The Food and Drug Administration is expected to rule Wednesday on an experimental insomnia drug, heralding what analysts believe will be a major change in a market that could become very crowded with novel products in the next few years.

The drug in the spotlight is Estorra from

Sepracor

( SEPR), a next-generation medication that many on Wall Street say could provide stiff competition for

Sanofi-Aventis'

(SNY) - Get Report

Ambien, the market leader.

But Sepracor is just the tip of the sleep-drug iceberg. Several compounds, many of which are backed by Big Pharma giants, are in late-stage clinical testing. And they aren't simply 'me-too' drugs that differ only slightly from each other. Many experimental drugs have different mechanisms of action, making them intriguing topics for physicians and investors.

"We believe the insomnia market is likely to undergo significant changes in the next few years," said Lucy Lu, a biotechnology analyst for First Albany Capital, in a recent report to clients.

Like Ambien, all of these drugs have moved into late-stage clinical testing for their ability to aid sleep and, more importantly, to reduce side effects found in older drugs. These side effects range from dependence and memory impairment to grogginess and unpleasant withdrawal symptoms.

Despite the success of Ambien, which had worldwide sales of almost $1.7 billion in 2003, research firm Datamonitor says a "significant proportion" of the sleep-aid market is captured by older insomnia drugs, tranquilizers, antihistamines and over-the-counter medications. Many are now generic; some aren't approved for insomnia. U.S. law allows doctors to prescribe a drug for any use once the FDA approves it for a single condition or disease, so there is much "off-label" prescribing of certain drugs for insomnia, Datamonitor says.

That means there is still plenty of room for insomnia-drug sales growth. "Although the U.S. insomnia market is growing, there is a huge number of patients that either do not think their problem is serious enough to warrant a physician consultation, or who resort to using over-the-counter remedies instead," said Ben Greener, who follows the pharmaceutical industry for Datamonitor.

Ambien has charged into the market leadership position thanks to greater efficacy and fewer side effects. Analysts believe the new crop of medications could have the same market-share rattling effect on Ambien and on

King Pharmaceuticals'

( KG) Sonata, which places a distant second to Ambien. The upcoming marketing battle should be ferocious because the U.S. market accounts for more than 90% of Ambien and Sonata sales.

Pipeline Prospects

Greener said the best of the experimental insomnia drugs are Estorra and Indiplon, both of which "have demonstrated safety over significantly longer trial periods than Ambien." By his calculations, Estorra has about a 12-month lead in the U.S. regulatory race over Indiplon, developed by

Neurocrine Biosciences

(NBIX) - Get Report

. The small biotech company, which has filed its application with the FDA, has enlisted

Pfizer

(PFE) - Get Report

as its marketing and development partner. Sepracor is going it alone in marketing Estorra.

Other products in close pursuit and in late-stage clinical testing are TAK-375, from Japan's

Takeda

, and Gaboxadol, developed by Denmark's

H. Lundbeck

, which earlier this year signed a marketing and development agreement with

Merck

(MRK) - Get Report

. Greener said TAK-375 could reach the U.S. market in 2006; Gaboxadol could be available in 2008.

Analysts who follow Sepracor say the key is how broad a label the FDA will permit for Estorra. Labels are crucial to companies' marketing campaigns: The broader the label, the wider the sales pitch to doctors and consumers.

"We believe Estorra will have a best-in-class label relative to other currently available insomnia products such as Ambien," said Deborah A. Knobelman, of Piper Jaffray, in a Dec. 7 report to investors.

She is focusing on whether Estorra gets a warning label similar to that of Ambien regarding "next-day residual effects." The label tells users to refrain from engaging in "hazardous occupations" such as operating machinery or driving a vehicle. (Knobelman, who has an outperform rating on Sepracor, doesn't own shares; her firm has an investment banking relationship with Sepracor.)

Another Sepracor fan is Marc Goodman, of Morgan Stanley, who recently upgraded his rating to overweight from equal weight. Goodman also believes the residual sedation warning will be similar to Ambien's. "Ultimately, we believe that the label is important for the company to make marketing claims because we eventually expect a crowded U.S. sleep market," he said in a recent research report.

Rigorous Regulatory Review

Noting that investors may worry about the FDA becoming overly cautious due to the criticism it received for the Merck-Vioxx episode, Goodman said he was optimistic because Estorra "has already been under intense scrutiny" by the agency. "The efficacy data are very strong in our view," he said. "And we have not seen any safety concern signals" such as heart or liver problems. (He doesn't own shares; his firm has had an investment banking relationship.)

Estorra is a cousin of zopiclone, which is sold by Sanofi-Aventis in many countries but is not available in the U.S. Sepracor received conditional approval for Estorra from the FDA in February, but the FDA asked for additional information.

Lu of First Albany said she expects the FDA will approve Estorra for helping people get to sleep as well as helping to maintain their sleep. More importantly, Lu expects Estorra's label won't have the seven to 10 days' usage restriction, as is the case with Ambien. (There is nothing to prevent a doctor from prescribing it for a longer period of time.) Ambien "has never been tested in a large-scale, long-term, placebo-controlled study," Lu said. Older drugs haven't been subject to long-term studies either, she added.

"There is a significant need for drugs that address sleep maintenance difficulties and have been tested in long-term studies," Lu said.

She likes Indiplon, saying "it is considered by many to have a best-in-class profile." The immediate-release version is targeted for people who can't fall asleep or who wake up in the middle of the night. The modified-release version is aimed at people who have trouble staying asleep. Lu expects the FDA to grant approval during the second half of 2005.

Lu, who has a neutral rating on Neurocrine Biosciences, said Indiplon has "many advantages" over Ambien. She said Indiplon is more potent, acts faster and has less of a next-day hangover effect. (She doesn't own shares of the sleep-drug companies; her firm doesn't have an investment banking relationship, and it doesn't have a rating on Sepracor.)

She added that Ambien could face generic competition as early as October 2006. Meanwhile, she noted that Sanofi-Aventis is working on a different version called Ambien MR, which is aimed at sleep maintenance. She said this drug might reach the market by the second half of 2005.