Good day, ladies and gentlemen and welcome to the Pacira Pharmaceuticals, Incorporated Second Quarter 2016 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. As a reminder this conference maybe recorded.

I would now like to turn the conference over to our host of today's call Ms. Jessica Cho. You may begin..

Dave Stack, Chief Executive Officer and Chairman, will discuss the longer term strategy underway to capitalize on key trends influencing our business. Jim Scibetta, President, will then focus his remarks on the commercial trends seen in Q2 and current initiatives under way.

And finally, Charlie Reinhart, Chief Financial Officer, will provide an overview of our Q2 financial results and 2016 outlook before we open up the lines for questions. Also joining us on the call will be Jim Jones, Chief Medical Officer.

Before I turn the call over to the management team for their prepared remarks, I would like to remind you that certain remarks made by management during this call about the company's future expectations, plans, outlook and prospects and statements containing the word believes, anticipates, plans, expects and similar expressions constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

Any such forward-looking statements are based on assumptions that the company believes are reasonable and that are subject to a wide range of risks and uncertainties. Actual results may differ materially from those expressed or implied by such forward-looking statements.

Many of these and other risks and uncertainties are described in the Risk Factors section of the company's most recent Annual Report on Form 10-K for the fiscal year ended December 31, 2015 and in other filings with the SEC, which are available through the Investors & Media section of the Pacira website at www.pacira.com or on the SEC website at www.sec.gov.

During the course of this call, we will also refer to certain non-GAAP financial measures. Definitions of these non-GAAP financial measures and reconciliations of these non-GAAP financial measures to the most directly comparable GAAP financial measures are included in the earnings press release for the quarter.

And with that, we'll hear first from Dave..

Thanks, Jess, and good morning, everyone. With government and advocacy groups, healthcare providers and patients now actively taking up the mantle to curb the opioid epidemic, we believe providing a non-opioid alternative like EXPAREL for postsurgical pain control is more important than ever.

While Jim will elaborate on our recent public relations and advocacy efforts to help influence policy change and bridge the gaps in patient knowledge of available non-opioid solutions, I'll focus on the long-term initiatives that will drive future growth of EXPAREL and our pipeline.

First, at the hospital system level, we are working to complement the work being done with individual hospitals and physicians.

We've made significant progress on partnerships with those hospital systems that understand that opioid-sparing approaches are integral to their mandate as healthcare providers to improve patient care and to provide an alternative to opioid-based postsurgical pain management as a step in addressing the opioid epidemic facing our country.

Through these partnerships, we plan to establish centers of excellence for low or no opioid treatment strategies based on enhanced training, education, and clinical research experience to address the needs of our patients and the healthcare providers who care for them.

As an example, a large hospital group is interested in low or no opioid strategies to enhance patient care as well as to create a competitive advantage in their geographic areas based on the increasing patient awareness and to avoid the unnecessary use of opioids in postsurgical treatment settings.

We train hospital staff, surgeons and their nurses in the OR, PACU, and on the floor on the best practice use of EXPAREL as a non-opioid platform for multimodal pain strategy, typically starting with high-profile procedures such as total joints, gynecologic oncology, spine, colorectal, or C-sections.

Generally, this training will be guided by an enhanced recovery protocol for pain management and completion of training on these protocols provides access to EXPAREL.

In addition to training and education of – we work with the institution on communicating with patients through various media outlets advising patients on these centers having advanced pain management strategies built around low or no opioids to improve patient awareness and access.

In a moment, Jim will outline our national public relations campaign and you will understand how we are providing an opportunity for patients who are interested in low or no opioid surgery to connect with like-minded centers offering these services.

We continue to support expansion into soft tissue, particularly transversus abdominis plane infiltration procedures or TAP blocks.

With EXPAREL and through procedure specific enhanced recovery protocols and advanced training, TAP procedures are – I'm sorry – training, TAP procedures are routinely performed by anesthesiologists under ultrasound guidance either before or after the surgical procedure to provide several days of pain management for procedures below the umbilicus.

As a relatively new procedure, we are working with ultrasound device manufacturers as well as anesthesia societies and working groups to train physicians on best practice techniques for these TAP procedures.

We forecast continued growth in TAP procedures as we train additional medical professionals in a safe and effective procedure to provide low opioid pain control.

We have advanced our enhanced recovery protocol strategy at major influence centers and academic institutions in bariatrics, gynecologic oncology, thoracotomy, large abdominal surgeries, breast and abdominal wall reconstruction, colorectal, and C-section.

As detailed in our corporate presentation, we believe results from soft tissue enhanced recovery protocols with EXPAREL clearly demonstrate the potential to significantly reduce opioid consumption, decrease length of stay and ultimately make a difference in patient satisfaction as well as the hospital bottom line.

For example, at Cleveland Clinic, EXPAREL TAP was compared to an epidural catheter, with the EXPAREL arm showing reduced opioid consumption and length of stay, while eliminating the need for catheter-based pain management.

In a similar strategy, MD Anderson physicians used EXPAREL to replace thoracic epidural catheters to reduce opioids and decrease length of stay in thoracotomy patients.

Our strategy is to communicate these opportunities to reduce opioids and improve care by sharing these enhanced recovery protocols with healthcare providers and other institutions and throughout these hospital systems to provide guidance for how local physicians can benefit from the work of these major academic centers.

For example, on July 13, we provided an unrestricted educational grant to support a webinar titled Postsurgical Pain Management Techniques for Enhanced Recovery hosted by the Foundation for Women's Cancer, which highlighted the importance of pain management as part of an enhanced recovery strategy at Mayo Clinic with Dr.

Sean Dowdy and at MD Anderson with Dr. Pedro Ramirez. The presentation from Dr. Dowdy on EXPAREL in ovarian cancer demonstrated a reduction in the length of stay and the need for patient-controlled analgesia or PCA with a 90% reduction in the opioid requirement and over 90% patient satisfaction.

With nearly 200 participants in the live webinar presentation alone, you can see how we can rapidly spread these protocols required to achieve the results outlined by Dr. Dowdy.

We also plan to initiate clinical trials in soft tissue in 2017 to maximize the opportunity with TAP blocks as well as enhanced recovery initiatives in GYN, oncology, C-section and mastectomy with reconstruction.

In orthopedics or hard tissue, we also moved our clinical programs forward to bolster the ortho segment of our business, which has met with some resistance, specifically in knees, as a result of the residual overhang from the prior FDA Warning Letter; leading to restricted access to EXPAREL or our ability to train on the best practice techniques for hips and knees; two technique-sensitive procedures for the use of EXPAREL.

When our surgeons were blocked from utilizing EXPAREL based on the Warning Letter, many reverted to the use of multi-drug cocktails which they used prior to the availability of EXPAREL.

Our data suggests that in order for these short-acting cocktails to be effective, patients must be exposed to large doses of opioid to control pain 12 hours to 14 hours post surgery.

To quantify the efficacy and safety of EXPAREL versus cocktail preparations, we are enrolling in a randomized controlled clinical trial utilizing a strategy of multimodal postsurgical analgesia and randomizing EXPAREL and bupivacaine to measure 72-hour pain control and the need for opioid analgesics.

We expect the results from this trial by the end of 2016. We are also in the final planning for a randomized controlled trial in Level 1 and Level 2 spine surgery and expect that if all goes as planned, we will have data from this spine surgery trial in the second half of 2017.

Another important driver of our ortho growth for EXPAREL will be the nerve block indication, which will provide a more straightforward administration technique, require minimal training and appeal to anesthesiologists, enhancing and opening up additional ortho procedures such as ACL repair, rotator cuff repair, wrist and hand surgery, foot and ankle surgery and shoulder arthroplasty to EXPAREL-based treatments for postsurgical pain.

Our Phase 3 studies are enrolling in lower extremity femoral nerve block and upper extremity brachial plexus nerve blocks and we expect top line results early next year.

Note that we are rolling out these orthopedic programs alongside the CMS bundled program for joint procedures, CJR or Comprehensive Care for Joint Replacement, which began in Q2 2016 with direct impact on hospital payment beginning in Q2 2017.

Based on the data from hospitals who participated in CJR's predecessor BPCI or Bundled Payment For Care Improvement, including NYU, Hackensack University Medical Center and St.

Luke's Medical Center, we have several clinical data sets where incorporating EXPAREL into care pathways significantly improves both patient time to mobilization, discharge to home and hospital economic outcomes based on all of the benefits of reduced opioids on time to mobilization, diminished opioid, adverse events, et cetera.

We look forward to working with our customers to help them best navigate this new evolving environment. We also remain focused on expanding EXPAREL's geographic reach through business development efforts. Discussions with potential rest of world partners for EXPAREL are going well and we can expect to secure regional territory partners this year.

We are looking forward to conducting the preclinical work in support of EXPAREL expansion into chronic pain and pediatric indications and supporting our animal health partner, Aratana, launch NOCITA later this year, assuming a Animal Drug User Fee Act approval date of August 28, 2016.

Moving on from EXPAREL, we're pleased to announce that for DepoTranexamic Acid, the IND is accepted and we expect to begin Phase 2 by the end of 2016. For DepoMeloxicam, we submitted the FDA briefing package in Q2 and we expect to be in Phase 1 clinical development by the end of 2016 as well.

We believe EXPAREL and eventually DepoTranexamic Acid and DepoMeloxicam uniquely position us to cement our stronghold in the hospital and ambulatory surgery space, allowing us to utilize our specialized expertise and surgeon and anesthesiologist and KOL relationships for possible business development opportunities through product acquisitions or partnerships.

As we continue to evaluate the multitude of potential prospects, we are convinced that we will be able to choose the right fit for our product portfolio.

In conclusion, let me remind you that we are pushing all of these long-term growth drivers forward for EXPAREL, our pipeline and other business development opportunities as we see external tailwinds from CMS bundles in hips and knees and the need to provide alternatives to opioids for postsurgical pain.

Patients and our customers increasingly understand that opioids are not the future and that hospitals are looking for solutions to the problem, or as one hospital system's C-suite executive recently put it, to ensure that no one would die from opioid abuse again.

You heard us talk about CMS and CJR, but there are also mounting pressure to allow procedures to move to the outpatient setting, evident most recently in the calls to remove total knee arthroplasties from the CMS inpatient-only list; a transition to outpatient joint surgery where we know an EXPAREL non-opioid platform provides the basis of success for outpatient surgeries based on data from SwiftPath and several other ambulatory care centers.

And lastly and importantly, as demonstrated again this week in the data released by Heron, we are increasingly confident in our assessment that there are no other clinically or commercially useful long-acting competitors currently in development or on the market compared to EXPAREL.

With some of the additional benefits that we expect over the next three years that Jim and Charlie will outline next, starting from our strengthened intellectual property to high-peak gross margins, we believe we are in an enviable position of being able to build a foundation for durable growth the right way for a blockbuster opportunity.

With that, I'll turn it over to Jim..

Okay. Thanks, Dave, and good morning, everyone. For EXPAREL, our Q2 results reflect a solid foundation for reacceleration of growth going forward. Revenue for the quarter reflects year-over-year box growth of 16%. When adjusted for Q1 2015 buy-in, we've discussed on previous calls, adjusted year-over-year box growth was 12%.

Our growth came from both existing accounts and new accounts. We grew in all categories of accounts from our top 20% of accounts, which are large and mature, to our bottom 20% of newer accounts. We added 117 new accounts in the quarter. The favorable FDA resolution last December put us in a great position to make EXPAREL a major brand.

Ironically, seeing the unequivocally broad indication of EXPAREL, some hospital pharmacies also saw EXPAREL as a rising budget bugaboo and so that they came even more aggressive in trying to limit growth. Just as in 2015, we can see that those efforts, to limit EXPAREL use, played out most significantly in Q1 and, to a lesser extent, in Q2.

In fact, we've seen a rising number of intended formulary restriction efforts pushed back and we are gratified by the continued surgeon advocacy for EXPAREL. As Dave discussed, we also started to see the post-resolution benefits playing out in increased formulary wins, particularly in anesthesia-driven TAP procedures.

We believe, for the most part, the contribution from these first half TAP wins will be realized in Q3 and Q4 of 2016 and beyond. We're excited by the TAP business not only because of the immense opportunity with anesthesiologists but also because of the size of the overall soft tissue opportunity.

Recall, there are approximately 28 million soft tissue procedures performed annually in the U.S., double the number of ortho procedures. And based on the available data, we believe our soft tissue market share is only a third of the size of our ortho market share.

So, if we were to increase our soft tissue market share, only to where we are currently in ortho, we would add over $500 million of new revenue annually. This is an exciting growth area for us in 2016 and beyond. Ortho is more complicated but still very much a story about opportunity.

Dave described that we saw additional headwinds in our hip and knee business from competition in the form of drug cocktails. At the same time, we started to see an uptick in formulary wins in total joints in Q2. We're working hard to preserve and grow this business.

As it pertains to the second half of 2016, much of the customer decisions around EXPAREL use in hips and knees are already in place by now, so we expect to see solid results from these important ortho uses for the rest of the year.

And then in 2017, we anticipate two significant catalysts in ortho; first, the EXPAREL comparative total knee study; and second, in Q2 of 2017, as Dave mentioned, hospitals will start these subject of bundled payment penalties, if they don't effectively manage the full episode of care for their total joint Medicare patients.

We often speak of ortho as if it's a single market for EXPAREL, but we should really separate hips and knees from spine, shoulder, foot and ankle and other opportunities. In Q2, we experienced formulary wins in the new large markets of spine and shoulders. The drug cocktails were not present in these markets.

Another potential contributor to growth acceleration is the initiative the organization has been driving with the FDA resolution, the catalyst for new events and programs.

Just to highlight a few, we're executing on programs to reduce opioids that incorporate the principles of enhanced recovery and then incorporates the use of TAP as a means to administer EXPAREL. Collectively, these initiatives will reach over 1,000 healthcare providers in 2016.

We recently began a national print ad campaign called Clarity, designed to further reach HCPs and hit them over the head with the most essential facts about EXPAREL, post-FDA resolution, including the reaffirmed broad indication, long-lasting pain control, reduced reliance on opioids, and increased opioid-free patients and the ability to add mix with bupivacaine.

We designed and began to roll out a hospital system partnership strategy, which Dave highlighted at the beginning of his remarks. EXPAREL was removed from the Do Not Promote List in the VA system and our commercial teams are now beginning to have discussions with individual VA hospitals.

And on the organizational front, we hired our Chief Commercial Officer, Bob Weiland; increased the sales force to close to 120, including sales management and bolstered our personnel and other important areas including national accounts, pharmacy, health economics, and training.

We continue our preparation for the EXPAREL launch in oral surgery in late September at the annual meeting of the American Association of Oral and Maxillofacial Surgeons known as AAOMS.

In support of the launch, we are doing work to target the subset of 7,000 oral surgeons with the greatest surgical volume where opportunity to treat pain with a non-opioid option best resonates.

In addition, we're working with a number of surgeons on what is essentially a samples program now, so they can gain experience using EXPAREL, so we expect to have a critical mass of enthusiastic users at the AAOMS launch meeting.

We're also working with surgeons on infiltration best practices to provide guidance to surgeons on where to place, how much of the drug, in targeted procedures.

As Dave noted, on Monday, we announced the commencement of a national patient education campaign branded as Choices Matter, which is designed to foster patient-surgeon dialogue prior to a surgical event about the non-opioid options patients have to treat their pain following surgery.

The catalyst for the launch of Choices Matter education campaign is a new study that finds the use of opioids to treat pain after surgery represents a nemesis to American society leading to addiction at alarming rates.

We've spoken at research indicating that one in 15 opioid-naïve patients become addicted from their exposure to opioids during surgery. While that stat is awful in its right, in this survey, the addiction rate was even more damaging, as one in 10 patients reported that they became addicted.

And while the vast majority of patients are concerned about opioids' side effects and addiction and would prefer non-opioid pain option; less than a quarter of patients say they discussed non-opioid options with their clinicians prior to surgery.

And over 90% of clinicians indicated they frequently feel pressured to prescribe more opioids than their patients actually need. This initiative is conducted in partnership with the American Society of Enhanced Recovery or ASER, a non-profit focusing on enhanced recovery of patients in the perioperative environment.

Leading the communication on this campaign is former volleyball star Gabby Reece, whose recent knee replacement occurred without education on non-opioid options and so this issue became personal to her.

In this campaign, patients are encouraged to go to a website PlanAgainstPain.com, to customize their postsurgical pain management plan and to become more demanding in initiating a surgeon-patient discussion.

We're currently exploring additional forms of direct-to-consumer education and patient activation and are confident in – our efforts will further our mission of making a non-opioid option available to as many patients as possible. Turning to manufacturing operation, we have three quick highlights.

Number one, we continue to make progress on our capacity expansion activities with Patheon and remain on target for a mid-2017 approval of the first manufacturing line there. These initiatives will provide additional capacity to meet EXPAREL global demand and provide flexibility on commercial manufacturing for our pipeline products.

And of course, they continue to steer toward achievement of peak gross margins in a few years. Number two, with plenty of inventory on hand to meet market demand currently, we took some time in Q2 to better automate one of the components of our manufacturing process.

This was accomplished by curtailing manufacturing activities for a short period of time, which resulted in some cost being allocated to cost of goods during the quarter rather than to inventory. Charlie will expand up on this shortly.

And three, we're currently working, actively working on the detailed design of the commercial spray system with a capacity to produce 600 liters of EXPAREL per batch. We anticipate selecting the equipment vendor and starting the construction phase for the equipment by the end of Q4. So we are on target for a late 2019 approval if all goes as planned.

As an important reminder, EXPAREL is bupivacaine encapsulated in DepoFoam, our proprietary multivesicular liposome technology.

There is and has never been another company that can make multivesicular liposomes and we remain very confident that no company will pose a threat in the form of generic EXPAREL for the foreseeable future and possibly forever.

And further, we expect to have the ability to transition EXPAREL to the spray manufacturing process in 2019 or 2020 to further improve margins. And we expect that new proprietary process to be supported by patents through 2031.

So putting this all together, it's interesting to revisit the trajectory of hospital-based products compared to other branded pharmaceutical products. And remember that generally speaking, hospital products either fail at launch or, if they are successful, grow steadily and, if protected, for a long time.

Our explosive 2014 growth trajectory was actually an anomaly for this sector. In our first 2017 quarters since launch, many of which were burdened by the Warning Letter, EXPAREL has generated cumulative sales of approximately $650 million. Only CUBICIN, now part of Merck, equal this trajectory.

And that product kept grown gradually and reached over $1.1 billion in 2015. And also, it's important to remember that our market data indicates a market share of roughly 5% to 6% in ortho and 2% in soft tissue. Our overall market share is in the 3% range. So we look forward to the impact of the many growth catalysts, Dave and I discussed.

Our CFO, Charlie Reinhart, will now provide an overview of our financial result and outlook.

Charlie?.

Thank you, Jim, and good morning, everyone. I'm happy to be joining you today on my first Pacira earnings call. I look forward to filling the significant shoes that Jim has left for me now that he is focusing his considerable talents on the role of President here at Pacira. Today, we reported our second quarter 2016 financial results.

We reported total revenue of $69.6 million, an 18% increase over the $59.1 million reported for the second quarter of 2015. During the second quarter of 2016, EXPAREL continued its double-digit year-over-year growth trend, recording EXPAREL net product sales of $65.8 million, a 15% increase over the same period last year.

Total operating expenses were $76.1 million for the quarter, comprised of $23.1 million in cost of goods sold, $9.4 million in R&D expense and $43.7 million in SG&A expense.

Adjusted for items identified in the tables, included in the earnings press release issued this morning, total non-GAAP operating expenses were $61.2 million, including $21.4 million in cost of goods sold, $8.3 million in R&D cost and $31.4 million in SG&A costs.

As Jim mentioned earlier, we implemented certain improvements to our EXPAREL manufacturing process during the quarter, which required us to curtail our manufacturing activities for a short time.

Since no finished goods were produced during this downtime, the costs incurred at our San Diego manufacturing plant were recorded as additional cost of goods sold during the quarter. This accounted for $4.9 million of the second quarter's total cost of goods sold.

These additional period costs impacted both GAAP and non-GAAP costs of goods sold, resulting in a Q2 2016 GAAP gross margin percentage of approximately 66% and a non-GAAP gross margin percentage of approximately 69%. These figures compare to approximately 68% for GAAP and 71% for the non-GAAP gross margin percentages for the same period in 2015.

As Jim also mentioned, we continue to invest heavily in our manufacturing processes and capacity. While we expect it to take us several more years, we continue to anticipate EXPAREL non-GAAP gross margin percentages to reach a peak of approximately 85%.

Q2 2016 non-GAAP research and development expenditures of $8.3 million were significantly higher than non-GAAP R&D costs in the second quarter of 2015, primarily resulting from our clinical investment in the TKA infiltration study, two nerve block studies for EXPAREL, and costs to progress our DepoFoam pipeline drug candidates into human clinical studies.

As anticipated in our R&D expense guidance, we expect total R&D cost to continue to rise during the remainder of 2016 as these important clinical trials progress. Our GAAP net loss for the three months ended June 30, 2016 was $8 million, resulting in basic and diluted net loss per share of $0.21.

The second quarter of 2015 was a break-even quarter from a GAAP perspective. From a non-GAAP perspective, net income for the second quarter of 2016 was $7.9 million or $0.19 per diluted share, compared to net income of $8.4 million or $0.20 per diluted share for the second quarter of 2015.

And finally, we finished Q2 with cash and investments of $162.7 million. As we look ahead to the rest of 2016, the management believes it is an appropriate time to reinstitute EXPAREL revenue guidance. We now project that EXPAREL net product sales for the full year of 2016 will range between $270 million and $280 million.

This range factors in the reacceleration of revenue growth we expect some time in the second half of this year, as a consequence of our ongoing commercial activities, including the oral surgery launch in Q3, and external market tailwinds. We are now issuing non-GAAP gross margin percentage guidance.

We forecast full-year non-GAAP gross margins to range between 70% and 73% for 2016. As I mentioned earlier, we continue to expect it to take several more years before we achieve our forecast non-GAAP peak gross margins. We are also affirming the non-GAAP 2016 guidance that we have previously provided for our R&D and SG&A expenses.

On a non-GAAP basis, we expect R&D expense of between $60 million and $70 million and SG&A expense of between $125 million and $135 million for 2016. Finally, based on actual 2016 stock grants, we now revise our estimate for full-year stock-based compensation expense to between $30 million and $35 million. That concludes our opening remarks.

We will now open this call to you and your questions..

And our first question comes from Douglas Tsao of Barclays. Your line is open, Douglas..

Hi. Good morning. Thanks for taking the questions. Just maybe Jim or Charlie or Dave, just maybe walk us through a little bit about the second half pickup that you're expecting to see.

I mean, from your comments, is this largely going to come from TAP or how do you expect to see sort of the growth in ortho in the second half of the year? And then how much of – is it just normal seasonality that we should expect in the fourth quarter? Just trying to understand sort of your visibility and the pickup..

Good morning, Doug. Thanks. This is Dave. You're right. I mean, a part of the pickup is purely the fact that Q4 is a big seasonal quarter for us just based on elective procedures driven by insurance, et cetera, which we've discussed many times in the past.

We do, Doug, also see an increased awareness of opioids and we're hearing more and more about physicians telling us that their patients are coming in and talking about not wanting opioids for their surgical procedures.

And so, one of the reasons that we are experiencing increased utility in TAP is because the physicians are increasingly, aggressively frankly, signing up for the teaching program so that they can learn how to provide these low or no opioid treatment regimens.

And for the first time since we've launched EXPAREL that is being fostered by patients asking for the drug, as well as clinicians being interested.

So when you roll all that together and you look at more patients coming in, you do gain some confidence and you see that it feels different than it did in the first half of the year, which is what Jim was trying to outline in his remarks..

And then as a follow-up, you referenced sort of talks and progress in terms of negotiating partnerships with some hospital systems in terms of opioid reduction. Are those with new accounts or is that simply a function of sort of solidifying and expanding the relationship with already existing customers of Pacira's? Thank you..

Yeah. Thanks, Doug. It's really a mixed bag. I mean, I'll give you a pro forma, for instance. If you were talking to a hospital that had, say – or a chain or a hospital group that had 100 hospitals, typically, there would be four or five strong users of EXPAREL, at a minimum, inside that institution, which in many cases is the nidus for the discussions.

The reason that we're so interested in these discussions and in working with these folks in enhanced training and education is that we want to take the best practices of those five or six hospitals and their understanding of how a low-opioid treatment strategy benefits patients and the hospital bottom line and extend that to all 100 hospitals.

And, so, while it is a very significant undertaking in terms of training and education, we're doing things like we've had some of these centers say, can we have an opioid meeting where we bring all of these experts with their ERAS protocols and talk to our system groups about how we work with EXPAREL in joints and then how do we work with EXPAREL in GYN surgery.

So there is a formal process then for how EXPAREL would be utilized through the system to improve patient care benefiting greatly from the advances that some of their hospitals have already made..

Yeah, the only thing I'd add to that is most of our business has been generated locally bottoms up and we continue to have a significant amount of effort of our sales force working with surgeons and the local folks to work with EXPAREL and do the right thing for patients.

This is now giving us the opportunity to work with the C-suite from the top down and do it from a position of – we have a collaborative effort with you to be a leader in opioid minimization, which is sort of different than the dynamic we've had in the past.

So it's another way for us to continue to either get new accounts or grow significantly within existing accounts..

Great. Thank you very much..

Thanks, Doug..

And our next question comes from David Amsellem of Piper Jaffray. Your line is open..

Thanks. So a couple of questions. So, in terms of the growth trajectory of EXPAREL, I was wondering if you can talk about how you're thinking about providing discounts to certain customers as a way to boost volume growth and expand the footprint and is that something that you're contemplating.

And I joined late, so I apologize, if I missed any color on that.

And then secondly, with the launch in oral surgery and bearing in mind that this is more of a cash-pay market, do you feel like you are where you need be in terms of your sales and marketing resources? And do you feel like this is – that the product is going to behave more like a consumer product where you actually may need to put more sales and marketing muscle behind it? Maybe give us some color on how you're thinking about that.

Thanks..

Good. Thanks. Thanks, David. I'll take one and ask Jim to give first comments on two. Our gross to net remains very high, David. And so, we have not done a lot of discounting and I'll go back to what Jim said that previously most of our sales were bottom up.

As we have these discussions with folks and we can interact with C-suites on a grander scale, while we haven't done any of this yet, we do expect that we will provide some economic incentives in order to make EXPAREL more widely available to patients.

I mean, I say that in the context that our corporate mission is to make a non-opioid alternative available to as many patients as possible.

And we understand that if you start using this drug as a standard of care in all your joints – all your OB/G procedures, all your C-sections, all your mastectomies, et cetera, which is what the ERAS programs at major medical centers is calling for, that there will be an obligation for us to partner with those folks.

It's not just price discounts, though, David, I would have to say.

I mean, I have just as many discussions with CEOs when they talk about things like if the drug is used inappropriately, the one that's in the back of my mind always is a surgeon in a major center that started using the drug in a hair transplant and the CEO is having a heart attack, properly, right.

What would we do about that? Those are the kinds of discussions I have.

And just recently, I had a couple where they're CEOs of hospitals or hospital networks and they're looking to bid or in self-insurance situations, for example, and in those scenarios, our willingness to guarantee that we will not have a price increase is just as important as a price discount to those folks so that they can bid against the background of non-costs.

So it's not always the price discount. There is a number of ways that these partnerships evolve and what's meaningful to the CEO. It could be – we've got another case frankly where they want us to provide educational services for their hospitals.

And in their mind, that is a form of a discount because that's a service that's being provided but it doesn't impact the WACC cost of the drug. So there's a number of things that we do with these guys along the lines of a partnership that is actually just as meaningful as a price decrease but it is not exactly the way you asked the question..

Yeah. I mean, the only thing I'll just add to that quickly is it could be a strategic lever to grow as Dave alluded to. But our gross to net has been about 5%; 2% of that is a prompt pay discount. So we're not – we don't have any expectations that you will see that materially change in any time soon.

So on the oral surgery front, we have talked about the fact that we've expanded our sales force, as I mentioned in my remarks, up to around 120. The current sales force and Dave's 40 years of experience feels very strongly that you don't develop a separate sales force to talk to the oral surgery market.

So our sales force will be working with the hospital community in the morning, during surgeries and so forth and then, calling in the afternoon, on the oral surgery market. It will be much more of call plan driven exercise than we have currently with managing the complex environment of a hospital.

So with oral surgery, we have a call center that is proactively working right now to figure out, out of those 7,000 oral surgeons who are the biggest users – or who have the most surgical procedures and also talking to them about non-opioid strategies and getting a sense of who would be the most interested in using EXPAREL.

And so our sales force will be handed a very specific call plan that they can use in concert with the rest of their activities. And of course, the access there is completely different.

It's much easier and they'll also be educated on how to talk to those oral surgeons about talking to their patients about the EXPAREL and what it can do for them because sometimes it'll be passed on – the cost will be directly to the patient..

Okay. Thank you..

And our next question comes from Irina Koffler of Mizuho. Your line is open..

Hi. Thanks for taking the questions. Wanted to ask about the R&D guidance. You're guiding to $60 million to $70 million for the year, but you've spent around $17 million in the first half. So I'm just wondering what it is that you're going to invest in that's going to take us to that range? That's my first question..

Sure, Irina. This is Charlie Reinhart and thanks for the question. So, obviously, you can't look at the first half as representative of the second half. A significant percent of total R&D is the investment in the three major clinical trials that are ongoing, the TKA study and the two nerve block studies.

And they are actively enrolling and we expect to spend in the order $10 million to $15 million for each one of those three studies between now and the end of the year..

Okay. Got it.

And then can you comment on business development, any latest thinking in the current environment as the market seems to be picking back up?.

Sure. I would say, I've been here a year now. My team....

This is Scott Braunstein, just in case....

You made me sit up in my chair, so thanks for the question. I've been here a year now and my team's been working pretty diligently. The executive team and my team has been able to review several opportunities in the marketplace.

I think we are really excited about what we are looking at today, how we think we have some great opportunities to really intertwine with our business in a way that is synergistic. And certainly, the pressure on the public markets and the financing markets has and will continue to create opportunities for us.

So we are still very active and we think there are going to be some great opportunities for us over the next several quarters..

Okay. Thank you..

And our next question comes from Donald Ellis of JMP Securities. Your line is open, Donald..

Thank you, and good morning, everyone. Most of my questions have been asked and answered, but a couple remaining.

Could you tell us, in the second quarter, what percent of EXPAREL's sales were in ortho versus soft tissue? And then, confirm that you had no price increase in 2016 for EXPAREL? And then lastly, maybe give us a little more color on the data presentations that you're planning on bundled payments in the rest of the year. Thanks..

So our mix of business – I think the last time that we had a chart around that, it was close to 60% ortho and the data source for that, as the worlds converts from ICD-9 to ICD-10 codes is putting us a little bit behind the ball.

Remember, we don't have the ability to – we ship boxes to hospitals, but we don't have first-hand data of how the product is used. We would suspect that because the soft tissue is growing more rapidly in a large market than ortho right now, that that mix will start to be more 50-50-ish as we move forward.

But I would suspect that we're still between 50% and 60% ortho today and the soft tissue is in the 40% to 45% range..

So, on the price increase, Don, it's a very complex market. Our customers are struggling in many cases because of some of the impacts of the Affordable Care Act, et cetera. It's a very dynamic environment. We've already got the 10 mL vial coming and 4 packs coming.

And so, given, again, the corporate mission of providing a non-opioid alternative to as many patients as possible, we thought that guided by our discussions with CEOs around what their needs were, that a price increase this year was just not the right strategic activity. And so we are standing behind no price increase in 2016.

That is – we've not even consider changing our mind, if that was the nature of the question..

Great.

And then the bundled payment presentations planned for the rest of the year?.

We've got a bunch of webinars planned. We've got a simulcast planned. We've got a – there's actually several sets of presenters that come from slightly different points of view. I would tell you that it is a big gratifying for us that in the last webinar that we had that was run by Labrador Consulting, which is a group out of NYU.

There were over 200 participants in that webinar and more than half of them were not physicians. So I do think that the bundled payment world has, especially now, after some additional indications or procedures have been added in the last week or so, these were primarily administrators and line item folks from the different hospital groups.

And so, I think we are taking a lead role in educating folks on how to do that. And just reminding you very quickly that the biggest issue with the payment structure that drove the bundles – that drove CMS to pick these procedures as bundled was the sending of joint patients on to a extended care facility, whether it was a rehab hospital or not.

And so, in that light then mobilization and discharge to home become the critical elements of how you can thrive inside a bundled environment. And that is the focus of our activities is how do you reduce AEs and get these patients up on the day of surgery, so you can get in a couple of solid PTs and discharge them to home.

And we think EXPAREL is really the only way you can do that without opioids..

Thank you very much. That's helpful..

Thanks, Don..

And our next question comes from David Steinberg of Jefferies. Your line is open..

Okay. Thanks and good morning. A couple of questions. First, you just discussed BD a little bit, just curious whether you're looking at products or companies. What are you seeing in terms of pricing? Obviously, there's a big dislocation in valuations earlier this year.

Are the sellers more rational in terms of price? Do they still think that last summer's all-time stock price was the starting point? And is there a difference in levels of valuation in general between the public and the private entities? And then I think at last check you had not come up with the pricing for the new 10 mL units and is that available at this point? Thanks..

Thanks, David. I'll start on the business development front. On the private side, I think we talk to a lot of companies who have had some struggles in getting financing in the private market. And so that's created greater discussion and potentially greater opportunity.

On the public side, I think there are a lot of companies who may have also not been so interested in speaking to us when their valuations were a bit richer, they saw the public markets as an easy way to finance. And those discussions have been a lot more productive as well. In general, I'm pleasantly surprised how many folks are calling us.

Most companies see us as a leader; one of the leaders in the hospital space, a leader in the pain space, a leader in the drug delivery space. And so, our team is still seeing somewhere between 5 and 10 new companies a month, keeping us very busy.

And I think managements are a lot more rational about where the market is today than when I started a year ago in where they view their valuations. Yeah..

Yeah. And then on the 10 mL front, no, we haven't actually fully arrived at a price. We've talked in the past about the fact that it won't be half of the 20 mL, it'll be something north of that. We're doing some market research now.

We're looking at not only the oral surgery market, but down the road to the nerve block opportunity, the potential for 10 mL to be a significant contributor there. But obviously, we will have an answer between now and September as we move towards the oral surgery launch..

Thanks. And then just quickly on gross margin improvement, you gave some guidance today. And the margins have been improving, but clearly slowing in terms of the improvement.

Do you still think you can get your batch production peak margins up to the 85% level? And then, just remind us the spray technology, you're still thinking about it coming on line sort of in the 2019 timeframe?.

Yeah. Thanks, David. So, this is Jim. So the improvement of our margins will happen when we're moving some or some significant amount of our production over to the Patheon facility that we're putting in place today. So there's no technological breakthrough or operational improvements required to do that.

It's just a matter of fact of once we have our production substantially over there. And then, we had talked about why in this year now that we've moderated our production because we've built inventory, why that would affect the gross margins. And the facility in San Diego, our gross margins there would be probably around 80%.

We reached 77% in a quarter last year on a non-GAAP basis when we were manufacturing closer to capacity. So, again, the dynamics over there are significant fixed costs.

We think we're running pretty efficiently and we can get to roughly 80% gross margins, if we're at full capacity, but we're not manufacturing at full capacity today just because we have the inventory in place. And then margins will improve as we get Patheon onboard and put some manufacturing over there..

And just the spray technology – the timing is still pretty much as it has been?.

I actually mentioned this in my formal remarks, but we're building the commercial system, ordering that equipment this year and we're on schedule for a late 2019, if all goes as planned, approval for that..

Okay. Many thanks..

Thank you..

And our next question comes from Tazeen Ahmad of Bank of America..

Hi. Good morning. Thanks for taking my questions.

Maybe, Dave, based on some of your opening remarks, can you just give us a sense based on your discussions with hospitals on what types of surgeries you think that you have the highest potential for penetration into? I mean, historically, we've heard a lot about general surgery, orthopedic, cosmetic, but I think today you mentioned GYN.

Is that an area of focus for you in the near-term?.

Yes. Good morning, Tazeen. There's a lot of – well, there's a couple of things that are driving our processes as we understand how the hospitals view the opioid epidemic. The answer to your question is, yes, it is evolving.

It's evolving in some cases because of work that's been done in these major academic centers and where we see high doses of opioid causing real issues in patient care. And I'll just focus for a second, given the nature of your question, on GYN oncology.

So the issue that the clinicians face is that if you are forced to down-regulate the immune system with large doses of opioids, then they have a problem in instituting a oncology therapeutic regimen because of the down regulation of the immune system.

And so that's why the medical community in many ways is focused on, can I find a way to keep the immune system intact for these gals so that I can immediately start my oncology therapeutic post surgery.

And, if you focus then on Mayo, their initial work was in mastectomy where they found that you could significantly reduce the amount of opioid that was required and reduce both opioid requirement and length of stay. And then, the Sean Dowdy discussion that we talked about earlier is sort of bringing a progressive approach.

First, they were able to significantly reduce opioids in ovarian cancer but their focus then became how do we get patients off of the PCA machines and the self-administration of opioids.

And, in their last publication, they were able to show that they reduced the use of PCA machines from something in the 30% range to 4%, so that these patients now are being managed in a way that doesn't require opioids and he has now reduced his opioid load by over 90%. The trial that Dr.

Ramirez is instituting at MD Anderson, the primary endpoint of that trial is actually opioid-free. And so we're not talking about opioid reductions anymore, we're talking about exploring the opportunity to treat patients with no opioids in certain situations where we believe opioids are most detrimental.

So that's the way we're sort of following the market, if you will, and going where the clinicians are telling us opioids are most problematic. And so that is a bit of a change. In joints, it was really driven by economics.

As you get into mastectomy and abdominal wall and breast reconstruction and ovarian cancer, it's really driven by patient care, which is why the ERAS (52:46) are moving quickly in that direction. Same for colorectal, by the way. Right.

If you take out a piece of somebody's bowel, the last thing you want to tell that patient is you use the drug for pain control that causes nausea, vomiting, urinary retention, and constipation., right? That doesn't make a heck of a lot of sense..

And, let me just add, Tazeen, that the only surgical procedures where we think we have a market share of over 5% are knees, hips and hernia. And if you think about where we'll be a couple of years down the road, even with knees, we're talking about total knees are like, we think, 90% of our knee business, so ACL repairs are not a part (53:27) of it.

Spine is the big opportunity right in front of us. Shoulders, we're starting to make some progress on infiltration. But obviously, nerve block, that's a big opportunity with both total shoulders and rotator cuffs.

And then on soft tissue side, in addition to what Dave said, remember that when anesthesiologists do TAP procedures, basically all of the ectomies, abdominal, colorectal ectomies of cholecystectomy and colectomy and hysterectomy and so forth, can be done by a single anesthesiologist for a bunch of different surgeons who are doing those procedures.

So that's – hopefully down the road, we'll have more information by surgical model, but at this point, we're developing those markets..

Great. Thanks for the color.

And does that mean that you're going to have to address the physicians directly or are there point people in the hospital that your sales force would be speaking to? And I guess in line with that question, depending on how your ramp up goes in these newer areas of focus, would you need to consider potentially increasing the size of your sales force?.

Yeah. I mean, for the sales force question, I'll go last first. I mean, we do an annual review of resources and where we are.

I think it's pretty clear that our business is changing slightly, Tazeen, for a number of different reasons, right? When you get into oral surgery and nerve block and peds and some of the things that we see coming, we don't have that huge requirement to be in the OR with technical training on exactly where to put EXPAREL, right? I think we've said this before, but there is no expectation that an anesthesiologist is going to ask anybody from Pacira how to do a nerve block under ultrasound guidance.

I mean, that's their bread and butter, right? So we don't – a lot of our obligations are modified. And so, we can think differently about how we interact with our physicians.

I mean, I would add to that that it is one of the reasons that we're working aggressively at the system level because when you have great data in a place like MD Anderson or Mayo or Cleveland, it is a common expectation that these protocols and these ERAS programs will spread inside those institutions.

And in fact, Jim referenced, the ASER meeting, there was a presentation at ASER on ERAS protocol involving EXPAREL. And when I talked to the person who gave that presentation a couple of days later, he had over 50 requests for his ERAS protocol.

And so, you can start to see how the field force then doesn't have to be hands-on involved in finding a way to these people. The people are actually coming to our KOLs, wondering how to institute the protocol. And then our sales force can be involved in making sure that they have best practice training.

They can call in our MSLs or call in our clinical group, et cetera, in order to make sure that they're using the drug most effectively..

And just one other comment. Just generally speaking, anesthesiologists doing TAPs that's sort of a consolidated set of surgeries, as I mentioned. And if you think about the future, surgeons took business away from anesthesiologists when we went down the infiltration path, which anesthesiologists did not like.

When it goes back the other way with either TAPs or soft tissue or nerve block or hard tissue, surgeons will be happy with that. They don't lose any economics, they gain time, they're happy to end that over. So that's another dynamic in our future that we're excited about..

Okay. Thanks for that color. That was helpful. And then maybe one last question and I'm sorry if I missed this earlier.

But, for your total knee and spine surgeries, do you have a time line for when could see data for that?.

So we've guided that we would have the knee data by the end of this year and that the spine trial, we expect, will go pretty quickly because we don't – I mean, they generally use morphine. And the dynamic – and Scott and his group are working on exactly what is the injection technique and volume, et cetera.

So we expect that trial will go pretty quickly. And we guided today, Tazeen, that we would have data by the end of next year..

Okay..

In the second – actually, what I said is in the second half of next year. So it doesn't actually mean the end..

Okay. Thank you..

Thanks..

Unfortunately, we are out of time. I would like to turn the conference back over to Dave Stack for closing remarks..

Thank you. You've heard me outline the future drivers of growth, Jim outline the commercial landscape for EXPAREL and the blocking and tackling underway and Charlie recapped our financial performance and provided guidance for the rest of the year.

But let me remind you that behind the numbers and the strategies of the millions of patients who have benefited from EXPAREL and the millions more who will benefit in the years to come.

Let me close with this patient story; just one of the several notes of gratitude that we personally receive on a regular basis, and I might add, in all the years that I have done this, I have never gotten a patient, no. And now, I get them regularly. And this is a quote.

Hi, I had a total hysterectomy and it was cut up and down on June 6 at MD Andersen performed by Dr. X; this physician name intentionally omitted. I am 53, obese, scared of pain, afraid of pain meds and anesthesia because of getting sick and vomiting. I was given EXPAREL, it was the best.

I was given Senna stool softener for 30 days, acetaminophen and ibuprofen and I still have some left. I was sent home on a prescription of oxycodone, but took only one of those for the long ride home, three hours and it made me have an upset stomach. It was the last I took of that.

I kept waiting for the pain to kick in at the end of 72 hours, but it didn't. It did great. My bowel moves immediately and normally, my kidneys function just fine; blood pressure, pulse and oxygen, I believe, were all okay while in the hospital.

I was up and walking the next morning, eight times a day, had all meals sitting in a chair; plus I went to the beauty shop twice at MD Anderson. I love this drug. Thanks for making it. It worked great for me; end of quote.

This variability to significantly enhance patient postsurgical experience is a true treatment to the impact of fulfilling the Pacira corporate mission of improving patient care. We are reminded every day that we are doing the right thing for our patients. It's not easy, but it's not an important gratifying work and we thank you for your support.

Up next, we'll be at the 2016 Wedbush PacGrow Healthcare Conference, August 16, in New York and we'll look forward to seeing you there. Thanks, everybody..

Ladies and gentlemen, this concludes today's conference. Thank you for your participation and have a wonderful day..