And then just as it relates to the Phase IIb, I guess the first question is when would you plan to actually get it underway? And then the second one, typically I'm used to hot-flash studies being 12-week studies, and the enrollment can go rather quick. I'm just trying to understand why 12 months to 14 months as a timeline.

[Peter Brandt:]

Both are good questions. We are hopeful of enrolling patients either the very end of this year or the beginning of next year. And you're absolutely right, looking at a study that has a relatively small number of weeks. Quite honestly, one of the things that we are trying to do is in some ways realistic flash, in some cases maybe, we don't know yet – conservative benchmarks out there. I mean, I happen to personally share what's underlying your comment, that 12 months to 14 months for a study of a relatively short number of weeks is, I would argue, on the conservative side in terms of being long. You're hitting on what I would agree is the critical factor in this, and that's how much time it takes to enroll the patients for the study. And I also would agree with your point that historically, vasomotor symptom studies enrollment is not that difficult a process. I think it's a fair point. I mean, I guess we would like to think that the 12 weeks to 14 weeks is at the outside of what this will take us.

[Ken Trbovich:]

Okay, that's fair. And I guess as it relates to the actual Novogyne guidance that was provided, was there anything in particular in the quarter? It suggests that – the guidance suggests that you may see some sort of either flattening or slight sequential lowering. Was there particular stocking in the quarter that perhaps gives you that reason to be conservative, or other perhaps costs associated with reaching these additional positions that are going to show up in SG&A in future quarters for Novogyne?

[Michael Price:]

That's a great observation on your part. I'd like to respond to that. If you take a look at the first half of '08 compared to the first half of '07, we had the benefit of two price increases, one that happened in the beginning of '08 and the other one that happened during the year of '07. So there was a period of time that we benefited from two price increases. That will not happen in the second half. There will only be the benefit of one price increase. There were also some changes in estimates as a result of sales deductions coming in lower than we had anticipated with respect to rebates and returns. So we had a benefit there as well. And if you go back and take a look at the second half of '07, our sales actually exceeded script demand during that period of time, so there was some pipe fill during the second half of '07 that we can't really count on happening in the second half of '08. So those factors all contribute to the guidance that we gave today.

[Peter Brandt:]

Ken, to add to what Mike is saying it's not a significant amount. We don't want to give anybody the impression that in any way, shape or form is there a bloating or a stuffing of the channel out there. But if you look at historical inventory levels, they are, to Mike's point, slightly higher in the first half than what we had seen historically. So to Mike's point, what we collectively with Novartis had built into the forecast for the second half is back down to what we think are relatively if not historical levels. Also wanted to hit on, so it is also here – it is not a case where there are expected to be incremental costs associated with the expansion in the physician target. That was a highly efficient analysis that literally said if we can reduce the call frequency on a certain number of physicians, can we take those extra calls and redeploy them to hit an incremental number of targets. So it did not bring with it an increased cost.

[Ken Trbovich:]

Okay, and then a question for Michael on the cash flow side. It looks like if I adjust the numbers for the quarter on the non-cash items, you would have actually been cash flow positive in the quarter from operations, as opposed to balance sheet adjustments.

[Michael Price:]

Ken, I will be happy to take a look at that and respond to you later, but certainly we did have an opportunity to liquidate several balances that had been accrued as of year-end during the first half of the year. And like you said, including the $3.3 million with regard to the Daytrana recall and the $3.3 million that we needed to pay with respect to Pexeva milestone.

[Ken Trbovich:]

Okay, and then the final question really just on Daytrana. I understand the concern about the tight release. I guess my question around resolving that problem focuses on the actual use of the product as opposed to removing it from the backing. Is there any risk in resolving the problem for tight release, that it actually creates an increase in drop-off?

[Jeff Eisenberg:]

This is Jeff. And that's – no, I would say that there is no risk of that. We focused the time we needed to develop these solutions that we are now testing to make sure that there was no other impact on the product. So no, I would say that's not a risk that we're concerned about.

[Ken Trbovich:]

Okay, thank you.

[Operator:]

Our next question is coming from Lei Huang of Summer Street Research Partners.

[Lei Huang:]

Hi, I have a couple of questions. Starting with your guidance for R&D, the new guidance in the mid-to-high teens, so that sounds like there is not a lot of Mesafem cost in there. So presumably, most of the Phase IIb cost is going to be in 2009. Can you give us any sense of how to look at R&D for next year without going to specific guidance?

[Peter Brandt:]

I'm sorry, Lei, at this point I think what we're working toward is giving a fair amount of transparency on our '09 numbers at a future call. But I'm afraid I'm going to have to reluctantly decline to get into any more specifics on that one now.

[Lei Huang:]

Okay, and then as far as your gross margin guidance for '08, it's been reduced for second quarter now. I think in the first quarter it was reduced, and now it's down to the low 30s. How should we think about that in the second half? Are you incorporating additional challenges in that guidance already, or are there additional risks we should think about in the second half?

[Michael Price:]

We're continuing to incur costs that we expect to continue through the second half of the year to remediate the issues that we've identified. So we do expect to continue to incur those costs in the second half, and we've built those expectations into the guidance of low 30s.

[Lei Huang:]

Okay, so what's changed from the mid 30s in prior guidance to the low 30s now? Was it the costs you recognized in second quarter being perhaps higher than expected?

[Peter Brandt:]

That's right, the cost to remediate the issues with regard to Daytrana have turned out to be higher than we anticipated when we gave guidance three months ago.

[Lei Huang:]

Okay, fair enough. And then as far as Daytrana itself, you mentioned I think in your remarks that resolution of the appeal issue and incorporating the new technology into the product would be done by mid-2009. So what should we expect between now and mid-2009 when you have that resolution? Should we expect the continued sales of (inaudible) because you are working on fixing the issue?

[Peter Brandt:]

Absolutely. No, we have not had – even with the issues that we have been dealing with in 2008, as well as the issues in 2007 there has never been an issue with product being available at the pharmacy level. So we don't anticipate sales out in the marketplace to at all be affected by the issue. And then you back up in terms of, okay, the trend or the expectations for Noven sales into Shire of the product. And no, we do not expect there to be any dislocation due to the work that we are doing in that regard either.

[Lei Huang:]

And on the cost side of it, in terms of, let's say, the profitability of that product line to Noven?

[Peter Brandt:]

Well, I think it kind of gets back to what Mike was just talking about with the guidance for the gross margin. In other words, there have been – there were, as Mike said, there were higher than expected costs in the first half or even the second quarter. Many of those are one-time in nature. With that said, the changes and the fixes we are putting in place will still, while the costs will mitigate, there is still incremental cost for the remainder of this year. What we are hopeful of and what we don't have, quite honestly, the ability to give you a lot of detail on today – again, it's an '09 issue – is that the '09 cost picture does look better than what we were seeing in '08, not just because of elimination of one-time events but because some of the fixes would be cost effective.

[Lei Huang:]

Got it. Okay, great. And then just last question. On Mesafem, the Phase II, the additional Phase II study, have you determined the number of patients you need or is that still part of the design you're working on?

[Peter Brandt:]

We are close, but it's still part of the design we are working on.

[Lei Huang:]

Okay, all right. Thank you.

[Peter Brandt:]

You bet.

[Operator:]

Our next question is coming from David Steinberg of Deutsche Bank.

[David Steinberg:]

Yes, thanks. A couple questions. First, on Novogyne and Vivelle-Dot, could you remind us of your patent position and exclusivity? In addition, are you – could you talk about next generation estrogen patch products you are working on and kind of where they may be in the clinic?

[Jeff Eisenberg:]

Dave, this is Jeff. I can address those questions. On the patent position exclusivity, Vivelle-Dot is protected by our platform technology patents that are orange book listed and extend out to 2014. That's the current situation with Vivelle-Dot exclusivity. We do have lifecycle management strategies, as well as other defensive strategies that we will employ and that we've worked out plans for. But we have not gone into detail, and I don't think we are prepared to go into detail today on what exactly those lifecycle management strategies are at this point.

[David Steinberg:]

Okay. And then just sticking with Novogyne for a minute, with the new management team in place, obviously, you are giving away a big portion of your business to Novartis. Any thoughts or possibilities on renegotiating the terms of the deal, perhaps purchasing the entire entity back to Noven? Obviously, it's not very meaningful to Novartis.

[Peter Brandt:]

Yes, absolutely is that thought top of mind for us. Not only for the reasons that you cite, but from a waiting point of view, it's a heck of a lot more important to Noven than it is to Novartis. But also from the point of view that we firmly believe that there is more opportunity for growth in that product with that entity as to our partners, Novartis. But we would certainly like to capitalize more on that future growth. A number of us, myself included, are relatively new now to the Noven team, but that set of conversations has happened at different periods over the last couple of months or years with our friends at Novartis. And to state what is obvious, we've yet to been able to crack that nut. So that doesn't – and part of the rationale from Novartis's point of view while it may be small relative to everything else they have at Novartis, it is a profitable, steadily growing part of their business. And even a large company likes having that as part of their numbers as well. With that said, we continue to have – we are continuing to work on potentially different options and ways in which we can discuss that with our friends at Novartis. So it is – your point is very well taken.

[David Steinberg:]

Okay. Just on the pipeline, previously, management has discussed a number of undisclosed pipeline products that apparently were fairly close to the market. I think there were two or three or four of them. Can you – it's been somewhat mysterious to us. Could you shed a little bit of light on them? Do they still exist? If they do, how close to market are they? What areas might they be in? Could you help us a little bit there?

[Peter Brandt:]

David, I am going to engage Joe Jones to help me on this one, because I am still getting up to speed as to what Noven has said publicly about what products and, therefore, what impressions are out there about what's coming out of our own pipeline at what timeline. Go ahead, Joe.

[Joseph Jones:]

I think just to follow-up on what Peter said earlier, it's one of the things we are driving toward more information about where the pipeline stands in a future call where we would hope to be able to –

[Peter Brandt:]

Yes, but if I can, Joe – and kick me or throw something at me if you want to – but I think at this point, this is one thing we will say about '09. We do not anticipate anything coming out of our internal pipeline that would be commercialize-able in '09.

[David Steinberg:]

Okay. Do these undisclosed products actually exist, or have they been taken off the board? Can you clarify that?

[Peter Brandt:]

I've got to look around the room and say exactly what are these undisclosed projects that are being discussed.

[David Steinberg:]

Okay.

[Peter Brandt:]

Hang on. Can anybody else help me out around? If not, we will get back to you, but I am hoping to answer your question directly.

[Peter Brandt:]

I think it's fair to say that we continue to have undisclosed compounds that are partnered in our pipeline, David.

[David Steinberg:]

Okay, that's fair.

[Peter Brandt:]

It sounds like, David, if I understand correctly to make sure I am not misunderstanding, there were specific undisclosed compounds in our pipeline that are partnered? You know, Joe is absolutely right, there are partner projects that we haven't given any information on in our pipeline. I am under the impression, and tell me if I've got this right, that we as a company were hinting or a little bit more specific about two or three of those opportunities that might be coming in a certain time line in years past.

[David Steinberg:]

That's correct.

[Peter Brandt:]

So is there still a need to clarify where those that we hinted at are currently standing in our – ?

[David Steinberg:]

That would be helpful since they were discussed publicly, just not the actual product and who the partner was, and that they would be relatively near-term. We put something in our model for them since they were stated to be fairly near-term. That's why I ask. But you helped out with they're not going to be out there in '09, so that's helpful.

[Peter Brandt:]

Okay, and then I will go back to what Joe said before. This is all the more reason why we feel it's important at some relatively soon future call for us, to shed as much light as we can on our pipeline.

[David Steinberg:]

That would be great. And then just one final question of strategy. The Company obviously last year embarked on trying to control its own destiny more than they had in the past, and bought JDS. And I'm just wondering, you mentioned when you talked about Mesafem, you indicated that going down the road, you may partner as opposed to market it yourself, which seems to be one of the main reasons the Company bought JDS. So I was wondering, are you perhaps moving away a little bit from this self-marketing model? You mentioned business development activities are heating up. Are you going to move back a little bit to the old royalty-based model, or will there be some balance between the two? Could you talk a little about that?

[Peter Brandt:]

I will, and then I'm going to ask Jeff to jump in as well. We are not at all moving away from models that since we commercialize compounds on our own accord. I think one of the things when you look at Mesafem, what do we have in Noven Therapeutics? We have a specialty pharmaceutical organization of a certain size that is primarily focused in CNS and in women's health. So as we look to what we think are quite broad commercial opportunities with the product like Mesafem, given the success we anticipate coming out of the clinic work, that our thought going in, we have every intention that our Noven Therapeutics line would indeed commercialize Mesafem. To be able to reap the full benefits of the commercial potential, we may also engage another commercial partner for other aspects outside of CNS and women's health, outside of the doctors’ offices that we currently cover. So we will – we are very much moving down a path of doing everything we can to take every compound, including partnered compounds, into our Noven Therapeutics commercial arm and to be able to reap the benefits of that. And that was, in my opinion, kind of the driver of the strategy to acquire JDS. When we look to the comment about partnering of Mesafem, it's because ultimately we may reap better commercial benefit out of having an additional commercial partner. And if we do that, then logic says you might also want to look then to share the risk and the cost associated with the Phase III clinical program. Does that help?

[David Steinberg:]

Yes, that's very helpful. Thank you, appreciate the time. Thanks.

[Peter Brandt:]

And Jeff, you're okay – ?

[Jeff Eisenberg:]

That's exactly.

[Operator:]

Our next question coming from Matt Teplitz of Quaker Capital.

[Matt Teplitz:]

Good morning, gentlemen. A couple quick questions. On the cash burn, I guess you pointed out a few of the sort of first half events that I guess hopefully should not repeat the second half. Can you give any broad view of what you think cash burn use or generation would be in the second half? Again, I am not including the $25 million from Shire, although you will get that, obviously.

[Michael Price:]

Well, excluding the $25 million sales milestone, we do expect to see our cash burn decrease in the second half of the year. And without going into a lot of specificity, I think if you carve out those items that were accrued on the balance sheet at year-end I think that should probably give you a better indication. I think the fact that we've lowered guidance with respect to research and development expenditures also has an impact on our burn for the second half.

[Matt Teplitz:]

Okay, because I guess first half, your burn overall was roughly $15 million?

[Michael Price:]

That is right.

[Matt Teplitz:]

And that includes the Pexeva milestone and the Shire. Now, there will still be some Shire payments, though, presumably.

[Michael Price:]

There will be. We've agreed to reimburse Shire $1.95 million with respect to the second quarter recall.

[Matt Teplitz:]

Okay.

[Peter Brandt:]

– which is already taken into account in the P&L, but now we are talking about cash flow.

[Michael Price:]

That's right.

[Matt Teplitz:]

Somewhat, I guess, are there any other milestones out there that you are on the hook for?

[Peter Brandt:]

For Daytrana?

[Matt Teplitz:]

No, I guess like the Pexeva one or any other products?

[Michael Price:]

There are other milestones that have been accrued with respect to the JDS acquisition. As we achieve threshold sales for Pexeva, it triggers milestones as well as any paroxetine compounds.

[Matt Teplitz:]

Are you likely to have to make those payments in the second half or not?

[Michael Price:]

I don't think any of those would be triggered during 2008. Those will be future year payments.

[Joseph Jones:]

You will find those laid out with the sales triggers in our SEC filings in the 10K and 10-Q, going back to the third quarter last year I will be happy to walk you through that –

[Matt Teplitz:]

I have a general or somewhat vague recollection of the moment, but I know where to look. A different question for you. Obviously, you brought down some of the cost guidance, at least on the R&D side. But Peter, I think in your comments or in the script a specific remark about examining of – comprehensive examination of cost based on experience and objectivity. I guess I've shared my views on cost anyway. But given that, is there any expectation or possibility that we see a material reduction in cost or restructuring announcement or anything of the like in the second half? Because to be quite honest, I would be shocked if a comprehensive examination didn't lead to a significant reduction in cost.

[Peter Brandt:]

We are not anticipating a major restructuring that would lead to that type of announcement in the second half. The continued review is, as you would guess, project by project, department by department. And that leads to alterations or changes, in many cases declines in expenditures, but at a – like I said, a more finite level. Our anticipation is that this is more of what we will see affecting our rolled together '09 forecast.

[Matt Teplitz:]

Okay. Well, I would continue to encourage you to really – to look awfully hard, because your overhead still remains it seems to me way too high for the revenue base of the Company.

[Peter Brandt:]

I don't disagree at all, Matt, and I think as – obviously, we are trying to work on both ends of that equation, make sure that the expenditures are appropriate. And if that means they come down, they should come down and, obviously, as well to increase that top line.

[Michael Price:]

Matt, can we circle back to your other cash flow statement that we were talking about? On further reflection, we don't have any additional milestones that are going to be triggered in the second half with respect to sales. But the recent approval of Stavzor and the launch of that does trigger the payment of a $1.5 million payment. Of course, the launch costs associated with that product will be reflected in the second half of the year, but we've incorporated that into our guidance.

[Matt Teplitz:]

Okay, and then one last question. I think some of these questions were sort of asked about Novogyne, although I think the questions related more to sort of the year-over-year comparison of the second half and what to expect. Is there any reason not, at least from a simple idiot's math point of view, not to simply double first half Novogyne and get an annual number? Is there any reason you can't do that?

[Peter Brandt:]

I wouldn't recommend it for, if I can, the two reasons that I think Mike covered before. One is the price impact in the first half is greater than the price impact in the second half, because of a one-quarter period of time, the first quarter of this year, where we had the benefit of in essence, overlapping price increases. So to double that impact which includes that doubling, if you will, of the price impact, that doesn't work for the second half. I think the second part of the puzzle that we don't have perfect, you know, we can't predict this with crystal clarity, but again, at least in our analytical review, inventory levels in the trade are slightly higher at the end of June than we see them as being normal. So we do think that there will be continued demand that will pull through that product. But since the product is already sitting in the trade, our sales into the trade we believe will reflect the normalization of that inventory. So that, you combine the two, and that kind of gets you to where we increased our full-year guidance to, which does not enable you to take first half and double it.

[Operator:]

Thank you. Gentlemen, there are no further questions at this time. I would like to hand the floor back over to management for any closing comments.

[Joseph Jones:]

Thank you all for joining us this morning and for all your questions. We remain available today and in the days ahead to discuss the business further and answer any other questions. We also will be filing our 10-Q in the next few days, so you will have more information about our business. And for the entire management team, I want to thank you once again. Good morning, good afternoon, goodbye.

[Operator:]

Ladies and gentlemen, this does conclude today's teleconference. You may disconnect your lines at this time. Thank you for your participation.