Viatris Inc.

Good morning. My name is Leo, and I will be your conference operator today. At this time, I would like to welcome everyone to the VIATRIS 2021 Third Quarter Earnings Call and Webcast. All participant lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question and answer session. If you would like to ask a question at that time, please press star 1 on your telephone keypad. In the interest of time, we ask that you please limit yourself to one question. If you need to ask further questions, you may reenter the queue. Lastly, if you should require operator assistance, please press star zero. Thank you. I'll now turn the call over to Melissa Trombetta, Head of Global Investor Relations. Please go ahead.

Thank you, Operator. Good morning, everyone. Welcome to Vietris' third quarter 2021 earnings conference call. Joining me on this call are Vietris' Chief Executive Officer, Michael Gettler, President Rajiv Malik, Chief Financial Officer Sanjeev Narula, Chief Accounting Officer and Controller Paul Campbell, and Head of Capital Markets Bill Cebulski. While some of us are in remote locations, I would ask for your patience should we encounter any technical difficulties. During today's call, we will be making forward-looking statements on a number of matters, including our financial guidance for 2021. These forward-looking statements are subject to risks and uncertainties that could cause future results or events to differ materially from today's projections. Please refer to the earnings release that we furnished to the SEC on Form 8K earlier today for a fuller explanation of those risks and uncertainties and the limits applicable to forward-looking statements. We also posted supplemental slides on our website at investor.veitris.com. Veitris routinely posts information that may be important to investors on this website and we use this website address as a means of disclosing material information to the public in a broad, non-exclusionary manner for purposes of the SEC's Regulations Fair Disclosure, Reg FD. We also will be referring to certain non-GAAP financial measures, including free cash flow and adjusted EBITDA. We will reference such measures in order to supplement your understanding and assessment of our third quarter 2021 financial results and financial guidance for 2021. Non-GAAP measures should not be considered a substitute for or superior to financial measures calculated in accordance with GAAP. The most directly comparable GAAP measures as well as reconciliations of the non-GAAP measures to those GAAP measures are available in our third quarter 2021 earnings release and supplemental earnings slides as well as in the investor section of our website. In addition, solely to supplement your understanding and assessment of our third quarter 2021 financial performance, We have provided in our earnings release and supplemental slides, and we'll discuss during today's call certain financial measures relating to the third quarter of 2020, including combined results of Legacy Mylan and the Upjohn business with indicated adjustments, which do not reflect pro forma results in accordance with ASC 805 or Article 11 of Regulation SX. Such measures do not reflect the effect of any purchase accounting adjustments. Let me also remind you that the information discussed during this call, except for the participant questions, is the property of Beatrice and cannot be recorded or rebroadcast without Beatrice's express written permission. An archived copy of today's call will be available on our website and will remain available for a limited time. With that, I'd like to turn the call over to Michael.

Thank you, Melissa, and good morning, and thank you for joining us on our third quarter earnings call. I'm pleased to say that we have, again, reported another strong quarter, generating robust free cash flow, delivering on our financial commitments, and building a strong foundation for our future. Nearly one year ago today, we formed Beatrice with the vision to assemble best-in-class capabilities across commercial, manufacturing, R&D, and enabling function in pursuit of removing barriers and expanding access for patients we serve while also returning value to shareholders. Today's continued strong results are testament to that vision and to the execution of our colleagues around the world whose shared dedication to patients and shareholders drives our strong business results and we believe is putting Vietris on a path for an even stronger future. I could not be prouder of all that we have accomplished together. Now here are some highlights. In the third quarter, we reported total revenues of 4.54 billion U.S. dollars, Adjusted EBITDA of 1.7 billion US dollars and free cash flow of 965 million US dollars. Year to date, that is quarter one through quarter three combined, we have generated approximately 2.2 billion US dollars in free cash flow, already exceeding the lower end of our most recent guidance for the full year. Optimizing cash flow generation will continue to be our financial north star, and we anticipate cash flow to grow in the coming years as a result of our expected continued strong performance, a reduction in one-time cost, and continued improvements in cash flow conversion. In North America, we're preparing for the imminent launch of SEMGLI, which, as most of you know, received historic approval from the FDA for the industry's first ever interchangeable biosimilar designation in the U.S. in July. We expect that Semglee will be available in pharmacies before the end of the year, and we believe this is an important milestone to help increase access to insulin for those living with diabetes in the United States. Rajiv will later provide more details on the progress we're making in that regard. In addition, at the end of October, we filed a BLA for a biosimilar to ILEA with the FDA as planned. We believe this is the first biosimilar registration of this important medicine to treat age-related macular degeneration. And looking further into the future, we're excited about the potential to be first to market for a Botox biosimilar. Overall, we generated 158 million in new product revenue in the third quarter. $557 million year-to-date. We're therefore well on track for approximately $690 million in new product revenue for the full year. Importantly, our strong performance enables us to continue to execute on phase one of our strategic roadmap, which is expected to be completed by the end of 2023. During this time, we're focused on strengthening our balance sheet, returning capital to shareholders in form of a dividend, and building a strong foundation for the future. We're now one year into that three-year effort, and we continue to deliver on our financial commitments for debt repayment, dividend, and synergies. On the last quarter's earnings call, we said we would reevaluate our 2021 financial guidance at the end of the third quarter. Based on our strong performance to date, we are again raising our financial guidance across total revenue, adjusted EBITDA, and free cash flow, which Sanjit will discuss in more detail later. I'm also pleased to say that we're near completion of our rigorous bottom-up strategic planning effort. We look forward to sharing the results of these plans with the investment community at a virtual investor event now scheduled for the morning of January 7, 2022, And on that day, we provide additional details on our two-phase strategic roadmap, including for the rest of phase one, that is the years 2022 and 2023, we'll be providing specific financial guidance, targets, and metrics to complete this phase. We'll also be discussing the substantial free cash flow that we will be generating over this period to satisfy our phase one capital allocation priorities of returning capital to shareholders, and of repaying $6.5 billion of debt. With that said, we continue to remain confident that $6.2 billion of adjusted EBITDA is the true floor of our business. For phase two of our roadmap, that's 2024 and beyond, we will provide an overview of the catalyst that we expect will drive future growth including laying out our capital allocation priorities for the states in order to maximize and further unlock shareholder value during this period. We'll also be giving specific details of our own organic opportunities by discussing our own pipeline at length, and we will be providing the inorganic business development priorities that we'll be focusing on through our global healthcare gateway. Before I close, I'd be remiss to not call out that Viatris was recently recognized as a top five company on a prestigious Fortune Change the World list. This recognition is a testament to the hard work and dedication of our colleagues to stem the tide of HIV AIDS over the course of more than 10 years, and it's just one example of how corporate social responsibility is deeply embedded in our mission and our operating model. And in addition, we were recognized on the Forbes 2021 World's Best Employers list, underscoring our success in laying the foundation for the kind of company we want to be. And with that, I'll turn it over to Rajiv for more details. Rajiv?

Thank you, Michael, and good morning, everyone. Before I get into the quarter at hand, I would like to echo Michael's excitement about our upcoming investor event. What you can expect to hear from me is a comprehensive review of the significant value and the depth of our pipeline and clinical programs, including biosimilars, complex generics, and our medicines that we have been strategically building over many years. These development programs are expected to play a significant role in our ability to drive organic growth over time, especially as our cost energies roll off at the end of 2023. Once laid out in January, we believe our pipeline will be recognized as one of the company's most underappreciated assets that will enable us to continue to deliver value while fulfilling our mission of expanding access and addressing patient needs. Now let's get into our results. I'm pleased to report that we have executed three strong quarters, which is a testament to our diversified and differentiated commercial and operations platform, but more importantly, the dedication of our workforce. As I walk you through the performance in each of our segments and product categories, I will be making certain comparison to combined LOE-adjusted third quarter 2020 results on a constant currency basis, as well as comparisons versus our expectations as included in our guidance back in August. Beginning on slide seven, overall, the business performed strongly across all of our segments versus our expectations. When excluding the impact of Japan's Lyrica and Celebrex LOEs, as seen on the bottom left-hand side of the slide, total net sales were down 1% as compared to combined LOE adjusted quarter 3 2020 results. Our brand business performed better than our expectations, primarily driven by Lipitor, Viagra, InfluVac, and EpiPen. Our complex genetics and biosimilar category performed in line with our expectations. We are pleased with the continued growth of our global biosimilars portfolio this quarter, which grew by 14% and helped to offset anticipated competition related to select complex generic products. Lastly, our global generic category also performed in line with our expectations, reflecting mid-single-digit decline compared to the prior year. Turning to slide eight. Our developed market performance was slightly above our expectations for the quarter. Europe continues to perform very well, generating 10% year-over-year growth in net sales, driven by strong performance by brands like InfluVac, Lipitor, and Damista, as well as the strong performance of our thrombosis portfolio. Buyer similars in Europe grew by over 50%, led by our strong position of Julio in Germany. Moving to North America, we are very pleased with our overall performance. Our branded segment performed strongly, driven by EpiPen, Upelri, and a better-than-expected performance of Performist. These results were partially offset by MyCalcin, which experienced unanticipated competition. Complex generics and biosimilars in North America was better than our expectations, with strong performance in biosimilars, which helped to absorb the competitive impact on Vixella and Zulane. I would also like to make a few comments on U.S. generics business and pricing. For the last few years, we have continued to work on our portfolio by investing in science and difficult-to-make dosage forms like injectables, dermatologicals, patches, and drug-device combinations, while pruning certain commodity products at the same time. We believe we now have a very diversified generics portfolio, which is being very well supported by our strong customer service levels. This is what differentiates our ability to effectively manage this business. Accordingly, as we normalize this quarter for exceptional one-time events like Dimethyl Fumerate, Vixella, and Zulane, our price erosion for this quarter is mid-single digit and very much in line with our expectations. We are also excited about the upcoming launch of our branded product. family injection, and unbranded insulin glargine injection. Both products will be available in pen and wild presentations and are interchangeable for the reference brand lentils. This dual product approach is intended to ensure that this interchangeable biosimilar insulin can reach as many patients as possible regardless of financial circumstances, insurance, or channel. We are pleased with some recent formulary wins that go into effect on January 1st, 2022, including the inclusion of our interchangeable biosimilar assembly on Express Scripts National Preferred Formulary, as well as on Prime Therapeutics National Formularies. We expect that the products will be available in pharmacies before the end of the year. To ensure that as many patients as possible will benefit from these products, we will provide copay assistance, a patient assistance program, and cash pay alternatives. In addition, beginning in 22, we will be a participant in the CMS Medicare Part D Senior Savings Model. which limits certain patients' out-of-pocket costs to no more than $1.35 for one month's supply. Moving to the next slide, our emerging market segment also performed in line with our expectations this quarter. Our branded business, primarily driven by Vitra and Lipitor, continues to perform strongly in these countries that have begun to recover from COVID. In this quarter, our complex generics and biosimilars category performed below our expectations due to the COVID-19 related regulatory delays, which we expect to overcome as we close out the year. Our generics business was in line with our expectations. We had higher than anticipated sales of Remdesivir and Ambisom this quarter that helped offset the lower ARV volume. We expect that the demand for COVID-19-related products to taper off in quarter four. The next slide shows our chance segment. We are pleased with this quarter's performance across our product categories, with brands and generics performing better than expectations. Ameteza, Lyrica, and Creon drove strong brand results, and our authorized generics to Lyrica and Norwex continued to contribute growth. Firesimilars were in line with expectations with continued strong performance from Hulio in Japan. Greater China is our last segment slide, and the business had another strong quarter, delivering results that were better than our expectations. This performance was primarily driven by retail channel growth of 20%, and better than expected performance in the hospital channel. The segment benefited from some phasing of customer buying patterns this quarter that we expect to normalize in quarter four. Overall, we are very pleased with how the business is navigating the evolving policy environment. With our new launches performing to our expectations, and our base business anticipated to be in line with our expectations of approximately a 4% base business erosion for the year. I feel very strong about the underlying building blocks of this business.

Now, turning to the pipeline update.

Regarding our Botox biosimilar development program, We met with FDA in early September and aligned on analytical, non-clinical data, as well as the clinical program expectations and have a clear path forward. At this juncture, we do not expect revance 483 and a complete response letter related to the product to impact our submission timing for this program. which is scheduled to be filed by the end of 2024. We will provide an additional update when we have more information. Additionally, we recently submitted to FDA what we believe is potentially the first ILEA biosimilar. Moving to insulin as part, FDA completed a pre-approval inspection of Biocons manufacturing facility in Malaysia. It resulted in a few minor 483 observations, and Biocon has provided a complete and comprehensive response to FTS-483. We are confident that we will hear soon from the agency, as this is the last remaining element needed for approval of another potentially interchangeable insulin product. Regarding Avastin, Our U.S. approval continues to be impacted by the delay of a pre-approval inspection. As previously mentioned, we have no open scientific questions with FDA. In our complex product pipeline, we have initiated our Zulane low-dose Phase III clinical trials and are actively screening and enrolling patients. We are also happy that our levothyroxine oral solution was accepted for filing with FDA. This quarter, we made good progress in our complex injectables portfolio. We successfully completed pivotal pharmacokinetic studies for our long-acting octreotide acetate injection and have demonstrated that our product is bioacrylate to sandostatin. Our peliperidone permutate three-month ANDA for 410 milligram and 273 milligram strengths have now been accepted for filing, and we believe that we are the first to file for all strengths of the peliperidone three-month depot injection equivalent to Invega Trinza. We have also successfully completed our pivotal PK study for aripiprazole modified release injection, which is our generic equivalent for Abilify Mantena. Before I hand it over to Sanjeev, I'll quickly address our ongoing integration and restructuring activities. We are coming up on our one-year anniversary, and our initiatives are progressing as planned. We continue to remain on track to realize $500 million of cost energies this year and are confident in our overall plans to achieve at least $1 billion of cost energies by 2023. Let me now turn the call over to Sanjeev. Thank you.

Thank you and good morning everyone. As Michael and Rajeev mentioned, we had another excellent quarter and I'm really pleased with the focus and execution exemplified by our team, especially the financial results. The results demonstrate the financial strength and the nature of our global diversified platform. In the slides ahead, I'll provide drivers for Q3 and expectations for Q4 that are leading to an increase in our current year financial guidance. On slide 17, we have summarized our results versus prior year on a reported basis, which reflects Milan's standalone results for third quarter 2020. Moving to slide 18, this is a comparison of combined adjusted Q3 2020 results, which includes Milan's standalone results and upjohned carve-out financials for a period of July 1st, 2020 to September 30th, 2020. adjusted for certain LOEs and transaction related items including divested products in connection with the combination. Beginning with LOEs, as we've seen throughout the year, commercial teams have continued to manage the rate of erosion of Lyrica and Celebrex in Japan. As a result, genetic penetration levels have come in slightly better than our expectations. Adjusting for these LOEs, total reported net sales in the quarter were essentially flat to prior year. In the quarter, a branded business performed solidly, driven by thrombosis and influenza in Europe and EpiPen in North America. In China, sales were strong for both Lipitor and Norvasc in the hospital channel and Viagra in the retail channel. Our team continues to navigate the policy environment, and erosion from VBP was in line with expectations. New product revenue was in line with expectation, and our global biosimilar sales grew 14%. Base business erosion includes price and volume decline in our North America generics business, including competition across complex products such as Vixella, Zulane, Mike Halson, and our generic for Tech Ferrera. Coupled with declines in our ARV business in emerging market, on balance, These items are tracking in line with our expectation and fully our assumption is unchanged at approximately 4%. We're seeing a gradual recovery from COVID in emerging markets, North America and Europe. Lastly, with respect to foreign exchange, the weaker dollar relative to key currencies such as Euro provided an approximately 1% tailwind compared to our combined adjusted 2020 revenue results. Moving to slide 19, which bridges adjusted EBITDA. In the quarter, adjusted gross margin of approximately 60% came in ahead of expectation and were driven by brand performance and favorable cost of goods. Integration and restructuring activities remain on track and SCNA was in line with expectations. Turning to slide 20. Free cash flow of $965 million exceeded our expectation due to strong operational performance and cash flow improvement initiatives. One-time costs were lower due to timing of activities between Q3 and Q4, and capital expenditure came in below our expectation, partially due to COVID-related global supply chain delays. As a result of strong year-to-date free cash flow of approximately $2.2 billion, we've been able to repay $1.9 billion of debt year-to-date, including $730 million in Q3. We've also returned $266 million in dividends to our shareholders. These actions are consistent with our Phase 1 capital allocation priorities of repaying $6.5 billion of debt by 2023 and returning capital through a dividend, which we expect to grow in future, subject to Board approval. As we look to Q4, we expect free cash flow to be significantly reduced from Q3 levels due to lower adjusted EBITDA, phasing of one-time cash costs, semi-annual interest payments, and ramp-up of capital expenditure. Moving to slide 22. Based on the underlying strength in the business, we're raising the guidance for total revenue, adjusted EBITDA, and free cash flow. The midpoint of increased total revenue guidance is now 17.8 billion, an increase of 100 million versus prior guidance. The increased outlook of revenue reflects the continued strength in our China business, driven by a pull-through of retail convergence strategy. Performance in developed markets benefited from strong EpiPen back-to-school season and inflow volumes in Europe, partially offsetting these positive trends, including generic erosion and competition of key products in North America and lower ARV volumes in emerging markets. The midpoint of an increased adjusted EBITDA guidance is now at $6.4 billion, also up $100 million versus prior guidance. The increase is primarily driven by higher forecasted total revenue in addition to our expectation that adjusted gross margin would land closer to the high end of our range at 58% to 59% for 2021. For adjusted SG&A, we expect a sequential increase in fourth quarter with the resumption of activities due to COVID recovery in various markets. bringing a full range of these key measures to 21 to 22% of total revenue. The mid part of free cash flow guidance is increasing to 2.5 billion, which is $200 million higher than previous guidance. This reflects capital expenditure of approximately 500 million, lower cash tax and cash improvement initiatives that we expect to continue to benefit us in 2022 and beyond. Now, a few comments on Q4. For revenue, we expect a sequential decline due to customer buying pattern that benefited in Q3, lower sales of EpiPen in developed market, and lower sales of Remdesivir and Ambisom in emerging markets. For adjusted gross margin, we also expect a sequential step down from Q3 to Q4 from 60% to approximately 58% due to the evolution of our product portfolio mix. I'm extremely pleased with our ability to generate substantial free cash flows, and we fully expect our operational momentum exiting 2021 will carry into next year. Based on additional cash flow improvement initiatives and the expected reduction in one-time cash cost, we're highly confident on our clear pathway to generate an aggregate of over $8 billion of free cash flow from 2021 to 2023 that will satisfy our Phase I capital allocation priorities. The underlying strength and momentum we see in the business position us for a solid starting point heading into 2022, and we look forward to sharing more about two-phase strategic roadmap in early January. Before I turn the call over to the operator, I'd like to announce that our Head of Investor Relations, Melissa Trombata, is moving to a broader leadership role in our Office of Business Performance. We sincerely appreciate all her contribution over past four and a half years leading the IA function. Going forward, Bill Cebulski, Head of Capital Market, and Luis Sena, Director of Investor Relations, will be the main contact for the investor community. With that, let me open the call for Q&As. Operator.

Thank you. At this time, if you would like to ask a question, please press star 1 on your telephone keypad. Again, to ask a question, please press star 1 on your telephone keypad. If you wish to remove yourself from the queue, you may do so by pressing the pound key. We remind you to please pick up your handset and please limit yourself to one question. We'll take our first question from Chris Schott of J.P. Morgan.

Great. Thanks so much for the questions. I know you're targeting a January 7th analyst meeting, but I do appreciate the comment on, I think it was $6.2 billion in EBITDA as a floor for the business. I guess my question here was, I think in the past you've talked about 2021 as a trough number. I know you've raised the guidance a few times, have gone through this year. So let me just understand a little bit what's going on here. Some of the upside we're seeing is I guess, more one-time in nature this year? Or are there any other factors that contribute to that dynamic? I'm just trying to kind of bridge between, I guess, a new midpoint of $6.4 billion versus that floor $6.2 billion. If I can slip a really quick second question in. I guess my question is, you think about, like, capital deployment and where your stock is right now. Where does Repo, does Share Repo fit into the mix? And I think there's been a lot of discussion around, like, BD and around dividends. But I'm just trying to get a sense of, you know, is Share Repo something that you're considering as well? Thanks so much.

All right, good morning, Chris, and thanks for the question. Let me start with your second question on the share buybacks. And just to go back, I mean, for us, as part of our TSR framework, from the beginning, we always contemplated both dividends and share repurchases, right? That was always part of our thinking. I think we've been very, very clear about what our priorities are for phase one, which is the years 21, 22, and 23. And that's, you know, the debt pay down, $6.5 billion, returning capital through a dividend, and then growing the dividend annually, right? If there are additional opportunities, obviously we'll consider it. Share buybacks will always be the benchmark for any kind of major BD investments that we do. And then just one other factor that you may not be aware of that we have to consider is there is a tax matters agreement that we entered into with Pfizer as part of the tax-free spin of Upjohn from Pfizer and then the combination with Mylan. And there are certain limitations and conditions on share buybacks in the first two years that we need to take into consideration. But I look forward to telling you more, not only about the Phase 1 commitment we made very clear, but also our capital employment priorities for Phase 2, how we do that, and how we maximize shareholder value and unlock further shareholder value in Phase 2. So that's forthcoming, and please join us in the January meeting. On the EBITDA question you have, clearly we're not giving guidance today. We're very, very pleased with the performance that we have now three consecutive quarters. We strongly feel that we stabilize this business. We get a good handle on the business. We now finished or almost finished the bottom-up rigorous strategic planning process. And with that, you know, we're reconfirming again what we said before. The 6.2 is the floor. That means floor. Doesn't mean mid part of the guidance. It's a floor. But that's a floor that's very, very important because that drives how we can deliver on phase one. Right? We laid out our clear priorities, what we need to do. EBITDA drives cash flow. It's not the only thing driving cash flow. It's one of the things driving cash flow. And we remain confident that the EBITDA combined with, and you can easily do the math yourself, you know, $8 billion or more in cash flow over those three years, sets us up to deliver on our phase one commitments. We remain confident we can do so. And, you know, look just at this year, $2.5 billion midpoint already. And that sets us up really for a very successful phase two with a much stronger balance sheet, much more increased financial flexibility and firepower. And I look forward to telling you more about that at our investor event.

Next question, please. We'll take our next question from Umair Rafat of Evercore.

Hi, guys. I'll also ask one question, which is two questions. Michael, I know there's been a lot of investor questions and confusion around dividend payout, and I'm curious if we should expect a more definitive number, let's say a 20% payout or something, as we go to January 7th, Investor Day. And then, Rajiv, I'm trying to understand some of your comments around Botox somewhat a little better. I know you were scheduled to have conversations with FD in September, is what he had said last time. You also just said that the revents bleed response on manufacturing deficiencies should not impact your 2024 timing. So I'm just trying to put those two things together. I guess what specifically was FDA focused on when you sat down with them in September? And is your manufacturing process and manufacturing location for biosimilar Botox shared with rebats? Thank you.

Okay, I'll start with the dividend, and then Rajiv, you can answer the second question. Uma, thanks for the question. Dividend is obviously a key component of our TSI story going forward. And what you should expect from us is a growing dividend in absolute dollars, subject to board approval, of course. But I don't want to get ahead of the board of directors here, but my hope is that we will be able to declare our 2022 dividend framework in time or at the January 7th event. And I think we can be confident that, again, do the math around cash flow, that we have sufficient cash to pay down the debt and grow the dividend. And we'll tell you more about that later.

And thanks, Omar, for your question regarding Botox. You're right. We met with FDA in early September and have a clear alignment on their expectations about biosimilarity, analytical, nonclinical data, as well as the clinical program expectations. So once you have that clarity, and we have a clear path forward. It's all about execution, and we have been on this at this place several times, and most important thing is to get a firm alignment with FDA. And when I say firm alignment, yes, these things evolve, but at this moment, they have given us a very clear understanding, and they are motivated to see a biosimilar product, you know, come through in the market. Regarding the romance, yes, we... Revance is our developer as well as manufacturing partner, and we share the facility, which is the Revance facility for DAXy. And getting a 483 or a complete response letter is not a new thing when you are evolving or developing a product. Towards the end of 24, that's what we have our filing date. We have a lot of time. And we said as we have been giving you complete transparency, we'll keep you guys updated as it was. But at this juncture, I don't see that CRL is going to impact our development program timing.

We'll take our next question from Elliot Wilbur of Raymond James.

Thanks. Good morning. I wanted to ask a question around synergy realization over the course of the year, and I apologize. Some of the lines were cut off, and I may have missed this during Rajeev's prepared commentary, but just wanted to get an update on where you were in terms of realizing the $500 million in targeted synergies, which buckets are overperforming or underperforming versus original expectations. And just looking at the numbers in terms of SG&A and R&D targeted spend percentages and those numbers on an absolute basis as well as COGS, they're not really moving lower. So how should we think about the progression of those numbers kind of on an absolute basis and as we move toward that ultimate target of $1 billion in synergies. Thanks.

Okay, so thank you, Elliot. Quick answer on the synergies. We're absolutely on track for the $500 million, and we're confident in the $1 billion for the three years. And I'll give it to Rajiv maybe to give a more nuanced answer. And then the SG&A, R&D, and Cox question maybe.

Mark, you said everything which we have laid out, Wilbur, you know, different buckets, whether it was, you know, cost avoidance from the cost of goods, from the HG&A, everything is on track. I don't see any, you know, we are right on track as far as the 21 target is concerned. We have a great plan for 22 and 23, and we remain committed to or meet and beat this one billion target as we go along.

Rajeev, you uncovered that very well. So, Miley, just one other thing to keep in mind, the Synergy, as Rajeev pointed out, is covering all line items. And that's where it is going to reflect. What you should expect when we provide the guidance, the absolute dollar for SG&A will come down next year based on the flow through of the Synergy and will provide more clarity and detail when we meet on June, January 7th.

Next question please. We'll take our next question from Jason Gerberry of Bank of America.

Hey guys, thanks for taking my question. My question's on China and just, you know, as we think about the $300 million headwind that was talked about heading into the year. It looks like it's unimpacted. The URP price impact probably pushed out to next year, arguably, which is probably the big swing factor with the floor, EBITDA floor as we think about that next year. So I'm just curious, are you seeing anything on the China retail side, which has been a growth story that suggests some of this upside that you're seeing in China in 21? Uh, is sustainable and if I could just squeeze in a point of clarification, there was mentioned about out of pocket assistance on assembly, which I would think of as a generic having negligible patient out of pocket costs. So, if you could just provide some clarity on what the copay differential would look like on assembly versus an established brand, that'd be helpful. Thanks.

I think you can answer those questions.

Okay.

So, Jason, on China, we could not be more pleased with the performance and how China, China team, our management team over China is evolving and navigating through the evolving, very fast evolving policy environment. Yes, we have done, the team has done a great job of shifting the, maximizing what they have in the hospital channel. We are, you know, doing better than our expectations in the hospital channel, as well as the growth in the retail channel. And this is where the focus for the future is, that we continue to shift our focus and build our momentum around the retail channel, which is growing. This quarter also it was 20% plus growth. But as China evolves, we always said that, although we are not providing guidance, but we knew that China is going to be a step down, whether it's year one or two, given the implementation of URP. In fact, recently, there has been some updates at the policy level in China, where we are pleased that in a perverse way, it has provided us now very clear clarity about the timing and extent, and we see this bottoming out of the China business, the hospital business, by 2024-2025. That gives us a great runway to continue to implement our business and move the business where we need to move and focus and build the portfolio around the retail. So that's about China, and as well as assembly, I think the launch of the two products, the dual product launch, is intended to ensure that this interchangeable product can reach as many patients as possible, regardless of financial circumstances, insurance, or channel. And we just want to be at par or not, you know, not any of the patients should be going back from the pharmacy point or dispensing point because they don't have an equivalent copay assistant or patient assistant program or a cash pay alternative. So we are trying to match every, get every, map every patient and provide them whatever we can provide or whatever they are getting today from a Snowfeet product.

Thank you.

Next question please.

Our next question is from Balaji Prasad of Barclays.

Hi, good morning and congratulations on the results. Just following up on the biosimilars and the interchangeability part, I would like to get your thoughts on how relevant you think interchangeability would be for the biosimilar eumeral landscape. And on the same subject, with SEMGLI, market experts that we spoke to believe that SEMGLI can potentially increase its volumes by 4x to 5x. Again, don't want to steal the thunder from your Jan event, but curious to hear your thoughts on it. Thanks.

Yeah. So, Balaji, interchangeability, if I were to characterize interchangeability of Humira, I would put it in a nice-to-have bucket rather than a must-have bucket for a number of reasons. So, first of all, as you know, as the market formation happens, nobody will have the advantage of interchangeability as Amgen or the number two player will not have interchangeability at that point of time. But more importantly, the difference between insulin as part and Humira is about insulin is a pharmacy product, whereas Humira is a specialty pharmacy product, where at the point of dispensing, you have a lot better control and interaction between the doctor and the patient, so ongoing interaction. At the same time, also, you know, today, nobody will have interchangeability for all the presentation. The low concentration, the high concentration, the pen versus the pre-filtration, so there will be, somebody will have a Maybe Boehringer has one for the strength for the lower concentration, but not for all. So, you know, and even if it's a, let's say, nice to have, you can expect us that it's such an important product. By the time the first exclusivity expires, the interchangeability exclusivity expires, which will be somewhere in the 24 order, we might have, we will be having that interchangeability. We'll go after and complete that interchangeability work.

Okay, next question, please.

Our next question is from Greg Frazier of Truist Securities.

Good morning, folks. Thanks for taking the question. You mentioned discussing the potential of your global healthcare gateway for Phase 2 on the strategic roadmap. Should we think about inorganic growth driven by the gateway as more of a longer-term opportunity, or will the gateway be open for business before then? Thanks.

Okay. Thank you, Greg. Look, I think we said it clearly. The gateway is open for business. We have, I think, a unique opportunity here of having this, you know, really amazing platform that makes us a partner of choice, both in what we build commercially, operationally, R&D, regulatory, et cetera, with the scale we have to reach. And we can offer that to partners and have ready access. We also said that we're very clear about our capital allocation priorities, that we're going to be very disciplined in the way we do that. But should the right opportunity present itself, we're absolutely able to execute on it, and we're going to give you more guidance in terms of what the priorities are for business development in the Global Health Gateway for Phase 2 at our January 7 event.

Thank you for the question. Next question, please.

Our next question is from Navan Thai of Citigroup.

Hi. Good morning. Can you give us more details on what drove the better free cash flow for your guidance? And maybe if you could discuss the improvement, the cash improvement initiative and show we expect a higher free cash flow growth in 2022 above the reduction in one-time costs. And then I just have a follow-up on China. Do you expect a more benign URP impact or just a postponement of the reform? Thank you.

Okay. So, Gio, why don't you take a free cash flow question?

Sure, sure. Yeah, Navan, we're very pleased with the cash flow generation in the company and all the effort and the focus that we have on the cash flow in terms of that. So what's gone in terms of where we're looking at kind of the opportunity? So first is obviously the operational rhythm of the business is better, as Michael and Rajiv pointed out. So that's obviously helping on that. Then on top of that, as a company, we've implemented a very comprehensive cash optimization program. As we brought the two companies together, so we looked at every element of the balance sheet as you would expect that. We looked at where networking capital is deployed, whether it's accounts receivable, accounts payable, and inventory and other working capital. We looked at that. We looked at the best practices in the both companies and obviously trying to gravitate towards the best practice. And we're looking at the industry as well. So we came up with a program that we are kind of implementing it right now. We also did is we looked at the operational metrics and had each of the asset owner start driving those that we can see the benefit on that. The bottom line of this is this is a very sustainable program. at the grassroots levels in the organization, not only I see the benefit this year, but I see the benefit getting into next year and year after that. And as the one-time cost come down, which we're expecting that to come down next year and year after that, I see a cash flow, a free cash flow to improve next year and year after that, and that will then satisfy, we'll have enough cash flow, $8 billion to satisfy a phase one commitment of debt pay down and paying and growing dividends subject to board approval.

Maybe on China and Iran, I think you clearly should expect further step-downs. We always set that. We always anticipated that. We always factored that in. What was always unclear is the speed and timing of that, because that's subject to further clarification on rules and how they're rolled out, et cetera. I think we have more clarity on that now. Obviously, we're offsetting that by other factors that we have, whether it's our retail business, whether it's our future pipeline, et cetera. We'll give guidance on that again.

But we always anticipated a step down, and we have good certainty around the timing of that now. Next question, please. Our next question is from Gary Nachman of BMO Capital Markets.

Thanks. Good morning. In terms of the competitive dynamics for some key complex generics, is this in line better or worse than what you've been expecting? the returns on your complex generics that you expected a couple of years ago, given competitive dynamics there. And then just gross margin, it showed good improvement relative to our expectations in the third quarter. So how should we think about that trending going forward? It'll be down a little bit in 4Q, but what are some of the pushes and pulls there maybe going into next year? Thank you.

Yeah, no, the You know, margin expectations and as well as the market dynamics of the complex products are exactly in line how we have anticipated. Of course, the market has warped when we thought about these products maybe six, seven, eight years back, what we are, but we always expected slower ramp and the longer annuity. And I'm so looking forward to walk you through how this new logarithm and the great return on investment on this bucket, whether it's a Vexela or a Capaxon or a Ceratite, we will walk through those models. So we are very, in fact, excited and feeling bullish about this segment. And that's why we have been investing in this segment over the years. So do you want to cross-march?

Sure, sure. So, Gary, gross margin in quarter three came in ahead of our expectations, clearly driven by strong brand performance, including greater China region. And then we had one-time items in our cost of goods line. Going forward, in Q4, I expect a step down. That is expected. because of the evolving product mix that we have and the non-repeat of some of those one-time items in Q4. But overall, for the year, we expect to end at the high end of our range of 58% to 59%. Going forward in 2022, again, we'll provide the specific guidance in January, but we should think about and expect that the gross margin will continue to evolve. There's going to be slight pressure because of the evolving product mix that we have. And that's all expected and will obviously provide further guidance on January 7th.

Next question, please.

Next question is from Nathan Rich of Goldman Sachs.

Good morning. Thanks for the questions. Sanjeev, maybe just on the cadence of earnings into 4Q, can you maybe talk about – What drives the step down in EBITDA? I know you talked about China as well as it seems like EpiPen sales might have been pulled forward a little bit. But fourth quarter is normally a seasonally strong quarter. So I'd just like to get a little bit more color on sort of the cadence for the final quarter of the year and kind of what gets you to the low versus the high end of the range. And then at a high level, are you kind of willing to maybe preview some of the key like tailwinds and headwinds that we should have in mind for 22 and 23 ahead of the analyst day. Thank you.

So, Nathan, let me take the first one on the Q4. As you know, VATRAS is a different company. It's got a different profile of revenue. And what we're sharing with you in terms of the full year guidance is reflective of the VATRAS's portfolio. So, let me say the opposite. There is nothing I see concerns me regarding the underlying fundamentals of the business getting into Q4 or, for that matter, exiting this year into beginning of next year. So all the items that I talked about in my prepared remarks had commentary on that. Specifically for the EBITDA, the question that you asked, if you look at the kind of They step down in the revenue, which is all due to the expected events that I explained that. There is a flow-through of the EBITDA going down. There is a gross margin pressure. I talked about that because of the evolving product mix, and then you have some one-time events on the COGS line. The other thing that's also happening in Q4, which is obviously impacting the EBITDA level, is they step up in the SG&A line. As we are seeing the world recovering from COVID, there is going to be a step up in the SG and expenses, which actually helps us position well not only this year, but sets up well for the next year. So all that is planned and expected. But bottom line, there's nothing that is of concern to me about what's happening in Q4 for that matter.

And maybe on the pushes and pull, Nate, look, here's what I feel very strongly about. We now have three quarters of very strong performance. We have a good handle on this business. You remember we brought two big companies together. We had to learn the business, understand the business. I think we have a very good handle on it. We're near completion of a very rigorous, very thorough, high-quality, bottom-up strategic planning process. And that really gives us increased confidence in understanding, you know, all the pushes, of course, that they have business. And you know them all, right? They're not a secret. It's, you know, the China business. It's the base business erosion that's part of the nature of our business. It's the LOEs that we know and expect. And on the upside, it is, you know, the pipeline, the upcoming launches. You know, I think we're going to lay out to you on Investor Day how the pipeline is really one of the most underappreciated assets that we have and our ability to generate really, really strong cash flows. So we're confident in our ability to deliver on all of our Phase 1 commitments that we laid out. And, you know, it's going to give us a great start for Phase 2 and look forward to telling you about Phase 2 when we come to the investor event. Next question, please.

Our next question is from Ronnie Gow of Bernstein.

Good morning and thank you for squeezing me in. A couple of actually really small points. Your ILEA IPR was supposed to have an answer by the 5th of November. It seems to be delayed somewhat. Can you give us an update of what's happening there? And second, I noticed the Orencia biosimilar that you're disclosing. You know, a few other companies have tried that and found it's very hard to keep Orencia stable in storage, just the way the molecule is made. And I kind of wonder if you're over that hump and found a way to resolve it, or is it still ahead of you?

Yeah. Thanks. And regarding, Ronnie, about ILEA, you're right. It's been delayed, and we will know in another couple of weeks where we stand with the institution of the IPR. Okay. You're correct. It's been delayed. And the second on Orantia, yeah, it's in development. It's challenging. It's hard. We tried it a couple of years back. We had the obviously the challenges like everybody else is having and we are seeing some light at the end of the tunnel and we continue to build the momentum on that program.

Okay. Next question please.

Our next question is from David Amsalem of Piper Sandler.

Thanks. So I wanted to ask a high level question just in light of what Novartis commented regarding Sandoz and particularly their challenges with their U.S. business. And then in light of, you know, how your business is formed and is evolving, can you give us some color as to how you're thinking about your base U.S. generics business and just your overall U.S. small molecule retail presence over time, particularly the more commodity end of the business. Can you just talk to how you're thinking about that philosophically? Thanks.

Sure. I'm actually very happy to explain it, Rajiv.

Yeah.

So, David, yes, you know, U.S. has been one of our core business, and we have lived through the various cycles over the years. And for me, the cycles continue, and there's nothing new. For the last few years, We knew how this business was evolving. There was a commodity bucket and there was still a bucket of hard to make and complex products. From science perspective, we continue to invest for several years to going up the value chain. So that's paying off. And the commodity is where we saw that there's a power of the vertical integration. We still retain those. Where we see a huge competition and, you know, commodity means actually turning out a commodity with a 15-pair market. We took the opportunity to prune that portfolio. And, you know, if we not pull together, we have a well-diversified generic portfolio, which is performing very well and as we expected. We have a strong customer service level. Given what we are doing with the rationalization of facility or in the COVID, we have not missed a beat. We have, you know, very strong service level. So that puts us in a great position to manage the challenges as well as grab the opportunity. So we couldn't – I think we feel good how we always felt about this business. And if we normalize the one-time events like Tech Federa's LOE or loss of their exclusivity or Vixiel and Zulane, we are right at where we forecasted mid-single-digit price erosion. So thanks for your question.

Yeah, clearly we've done the work ahead of other companies. All right, thank you very much, everybody, for the question. Unfortunately, out of time. Let me just say we're pleased with yet again another very, very strong quarter, and we look forward to seeing you at our virtual investor event on January 7th. Thank you very much.

This does conclude today's VHS 2021 third quarter earnings call and webcast. Please disconnect your line at this time and have a wonderful day.