Alkermes Plc (ALKS) 2006 Q1 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to the Alkermes conference call to discuss the Company's first quarter fiscal 2006 financial results. (OPERATOR INSTRUCTIONS). Please be advised that this call is being taped by Alkermes' request. At this time I would like to introduce your host for today's call, Ms. Rebecca Peterson, Vice President of Corporate Communications at Alkermes. Please go ahead.

Good afternoon, and welcome to the Alkermes conference call to discuss the financial results for our first quarter of fiscal 2006, which ended on June 30, 2005. With me this afternoon are Richard Pops, our CEO, and Jim Frates, our CFO.

Before we begin, let me remind you that during the call certain matters we will discuss today consist of forward-looking statements relating to, among other things, our expectations concerning reimbursement for and the commercialization of Risperdal Consta and Vivitrex, regulatory approval for and the timing of the launch of Vivitrex, potential therapeutic benefits of Exenatide LAR, the clinical program for inhaled insulin, and our future financial and business performance, including our revenue and expense expectations, operating plans, operating profitability, goals and objectives of management, and regulatory expectations.

Listeners are cautioned that these statements are neither promises nor guarantees, but are subject to risks and uncertainties that could cause our actual results to differ materially from the results contemplated by the forward-looking statements. In particular, the risks and uncertainties include, among other things, whether we can continue to manufacture Risperdal Consta on a commercial scale, economically or in sufficient quantities to supply the market, and whether Risperdal Consta will continue to be commercialized successfully, whether we can successfully scale up and manufacture Vivitrex at commercial scale, whether Vivitrex will ultimately receive marketing approval in the U.S., and if approved, whether it will be launched and commercialized successfully by us and our partner, Cephalon, whether we are successful in continuing the collaborative development of AIR insulin, AIR hGH and Exenatide LAR, the impact that the adoption of FAS 123R relating to accounting treatment for stock options may have on our ability to sustain operating profitability, and those other risk factors contained in our press release announcing our most recent results, and in our periodic reports filed with the SEC including, but not limited to, our annual report on Form 10-K for the year ended March 31, 2005.

We undertake no obligation to update or revise the information provided in this call, whether as a result of new information, future events, or circumstances, or otherwise.

This afternoon Rich Pops will first provide an update on our pipeline, an outlook on our business. Jim will then discuss our first quarter fiscal 2006 financial results, discuss details of the accounting for the Cephalon collaboration, and provide an update on our financial expectations for the fiscal year. We will then open it up for Q&A. Now I will turn the call over to Rich.

Good afternoon everybody. The first quarter of fiscal 2006 was quite an eventful quarter for Alkermes. Risperdal Consta continued to show strong sales growth. We entered into an important strategic collaboration with Cephalon for the commercialization of Vivitrex. And our two diabetes programs are progressing through clinical development.

Before Jim gives you the financial results, I wanted to take a couple of minutes to discuss the management team's perspective on our business at the moment. The profile of the Company is fundamentally different today than it was a year ago, and even I would say six months ago. We are operating now from a position of greatly increased strength, both in terms of our financial profile, and the status of these various product development programs.

From a product perspective, the progress we are making both in the marketplace and the clinic I think provides concrete examples of what we have talked about a lot, which is this goal of bringing novel medicines to patients that actually enhance their health outcomes. From a financial perspective, and Jim will touch on in more detail later, we're projecting that Alkermes will crossover into profitability on an operating basis by the end of this fiscal year. And we will be expected to sustain profitability going forward, assuming a continued sales ramp for Risperdal Consta, and the successful launch of Vivitrex, and excluding the effect of stock option expensing.

Achieving profitability is an important objective for Alkermes. One we have talked about with you for the last several years. And this transition is a major milestone in the life of the Company.

Turning to the product candidates themselves, let me begin with Risperdal Consta, currently approved in more than 70 countries worldwide. This product is now an important medicine for the treatment of schizophrenia, and it provides us with a strong foundation for growth. Our partners at J&J recently announced that sales of Risperdal Consta for the second quarter of calendar 2005 were $144 million, which was a 21% increase over the previous quarter.

A key reason for the success of Consta in the marketplace is its ability to improve health outcomes. At the annual meeting of the APA, the American Psychiatric Association in Atlanta in May, J&J presented additional Phase IV data which showed that Risperdal Consta can improve patient functioning and quality of life. J&J also presented pharma-economic data demonstrating that Risperdal Consta may lead to substantially lower hospitalization rates, which translates into direct medical cost savings.

As part of their effort to build Consta into a first-line therapy for schizophrenia, J&J continues to work hard on the reimbursement front. In January of 2006 Risperdal Consta will be included in the competitive acquisition program, or CAP. Included in the CAP program is important for Consta, because it gives, and will give, physicians the option to send a prescription to a specialty pharmacy, rather than purchasing the drug themselves through their offices and billing Medicare themselves. Psychiatrists often -- offices are generally not set up to supply and bill in this way for their medications. So inclusion in the CAP program removes psychiatrists' concerns from carrying Risperdal Consta in unitary in their offices. So it is a major breakthrough step forward for us.

Moving to Vivitrex, it is important to note that the clinical and commercial success of Consta demonstrates in the marketplace the potential of our proprietary Medisorb technology to create these significant therapeutic benefits for patients. It serves as the foundation for bringing forward our next long-acting product, Vivitrex, which is a once monthly injection under development for the treatment of alcohol dependence.

There too I think notable elements of the alcohol dependence market as it currently stands. First, we believe that there is currently a significant unmet, unaddressed medical need in the marketplace. There are already something on the order of 2.3 million individuals seeking treatment for alcohol dependency each year. However, I think most would agree that outcomes for these patients are not optimal and haven't dramatically improved in recent years. New and improved treatment options are still needed.

Secondly though, in addition to this existing marketplace, if you will, or medical needs, we believe that we are on the leading edge of a major shift in how alcohol dependence is both conceptualized and treated in the U.S. And in fact, the National Institute on Alcohol Abuse and Alcoholism, the NIAAA, just in the past couple of weeks issued updated treatment guidelines, which for the first time included a section on medications.

We achieved several important milestones for Vivitrex during this past quarter. In May the FDA accepted our NDA for Vivitrex, and granted the application priority review, making our PDUFA date September 30, 2005.

In June we entered into a major collaboration commercialization alliance with Cephalon, a company known for its success in creating new markets with novel products. This agreement met all of our financial and strategic criteria for a commercial collaboration. The magnitude of the signing fee and the milestone payments, potentially totaling $490 million, reflects the promise of Vivitrex and the opportunity that is in front of us in this alcohol dependence market.

In addition we and Cephalon will share profits equally, which allows us to capture a significant share of the commercial upside for Vivitrex. Later on the call Jim will provide you more details on the financials related to this collaboration.

Underlying the financials is an innovative product that has the potential to dramatically change the treatment paradigm for alcohol dependence. Data from our extension study recently presented at the same APA that I mentioned for Consta, showed that treatment with Vivitrex and counseling lead to sustained reductions in heavy drinking over an 18 month period. More than 85% of the patients who completed Phase III trial enrolled in the extension study. And we believe this roll over rate underscores the enthusiasm of patients who are seeking a new treatment option that can help them recover from this devastating disease.

Many have asked about our ongoing interactions with FDA. Obviously with accelerated review and this far into the summer, we are well into the review with the agency, and we are not going to comment on details. But we can tell you that we are -- they're actively reviewing the application with a PDUFA date of September 30. And at this time there is no panel -- FDA advisory panel -- scheduled for consideration of Vivitrex.

At our facility in Ohio we are currently validating our first bulk line. And we are continuing to work aggressively towards our goal of launching Vivitrex in the first half of '06.

On the commercialization side, a number of prelaunch activities are underway. And together with Cephalon, we're developing a comprehensive launch strategy. And we are continuing to hire talented, seasoned individual who will play key roles in the marketing and sales activities for the product. And we look forward to updating you on these activities around the launch of Vivitrex in the months ahead.

Let me just quickly turn to our two diabetes product candidates, Exenatide LAR and AIR insulin. We believe that these two products represent very significant opportunities to improve therapeutic outcomes by helping patients better manage their blood sugar on an ongoing basis.

Exenatide LAR, partnered with Amylin and Eli Lilly, represents our third product opportunity to leverage our Medisorb technology platform, Consta, Vivitrex and now Exenatide LAR. As you know, Amylin and Lilly launched Exenatide, or Byetta, in June. And the initial feedback from physicians has been positive. We are optimistic about the potential of Exenatide LAR to provide patients with additional therapeutic benefit in a once weekly dosing regimen. Enrollment of the Phase II multi dose study is complete. And we expect that the results of the study will be available by the end of 2005.

We are also making significant progress with our inhaled insulin product, which is based on our AIR technology partnered with Lilly. In June, Lilly presented positive clinical data on inhaled insulin at the American Scientific Sessions -- at the annual session of the ADA, the American Diabetes Association.

Last month Lilly initiated the first Phase III safety study required for registration, marking the beginning of a comprehensive Phase III pre-clinical development program in both Type I and in Type 2 patients, as well as in special populations.

The 24 month study now underway will evaluate the safety and efficacy of inhaled insulin compared to injected premeal insulin in 400 nonsmoking patients with Type I diabetes. A second safety study expected to begin this month will assess the safety and efficacy of our inhaled insulin compared to injected insulin in 600 Type I and Type 2 diabetes patients, with mild to moderate asthma, or mild to moderate chronic obstructive lung disease. Our diabetes products represent yet another potential wave of future revenue growth for the Company. And we are pleased with the progress in both of these exciting programs.

Before I will turn it over to Jim, I will take just a second providing you with a perspective on our vision going forward. We enter the second half of this calendar year in a strong position. With Consta sales continuing to grow, and the Vivitrex collaboration in place, we're on track to crossover into profitability on an operating basis by the end of the fiscal year.

Based on our current expectations, notably for Risperdal Consta and Vivitrex, we feel that (indiscernible) operating profitability is sustainable, again excluding the impact which is still to be determined of employee stock option expenses. In addition, on top of that, or supporting all that, we have got this proven technology platform that we feel will serve as a foundation for the development of additional products, both partnered and proprietary, in the years ahead. We will continue to seek new opportunities to apply these technologies to new product opportunities in major disease areas, with a goal of delivering new formulations designed to improve outcomes and offer significant therapeutic value for patients.

We still have a number of risks ahead of us. Rebecca enumerated some of those at the beginning of the call, and we ask you to always remind yourselves of those. But we are quite excited about where we find ourselves today. And with that, I will turn the call over to Jim.

Good afternoon everyone. As Rich just mentioned, this was particularly strong quarter for Alkermes. Our Risperdal Consta revenues continue to grow. And we have made significant progress in each of our other programs. Before I provide a detailed update on our financial expectations for the fiscal year, and review the accounting of our Cephalon alliance, I will review our financial results for the last quarter.

Our loss on a GAAP basis for the quarter ended June 30, 2005 was $13.7 million, or $0.15 per share, as compared to a net loss of 36.1 million, or $0.40 per share, for the quarter ended June 30, 2004. Because of the significant nature of certain non-cash items, we feel it is important to discuss pro forma results that we as a management team feel more accurately reflect our ongoing operations.

Pro forma net loss for the first fiscal quarter of 2006 was 13.8 million, or $0.15 a share, compared to a pro forma net loss of 25.5 million, or $0.29 a share, for the same period one year ago. The decrease in the pro forma net loss for this quarter compared to the previous year was the result of an increase in revenues primarily related to Risperdal Consta and the AIR insulin programs, in addition to decreased research and development expenses.

For a reconciliation of our pro forma net loss to GAAP, please see our press release, which can be found on our website, www.Alkermes.com. Now let me move on to the specific line items.

Total revenues comprised of manufacturing, royalty and R&D revenues were $24.8 million for the quarter ended June 30, 2005 compared with $11.5 million for the same period one year ago. This growth involved significant increases in each of the revenue categories. Total manufacturing revenues were $14 million and $6.2 million for the quarters ended June 30, 2005 and 2004 respectively. The increase in manufacturing revenue was due primarily to increased shipments of Risperdal Consta to our partner Janssen to satisfy increased market demand.

Total royalty revenues were $3.6 million for the quarter ended June 30, 2005 as compared to 1.8 million for the same period one year ago, of which 3.6 million and 1.7 million respectively related to Risperdal Consta. The increase in royalty revenues was due to an increase in global sales of Risperdal Consta by Janssen.

Research and development revenue under collaborative arrangements for the quarter ended June 30, 2005 was 7.3 million compared to 3.5 million one year ago. The increase was primarily due to an increase in revenues recognized on the AIR insulin program.

Cost of goods manufactured for the quarter ended June 30, 2005 were 4.5 million, all of which related to Risperdal Consta, as compared to 5.2 million in the same period in 2004, consisting of approximately 2.9 million for Risperdal Consta and 2.3 million for Nutropin Depot, which we no longer manufacture. The increase in cost of goods manufactured related to Risperdal Consta was due to increased manufacturing volumes to meet increased demand for the product.

Research and development expenses this quarter were $21.6 million compared to $24.1 million for the same period in 2004, reflecting the completion of certain Vivitrex clinical trials last fiscal year.

Selling and general and administrative expenses were $9 million in the quarter ended June 30, 2005, compared to $7 million for the same quarter one year ago. This reflects an increase in the selling and marketing costs as we prepare for the commercial launch of Vivitrex.

Interest income for the quarter was $1.6 million compared to $0.6 million for the same period one year ago, reflecting higher average cash and investment balances held during the quarter as compared to the same period one year ago. Interest expense was 5.2 million compared to 1.2 million for the same period last year. The increase in interest expense was primarily the result of the interest expense related to the private placement of the nonrecourse Risperdal Consta secured 7% notes that were issued in February of 2005.

At June 30, 2005 Alkermes had total cash and investments of 343.5 million as compared to 207.5 million at March 2005. The increase in cash and total investments was due to the $160 million we received from Cephalon upon the signing of our collaborative arrangement in June.

Before I delve into the details of the accounting for our Vivitrex collaboration with Cephalon, I want to take a step back and review what has changed as a result of the signing of this agreement. First, we have met our objective of finding the right partner and establishing a structure where interests are aligned, which enables us to increase the economic value of the product, and importantly to share equally in the profits going forward.

Secondly, with this collaboration in place Alkermes is in a strong cash position. And we have cash received from Cephalon essentially set aside to fully fund the product launch. Finally, the collaboration has a positive impact on our P&L in fiscal year 2006 and beyond, as we recognize the milestone revenue to offset the launch expenses, and obviously from future profits from Vivitrex going forward.

So now I will turn to the accounting. And I will start by discussing the combined product P&L -- the profit and loss statement. By product P&L, I mean the combined Alkermes and Cephalon expenses that were incurred in developing, manufacturing and commercializing the product, together with the revenues generated by the end market sales of Vivitrex.

Within the collaboration, each company is responsible for its own expenses. Alkermes will be responsible for manufacturing finished product, and is primarily responsible for the development of the product. Further, Alkermes will have approximately 30 treatment systems specialists in the field to support commercial activities.

Cephalon is primarily responsible for selling and marketing activities, and will record all product sales, together with the associated cost of goods. To be clearer on the COGS, Alkermes will sell Vivitrex to Cephalon at cost. And while Alkermes will recognize manufacturing revenue and COGS upon shipment to Cephalon, the finished product will be booked to inventory on the Cephalon balance sheet. When Cephalon sells the inventory into the market, they will record a charge to COGS on their income statement. And this is the COGS that will be included in the product P&L.

From a product perspective, each month we and Cephalon will determine the profit and loss generated by the product by aggregating the revenues derived from the product with the agreed upon product related expenses incurred by each company. Initially we expect that the product will incur losses, and under our agreement with Cephalon, Alkermes is responsible for the first $120 million of such losses during the period ending the later of December 31, 2007 or 18 months post approval.

Now recall we have received this cash in advance from Cephalon's to fund these losses. During this period if the product is making a loss, Alkermes will reimburse Cephalon for its net losses on the product each month. And that is, i.e., the net losses -- the net of any revenues earned from the product and expenses it incurred on the product by Cephalon. Once the product is generating a profit, Cephalon will make a payment to Alkermes each month to cover Alkermes' product related expenses, and half the profits earned on the product. This is one of the most important aspects of this collaboration for us, as we again receive an equal share of the profits going forward from Vivitrex.

Having outlined now the cash flows related to the product, I will now explain how the collaboration will affect Alkermes' income statement. From a revenue perspective we have three sources of revenues from the collaboration that relate to the way we account for the upfront payment and the milestones, as well as the future profits from Vivitrex. Those three sources are, one, manufacturing revenue, two, milestone revenue and, three, net collaborative profits.

I will go through each in turn. First, manufacturing revenue will be recognized, as I mentioned, when we ship finished product to Cephalon. We sell the Cephalon at cost, and consequently this element of revenue will directly be offset by cost of goods sold on the product in Alkermes' income statement. That is the first piece.

The second type of revenue is milestone revenue, which will be recognized across defined accounting units and according with SAB 101 and and EITF 00-21. As of today we have received $160 million in arrangement consideration from Cephalon, and this has been recorded as deferred revenue in our balance sheet. You can see that in our press release. This revenue will be recognized across two accounting units, related first to cost recovery, and second to manufacturing profits. And I would review those now.

Cost recovery allows us to offset all product related losses with milestone revenue on a dollar for dollar basis. These losses include R&D and SG&A expenses incurred by both companies, and COGS incurred by Cephalon, offset by any potential product revenue recognized by Cephalon. We expect those losses to amount to roughly $120 million over the next two years.

With respect to manufacturing profit, under our collaborative agreement with Cephalon we manufacture the product at cost, as I mentioned. And the accounting rules dictate that we must compute a profit margin on our manufacturing costs. This milestone revenue will be recognized ratably in proportion to the units of finished product shipped in the period, compared to the total units expected to be shipped over the life of the product. Consequently, this revenue will be smaller at first, and then will increase proportionately to the amount of product we ship in the future. And essentially this is similar to a cost plus manufacturing arrangement.

Once Vivitrex is approved by the FDA, we will receive a further $110 million milestone payment from Cephalon. At this time we will have a third accounting unit of milestone revenue relating to the value of the license assigned to Cephalon to sell the product. A portion of this $110 million will be recognized in the manufacturing profit accounting unit I just discussed, and a portion in a license fee unit.

And the license fee is going to be calculated as the residual of the total 270 million that we received in milestone and license payments, the 160 upon signing, and the 110 upon approval. And then we will subtract from that cost recovery and manufacturing profit. And that will be the residual license fee unit. And that will be recognized on a straight line basis over the expected life of the product.

In the early years we expect that the milestone revenue associated with the manufacturing profit and license units I just disguised will be in the range of 8 to $10 million a year. And this will increase as we ship higher volumes of finished product to Cephalon.

If the fair value we have determined of any of these accounting units changes over time, we will adjust our revenue recognition on a prospective basis, and obviously inform you on future calls and in our SEC filings.

So having discussed the manufacturing and milestone revenues, the third and final component of revenue relates to the payments made to or received from Cephalon with respect to product profits and losses. In the early years when the product is generating a loss, Alkermes will make payments to Cephalon from the upfront monies paid to us by them. And that is essentially the $120 million commitment we have. Now as I mentioned previously, these cash payments will be offset dollar for dollar by milestone revenue in our income statement. Once the product is profitable, Cephalon will pay Alkermes an amount equal to our product expense and half the profits generated on the product. So those are the cash flows and the income statement.

And from a presentation perspective within Alkermes' income statement, we will recognize revenue related to the collaborations in two lines. First, we will recognize manufacturing revenue upon the sale of Vivitrex to Cephalon, together with milestone revenue related to the manufacturing profit within the line Manufacturing and Royalty Revenues that we have had for some time on our income statement.

Second, we will recognize milestone revenue earned on the cost recovery and license accounting unit. Those two units, together with the payments to or received from Cephalon related to the collaborative profits and losses on the product in a new line called Net Collaborative Profits. On the expense side, you'll continue to see the same three lines you're used to, cost of goods sold, research and development and SG&A. Moving forward, we will provide the appropriate detail in our MD&A on that cash flows and impacts of the collaboration on our income statement.

So finally I will conclude with an update on our financial expectations for fiscal year 2006. Please note that certain statement I will make constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. For information with respect to the factors that could cause our actual results to differ materially from our expectations, please see the risk factors at the end our press release, which is available on the Alkermes website, or in more detail in the reports filed by us with the Securities and Exchange Commission under the Securities Exchange Act of 1934 as amended, including our annual report on Form 10-K for the year ended March 31, 2005.

Since the expectations we set forth in May 2005 for the fiscal year 2006 do not include any revenue associated with the commercial collaboration for Vivitrex, we are updating our fiscal 2006 financial expectations at this time. And obviously the financial expectations are based on our latest assumptions with respect to the approval and launch of Vivitrex. And these are all found in our press release. But the major line items are as follows. We're raising our expectation for total revenue from a range of 110 to $125 million to a range -- a new range of 140 to $165 million. Total revenue is comprised of manufacturing and royalty revenue, R&D revenues, and that new line I mentioned, net collaborative profits. I will go through each of those in turn.

We're raising our expectations for manufacturing and royalty revenue from a range of 75 to 85 million to a range of 85 to 95 million, due to the additional manufacturing revenue we expect receive from Cephalon upon the shipment of Vivitrex, and the milestone revenue we expect to recognize on the manufacturing profit accounting unit. Our expectation for Risperdal Consta for the year remains unchanged.

We expect net collaborative profits to range from 20 to $30 million in fiscal year 2006. Again this line includes milestone revenue earned on the cost recovery and license accounting units, partially offset by the payments to Cephalon that we will make to cover their net losses on the product during the fiscal year. We expect R&D revenues to remain the same, in the range of 35 to $40 million.

We're raising our expectation for cost of goods manufactured from a range of 23 to $28 million, to a range of 33 to $38 million due to the shipments of Vivitrex to Cephalon, as I discussed earlier.

R&D expenses are still expected to range from 80 to $90 million. We expect selling, general and administrative expenses to remain in the range of 45 to $50 million. And all that essentially nets to a reduced operating loss expectation, or a loss before interest, other income expense and taxes. So that earlier ranged from 38 to $43 million, and we're now changing that to range from 13 to $18 million of loss for the fiscal year.

We're reducing our expectation for net interest expense from a range of 17 to $22 million to a range of 12 to $17 million, due largely to additional interest income we expect to generate on higher average cash balances resulting from the payments received from, or to be received from, Cephalon.

Our fiscal 2006 net loss on a pro forma basis, that is excluding any restructuring charges and non-cash derivative items, is now expected to be in the range of 25 to $35 million, or approximately $0.27 to $0.38 per share. This compares favorably to the range of 55 million to $65 million, or $0.60 to $0.71 a share projected in May. As a reminder, the net loss per share calculation is based in an estimated 92 million shares of our common stock outstanding on a weighted average basis through the fiscal year.

Thus we expect to break even on an operating basis by the end of this fiscal year. And we expect that we can sustain this operating profitability, excluding any impact of our adoption of FASB 123R or our stock option expensing, as Rich mentioned earlier. And this is clearly a major milestone for the Company.

Just a quick update on CapEx. We are increasing our expectation for capital expenditures for fiscal 2006 from approximately $30 million to approximately $35 million. This is due to the priority review designation for Vivitrex, and the subsequent decision to accelerate construction of a third manufacturing line for Vivitrex.

In summary, the fundamentals of the Company have never been stronger. And all the elements are in place to generate sustained revenue growth in the years ahead. We expect to report progress across a number of key programs in the coming months. And we look forward to updating you on our work. So with that, I will turn it over to Rebecca, and back to the operator for questions.

Operator, we will now take questions from the audience.

(OPERATOR INSTRUCTIONS). Dave Windley of Jefferies & Co.

I'm pulling my hair out thinking about where to start here. Jim, without walking through the whole thing, I want to make sure I understand that your net collaborative profit number -- you are arriving at that based on some cost recovery, some license fee, and some expectation of outgoing payments to Cephalon to cover their losses, correct?

Yes, that is correct. The important thing to note though is within that line, embedded in that line, every dollar that we pay to Cephalon, we're going to offset that in that 20 to $30 million worth of recognized income. So the total expense is going to be greater than 20 or $30 million, but what we will be recognizing is really the net numbers. Does that make sense?

Right. But it is -- you are obviously concluding that it is going to be a net positive number?

Absolutely. There's really no way it can't be a net positive number.

Right. So the cost recovery accounting unit relative to the deferred revenue is basically a dollar for dollar offset. And then you get the profit out of the license fee accounting unit?

Yes, I think that is a correct way of looking at it. Yes.

I will dig into that more off-line. Rich, prior to signing the deal, you had made investments in internal marketing and sales infrastructure to begin to do obviously the significant market research in prep for this launch. I'm wondering is the deal structured in a way that the investments that you have made continue to be your responsibility? In other words, had you directed a lot of that spending toward like medical liaison -- and obviously the market research such that those functions will stay on, and that cost you won't will continue to incur, or does some of that responsibility now revert over to Cephalon?

I think the answer is both. The project teams now have been meeting to -- think of it in two phases. In the transition phase, as Cephalon comes up the learning curve, and the headcount curve in order to be able to be moving at the speed we have been moving at for a while. And then once we are at a steady-state, and the product is in the marketplace and growing -- so we had built some of the key essential capabilities in order to not be rate limited in moving towards commercialization. All that is going to be augmented now. And the two teams are just kind of trying to figure out how to dovetail as we speak.

I suppose because of the combined P&L, where that expense ultimately is incurred is somewhat immaterial to your profitability, correct?

That's right.

Let me just ask one more question and then I will jump out. And that is looking forward you have now build up with these -- with your capital raising activities plus this significant license deal a very substantial store of cash. What is next for uses of cash?

Stay tuned. We're building a big business here. And we are in a series of collaborations with some big companies. And we have big opportunities ahead of us. So I feel like we've gotten our cash position in kind of the minimum necessary position in order to be executing the business plan we have in front of us, with the capabilities that we have and moving over into operational profitability, which we're really focused on. We have the ability to continue to create new products here off of this technology platform.

But right now for the near term, it is incumbent upon us to translate into the marketplace the value of Consta, Vivitrex, insulin, and LAR. and if we can do that, I don't think we need to distract you with anything else. Within the Company obviously we have some forward-looking ideas about subsequent applications of our technologies, but that will become more clear as time passes.

Jim Reddoch of Friedman Billings.

I think I will take some of my accounting questions off-line. But just in terms of the net collaborative profits, what is the top line of just that line itself that -- before it you run the expenses through it?

I'm sorry, I don't understand the question.

What is the revenue components of that line?

I think probably the best way to think about it is, if you look at our balance sheet as we provided on the press release, we have unearned milestone revenue current portion, and that equals $74 million. So over the course of the next twelve months -- this is a twelve-month thing from June 30 -- so it goes into the next year -- that is what we expect to be recognizing in revenue over the course of the next 12 months.

Part of that is going to be in the manufacturing side. Part of that is going to be in recognizing cost recovery on what we at Alkermes spend. And a significant portion of that obviously is going to be what Cephalon spends. Does that help answer your question?

So the net collaborative profits starts at that $74 million over a twelve-month period, and then you subtract out expenses out of that?

I think that that is our expectation about what we will recognize in revenues over the next 12 months. You do have to -- when we pay that money to Cephalon, that is going to be subtracted. So we won't recognize that on our income statement, because that is going to net out of the revenue line.

That is what I'm asking. I'm just trying to figure out what the two components are that result in the -- if I read your guidance correctly -- the total collaborative -- net collaborative profits of 20 to 30 million for the year.

Right. I think that is the best place to look. Those total revenues, or that top line, that I think you're thinking about -- is our best estimate today is that $74 million of unearned milestone revenue that we booked as the current portion for the next twelve months.

Roughly there will be $5 million or so that is the expense portion of that?

Yes. And it is hard to answer roughly, because it is obviously -- certain people would call this complex accounting. I actually think it is extremely elegant, because we have been able to launch this product and recognize revenues against it by the way we have structured this deal.

And what you really need to do to understand this is do a separate income statement for Vivitrex. Fill out your lines, what you think COGS is going to be, what you think revenues is going to be, what you think launch expenses, etc., are going to be. Then determine whether that is going to be on Cephalon's income statement or Alkermes income statement. Then you do the net of that, and you'll end up with what we recognize on Alkermes' income statement.

The nice thing about it is that a lot of this stuff happens in your revenue -- the revenue part of your P&L, and we don't see it in your expenses. Is that right?

That's correct. Certainly, you'll see our expenses still, and that is what you'll see the revenue essentially matching. But what we pay to Cephalon will net out against one another.

What do you think your margins will be going forward?

On Vivitrex?

Yes, sure, Vivitrex, but I kind of meant what your total revenue margin as well.

I think about it in terms of when we're actually manufacturing. Because I think that is the best way to think about it. And as you know we have sort of bee in the 70 to 75% range for Consta. And it is too early to really say what the margins on Vivitrex are going to be, because we haven't established a price. But it is the same technology, and I think you can make some assumptions about what is possible by what we do with Risperdal Consta.

And then lastly, he mentioned the CAP program, and maybe I just missed something there. But to my knowledge that just applies to Medicare. Is that right? So what do you do with the patients who are over 65 that would also want to -- are schizophrenia patients or maybe alcoholism patients as well?

I am far from an expert on this, but I think it relates to the Part B of Medicare.

Right, but there'll only be a portion of your patients that --.

No, that's right. No, it is just a net incremental positive for us.

Obviously, this isn't the answer for everyone, but certainly for a portion of the population, it is an important thing to have Risperdal Consta.

Right. But there may be some cases where the doctor does have to take ownership of the drug, or do you see there being a sort of specialty pharmacy solution, regardless of who the ultimate customer is?

There currently is a specialty pharma solution for whom number the customer is. But this is just short of an incremental stat that James is working on to make Risperdal Consta more comprehensively reimbursed.

Okay.

I think that is the right way to think about it. And people -- there was a lot of actions, a lot of work making sure -- and the lobbying efforts associated with the implementation of the CAP program that extend it beyond just cancer drugs and included mental health drugs.

That's a great point. Yes. Okay. Thank you.

Ian Sanderson of SG Cowen.

First on the accounting here. What does that assume in terms of launch timing for Vivitrex? Is it beyond that twelve-month period or right at the end of the twelve-month period?

That's a good question. So we had talked about the first half of 2006, calendar year 2006, being our launch target. And so this would include expenses associated with the launch, because twelve months from June 30 gets you to the end of the first half of 2006, if that makes sense.

So to be conservative we will just assume it is calendar Q2 of '06 (multiple speakers)?

We have been saying first half consistently.

But from the accounting prospectus, does that trigger anything in terms of that unearned milestone revenue? And I guess my second question which should relate to this is, the unearned milestone revenue here is 160 million. What happens to the 110 of milestone revenue upon approval? That is in a different accounting box, is that correct?

Yes. I will just review those three accounting boxes for us. So first, again, we have the 160 and the 110. And I think it is good to make those distinctions. Then there are three different accounting units where we are going to recognize those over periods of time. There is that manufacturing imputed profit, which is essentially making it a cost plus manufacturing deal for us.

There is our cost recovery, which we have said is likely to be $120 million over the -- of that's our best estimate today -- that is over the period where the product is losing money. And then the left over amount of the 270 will be the license fee, which we will recognize flat line over the average life of the product.

So the 260, as I mentioned on that call, the 260 is really going to be in the cost recovery bucket and the manufacturing bucket. And then the 110, part of the 110, will go to manufacturing. And a large part of the 110 will go to the license. And we're recognizing that, because that license fee is due upon the approval of the product. And Cephalon has marketing rights here, so that is really where the major value transfer is.

The cost recovery will be focused on the next two years until we hit profitability, obviously. But manufacturing, think of it -- it is a small amount today because we're making a small amount. In the future we expect to be making large amounts, so that is going to increase ratably over time. And then the left over of those is going to be recognized essentially straight line over the life of the product.

The part that really involves kind of a forecast here is, in terms of timing, is the cost recovery portion.

Yes, that's right. And we have given you then guidance for our fiscal year. And essentially what happens to Cephalon nets out on my P&L, and it nets out on Cephalon's P&L. So it is really unimportant to either company's bottom line from that perspective.

And then the accelerated -- in terms of the accelerating the scale up of manufacturing to prepare for product launch, the 5 million of extra CapEx, does that flow through the P&L in any place? Does that --?

No, no, that is just -- we tend to update you on CapEx every quarter as it changes. That will flow through, and it does flow through ultimately in the income statement through cost of goods sold, because we depreciate that capital over the product that we make.

But no, that is not going to affect our income statement now. And then let's be clear. It is not going to do with additional spending on scale up, it's actually got to do with accelerating the construction of the third line for Vivitrex. Again, because we're able to launch earlier with the priority review, and because we have more capital now available to be a little bit more aggressive here to plan for the upside, we thought it made sense -- and I think it's actually quite a bullish sign that we and Cephalon have decided to increase capacity ahead of launch.

And then should something change in terms of your cost projections, and I assume this relates really to that 86 million, the long-term portion of milestone revenue, i.e., if direct to consumer advertising is required to really get Vivitrex off and running, how does that impact your recognition? I guess again of the cost recovery. And that this is more of a fiscal '07 question.

Absolutely. And that actually is really -- you had touched on -- not surprisingly I think you found the real elegance of this transaction. If we spend more, we get to recognize dollar for dollar more revenue to offset that spend. If we speed up the spend and, say, spend $30 million in advertising instead of 25, we will recognize $5 million more of revenue.

I am not sure I am totally clear, but thanks very much.

Seth Teck (ph) of Apex Capital.

I was going to ask you if you're going to do a Vivitrex deal this year, but I guess (multiple speakers).

That is a holdover question.

No accounting questions for me, although I have lots of them. My question was more operationally. I was wondering if you can talk a little bit about cost of manufacturing, where you are in the -- with the second line, as well as any updates on the third line?

Sure. And you know, just as an aside, if you do have accounting questions for everybody, it is actually very helpful for us to get it out in front of everybody. So there's a lot of people I'm sure have the same questions. Don't be shy.

I was just -- what I would suggest, and I don't know if everyone else would feel the same was if there is any way to put out sort of like a cheat sheet in some form or fashion that sort of walks us through all the guidelines. Because I can tell you, we are all going to be listening to the replay and the transcript and trying to it figure it out. That would be really helpful, just a cheat sheet for what that (multiple speakers).

I think what we're able to do is what we disclosed in the call, and we will obviously be available to answer any specific questions that people have. But just in terms of Risperdal Consta, we actually expect to ship product from the second line this quarter, so the quarter ended September. So progress with the second line is going well.

And in terms of construction for the third line, that J&J is actually paying for, that actually is going along quite nicely as well, and remains on schedule. And when you see our full balance sheet, you'll see our receivables actually are going up. And that is essentially receivables from J&J. So that work is ongoing. And they are all current receivables, which is fine, it is just in the billing cycle. But we're moving ahead with line three for Consta as well.

Okay, I just wanted to make sure I heard you. You didn't ship any product from line two this quarter?

No, that's correct. There is no line two product in the revenues we just reported in June.

And then in terms of capacity, how much capacity do you have in that plant, given that at least two products, the Consta, the Vivitrex, and I guess the LAR is sort of the wild-card. How much capacity do you have there?

I think we have talked specifically about the capacity we have for Risperdal Consta. Obviously, once the price is known, it is a lot easier for us to talk about capacity. And as we have said, essentially each line gives you between 700 and $750 million roughly of end units -- end dollar sales.

So with the two lines online now, we have roughly $1.5 billion of ultimate sales. And J&J is now building the third line in the plant -- or we're building it, J&J is paying for the third line in the plant, so we can go in access another $750 million hopefully above 1.5 billion of capacity.

I meant in the aggregate with all the products, you have room for Vivitrex and LAR or --?

Yes, well, with Vivitrex we have one line that is completed, and we're going under validation now. We have a second line that is under construction. And as I mentioned in the CapEx section, we're speeding up the construction of a third line for Vivitrex. And then with LAR, we have room for clinical studies right now. And if and when the decision is made to build large-scale manufacturing, we can also accommodate that at our site in Ohio.

Patti Bank of Pacific Growth.

I just wanted to ask a couple of different questions. One, maybe in a general sense. Rich, you could touch on your comfort level with Vivitrex sitting closer with the gender issue, and whether you still think that will be approved for both male female? And then also the safety issue with a black box warning or potential for not having it?

Yes, really no update from where we have been for the last several months on that. We continue to believe that the drug will be approved, or receive approvable status on the PDUFA date. And we don't expect there to be -- because primarily of the results of the clinical trial and our filing under 505 B-2, we don't expect there to be a gender distinction, although anything can happen. And we expect to argue forcefully for the removal of the black box. Although we're not pinning our fortunes to it. Because at the end of good day, it will be a decision the FDA makes. But we think the data supports the removal of the black box. But in the marketplace we can live with it if we have to. There is no -- please don't read anything into my response. It is the same position I have been on this for the last several months.

And there is no -- so there's no preset agreement or discussion with the FDA as to whether -- if you can not get the extra safety data, whether they would be more inclined to give you that removal?

We obviously had discussions with them when we designed that safety -- that whole safety program, with the understanding that the decision would be made based on data. And of course, it is very difficult for anybody to bind themselves, if the data looks like this, this is what we will do.

But we designed the study to have the bio statistical power in order to make a determination about safety. And we think the safety signal is clean. And so we are going to be arguing forcibly that we think that patients would benefit by the removal of the black box warning. Because the existence of the black box warning is not necessarily benign. One can argue that certain patients might be precluded for not considered treatment -- candidates for treatment because of the existence of the black box. And if there were real, and if we really believed the findings, then one would argue that it would make some sense. But it is just there as unnecessary additional warning, then I think it does patients a disservice. And it is our argument.

And then just a separate question. As you build your cash position, can you just remind us, with Reliant ownership, what your stake is there?

We own -- what is it Rebecca?

Approximately 12%.

About 12% now. And we are in a quiet period with respect to that, just because they have filed a S1. So you can find the status of that filing on your own through Edgar and your other contacts.

Rachel McMinn of Piper Jaffray.

I guess I wanted to ask a philosophical question on the accounting structure of the deal. At least every other company that I know that have discrete milestones like ANDA approval or upfront -- if this is particularly ANDA approval, you would expect kind of a lump sum recognition. And I think I understand the rationale that you want to basically match dollar for dollar your expenses, because of the way the deal was set up. But it seems to me that it actually -- the way you're recognizing it actually complicates the accounting and actually obscures our ability to monitor the profitability of Vivitrex.

Is there a way that -- as Vivitrex is launched how are we going to see into that --peer into how Vivitrex is doing if the dollars on that revenue line are always going to be offsetting the cost?

Let me answer it in a couple of ways. One, actually the accounting rule, SAB 101, is very clear that when you have a milestone payment, it actually needs to be recognized over the life of the product. And in fact, in biotechnology companies a few years ago, essentially a lot of them, except us, because we have been accounting for that this way all the time, had to actually change. And there was a few years ago there were a lot of restatements because people had to change the way they were accounting for these upfront payments.

I don't mean the upfront payment. I mean specifically the NDA approval payment.

That's what I mean. When you have product approval that is what essentially they are buying -- what Cephalon has bought is an approved products. And that very clearly needs to be recognized over the life of the product. So that is number one.

Number two, you will be able to tell how this product is doing because Cephalon is going to be reporting product sales, number one. And this is a material deal for us. And as I mentioned in the MD&A we will make it very clear the way the payments are going. Now I haven't given you specific guidance beyond what you're going to see in fiscal 2006, because that is what we always do. But you will be able to see as we go forward exactly what is being spent on this product in the MD&A. So don't worry about that.

We have always been very transparent here, and we will continue to do. And I want to just go very forcefully, this is not an effort to obscure the accounting. The accounting for this transaction has been very clear from the outset. And there was really very little debate between us and our accountants and anyone who is familiar with revenue recognition under GAAP.

And then for the manufacturing revenues, are you going to continue to provide guidance on specific cost of revenues and break that out versus the Vivitrex?

Absolutely.

Okay, that is very helpful. And then I guess I am also a little bit confused why you are going to be recognizing, or why you are shipping material for Vivitrex to Cephalon in fiscal '06. But you are still talking about a launch that doesn't happen until, I guess, the first half. Should we just all assume that everything is going to happen in the last quarter of the fiscal year, or should we be expecting something earlier than that?

Again when someone buys product this is essentially -- we are not going to have COGS. We are shipping product to Cephalon. They are going to pay for it at cost. And you build inventory for the launch. And unfortunately we can't make this stuff over night. So we're going to start building it through the course of our fiscal year. And we will be paid for by Cephalon for that.

As I mentioned in the script, that will go on to Cephalon's balance sheet as inventory. And then when they sell the product, it will run through their income statement as cost of goods sold. So, again, this is -- I am giving you fiscal year projections through the end of March. We are going to be building inventory before the end of March. And we've guided that we would launch the product in the first half of calendar year. So that is the March quarter and the June quarter. So there will be some overlap there, but it is essentially the transfer of product.

The reason we are increasing that is because if we were just doing it ourselves, you would have seen this year essentially our inventory going up as the cost of manufacturing that product goes on to our balance sheet. And then again under standard GAAP accounting, you put it on the balance sheet, and then when you sell the product it runs through your income statements through cost of goods sold. That is very standard as well.

That's helpful. And then the last question I have is could you comment on the European Vivitrex opportunity? I guess Cephalon made a comment on their call that they are currently evaluating that. Do you have any sense of what would be required for additional clinical trials, the timing of essential filing, and the timing of any potential partnership announcement?

Right now Cephalon has an option period to opt into the European rights to Vivitrex. And in the process of that review, we will be answering all those questions from Cephalon's point of view. We have alternative opportunities for Europe should Cephalon opt out. And then we will give you more guidance around that time.

But for now we are waiting to see how we progress with Cephalon before we give you all that guidance. But at the 30,000 foot level, we think that there is a real opportunity for the product in Europe as well.

And what is that option period that Cephalon has?

It was 180 days from the time we signed the deal.

Jim Reddoch of Friedman Billings.

Jim Reddoch The follow-up question is just profitability this fiscal year. Is that contingent on receiving that 110 million? I think that is still a valid question.

Yes, and as I think through it, it actually doesn't because the 60 will more than cover what we expect to spend going forward. Now obviously if Vivitrex doesn't get approved, our revenue growth line is going to look very different. And we will -- I'm sure we will be back in that case with updated guidance. But right now, as I sort of outlined with our expectations of Vivitrex and Consta and the rest of our business, that is why we talked about profitability.

Ian Sanderson of SG Cowen.

The Exenatide LAR data this year is that the multi dose trial?

Correct.

Ian Sanderson Now that Vivitrex is resolved a bit here, might we start to hear more about AIR Epinephrine once again in terms of putting money back into that program?

Yes, it is still a program we're quite interested in. But we will -- stay tuned on that. We're not ready to update on it yet. But it is definitely one of those ones that has been on the back burner and has the opportunity to move now.

Ian Sanderson And then final on the AIR insulin. So the Type 1 study, is that one of the two FDA mandated 24 month safety studies?

Yes.

Ian Sanderson We should assume -- is there still mandated a separate Type 2 study that looks exactly the same that should be run here?

No, this is the rate limiting study to filing. So we have -- we continue to have interactions with the FDA on our inhaled insulin program. And Alkermes and Lilly are working quite closely together to develop a comprehensive pivotal program that includes a number of different studies. The press release you saw just announced these two particular studies.

Dave Windley of Jefferies & Co.

Jim, on the manufacturing imputed profit, can we assume that that would be -- would there be reasons to assume that that would be similar to the manufacturing profit on Consta?

No, I think the -- that is obviously a very high profit. It is a 7.5% royalty. It is kind of a special case. What we did here was we essentially looked at the manufacturing margins of a broad range of pharmaceutical contract and other manufacturers. So it is going to be a much more reasonable -- I think the number is going to be lower rather than higher. And if you had to defend to the SEC and your accountants what an appropriate manufacturing profit was, it is kind of on that order of magnitude. It is not single digits, but not high double digits.

Can you share -- in the past I think you have discussed that the Consta -- the manufacturing fee or royalty portion of the Consta payment has started well above 7.5%. And as your volumes have increased, trended down towards 7.5%, are you now to 7.5% or is it still hovering higher than that?

Good question. We expect that for this fiscal year it will be right about 7.4 -- it will be at 7.5% essentially.

For the fiscal year, was that the case in the quarter?

Yes.

And then last question. On the study that came out not too long ago on the risk issue that was raised in a study of various first generation -- the atypical antipsychotic -- sorry -- about the increase in prolactin levels characteristic of Risperdal. Is there any update on that that you can give from the Alkermes standpoint as to how that might positively or negatively affect Consta?

I think that Rebecca has some -- a point of view on this as well. But my point of view is that there is a difference between Consta and oral risperidone with respect to prolactin levels, given the way the dose is metabolized in the body. But, Rebecca, you had been talking to J&J on this topic.

J&J commented on their last earnings call, and they said that they are still investigating the data. But I was just going to echo exactly what Rich said, is that this may be an important distinguishing factor between Risperdal Consta and Risperdal Oral. Data presented at the APA clearly shows that Risperdal Consta has lower prolactin levels than the other oral atypicals, not just Risperdal Oral, but in fact most of the other oral atypicals.

Our final question comes from Ms. Patti Bank of Pacific Growth.

Just one follow-up question on LAR. I am just wondering, Rich, if you can give any general kind time line on LAR, assuming that the dose range results at the end of the year are positive? And what is the likelihood that LAR we are talking additional Phase II studies before they move into a Phase III study?

I won't be able to give you that update. That is something that Amylin is in charge of. So I recommend that you take that one to them. I'm sorry not to be able to answer that for you.

Okay, everybody, I think that will be the end of our call. But I really -- I appreciate all the detailed accounting questions. We will be available this evening to answer them. But I implore you to look over at the overall outcome for Alkermes, which is essentially having the money now all on our balance sheet to fund the launches of Vivitrex, which is obviously a very, very important change from where we were six months ago. And with that, I will thank you very much for your attention and questions. Good night.

Ladies and gentlemen, thank you for your participation in today's conference. This concludes the program. You may all disconnect. Thank you, and have a nice day.