Lilly Post-Prozac Steps Include Charge Related To Ceclor Manufacturing

Lilly's post-Prozac profit warning includes a charge to eliminate excess manufacturing capacity carried over from the company's last major patent expiration, for the antibiotic Ceclor.

Lilly is taking a $117 mil. charge related to manufacturing rationalization, primarily to address excess capacity and idle manufacturing assets for Ceclor (cefaclor) and other anti-infectives. The Ceclor family, which includes the follow-on product Ceclor CD, generated worldwide sales of $285.4 mil. in 2000.

The charge comes almost seven years after Lilly lost exclusivity for cefaclor. It was announced Oct. 3 during a conference call to update investors on Lilly's earnings forecasts for 2001 and 2002.

The primary cause of the profit warning was the rapid erosion in the Prozac franchise following the launch of generic versions of fluoxetine Aug. 2. Given the size of the disruption caused by the loss of Prozac, the timing was good for Lilly to add on special, one-time charges that may position the company for better performance in coming years.

The $117 mil. manufacturing charge also includes the closing of two facilities in Indianapolis and Taiwan.

The Taiwan facility closing also relates to human anti-infective production. The operations are being consolidated with Lilly's Hong Kong production. Five of the approximately 60 employees in Taiwan are transferring to Hong Kong.

The Indianapolis plant was devoted to animal health products.

Lilly maintained that the charges are not related to the company's ongoing discussions with FDA over issues with good manufacturing practices.

One challenge for Lilly may be in balancing the desire to improve efficiency and bottom-line performance with the desire to demonstrate to FDA that it is firmly committed to good manufacturing practices compliance.

The manufacturing write-off is approximately one-third of the $334 mil. in total charges Lilly will record through the end of 2001. Lilly will also take a $91 mil. charge for "in-process research and development associated with recent molecule acquisitions" and a $26 mil. charge for early debt retirement.

Lilly will record the final $100 mil. charge in the fourth quarter as upfront payments to 3M as part of the licensing agreement for the Phase III genital herpes drug resiquimod. The deal, announced Sept. 25, also includes milestone and royalty payments.

The primary reason for the profit warning is the extremely rapid drop in Prozac sales. "With almost two months of data, we can all see that the erosion in prescriptions is the most severe ever for a blockbuster product in our industry," CEO Sidney Taurel told analysts.

Fourth quarter EPS will be 59[cents] to 61[cents] versus the earlier guidance of 63[cents] to 67[cents], Lilly CFO Charlie Golden told analysts. As a result, estimated EPS for 2001 will be $2.75 to $2.77, at the lower end of earlier guidance of $2.76 to $2.84. Sales are expected to increase in the single-digit range.

Managed care organizations have used the Aug. 2 Prozac expiration to demonstrate their ability to lower healthcare costs for their clients. Merck-Medco, for example, achieved 80% substitution rate within one week (¹ ).

Lilly's U.S. fluoxetine family sales were $600 mil. in the second quarter. Given the rapid fall-off starting in August, that sales line may be cut in half for the third quarter, and is likely to drop well below $100 mil. in the fourth quarter.

Lilly is also revising its 2002 earnings guidance in light of Prozac losses, future pipeline investments and the uncertainty surrounding the launch of the "approvable" osteoporosis drug Forteo. EPS is now expected to be $2.70 to $2.80 with sales up in the single-digit range.

The largest proportion of the revised guidance relates "to the investments that will largely show up in SG&A line," Golden said. "Sales and marketing growth will be very strong in terms of our expense."

"We have been more successful in hitting our development milestones then we could have anticipated when we set original 2002 guidance" last August, Taurel maintained. "With this success, comes some additional short-term investment requirements."

Although a year ago Lilly "assumed that there would have been some attrition in our pipeline, in reality, with the exception of fluoxetine...we continue to fire on all cylinders, both with the pipeline and the underlying growth of our business," the exec declared.

"Our strategy has always been to make the necessary investments to maximize the value of our promising pipeline...coming out of the Prozac era," he said. The launch of six products by the end of 2002 "eventually will offset our decline of Prozac."

Lilly's earnings estimates assume the fourth quarter launches of both its sepsis drug Xigris (activated drotrecogin alfa) and its intramuscular version of the antipsychotic Zyprexa (olanzapine).

Forteo was expected to be launched during the fourth quarter, but the company and FDA continue to discuss final labeling and the appropriate use for the product (² (Also see "Lilly Forteo "Approvable": Indications, Manufacturing Issues To Be Resolved" - Pink Sheet, 8 Oct, 2001.)).

Lilly is also discussing the appropriate patient population for Xigris with FDA and with purchasers.

"We are not only working with FDA on the label but also with hospital [Pharmacy & Therapy] committees to ensure the proper protocols are in place for where is the appropriate usage of the product," Taurel said.

"It basically would be very consistent with what we have found in the PROWESS trials, which is leading to the approval of the drug. We don't see at this stage differences in views between ourselves and the agency," he maintained.

One point of difference outlined in FDA briefing materials is whether the Acute Physiology and Chronic Health Evaluation II sepsis score could be used to limit the number of patients eligible for Xigris therapy (³ (Also see "FDA Xigris Efficacy Analysis Suggests APACHE II Test Can Guide Therapy" - Pink Sheet, 17 Sep, 2001.)). Xigris will be reviewed by FDA's Anti-Infective Drugs Advisory Committee at a rescheduled Oct. 16 meeting.

Xigris and resiquimod will continue to make anti-infectives a core Lilly franchise, the company noted.

However, as the scaling back in traditional antibiotic production suggests, Lilly is completing a fundamental transformation of its anti-infective product line.

In the years since the Ceclor patent expiration, Lilly outlicensed most of its antibiotic products (including Ceclor CD, Lorabid and Keftab).

Lilly continues to conduct R&D on new antibiotics, but its two most advanced projects have also been outlicensed: daptomycin to Cubist, and oritavancin to InterMune (⁴ (Also see "InterMune Oritavancin Marketing Will Quadruple Firm's Sales Force To 200" - Pink Sheet, 1 Oct, 2001.)).

Lilly's refocusing is in keeping with the trend among the large pharma companies to concentrate on a small number of heavily promoted, high-sales projects rather than build broad product lines within therapeutic categories.

Part of the expected SG&A investment will support a sales force expansion of approximately 1,000 reps globally in 2002, followed by a larger addition, Taurel said. "If you look at the next three to four years, we will be doubling, basically, our global sales force." Lilly employs roughly 12,000 reps worldwide.

Lilly signed on PDI Partners to help co-promote Evista (raloxifene) in the U.S. The deal expires Dec. 31, 2003.

Lilly reiterated its intention to retain all Prozac sales reps in order to maintain share of voice in the market; Prozac Weekly and the Sarafem pre-menstrual dysphoric disorder formulation have "so far basically kept their market share" following expiration of the basic fluoxetine patent, Taurel said.

"Resources will be reallocated to the new products depending on the performance of these forms of Prozac next year," Taurel said. Lilly expects to submit a duloxetine NDA for depression in 2002, followed by the olanzapine/fluoxetine combination for treatment-resistant depression in 2003. Lilly also expects to launch Icos' erectile dysfunction drug Cialis (IC315) during 2002.

Lilly's aggressive spending increases in the face of the Prozac patent expiration follows the formula the company used in 1992 heading into the Ceclor patent expiration period.

The company took $500 mil. in one-time charges and aggressively increased spending on sales and R&D in the third quarter of 1992, resulting in its first quarterly loss in 51 years.

At that time, the strategy did not pay off. Most of the investment was behind Lorabid, which never lived up to its projection as the successor to Ceclor, and the Ceclor CD line extension was held up by GMP difficulties. Lilly signed a consent agreement with FDA in 1995. CEO Vaughn Bryson left the company within nine months of the 1992 restructuring.