Cephalon Holders Take Flight

The company's CEO tries to focus on the future, but investors are worried by Sparlon's rejection.
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Frank Baldino Jr.'s optimism aside,



shareholders weren't in a very forgiving mood Thursday.

Though the chairman and CEO of Cephalon says 2007 will be a "growth year" and that his company will enjoy "significant earnings growth in the next several years ahead," investors were concerned with a more immediate matter.

After the close of trading Wednesday, Cephalon said the Food and Drug Administration rejected its proposed treatment for attention deficit hyperactivity disorder, a drug called Sparlon. Cephalon said it will no longer seek approval for the drug.

The rosy forecast wasn't just about the long term, though, because the company also said the FDA's decision won't affect its

recently released earnings projection for this year.

Still, holders bailed out on the stock. By late afternoon, Cephalon's shares were down $7.79, or 12.2%, to $56.16. Nearly 12 million shares had traded, or roughly six times the daily average for the past three months.

Wall Street was split on the Sparlon announcement. Two investment banking firms cut their ratings, some analysts said they weren't shocked, and others said Cephalon has enough promising experimental products to help it overcome the rejection.

During a conference call with analysts, Baldino said he was "very disappointed ... and rather surprised" at the government's decision, even though an

FDA advisory panel had voted against Sparlon by a 12-1 vote in March. Cephalon wanted the drug prescribed for children ages 6 to 17.

The advisory committee wanted the FDA to require more safety tests because clinical trials indicated that one 7-year-old boy among 933 patients apparently contracted a rare and sometimes-fatal skin disorder called Stevens-Johnson syndrome. The one favorable vote came from a dermatologist.

Cephalon maintained that the youngster didn't

have Stevens-Johnson, and it pressed its case with the FDA. It sent reports by physicians treating the child and by consultants who examined not only medical records but also photographs. Baldino said these experts concluded that the child suffered a virus-induced skin rash. Cephalon previously pointed out that the child was never hospitalized and didn't miss any school.

The FDA had been expected to act by Aug. 22, but its early decision convinced Baldino that the agency "had no intention" of going against the panel's decision. "There is nothing we can do to change their mind," he said.

Baldino said the agency had suggested that Cephalon conduct additional safety tests, including one involving 15,000 patients that would have taken several years. Even then, he added said, there was "no guarantee" of approval.

Cephalon had signed a deal with

Johnson & Johnson

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to market Sparlon, contingent upon the drug's approval. That agreement will expire, Baldino said.

Responding to analysts' questions, Baldino said he didn't think the ruling on Sparlon would affect the FDA's review of Nuvigil, an experimental sleep-disorders drug. A different FDA division is examining Nuvigil than the one that reviewed Sparlon, he said.

The FDA action date for Nuvigil has been pushed back to late December from late August. Dr. Paul Blake, Cephalon's executive vice president for worldwide medical and regulatory operations, said the FDA requested more data, which the company has sent. The request wasn't related to Stevens-Johnson.

Nuvigil is a chemical cousin of Provigil, the company's

best-selling drug that accounted for 40% of corporate revenue during the first half of 2006.

Provigil's key ingredient is modafinil, which, at a higher dose, is the active ingredient in Sparlon. "Obviously, the FDA was not convinced

about Sparlon and had concerns surrounding the modafinil molecule at higher doses given the targeted pediatric population," says Adam Greene of JP Morgan in a Thursday note to clients.

Neither Provigil nor Nuvigil is aimed at children and adolescents, although some doctors prescribe Provigil for ADHD. This "off-label" use is legal. Once the FDA approves a drug for one use, doctors can prescribe it for other diseases and conditions.

"The impact to Nuvigil and Provigil remains unclear," says Greene, who is neutral on Cephalon. "It is possible that Nuvigil receives a more restrictive label than Provigil." He doesn't own shares. His firm has had a recent investment banking relationship.

However, S.G. Cowen analyst Eric Schmidt tells clients there is "plenty to like at Cephalon without Sparlon." He's keeping his outperform rating due to "Provigil's blockbuster potential" and the expected sales of Nuvigil and several other products, such as the alcoholism treatment Vivitrol, marketed with


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, and the cancer-pain drug Fentora, which is under FDA review.