Teri Loxam - Investor Contact Kenneth C. Frazier - Chairman & Chief Executive Officer Robert M. Davis - Chief Financial Officer & Executive Vice President Adam H. Schechter - Executive VP & President-Global Human Health Roger M. Perlmutter, M.D., Ph.D. - EVP & President-Merck Research Laboratories.

Christopher T. Schott - JPMorgan Securities LLC Timothy M. Anderson - Sanford C. Bernstein & Co. LLC Mark Schoenebaum - Evercore ISI Jami Rubin - Goldman Sachs & Co. Marc Goodman - UBS Securities LLC Alex Arfaei - BMO Capital Markets (United States) Seamus Fernandez - Leerink Partners LLC David R. Risinger - Morgan Stanley & Co. LLC John T.

Boris - SunTrust Robinson Humphrey, Inc..

Good morning. My name is Darla and I will be your conference operator today. At this time I'd like to welcome everyone to the Q3 2015 sales and earnings call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. Thank you.

I would now like to turn the call over to Teri Loxam. Please go ahead..

Thank you, Darla, and good morning to everyone. Welcome to Merck's Third Quarter 2015 Conference Call. Today I'm joined by Ken Frazier, our Chairman and Chief Executive Officer; Rob Davis, our Chief Financial Officer; Adam Schechter, President of Global Human Health; and Dr. Roger Perlmutter, President of Merck Research Labs.

Before I turn the call over to Ken, I want to point out a couple of items. First, you will see that we have items in our GAAP results such as acquisition-related charges, restructuring costs, and certain other items.

You should note that we've excluded these items from our non-GAAP results and provided a reconciliation of these items in Table 2 of our press release. We've also provided a table to help you understand the sales results in the quarter for the business units and products, which can be found in Table 3 of our press release.

During the call we may refer to Table 2 for the P&L and Table 3 as it relates to revenue. Second, I would like to remind you that some of the statements we make during today's call may be considered forward-looking statements within the meaning of the Safe Harbor provision of the U.S. Private Securities Litigation Reform Act of 1995.

Such statements are made based on the current belief of Merck's management and are subject to significant risk and uncertainty. If our underlying assumptions prove inaccurate or uncertainties materialize, actual results may differ materially from those set forth in the forward-looking statements.

Our SEC filings, including Item 1A in the 2014 10-K, identify certain risk factors and cautionary statements that cause – that could cause the company's actual results to differ materially from those projected in any of our forward-looking statements made this morning.

Merck undertakes no obligation to publicly update any forward-looking statements and you can see our SEC filings as well as today's earnings release on merck.com. With that, I'd like to turn the call over to Ken..

Thank you, Teri. Good morning, everyone. We appreciate you joining the call this morning. Before we review our third quarter results, I want to reinforce a few fundamental points about Merck.

Our company has had a long history of success in translating scientific discoveries into novel and highly differentiated medicines and vaccines that provide major therapeutic and economic value. Our R&D-focused strategy aims to drive future growth and shareholder value in the same manner.

We believe that the evolving characteristics and dynamics of global healthcare increasingly underscore this ability to provide high-value innovation is what will be – what distinguishes successful companies going forward.

This approach is evidenced by our late-stage pipeline and ongoing launches, which reflect scientific and therapeutic progress in some of the world's most challenging area's unmet medical need including cancer, antibiotic resistance, cardiometabolic disease, hepatitis C, and Alzheimer's disease, all areas where we have both near- and longer-term opportunities to create beneficial returns for patients, society, and shareholders.

Our broad, global, and balanced portfolio of medicines and vaccines allows us to weather periodic volatility within a particular therapeutic area or region while consistently focusing on the best scientific and medical opportunities.

Speaking of focus, we've been investing our resources to grow our strongest brands and to support the most promising assets in our pipeline while, at the same time, lowering our overall cost base and delivering a leveraged P&L. We restored the JANUVIA franchise to growth.

We established an oncology business unit and accelerated the development of KEYTRUDA, which was the first anti-PD-1 to market in the U.S. We reinforced our leadership in hospital acute care, specifically in antibiotic resistance, and have continued to drive positive results in vaccines.

We are executing well on our strategy, advancing our pipeline in commercial portfolio both internally as well as externally through business development, all while delivering significant capital returns to shareholders.

In the third quarter, we reported solid top line performance achieving strong results in our core focus areas, which coupled with thoughtful cost management, translated to bottom line growth. Rob and Adam will provide more detail on our financial, operational, and commercial performance this past quarter.

On the R&D front, our research organization continues to make major strides, accomplishing several important milestones this quarter, which Roger will review in detail in a few minutes.

Progress in our oncology and hepatitis C programs underscores and exemplifies our ongoing commitment to pursuing science in the areas where we can have the greatest impact while driving long-term growth. On a separate but meaningful note, we were especially proud to mention that, recently, our own William Campbell, Dr.

William Campbell, was jointly named the 2015 Nobel Prize winner in Physiology or Medicine for his work in the discovery of MECTIZAN. More than 2 billion free treatments later, the results speak for themselves as river blindness is in the process of being eliminated around the world.

As you may know, this honor is rarely bestowed on a scientist whose research was conducted in a company setting. We are delighted for our retired colleague, Dr. Campbell, who is an inspiration for our Merck colleagues around the world. In closing, Merck is well positioned for a solid finish in 2015.

Our results for the quarter and year-to-date reflect the company's disciplined focus and investment of resources on the internal and external opportunities that can generate sustainable value for society and shareholders.

In doing so, we intend to continue to play a leading role in helping to shape the future of health for populations around the world. And now I'd like to turn the call over to my colleague, Rob Davis..

Thanks, Ken, and good morning, everyone. Our performance for the third quarter is evidence of our continued focus on execution. We delivered solid financial results and a leveraged P&L in the quarter as we saw a return to growth as exchanged on both the top and bottom lines.

Total company revenues of $10.1 billion in the quarter decreased 5% versus the third quarter of 2014. Excluding the impact of foreign exchange, total revenue grew 2% this quarter and grew 4% if you further exclude the impact of acquisitions and divestitures.

In addition to strong results for Global Human Health, which Adam will discuss in a few minutes, Animal Health grew 7% in the quarter excluding exchange. This growth was driven by an increase in sales of companion animal products, primarily BRAVECTO, as well as new aqua and swine products.

As a result of our performance in the first nine months of the year, we are narrowing our revenue guidance range and increasing the midpoint. We now expect full year 2015 revenue to be $39.2 billion to $39.8 billion at current exchange rates. Turning to the other parts of the P&L.

Non-GAAP product gross margin was 75.1% in the quarter, an increase of 80 basis points year-over-year primarily driven by lower inventory write-offs. We remain focused on driving additional productivity through improvements in our operating model as total non-GAAP operating expenses were approximately $160 million lower this quarter.

Marketing and administrative expense, which declined 7% versus prior year, was partially offset by a modest increase in research and development. We continue to expect full year 2015 non-GAAP operating expenses will be lower than they were in 2014.

In addition, we are pleased to report that we have met and will exceed our annual target of $2.5 billion in net savings versus 2012 by the end of this year. Our non-GAAP effective tax rate for the quarter was 21.6%. Given our results year-to-date, we expect the full year rate to be at the lower end of our overall guidance range of 23% to 24%.

Taken together, we earned $0.96 per share on a non-GAAP basis in the third quarter, delivering 7% growth on the bottom line and significant P&L leverage.

This marks our second sequential quarter of year-over-year earnings growth taking into account headwinds from foreign exchange for net acquisitions and divestitures, and is continued proof of our efforts to manage our business and execute on our strategy.

Given our continued expectation of strong operational performance in the fourth quarter, we are increasing the top and bottom ends of our full-year non-GAAP EPS guidance range to $3.55 to $3.60.

Finally, in addition to investing in our business and looking for opportunities to bolster our pipeline with external innovation, we remain committed to returning cash to shareholders via the dividend and share repurchases.

To that end, we were able to take advantage of market conditions in the latter half of the quarter and repurchase additional shares opportunistically, nearly doubling the amount of repurchases in the prior quarter. Given these additional repurchases, we now expect to return approximately $4 billion to shareholders via share repurchases in 2015.

The third quarter was another demonstration of strong execution. We remain committed to delivering a leveraged P&L through our focus on expense management, while also ensuring we make appropriate investments on our broad portfolio of commercial and pipeline opportunities. Now I'll turn the call over to Adam..

Thanks, Rob, and good morning, everyone. Excuse me. This morning I'll discuss the third quarter results for Global Human Health and my comments will be on a constant currency basis. This quarter, we continued to drive growth within our core business while executing on our new product launches.

As a result, worldwide Human Health sales increased 6%, driven by sales growth in the United States and emerging markets, partially offset by declines in Europe and Japan. Excluding the impact of acquisitions and divestitures, worldwide sales grew 3%. Our global growth was primarily driven by our diabetes, hospital acute care, and oncology businesses.

Beginning with diabetes and our JANUVIA franchise, our results continue to reflect the strength and the importance of these products and our commitment to grow JANUVIA and the DPP-4 class. With nine years on the market, physicians are comfortable with and confident in the efficacy and safety that JANUVIA offers to patients with type 2 diabetes.

In the third quarter, JANUVIA franchise sales reached approximately $1.6 billion and grew 17%. In the United States, sales grew 22%. Timing of customer buying significantly benefited the third quarter by approximately $100 million. This will have an adverse impact in the fourth or subsequent quarters.

The best way to understand the underlying performance is through TRx trends. Through continued execution of our strategy, we drove underlying volume growth of about 4%. We are encouraged by the volume trends as we head into the fourth quarter and into 2016.

In the international markets, which represent nearly half of our diabetes business, JANUVIA franchise sales reached approximately $675 million and grew 12%. We drove double digit growth in Europe and emerging markets, which was partially offset by slight declines in Japan.

Diabetes is a progressive disease that affects hundreds of millions of patients worldwide. Many patients require more than one medication to treat the disease. We continue to see opportunities to grow JANUVIA as a preferred add-on therapy in global markets. Next, in immunology.

Combined sales of REMICADE and SIMPONI were approximately $620 million, a decline of 5%. SIMPONI grew 25% but growth was offset by 13% decline in REMICADE sales. As expected, we continue to see additional competitive impact from biosimilars across Europe.

We expect declines in REMICADE will continue to accelerate in the fourth quarter and throughout 2016. In hospital acute care, global sales reached approximately $985 million. Excluding the impact of our acquisition of Cubist, sales grew 7%. We drove growth for BRIDION and our portfolio of antibiotic and antifungal treatments.

We continue to see this segment as a growth driver and expect to solidify our position as a global leader in hospital acute care with our emerging pipeline products. Additionally, our teams are preparing to launch BRIDION later this year in the U.S.

Turning now to the vaccine business, vaccine sales were approximately $1.6 billion, a decline of 3% versus the prior year. GARDASIL franchise growth was more than offset by declines in PROQUAD due to the timing of sales activity related to the CDC stockpile and continued near-term competitive pressure for PNEUMOVAX.

Combined sales of GARDASIL and GARDASIL 9 grew 7% to approximately $625 million with continued growth in the U.S. GARDASIL 9 accounted for approximately 80% of HBV sales in the U.S. This result is a testament to our team's strong execution in securing managed care access and their ability to transition customers to the new 9-valent vaccine.

ZOSTAVAX global sales increased 1% to approximately $180 million. Growth in ex-U.S. markets was partially offset by a slight decline in the U.S. resulting from a delayed start to the flu season.

As we've indicated previously, we do see some seasonal fluctuations in ZOSTAVAX sales with increases in vaccination rates when patients visit their doctors or their pharmacists to receive a flu shot. Now that the flu season has begun, we have launched a new DTC campaign to drive future growth.

Outside of the U.S., we continue to launch in more than 25 markets and there remains significant opportunity for ZOSTAVAX globally. We remain confident in the proven efficacy and safety that comes from the single dose regimen of ZOSTAVAX. Now I'm excited to share with you some updates from a few of our launch products, and I'll start with KEYTRUDA.

We continue to be pleased with our execution of the KEYTRUDA launch. Global sales for KEYTRUDA were approximately $160 million in the third quarter, an increase of 45% compared to the second quarter of this year.

Importantly, our strong launch in melanoma has provided physicians with valuable experience using KEYTRUDA, with its durable efficacy results and convenient dosing schedule of every three weeks. In the U.S., KEYTRUDA retains approximately 70% of anti-PD-1 patient share in melanoma.

And it's the number one therapy to treat melanoma in the United States across all classes of treatment. Internationally, KEYTRUDA is launching in approximately 40 markets including the EU, with a product that's approved for use in advanced first and second-line melanoma.

Our teams are working tirelessly to secure pricing and reimbursement, and recent recommendations from NICE in the UK are helping to secure timely access for patients. Additionally, we are enthusiastic about expanding our launch of KEYTRUDA to patients suffering from lung cancer.

In the few weeks since FDA approval, our teams have reached a majority of high-volume prescribers for this important new indication. Early customer feedback is encouraging and we're confident about the uptake of KEYTRUDA over time, as customers build in PD-L1 testing as a common practice in lung cancer diagnosis to inform treatment decisions.

We are still in the very early days of the KEYTRUDA launch and life cycle. With approvals in lung cancer and melanoma, and one of the broadest clinical programs in the industry, studying over 30 different tumor types, we are very excited about the promise KEYTRUDA offers to patients suffering from cancer now and in the future.

Moving to BELSOMRA, we continue to be encouraged by the early days of the BELSOMRA launch in the U.S. and Japan. In the U.S., we initiated a branded DTC campaign in August and we're already seeing steady demand increases from both new and current customers. Brand awareness continues to increase for both physicians and for patients.

Finally, our teams are preparing for the launch of our hepatitis C doublet in the U.S., the EU, and other global markets. Merck has an important legacy in bringing innovative treatments for HCV to the market. We have maintained our global footprint and our relationships in the HCV community. Our teams are ready and they're extremely excited to launch.

In summary, Global Human Health delivered another solid quarter. We grew through execution in core areas of diabetes, hospital acute care, and oncology, and we continue to gain momentum with our key new product launches. Now I'll turn the call over to Roger..

Thanks, Adam. The third quarter saw continued progress in late-stage development, especially in our oncology and infectious disease programs, with new results, new regulatory approvals, and new partnerships.

First with respect to KEYTRUDA, our PD-1-directed monoclonal antibody designed to promote activation of tumor-directed immune responses, at the end of the quarter, we obtained accelerated approval from the FDA for the treatment of patients with non-small cell lung cancer in the salvage setting.

This approval was based on the response rate seen in patients with advanced disease whose tumors expressed PD-L1 in 50% or more tumor cells. Accelerated approval of KEYTRUDA required that we have a confirmatory study underway, and this study was called KEYNOTE-010. The final top line results from KEYNOTE-010 study were announced yesterday.

Briefly, the KEYNOTE-010 study randomized 1,034 patients with advanced non-small cell lung cancer who had failed at least one prior systemic therapy to treatment with either docetaxel, a standard chemotherapeutic agent used in this setting, or to KEYTRUDA.

Patients enrolled in this study were quite ill, typically with stage 4 disease and evidence of metastases, including brain metastases in many cases. KEYTRUDA was administered either at the approved dose of 2 milligrams per kilogram given every three weeks or an investigational dose of 10 milligrams per kilogram every three weeks.

All patients enrolled in the study had tumors that expressed PD-L1 in at least 1% of cells.

However, statistical testing for the primary endpoint was performed first in the population of individuals whose tumors had very high expression of PD-L1, that's equal to or greater than 50% which permitted the subsequent analysis of the entire population, including all of those whose tumors expressed PD-L1 in at least 1% but fewer than 50% of tumor cells.

As we announced yesterday, the KEYNOTE-010 results were unambiguous. The administration of KEYTRUDA as compared with docetaxel improved the overall survival of patients with non-small cell lung cancer, irrespective of the proportion of cells that expressed PD-L1 as judged by immunohistochemistry.

There was no meaningful difference observed between the 2 milligram per kilogram dose of KEYTRUDA, the approved dose, and the investigational 10 milligram per kilogram dose. A result that mirrors what we have previously seen in the melanoma setting.

I should emphasize that the KEYNOTE-010 study enrolled patients with both squamous and non-squamous cell histologies in about the ratio that one would expect on the basis of the epidemiology of lung cancer.

KEYNOTE-010 is a large multinational randomized controlled clinical trial and, of course, there's a great deal more information relevant to the outcomes of patients treated with KEYTRUDA as compared with docetaxel that can be distilled from the study.

We anticipate presenting the results of KEYNOTE-010 at a scientific meeting in the near future and expect to submit the data for review by regulatory authorities before the end of the year.

Beyond KEYNOTE-010, we continue to explore the utility of KEYTRUDA therapy and patients with non-small cell lung cancer at an early stage in the evolution of the disease. We have two ongoing first-line studies addressing this issue. Our KEYNOTE-024 study is now fully enrolled and our somewhat larger KEYNOTE-042 study is enrolling well.

We have previously shown that KEYTRUDA improves overall survival when used as first-line therapy in patients with advanced melanoma. These data are included in our European label for KEYTRUDA and are currently under review on a priority basis at the FDA.

We expect to complete label discussions with the agency regarding both our KEYNOTE-002 and KEYNOTE-006 studies in the fourth quarter. In evaluating KEYTRUDA, we have sought to broaden the impact of this therapy still further by combining with other immune manipulations.

Along these lines, we recently announced the expansion of our collaboration with Incyte Pharmaceuticals (sic) [Incyte Corporation] testing whether their IDO1 inhibitor could increase tumor regression in patients simultaneously receiving KEYTRUDA.

Early data from this collaboration will be presented at the Society for Immunotherapy of Cancer meetings in November. Lastly, I should again note that we have an exceptionally broad program exploring the utility of KEYTRUDA treatment.

We have embarked upon registration-enabling studies in more than 10 different tumor types, are exploring the utility of KEYTRUDA treatment in 20 additional cancers, and have evidence of tumor responses in about two dozen different types of malignancies.

Earlier today, the Ministry of Health, Labour and Welfare in Japan announced the first set of so-called SAKIGAKE products, those given fast-track review status, which included KEYTRUDA for the treatment of advanced unresectable gastric cancer. Clearly, the spectrum of activity of KEYTRUDA appears to be extraordinarily broad.

Turning now to infectious diseases, during the third quarter, the European Commission ratified the use of ZERBAXA for the treatment of complicated intra-abdominal or urinary tract infection.

Also during the quarter, we had the opportunity to present the results from bezlotoxumab, our monoclonal antibody directed against a toxin produced by Clostridium difficile.

As we discussed at the Interscience Conference on Antimicrobial Agents and Chemotherapy, a single intravenous administration of bezlotoxumab significantly reduced recurrence of C. difficile infection as compared with standard therapy. We anticipate submitting these data for regulatory review before the end of the year.

As we announced last quarter, our combination therapy containing grazoprevir and elbasvir for the treatment of hepatitis C virus infection is undergoing priority review in the United States with a PDUFA date of January 28 and accelerated assessment in the European Union.

Regulatory agencies are making good progress in reviewing our files and we are responding to questions from both FDA and the CHMP.

Additional data from our hepatitis C virus program will be presented at the Liver Disease meetings [The Liver Meeting] next month, including the efficacy of grazoprevir/elbasvir in more challenging patient populations, and Phase 2 data from the analysis of our nucleoside polymerase inhibitor, MK-3682, used in combination with grazoprevir/elbasvir and other agents in our antiviral arsenal, including MK-8408, an especially potent NS5A inhibitor.

Our program is based on the idea that we can advance an antiviral regimen with broad activity across HCV genotypes, and that can be used in patients irrespective of comorbidities with shorter courses of therapy designed to improve adherence.

Using this approach, we are optimistic that substantial control of HCV-imposed liver disease can be achieved for tens of millions of infected patients around the world. During the third quarter we received marketing authorization in Japan for MARIZEV, our once-weekly DPP-4 inhibitor generically known as omarigliptin.

We continue to assemble data supporting the filing of omarigliptin in the United States, which we plan to complete before the end of the year. In the area of cardiovascular medicine, we are working with our partner Bayer to evaluate data obtained from Phase 2b study of vericiguat in patients with heart failure with reduced ejection fraction.

We expect to have the opportunity to present these data at upcoming scientific meetings and are considering various options for registration-enabling clinical trials.

With respect to anacetrapib, our potent once daily CETP inhibitor, we are obviously aware of the termination of Lilly's Phase 3 study of evacetrapib, another CETP inhibitor, for futility. In a sense, this result increases the importance of our large Phase 3 outcome study called REVEAL.

Our IMPROVE-IT data, which became available a year ago, demonstrated that reductions in serum LDL cholesterol levels, whether achieved using statins or using the cholesterol absorption inhibitor, ezetimibe, had predictable and similar effects on the risk of major cardiovascular events.

Since CETP inhibitors also dramatically reduce serum LDL cholesterol levels, it is now especially important to know whether this biochemical effect is associated with lower cardiovascular risk. Our REVEAL study is explicitly powered to see this effect.

Six months ago, we reported that the REVEAL Steering Committee wished to adjust the primary endpoint to substitute ischemic stroke for revascularization, reflecting evidence from IMPROVE-IT where a benefit was observed on the incidence of this more easily adjudicated endpoint.

After discussions with regulatory agencies, however, this change was deemed inadvisable. Hence, as of today, the Steering Committee plans to continue along the path originally outlined in the study protocol. There will be an interim analysis before the end of the year.

In light of the results obtained with evacetrapib, it is anticipated that a futility component will be included in this analysis.

We achieved meaningful progress in many other important programs in the third quarter, including completion of enrollment in our Phase 3 Mild to Moderate Alzheimer's Disease study with Verubecestat, our highly potent BACE inhibitor, completion of enrollment of all 11 of our Phase 3 studies for ertugliflozin, a collaborative effort with Pfizer, to develop a novel SGLT2 inhibitor, and commitment to regulatory filing of two new diabetes programs, omarigliptin in the United States and insulin glargine, which we are pursuing in collaboration with our colleagues at Samsung Bioepis.

However, I would like to close by again acknowledging Dr. William C. Campbell who will receive the 2015 Nobel Prize in Physiology or Medicine for research conducted in collaboration with Dr. Satoshi Omura of Japan. Dr.

Campbell performed his Nobel Prize-winning work, identifying the parasiticide, ivermectin, here at Merck, where he was employed from 1957 until 1990. Dr. Campbell's steadfast commitment to fundamental research has preserved the sight of millions of people around the globe. People who were otherwise condemned to early blindness from onchocerciasis.

My colleagues and I at Merck Research Laboratories, including quite a few who overlapped with Dr. Campbell at our Rahway site, offer our congratulations for this important and well-deserved recognition of his accomplishments. I'll now turn the call back to Teri..

Thanks, Roger. Darla, we're ready to move on to the Q&A portion of the call..

Your first question comes from the line of Chris Schott with JPMorgan..

Great. Thanks very much for the questions.

The first one is can you just elaborate a little bit more on your view of JANUVIA and the broader oral diabetes landscape following the recent SGLT2 outcomes data? I guess, do you see incremental pressure to this franchise as that data is reflected on competitor labels? And then maybe as a follow-up to that, can you just update the timelines of your SGLT2 and when you'll have outcomes data? And my second question was on KEYTRUDA in lung and the commercial dynamics based on the recent approval and now the KEYNOTE-010 study.

I guess how do you see the dynamics playing out here relative to Bristol, given the label differences between the products and just given the various moving piece of these two products? I'd just like to understand a little bit how you're thinking about the coming quarters on that one. Thanks so much..

Yeah, so this is Adam, Chris. I'll start off by reviewing JANUVIA and I'll give some color on lung. But I'll also ask Roger to jump in on your SGLT2 question. If you look at JANUVIA, we continue to be pleased with the underlying demand in the U.S. where we're seeing about 4% TRx volume growth.

And that's been consistent since before EMPA-REG and after EMPA-REG. And if you look at the most recent current week, it's just over 3% still. So we're seeing the underlying volume continue to be strong.

If you look at what's occurring in the marketplace and you look at NBRx data, which is like real early data to try to understand the dynamics early in the marketplace, we see switching that's occurring within the SGLT2 class, but we do not see switching occurring across classes at this point in time. We believe that this market is very big.

It requires multiple medications for people over time, and we believe that JANUVIA will maintain a very strong add-on position as we go into the future. So we remain optimistic about the promise of JANUVIA into the marketplace. We're not giving 2016 guidance today.

As I look at managed care, those decisions have been made for 2016 and I'll say that our formulary position in 2016 remains strong and very similar to what it was in 2015..

Yeah, and, Chris, it's Roger. With respect to the timing of SGLT2 results for ertugliflozin, as I indicated, all 11 of our studies are fully enrolled and data will begin to roll out from those studies in 2016. We do have a cardiovascular outcome study. Those studies obviously take a longer period of time.

The expectation for those studies is that data will be available around the 2019 timeframe.

But of course in light of the results that were obtained by Lilly, BI and the EMPA-REG study, as we look at those results, there's interest in asking the more explicit question of whether ertugliflozin has the same kinds of effects on cardiovascular mortality, which could result in a slight change in the way we conduct our outcome study.

And we'll have more commentary on that later, we're reviewing those issues. But that's basically where we stand at this point..

And then, Chris, with regard to your question on lung for KEYTRUDA, so when we built the oncology business unit, we built it to maximize KEYTRUDA over the long term. And just like you saw, we were ready to launch melanoma, we were just as ready to launch lung.

So we think that lung cancer's a very significant opportunity for KEYTRUDA and we think there is room for multiple products with KEYTRUDA and OPDIVO in that market.

If you look, we're still early in the launch but we're encouraged by customer feedback and just days after the approval, we got to 100% of our top 150 accounts, and we had over 5,500 customer interactions. And we're confident that the uptake will be good over time as customers build in PD-L1 testing as a common practice.

And I think that's probably what your question is getting to with PD-L1 testing versus not testing for lung. And what I'd like to say about that is as you think about diagnostic testing, it's very common today for lung cancer. It's become standard and widespread for HER2, ALK and EGFR.

So we believe that it will be standard over time for PD-L1 and it's just going to take time for it to become standard. But our execution by our teams and the partners at Dako was very strong, along with our leading diagnostic centers.

And we actually had the companion diagnostic available and accessible for patient sampling day one at the time of launch. So it allows the physicians to really have a different conversation with patients, depending on their PD-L1 expression.

And I think that's important when you start to see the differences between low PD-L1 expressers and high PD-L1 expressers. It allows physicians to have better conversations. So as we've said before, this is going to play out over time. Lung is an important indication. We think there's room for multiple drugs.

We think PD-L1 testing over time will become increasingly important. And we're confident about KEYTRUDA moving forward..

And just to emphasize what Adam said, there is no doubt that a PD-L1 expression, while an imperfect biomarker, does have predictive value in the lung cancer setting with respect to responses to anti-PD-1 therapy. And that has been observed. Although we've pioneered those studies, that's been observed by everyone who's looked at this kind of therapy..

Darla, if you can move on to the next question, please..

It's from Tim Anderson with Bernstein..

Hi. Going back to KEYTRUDA, do you anticipate that in the U.S. you'll get reimbursed either by Medicare or by private payers in PD-L1 negative patients? The NCCN Compendium came out just in the last couple of days, and it recommends your drug in PD-L1 positive patients. It doesn't specify any cutoff for that positivity. So it's a fair chunk of patients.

But I'm wondering from here if you can actually – if you think you can negotiate with payers such that you'll actually get broad coverage, which would go above and beyond what NCCN recommends or what your label actually recommends. And then another question on hep C.

Just talking about commercially how the doublet might kind of play into existing therapies that are out there, can you make any directional comments at all on pricing, for example? My guess is that as a later entrant in the category, you might have to come in at a discount.

Ken, I think on certain settings you've implied that that may not happen and that you may not play the price card.

But can you talk about how you view the competitive dynamics in that category with your doublets, specifically as you go into 2016?.

Hi, Tim. This is Adam. So I'll start with, obviously, the NCCN Guidelines were just updated. We received the information last Friday evening, and it's done by an outside agency with no input from us. And we did see that they recommended KEYTRUDA side-by-side with nivo as a preferred option in treatment of algorithm for second-line non-small lung.

The updates are very recent. We expect that payers will take some time to interpret the guidelines on how they'll reimburse the use of KEYTRUDA. But anecdotally, when we talk to our customers, they are going to follow NCCN. They will not go outside of NCCN. So we think that this is positive.

We also think the fact that we now have the new KEYNOTE-010 data will help us in the future as well, because these guidelines were issued Friday night before we even put the top line results out on Monday. So that's where we are with NCCN. What I'd like to do now is give you a sense of hepatitis C.

And we know this market, and we know the players, and we know the managed care organizations very, very well. We have a very long legacy in HCV with interferon. And I think you saw our ability to execute with VICTRELIS. And we've had great success in the past. We expect to have success in the future.

You see from the Phase 3 data, we believe we have an innovative, broadly competitive regimen, and there may be some advantages in some patient types, particularly CKD patients. And we believe that our data in cirrhotics is particularly strong.

So I don't want to give specifics about pricing strategies and contracting strategies, as I'm sure the competition would love to know what we're thinking there. But what I would say to you is that we intend to be serious about coming into this market strong, and we think there's a real opportunity for us..

Next question, please, Darla..

It's from Mark Schoenebaum with Evercore ISI..

Hey, guys. Actually, I just had some IMAX questions for Teri. Is she there? I've been having trouble getting tickets to the latest Avengers movie and -anyway. Thank you very much for calling on me, and welcome Teri. It's great to have you there. A lot of my questions have been asked.

So what I'll do is try to re-ask some to see if I can get better answers and ask some different ones. First, on hep C pricing, Adam.

Obviously, you're not – it's not in shareholders' interests or your interests to tip your hat on this, but the reason people are asking is that AbbVie, weeks before their negotiations with Express Scripts was saying – Rick Gonzalez was saying things like, we don't think we're going to really be using pricing, Mark. And then they cut price 50%.

So I guess when – I guess I'm just asking you, can you reassure the market that when you think about the hep C pricing, your internal hep C pricing scenarios, that something like a 50% cut, it isn't what you're thinking. It's more incremental. And you don't have to give us that number. Even that I think would relieve a lot of the, perhaps, pressure.

And then a question biosimilar REMICADE. I may have missed this. I had to hop off the call for a few minutes.

But can you update us on market shares, Pan-European market shares for biosimilar REMICADE and what the average price discount is to branded REMICADE in tender and non-tender markets, or perhaps even both combined? And the last one is for Ken and just big balance sheet, M&A, a lot of targets out there. You guys have been quite inactive since Cubist.

I'd like to know if you, now that prices have come down 30% in biotech, if you're revving the engines. Thank you..

Okay. So let me give it a start, Mark. And I'll say with hepatitis C, I don't want to give specifics. But all I'll say is when you have what's perceived to be an inferior profile in the marketplace, as I think AbbVie's product was, you may have a different strategy when you have a product that you think is competitive in the marketplace.

And we believe that we have a competitive profile to be able to be successful in the marketplace. With regard to biosimilar REMICADE, we're seeing most discounts of 30% to 45%. Maybe a little bit higher in some of the countries where there's been biosimilars for a longer period of time than in Core Europe.

If you look at our market share, we have about a 90% market share as we go through the third quarter. That's down from about a 95% market share the prior quarter. And we believe that the pressure will continue because we've been able to hold on to a lot of the existing patients that are well-controlled and physicians don't want to switch.

But we're starting to lose more and more new patients, and new patients, as you know, become more of a percent of the total as you go longer over time. So it would be a bit gradual, but it's going to continue to have impact. About 10% to 20% of the business per year is in new patients, just to give you a sense..

Okay, Mark. And on business development, let me just be really clear. We are very committed to doing the right kind of deals to create value for our shareholders and that augment our pipeline with programs that, as Roger would say, provide an unambiguous promotable advantage. That's what we've been doing over the past couple of years.

You've seen Idenix, Cubist, OncoEthix, cCAM Biotherapeutics, just to name a few. We're also today very confident that we have the right balance sheet to do whatever size deal we need to do, whether it's M&A or licensing. We've been very clear in the past that our preference is for bolt-on deals rather than the large consolidation-type mergers.

But the fact of the matter is we will continue to pursue pipeline assets on a selective basis, meaning they have to be really important scientific breakthroughs and they also have to be capable of being acquired at a price that's valuable for our shareholders. And to your point, we have seen values go down over the last few weeks.

And we're going to continue to look for those opportunities. So we are committed to it. Don't think if you haven't seen anything in the last couple of quarters that, that reflects any change whatsoever in our perspective..

Thanks. Darla, we'll go on to the next one..

It's from Jami Rubin with Goldman Sachs..

Thank you. Ken, question for you. Just given the increasing pricing debate in the market, I'm just wondering if you can – I'm interested in your perspective on what you think happens to drug list price versus realized price. I mean clearly we have seen price increases increase over time.

But we've also seen the phenomenon of increased rebates and discounts.

So just given the increased focus on pricing, given the campaign rhetoric, which doesn't appear to be dying down any time soon, how do you expect the industry to respond to this growing debate? And I'm also surprised that the industry has been so silent given all the headline news.

And I know that you have a leadership position within the industry and what your plans are to defend industry practices.

And, Roger, for you, just on the anacetrapib interim later this year, I guess, did you say later this year or early next, the interim on futility, are we going to – if the decision is to continue with the trial, are you going to let us know? Or I mean is no news good news in this case? How should we think about it? Thanks very much..

Okay..

Why don't we start with pricing?.

So let me start with pricing. Good morning, Jami..

Good morning..

Let me first remind everybody what I think is the most important thing, which is that we are, at Merck, entering a period of unprecedented advances in human biology, and we have immense opportunities to advance patient care as well as public health.

Unfortunately, I think the current discussion around pricing fails to account for the fact this industry is hardly homogeneous. There are a lot of companies, as you know, that purchase drugs, many of them older drugs. They raise the prices to whatever they feel the market will bear while significantly reducing or eliminating investment in R&D.

Merck has not been that kind of company. Obviously, we invest in R&D to bring forward important products like KEYTRUDA. But we've also tried to approach pricing from the perspective of value. And I recently had the opportunity to actually meet with the President of the United States in his office and we had this conversation.

And I think there's a lot of rhetoric around the industry. As a leader of pharma, I try very hard to distinguish between the innovation-based companies that do take a value approach to pricing, and a few companies that I think are unrepresentative of the entire industry.

If you don't see it in the newspapers, recognize that there's a little bit of a filter between what we say and what actually gets reported in the newspapers, but we're going to continue to make that point.

And I have to say that I believe that while there's a lot of noise out there, my experience in Washington is that people do recognize that this industry is important, that these innovations are critical to society, that we, for example, need a disease-modifying agent for Alzheimer's.

People see what these immuno-oncology drugs are doing and they know that, that's just the beginning of what we can do as an industry. So I think you have to separate a little bit of the rhetoric and the newspaper reports from the fact that I think there's a lot of rationality in public policy.

And people recognize that this is an industry that contributes greatly to global society as one of the strongest industries in the U.S. economy..

Thanks, Ken.

Roger, do you want to comment on anacetrapib?.

Yeah, Jami, in light of the evacetrapib futility results, there will be a futility analysis incorporated into the interim analysis of anacetrapib, which will be conducted before the end of this year. And if – obviously, if we were to decide that – if our Steering Committee came back and said that it is futile, obviously, we will announce that.

If they don't, then we will announce in the appropriate forum that the study is continuing. I wouldn't overinterpret that, though. I wouldn't look at that and say, oh, well, that means it must be working. What it means is it's not futile. It could work. And so it will be one or the other result.

I think it is important to include – and I've made the point in talking with the Steering Committee members that it is important to include this kind of analysis, because we wouldn't want to be exposing people to the drug if there's no hope of showing a benefit..

Thanks, Roger. Darla, let's move on to the next one, please..

It's from Marc Goodman with UBS..

Good morning. First, you mentioned the diabetes franchise was a little weak in Japan.

Can you talk about what's going on there and is that because you have this new product, the once-weekly, that just got approved? Was that having any impact? And how you think that plays out over there? And then second, can you talk about the gross margin a little bit, just the underlying gross margin, what's being impacted by currency, what's going on there and how you're thinking about that? And no one has really asked about expenses.

Maybe you can talk about just the underlying numbers. I mean is this a good run rate to be thinking about for how Merck is spending? What are some of the push pulls on spending over the next 12 months? Thanks..

Sure, Marc. I'll cover the question on diabetes in Japan. Japan remains a very important market. In fact, if you look at DPP-4 inhibitors, it's one of the few markets in the world where DPP-4 inhibitors actually have more patient days of therapy than metformin does or (47:51). So it's always been a fast uptake market for DPP-4 use.

And for JANUVIA we have a very high share. So the issue there is it's harder to grow because you can't take share away from (48:03) as much because you already have the leading product in the marketplace. We are launching our once-weekly and we think that could be a very important product.

It's under two-week prescription limit right now, but that, over time, will be removed. And we think that, that will help us potentially expand the DPP-4 class even into earlier lines of treatment. Overall, it was down about 2% versus prior year in Japan, so it wasn't a significant decrease versus the prior year.

And part of that is also customer timing..

And with regard to your question on gross margin, so if you look at the drivers of gross margin, by far the largest driver was the fact that we had lower inventory write-offs than we've had in the past. So that was the single biggest item. FX was favorable in the quarter in the margin, but again, the bigger driver was inventory write-offs.

And also recall that part of why we're seeing a lift in gross margin year-on-year is the fact that with the divestitures we did last year, primarily at MCC, you do get a favorable lift as a result of just the mix of those businesses.

If you look from an expense perspective, recall that as I mentioned in the prepared remarks, we did meet and we are exceeding our target of $2.5 billion of expense reduction relative to our 2012 base. So we've delivered on what we expected to do there.

If you look at what's happening on a spend basis, obviously, we are investing in R&D and, in fact, R&D was up a little bit. It was funded by overall reductions across marketing and administrative spend.

I don't want to get into specific guidance as you look forward, but to say we continue to be committed to driving a leveraged P&L as we look into the future, balancing the need to drive cost reductions as an ongoing part of the business, really, with a focus more on how do we drive productivity as we invest in the future around key new product launches and, obviously, the R&D pipeline and what we have coming there.

So I would say our story is really shifting from absolute cost reduction to productivity and leverage going forward is the way I would look at it..

Thanks, Rob. Darla, let's move on to the next one..

It's from Alex Arfaei with BMO Capital Markets..

Good quarter on the KEYTRUDA progress. Just following up on KEYTRUDA, do you anticipate that most of the PD-L1 testing in lung cancer will be done with the diagnostic test that was approved with KEYTRUDA? Or will it depend on which test the lab chooses? Because your label is obviously not restricted.

And a follow-up for Roger if I – apologies if I missed it. But when can we expect data for your next generation immuno-oncology product? Thank you..

Yeah, so I'll start off with the question on the testing. I think – right now, I think a lot of the PD-L1 testing, particularly outside of the large hospitals, institutions, will be done through the approved PD-L1 tests that are available. I do think even today some of the large institutions are doing their own PD-L1 testing.

So I think, over time, it's very common for multiple tests to be available in the marketplace for various things like HER2 and so forth and I think that there'll be multiple different tests and the hospital and physicians will choose which ones they use in the future..

Yeah, and, Alex, it's Roger. I assume you want clinical data for next generation immuno-oncology products and we have several. But, for example, we have an anti-GITR antibody, which is an agonist antibody immune manipulator. We also have the CEACAM antibody that we acquired.

And both of those are in Phase 1 clinical studies, the GITR antibody also in combination with KEYTRUDA. So we'll have the opportunity to see those data in 2016..

Thanks, Roger. Darla, let's move on to the next one..

It's from Seamus Fernandez with Leerink..

Oh, thanks very much for taking the question. So just a few here.

First off, could you guys update us on why the Incyte agreement didn't include lung? Should we assume that lung is excluded from this? Or is that something that may require some additional negotiation going forward? Or is that, should we think of that as still a potential shot on goal for Merck? Second, can you talk a little bit more about the SGLT-2 programs? When might we see data from those? And should we expect a filing in 2016? And if you could, just let us know if that would include the single pill combination or if that would be filed separately, that would be great.

And then the last question really is on other indications for KEYTRUDA. You guys have an awful lot of patients in clinical trials and ongoing. Roger, you mentioned the opportunity to potentially see gastric cancer approval of KEYTRUDA in Japan sooner than I think many of us expect.

So what other areas should we be thinking about in terms of additional KEYTRUDA filings? Or at least additional data or tumor types where you think Merck has a lead or a potential advantage?.

Right. So, Seamus, first of all, with respect to the insight agreement, we have the bulk of data from the combination of KEYTRUDA with their IDO1 inhibitor in melanoma. And based on those data, you'll have a chance to see some of those data at the Society for Immunotherapy and Cancer meeting, as I mentioned in November.

Based on those data, we, together, wanted very much to proceed into a late development. And that's what we're going to do. The agreement that we announced is about that. But it doesn't preclude doing other kinds of studies. And indeed, we have ongoing studies looking at other tumor types.

So we'll get more information about that, and that will be helpful. With respect to ertugliflozin, our SGLT-2 inhibitor program with Pfizer, again, all of the Phase 3 programs, all 11, are enrolled. Data will start rolling in. We'll have data in 2016. The filing will include the combination. It's not just by itself.

And we do expect – we will decide on it, the filing, based, of course, on what the data looked like. But certainly we hope that if the data looked good, that we would be able to file the entire package in 2016. And then the last question was other indications for KEYTRUDA.

And there again, we have registration-enabling studies going on in more than 10 different tumor types. And an awful lot of new data become available actually on an almost weekly basis because we have so many different studies going on. But I would highlight to you that we have a lot of good data already in head and neck cancer, in bladder cancer.

We're developing the drug in triple negative breast cancer. We're dropping the drug in classical Hodgkin's lymphoma, esophageal cancer, gastric cancer, as I mentioned. So as you could see, there's a lot going on. And where we see opportunities to pursue an accelerated approval pathway, we're certainly interested in that.

But we're also, of course, doing more conventional studies, including studies in which we're looking at the question of whether or not we can identify biomarkers like micro-satellite instability that permit us to gain access to and bring benefit to an awful lot more patients with other tumors. So it's a broad portfolio..

Thanks, Roger. And Darla, I know we're starting to run out of time. We're going to try to squeeze in two more questions if we can keep them short. And then if we have time, we'll try to squeeze in another one. But let's move on to the next one..

It's from David Risinger with Morgan Stanley..

Great. I will cut my eight-part question to six. Just kidding.

So very quickly, so could you just rephrase what the proposed anacetrapib study change was that – I think, Roger, you said was rejected by the FDA or something like that? Second, with respect to the base interim look, when is that interim look and does it include a futility analysis? And then third, could you just update us on the timing of GARDASIL safety updates in Japan and the U.K.?.

Roger, you want to start with the question?.

Yeah, so, David, with respect to anacetrapib, the critical issue was to change the primary endpoint of the REVEAL study to include ischemic stroke as a component of the composite endpoint rather than revascularization, because ischemic stroke is both a more explicit endpoint to test, and in addition, is something that we know from the IMPROVE-IT study was associated with cholesterol reduction.

Regulatory agencies were not comfortable with the idea of changing the primary end point, perhaps not surprisingly.

While it is at the sponsors' discretion to do those kinds of things, I think the feeling after the discussions on the part of the steering committee was that, that wouldn't be the way to go forward and we would stick with the primary endpoint as originally constituted. So that program moves forward.

And with respect to the base program, we have completed enrollment in the mild to moderate study. I should – I would expect that study to proceed to completion. So you can anticipate that, that study will proceed to completion. We would hope to have data available in the 2017 timeframe..

And, David, with regard to GARDASIL, we continue to work with our customers and the government in Japan. We are confident in the efficacy and the safety of the product. And we continue to have active discussions with them and provide them whatever data they would like to have..

And I think we are almost out of time, but let's try to squeeze in one more really quickly. And then I want to be sensitive to the time given all the other calls going on today..

And your final question comes from John Boris with SunTrust..

Thanks for taking the questions, and congratulations on the results today. One thing that appeared to be really robust in the quarter were obviously JANUVIA, JANUMET sales relative to how we projected them. It just has to do with realized sales and your contracting strategy in the U.S.

Have you recently implemented anything on that in the way you're accounting for discounts and rebates? And are you an able to realize a higher level of net sales as a result of anything that you're doing on the accounting on JANUVIA and JANUMET? And then secondly, on ertugliflozin, can you maybe just outline what you view, aside from developing combo pills, as the key points of differentiation relative to the other competitors? And just any thoughts on how you're designing your outcome study that would be required for that product? Thanks..

So, John, this is Adam. And I want to make sure I'm really clear about JANUVIA. What I look at first is TRx volume growth. And in the United States, we saw 4% TRx volume growth.

But we also saw timing of customer buying patterns that caused about $100 million of increased sales in this quarter, and those will come out in the fourth quarter or subsequent quarters. We had increased price last year in the third quarter. And we saw customers draw down their inventories. This year, in the third quarter, we did not increase price.

So we saw inventory levels remain at higher levels. And JANUVIA is just a very big product. And a few days of inventory in one direction or another can impact reported sales significantly. So that's why you saw that difference of $100 million from – versus the prior year.

And then with regard to – and by the way, there's no change in terms of accounting or the rebates or discounts. Those are all consistent. What you're seeing is this timing of when we took price last year versus this year. That's all. It's just, that's why I say to monitor the volume, and we're very pleased with the volume.

We feel good about the volume going into fourth quarter and the volume going into 2016..

Roger, you want to comment really quickly on....

Yeah, John, with respect to ertugliflozin, what I've said from the very beginning is when we partnered with Pfizer on the drug, this is a drug that has extremely good pharmaceutical properties, and hence, it can be paired easily. It plays nicely with others.

And so the most important attribute of the drug is our ability to formulate it together with JANUVIA and develop it in that context. With respect to the outcome studies, the data that are available from EMPA-REG obviously influence the way we think about those outcome studies.

And so we're looking at that carefully to ask the question, what do we need to do to ensure the outcome study provides a satisfactory test of whether ertugliflozin also reduces cardiovascular mortality in the way that was seen in EMPA-REG..

So just in closing, this quarter saw very strong performance from key drugs like JANUVIA and KEYTRUDA. We are looking forward to launching in the hepatitis C space and the lung space, and we feel there's good momentum for the business. Take care. Thank you..