UNITED STATES SECURITIES AND EXCHANGE COMMISSION,

Washington, D.C. 20549

 

Form 20-F

 

 

Commission file number: 001-13896

 

Elan Corporation, plc

(Exact name of Registrant as specified in its charter)

 

Securities registered or to be registered pursuant to Section 12(b) of the Act:

 

 

Securities registered or to be registered pursuant to Section 12(g) of the Act:

None

 

(Title of Class)

 

Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act:

None

 

 

(Title of Class)

 

Indicate the number of outstanding shares of each of the issuer’s classes of capital or common stock as of the close of the period covered by the annual report: 429,790,036 Ordinary Shares.

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.  Yes þ     No o

 

If this report is an annual or transition report, indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.  Yes o     No þ

 

Note — Checking the box above will not relieve any registrant required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 from their obligations under those Sections.

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days:  Yes þ     No o

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer  þ     Accelerated filer  o     Non-accelerated filer o

 

Indicate by check mark which financial statement item the registrant has elected to follow:  Item 17 o     Item 18 þ

 

If this is an annual report, indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act):  Yes o     No þ

 

 

TABLE OF CONTENTS

 

 

As used herein, “we”, “our”, “us”, “Elan” and the “Company” refer to Elan Corporation, plc (public limited company) and its consolidated subsidiaries, unless the context requires otherwise. All product names appearing in italics are trademarks of Elan. Non-italicized product names are trademarks of other companies.

 

Prior to the 2004 fiscal year, we prepared our Consolidated Financial Statements, incorporated by reference on our historical Form 20-F, in conformity with Irish generally accepted accounting principles (Irish GAAP). Beginning with our 2004 fiscal year, we adopted accounting principles generally accepted in the United States (U.S. GAAP) as the basis for the preparation of our Consolidated Financial Statements. Accordingly, our Consolidated Financial Statements contained in this Form 20-F are prepared on the basis of U.S. GAAP for all periods presented.

 

We also prepared separate Consolidated Financial Statements, included in our Annual Report, in accordance with International Financial Reporting Standards (IFRS), which differ in certain significant respects from U.S. GAAP. The Consolidated Financial Statements included in our Annual Report have been prepared for the first time for the year ended December 31, 2005 under IFRS. Comparative information, which was previously presented under Irish GAAP for the year ended December 31, 2004, has been restated under IFRS. The Annual Report under IFRS, which includes a reconciliation of previously reported Irish GAAP financial information to IFRS, is a separate document from this Form 20-F.

 

Unless otherwise indicated, our Consolidated Financial Statements and other financial data contained in this Form 20-F are presented in United States dollars ($). We prepare our Consolidated Financial Statements on the basis of a calendar fiscal year beginning on January 1 and ending on December 31. References to a fiscal year in this Form 20-F shall be references to the fiscal year ending on December 31 of that year. In this Form 20-F, financial results and operating statistics are, unless otherwise indicated, stated on the basis of such fiscal years.

 

Statements included herein that are not historical facts are forward-looking statements. Such forward-looking statements are made pursuant to the safe harbor provisions of the U.S. Private Securities Litigation Reform Act of 1995. The forward-looking statements involve a number of risks and uncertainties and are subject to change at any time. In the event such risks or uncertainties materialize, our results could be materially affected.

 

This Form 20-F contains forward-looking statements about our financial condition, results of operations and estimates, business prospects and products that involve substantial risks and uncertainties. These statements can be identified by the fact that they use words such as “anticipate”, “estimate”, “project”, “intend”, “plan”, “believe” and other words and terms of similar meaning in connection with any discussion of future operating or financial performance or events. Among the factors that could cause actual results to differ materially from those described or projected herein are the following: (1) whether and when we will be able to resume marketing and developing Tysabri^® (natalizumab); (2) even if we can resume marketing and developing Tysabri, the potential of Tysabri and the potential for the successful development and commercialization of additional products; (3) the potential of Prialt^tm (ziconotide intrathecal infusion) as an intrathecal treatment for severe pain; (4) our ability to maintain sufficient cash, cash equivalents, and investments and other assets capable of being liquidated to meet our liquidity requirements; (5) whether restrictive covenants in our debt obligations will adversely affect us; (6) competitive developments affecting our products, including the introduction of generic competition following the scheduled loss of patent protection or marketing exclusivity for our products; (7) our ability to protect our patents and other intellectual property; (8) difficulties or delays in manufacturing; (9) trade buying patterns; (10) pricing pressures and uncertainties regarding healthcare reimbursement and reform; (11) the failure to comply with anti-kickback and false claims laws in the United States; (12) extensive government regulation; (13) risks from potential environmental liabilities; (14) failure to comply with our reporting and payment obligations under Medicaid or other government programs; (15) exposure to product liability risks; (16) an adverse effect that could result from the purported class action lawsuits initiated following the voluntary suspension of the marketing and clinical dosing of Tysabri; (17) the volatility of our stock price; and (18) some of our agreements that may discourage or prevent someone from acquiring us. We assume no obligation to update any forward-looking statements, whether as a result of new information, future events or otherwise.

 

Not applicable.

 

Not applicable.

 

 

The selected financial data set forth below is derived from our Consolidated Financial Statements and should be read in conjunction with, and is qualified by reference to, Item 5. “Operating and Financial Review and Prospects” and our Consolidated Financial Statements and related notes thereto, included elsewhere in this Form 20-F.

 

 

 

 

 

 

Not applicable.

 

 

Not applicable.

 

You should carefully consider all of the information set forth in this Form 20-F, including the following risk factors, when investing in our securities. The risks described below are not the only ones that we face. Additional risks not currently known to us or that we presently deem immaterial may also impair our business operations. We could be materially adversely affected by any of these risks. This Form 20-F also contains forward-looking statements that involve risks and uncertainties. Forward-looking statements are not guarantees of future performance and actual results may differ materially from those contemplated by such forward-looking statements.

 

The failure to reintroduce Tysabri to the market, or a substantial delay in such reintroduction, would have a material adverse effect on us.

 

In February 2005, Elan and Biogen Idec, Inc. (Biogen Idec) voluntarily suspended the marketing and clinical dosing of Tysabri. This decision was based on reports of two serious adverse events, one of which was fatal, in patients treated with Tysabri in combination with Biogen Idec’s product Avonex^® (Interferon beta-1A) in clinical trials. These events involved two cases of progressive multifocal leukoencephalopathy (PML), a rare and potentially fatal, demyelinating disease of the central nervous system. In March 2005, the companies announced that a patient who had received eight infusions of Tysabri in a Crohn’s disease trial had died of PML in December 2003. The case had originally been reported by a clinical trial investigator as malignant astrocytoma.

 

Elan and Biogen Idec completed a comprehensive safety evaluation in October 2005 of more than 3,000 Tysabri patients in collaboration with clinical trial investigators and leading experts in PML and neurology. The results of the safety evaluation identified no new confirmed cases of PML beyond the three previously reported.

 

In September 2005, Elan and Biogen Idec submitted to the U.S. Food and Drug Administration (FDA) a supplemental Biologics License Application (sBLA) for Tysabri, which the FDA subsequently designated for Priority Review. On March 7-8, 2006, the Peripheral and Central Nervous System (PCNS) Drugs Advisory Committee of the FDA reviewed and voted unanimously to recommend that Tysabri be reintroduced as a treatment for relapsing forms of multiple sclerosis (MS). On March 21, 2006, we and Biogen Idec were informed by the FDA that the agency would extend its regulatory review of Tysabri by up to 90 days in order to complete a full review of the Tysabri risk management plan. Under the revised timeline, we anticipate an action from the FDA about the reintroduction of Tysabri as a treatment for relapsing forms of MS on or before June 28, 2006.

 

If it is determined that PML is caused by Tysabri, if there are more such serious adverse events in patients treated with Tysabri or if we cannot obtain sufficient information to understand the risks associated with Tysabri, then we would be seriously and adversely affected. Further, if we cannot resume marketing Tysabri, or if we face a substantial delay in the resumption of marketing Tysabri, then we will be materially and adversely affected.

 

Our future success depends upon the successful development and commercialization of Tysabri and the successful development of additional products. If Tysabri is not commercially successful, we will be materially and adversely affected.

 

Excluding Tysabri, we market three products and have two potential programs in clinical development. The two programs are in the early stages of clinical development. Our future success depends upon the successful commercialization of Tysabri and the development and the successful commercialization of additional products.

 

Even if we can reintroduce Tysabri to the market, uncertainty created by the serious adverse events that have occurred or may occur, or restrictive labelling changes that may be mandated by regulatory agencies, may significantly impair the commercial potential for Tysabri.

 

We commit substantial resources to our research and development (R&D) activities, including collaborations with third parties such as Biogen Idec with respect to Tysabri. We expect to commit significant cash resources to the development and the commercialization of Tysabri and to the other products in our development pipeline. We cannot assure you that these investments will be successful.

 

In the pharmaceutical industry, the R&D process is lengthy and involves a high degree of risk and uncertainty. This process is conducted in various stages and, during each stage, there is a substantial risk that products in our

R&D pipeline, including Tysabri, and product candidates from our Alzheimer’s disease research programs, will experience difficulties, delays or failures. A number of factors could affect our ability to successfully develop and commercialize products, including our ability to:

 

 

Even if we obtain positive results from preclinical or clinical trials, we may not achieve the same success in future trials. Earlier stage trials are generally based on a limited number of patients and may, upon review, be revised or negated by authorities or by later stage clinical results. Historically, the results from preclinical testing and early clinical trials have often not been predictive of results obtained in later clinical trials. A number of new drugs and biologics have shown promising results in initial clinical trials, but subsequently failed to establish sufficient safety and effectiveness data to obtain necessary regulatory approvals. Data obtained from preclinical and clinical activities are subject to varying interpretations, which may delay, limit or prevent regulatory approval. Clinical trials may not demonstrate statistically sufficient safety and effectiveness to obtain the requisite regulatory approvals for product candidates. In addition, as happened with Tysabri, unexpected serious adverse events can occur in patients taking a product after the product has been commercialized.

 

Our failure to successfully develop and commercialize Tysabri and other products would materially adversely affect us.

 

We have substantial future cash needs and potential cash needs and we may not be successful in generating or otherwise obtaining the funds necessary to meet our other future and potential needs.

 

At December 31, 2005, we had $2,017.2 million of debt. At such date, we had cash and cash equivalents and restricted cash of $1,105.6 million. Our substantial indebtedness could have important consequences to us. For example, it could:

 

 

We estimate that we have sufficient cash, liquid resources and current assets and investments to meet our liquidity requirements for at least the next twelve months. Although we expect to continue to incur operating losses in 2006, in making our liquidity estimates, we have also assumed a certain level of operating performance. Our future operating performance will be affected by general economic, financial, competitive, legislative, regulatory and business conditions and other factors, many of which are beyond our control. If our future operating performance does not meet our expectations, including our failure to reintroduce and commercialize Tysabri

on a timely basis, then we could be required to obtain additional funds. If our estimates are incorrect or are not consistent with actual future developments and we are required to obtain additional funds, then we may not be able to obtain those funds on commercially reasonable terms, or at all, which would have a material adverse effect on our financial condition. In addition, if we are not able to generate sufficient liquidity from operations, we may be forced to curtail programs, sell assets or otherwise take steps to reduce expenses. Any of these steps may have a material adverse effect on our prospects.

 

Restrictive covenants in our debt instruments restrict or prohibit our ability to engage in or enter into a variety of transactions, which could adversely affect us.

 

The agreements governing some of our outstanding indebtedness contain various restrictive covenants that limit our financial and operating flexibility. The covenants do not require us to maintain or adhere to any specific financial ratio, but do restrict within certain limits our ability to, among other things:

 

 

The breach of any of these covenants may result in a default under the applicable agreement, which could result in the indebtedness under the agreement becoming immediately due and payable. Any such acceleration would result in a default under our other indebtedness subject to cross-acceleration provisions. If this were to occur, we might not be able to pay our debts or obtain sufficient funds to refinance them on reasonable terms, or at all. In addition, complying with these covenants may make it more difficult for us to successfully execute our business strategies and compete against companies not subject to similar constraints.

 

Our industry and the markets for our products are highly competitive.

 

The pharmaceutical industry is highly competitive. Our principal pharmaceutical competitors consist of major international companies, many of whom are larger and have greater financial resources, technical staff, manufacturing, R&D and marketing capabilities than Elan. We also compete with smaller research companies and generic drug manufacturers.

 

A drug may be subject to competition from alternative therapies during the period of patent protection or regulatory exclusivity and, thereafter, it may be subject to further competition from generic products. The price of pharmaceutical products typically declines as competition increases.

 

Our product Azactam^tm (aztreonam for injection, USP) lost its basic U.S. patent protection in October 2005. We expect that Azactam will be subject to generic competition in 2006 and that our sales of Azactam will be materially and adversely affected by such generic competition. However, to date, no generic Azactam product has been approved.

 

Generic competitors may also challenge existing patent protection or regulatory exclusivity. Generic competitors do not have to bear the same level of R&D and other expenses associated with bringing a new branded product to market. As a result, they can charge much less for a competing version of our product. Managed care organizations typically favor generics over brand name drugs, and governments encourage, or under some circumstances mandate, the use of generic products, thereby reducing the sales of branded products that are no longer patent protected. Governmental and other pressures toward the dispensing of generic products may rapidly and significantly reduce, or slow the growth in, the sales and profitability of any of our products not protected by

patents or regulatory exclusivity and may adversely affect our future results and financial condition. The launch of competitor products, including generic versions of our products, may materially adversely affect us.

 

Our competitive position depends, in part, upon our continuing ability to discover, acquire and develop innovative, cost-effective new products, as well as new indications and product improvements protected by patents and other intellectual property rights. We also compete on the basis of price and product differentiation and through our sales and marketing organization. If we fail to maintain our competitive position, then we may be materially adversely affected.

 

If we are unable to secure or enforce patent rights, trade secrets or other intellectual property, then we could be materially adversely affected.

 

Because of the significant time and expense involved in developing new products and obtaining regulatory approvals, it is very important to obtain patent and intellectual property protection for new technologies, products and processes. Our success depends in large part on our continued ability to obtain patents for our products and technologies, maintain patent protection for both acquired and developed products, preserve our trade secrets, obtain and preserve other intellectual property such as trademarks and copyrights, and operate without infringing the proprietary rights of third parties.

 

The degree of patent protection that will be afforded to technologies, products and processes, including ours, in the United States and in other markets is dependent upon the scope of protection decided upon by patent offices, courts and legislatures in these countries. There is no certainty that our existing patents or, if obtained, future patents, will provide us substantial protection or commercial benefit. In addition, there is no assurance that our patent applications or patent applications licensed from third parties will ultimately be granted or that those patents that have been issued or are issued in the future will prevail in any court challenge. Our competitors may also develop products, including generic products, similar to ours using methods and technologies that are beyond the scope of our patent protection, which could adversely affect the sales of our products.

 

The U.S. basic patent covering our product Maxipime^tm (cefepime hydrochloride) for injection expires in March 2007. Two formulation U.S. patents covering Maxipime expire in February 2008.

 

Although we believe that we make reasonable efforts to protect our intellectual property rights and to ensure that our proprietary technology does not infringe the rights of other parties, we cannot ascertain the existence of all potentially conflicting claims. Therefore, there is a risk that third parties may make claims of infringement against our products or technologies. In addition, third parties may be able to obtain patents that prevent the sale of our products or require us to obtain a license and pay significant fees or royalties in order to continue selling our products.

 

There has been, and we expect there will continue to be, significant litigation in the industry regarding patents and other intellectual property rights. Litigation and other proceedings concerning patents and other intellectual property rights may be protracted, expensive and distracting to our management. Our competitors may sue us as a means of delaying the introduction of our products. Any litigation, including any interference proceedings to determine priority of inventions, oppositions to patents or litigation against our licensors may be costly and time consuming and could adversely affect us. In addition, litigation may be necessary in some instances to determine the validity, scope or non-infringement of patent rights claimed by third parties to be pertinent to the manufacturing, use or sale of our products. The outcome of any such litigation could adversely affect the validity and scope of our patents or other intellectual property rights and hinder or delay the marketing and sale of our products.

 

If we are unable to secure or enforce patent rights, trademarks, trade secrets or other intellectual property, then we could be materially adversely affected.

 

If we experience significant delays in the manufacture of our products or in the supply of raw materials for our products, then sales of our products could be materially adversely affected.

 

We do not manufacture Tysabri, Prialt, Maxipime or Azactam. Our dependence upon collaborators and third parties for the manufacture of our products may result in unforeseen delays or other problems beyond our control. For example, if our third-party manufacturers are not in compliance with current good manufacturing practices

(cGMP) or other applicable regulatory requirements, then the supply of our products could be materially adversely affected. If we are unable to retain or obtain replacements for our third-party manufacturers or if we experience delays or difficulties with our third-party manufacturers in producing our products (as we did with Maxipime and Azactam in 2005 and prior years), then sales of these products could be materially adversely affected. In this event, we may be unable to enter into alternative manufacturing arrangements on commercially reasonable terms, if at all.

 

Our manufacturers require supplies of raw materials for the manufacture of our products. We do not have dual sourcing of our required raw materials. The inability to obtain sufficient quantities of required raw materials could materially adversely affect the supply of our products.

 

Buying patterns of wholesalers and distributors may cause fluctuations in our quarterly results.

 

Our product revenue may vary quarterly due, in part, to buying patterns of our wholesalers and distributors. In the event that wholesalers and distributors determine, for any reason, to limit purchases of our products, sales of those products would be adversely affected. For example, wholesalers and distributors may order products in larger than normal quantities prior to anticipated price increases for those products. This excess purchasing in any quarter could cause sales of those products to be lower than expected in subsequent quarters.

 

We are subject to pricing pressures and uncertainties regarding healthcare reimbursement and reform.

 

In the United States, many pharmaceutical products and biologics are subject to increasing pricing pressures, including pressures arising from recent Medicare reform. Our ability to commercialize products successfully depends, in part, upon the extent to which health care providers are reimbursed by third-party payers, such as governmental agencies, including the Centers for Medicare and Medicaid Services, private health insurers and other organizations, such as health maintenance organizations (HMOs), for the cost of such products and related treatments. In addition, if health care providers do not view current or future Medicare reimbursements for our products favorably, then they may not prescribe our products. Third-party payers are increasingly challenging the pricing of pharmaceutical products by, among other things, limiting the pharmaceutical products that are on their formulary lists. As a result, competition among pharmaceutical companies to place their products on these formulary lists has reduced product prices. If reasonable reimbursement for our products is unavailable or if significant downward pricing pressures in the industry occur, then we could be materially adversely affected.

 

Recent reforms in Medicare added a prescription drug reimbursement benefit beginning in 2006 for all Medicare beneficiaries. Although we cannot predict the full effects on our business of the implementation of this legislation, it is possible that the new benefit, which will be managed by private health insurers, pharmacy benefit managers, and other managed care organizations, will result in decreased reimbursement for prescription drugs, which may further exacerbate industry-wide pressure to reduce the prices charged for prescription drugs. This could harm our ability to generate revenues. In addition, Managed Care Organizations, HMOs, Preferred Provider Organizations, institutions and other government agencies continue to seek price discounts. In addition, certain states have proposed and certain other states have adopted various programs to control prices for their seniors’ and low-income drug programs, including price or patient reimbursement constraints, restrictions on access to certain products, importation from other countries, such as Canada, and bulk purchasing of drugs.

 

We encounter similar regulatory and legislative issues in most other countries. In the European Union (EU) and some other international markets, the government provides health care at low direct cost to consumers and regulates pharmaceutical prices or patient reimbursement levels to control costs for the government-sponsored health care system. This price regulation may lead to inconsistent prices and some third-party trade in our products from markets with lower prices. Such trade exploiting price differences between countries could undermine our sales in markets with higher prices.

 

The pharmaceutical industry is subject to anti-kickback and false claims laws in the United States.

 

In addition to the FDA restrictions on marketing of pharmaceutical products, several other types of state and federal laws have been applied to restrict some marketing practices in the pharmaceutical industry in recent years. These laws include anti-kickback statutes and false claims statutes.

The federal health care program anti-kickback statute prohibits, among other things, knowingly and willfully offering, paying, soliciting, or receiving remuneration to induce or in return for purchasing, leasing, ordering, or arranging for the purchase, lease, or order of any health care item or service reimbursable under Medicare, Medicaid, or other federally financed healthcare programs. This statute has been interpreted to apply to arrangements between pharmaceutical manufacturers on one hand and prescribers, purchasers, and formulary managers on the other. Although there are a number of statutory exemptions and regulatory safe harbors protecting some common activities from prosecution, the exemptions and safe harbors are drawn narrowly, and practices that involve remuneration intended to induce prescribing, purchases, or recommendations may be subject to scrutiny if they do not qualify for an exemption or safe harbor. Our practices may not in all cases meet all of the criteria for safe harbor protection from anti-kickback liability.

 

Federal false claims laws prohibit any person from knowingly presenting, or causing to be presented, a false claim for payment to the federal government, or knowingly making, or causing to be made, a false statement to get a false claim paid. Recently, several pharmaceutical and other health care companies have been prosecuted under these laws for allegedly providing free product to customers with the expectation that the customers would bill federal programs for the product. Additionally, another pharmaceutical company settled charges under the federal False Claims Act relating to off-label promotion. The majority of states also have statutes or regulations similar to the federal anti-kickback law and false claims laws, which apply to items and services reimbursed under Medicaid and other state programs, or, in several states, apply regardless of the payer. Sanctions under these federal and state laws may include civil monetary penalties, exclusion of a manufacturer’s products from reimbursement under government programs, criminal fines, and imprisonment.

 

Because of the breadth of these laws and the narrowness of the safe harbors, it is possible that some of our business activities could be subject to challenge under one or more of such laws. Such a challenge could have a material adverse effect on our business, financial condition and results of operations.

 

In January 2006, Elan received a subpoena from the U.S. Department of Justice and the Department of Health and Human Services, Office of Inspector General asking for documents and materials primarily related to our marketing practices for Zonegran^tm (zonisamide). We intend to cooperate with the government in its investigation. In April 2004, we completed the sale of our interests in Zonegran in North America and Europe to Eisai Co. Ltd. (Eisai).

 

We are subject to extensive government regulation, which may adversely affect our ability to bring new products to market and may adversely affect our ability to manufacture and market our existing products.

 

The pharmaceutical industry is subject to significant regulation by state, local, national and international governmental regulatory authorities. In the United States, the FDA regulates the design, development, pre-clinical and clinical testing, manufacturing, labelling, storing, distribution, import, export, record keeping, reporting, marketing and promotion of our pharmaceutical products, which include drugs, biologics and medical devices. Failure to comply with regulatory requirements at any stage during the regulatory process could result in, among other things, delays in the approval of applications or supplements to approved applications, refusal of a regulatory authority to review pending market approval applications or supplements to approved applications, warning letters, fines, import or export restrictions, product recalls or seizures, injunctions, total or partial suspension of production, civil penalties, withdrawals of previously approved marketing applications or licenses, recommendations by the FDA or other regulatory authorities against governmental contracts, and criminal prosecutions.

 

We must obtain and maintain approval for our products from regulatory authorities before such products may be sold in a particular jurisdiction. The submission of an application to a regulatory authority with respect to a product does not guarantee that approval to market the product will be granted. Each authority generally imposes its own requirements and may delay or refuse to grant approval, even though a product has been approved in another country. In our principal markets, including the United States, the approval process for a new product is complex, lengthy, expensive and subject to unanticipated delays. We cannot be sure when or whether approvals from regulatory authorities will be received or that the terms of any approval will not impose significant limitations that could negatively impact the potential profitability of the approved product. Even after a product is approved, it may be subject to regulatory action based on newly discovered facts about the safety and efficacy of the product, on any

activities that regulatory authorities consider to be improper or as a result of changes in regulatory policy. Regulatory action may have a material adverse effect on the marketing of a product, require changes in the product’s labelling or even lead to the withdrawal of the regulatory marketing approval of the product.

 

All facilities and manufacturing techniques used for the manufacture of products and devices for clinical use or for sale in the United States must be operated in conformity with cGMPs, the FDA’s regulations governing the production of pharmaceutical products. There are comparable regulations in other countries. Any finding by the FDA or other regulatory authority that we are not in substantial compliance with cGMP regulations or that we or our employees have engaged in activities in violation of these regulations could interfere with the continued manufacture and distribution of the affected products, up to the entire output of such products, and, in some cases, might also require the recall of previously distributed products. Any such finding by the FDA or other regulatory agency could also affect our ability to obtain new approvals until such issues are resolved. The FDA and other regulatory authorities conduct scheduled periodic regulatory inspections of our facilities to ensure compliance with cGMP regulations. Any determination by the FDA or other regulatory authority that we, or one of our suppliers, are not in substantial compliance with these regulations or are otherwise engaged in improper or illegal activities could have a material adverse effect on us.

 

In May 2001, our wholly-owned subsidiary, Elan Holdings, Inc. (Elan Holdings) and the late Donal J. Geaney, then our chairman and chief executive officer, William C. Clark, then president of operations, and two then employees of Elan Holdings, Hal Herring and Cheryl Schuster, entered into a consent decree of permanent injunction with the U.S. Attorney for the Northern District of Georgia, on behalf of the FDA, relating to alleged violations of cGMP at our Gainesville facility. The facility manufactured, and continues to manufacture, verapamil hydrochloride controlled-release tablets for the treatment of high blood pressure. The consent decree does not represent an admission by Elan Holdings or the former officers or employees named above of any of the allegations set forth in the decree. Under the terms of the consent decree, which will continue in effect until at least May 2006, Elan Holdings is permanently enjoined from violating cGMP regulations. In addition, Elan Holdings was required to engage an independent expert, subject to FDA approval, who conducted inspections of the facility through May 2004 in order to ensure the facility’s compliance with cGMP. The first of these inspections was completed and reported upon by the independent expert to the FDA on September 3, 2002. A corrective action plan was prepared and sent to the FDA in response to this inspection. A second independent consultant audit occurred in May 2003 and was reported upon by the independent expert to the FDA on August 14, 2003. In response to the inspection, a corrective action plan was prepared and sent to the FDA. The independent consultant inspected the facility for the third time in May 2004 and reported his findings to the FDA in August 2004. The independent expert found our response and corrective action to that date to be satisfactory. During the term of the consent decree, we expect that the facility will be subject to increased FDA inspections and, under the terms of the consent decree, we will be required to reimburse the FDA for its costs related to these inspections.

 

Our business exposes us to risks of environmental liabilities.

 

We use hazardous materials, chemicals and toxic compounds that could expose people or property to accidental contamination, events of non-compliance with environmental laws, regulatory enforcement and claims related to personal injury and property damage. If an accident occurred or if we were to discover contamination caused by prior operations, then we could be liable for cleanup, damages or fines, which could have an adverse effect on us.

 

The environmental laws of many jurisdictions impose actual and potential obligations on us to remediate contaminated sites. These obligations may relate to sites that we currently own, sites that we formerly owned or operated or sites where waste from our operations was disposed. These environmental remediation obligations could significantly impact our operating results. Stricter environmental, safety and health laws and enforcement policies could result in substantial costs and liabilities to us, and could subject our handling, manufacture, use, reuse or disposal of substances or pollutants to more rigorous scrutiny than is currently the case. Consequently, compliance with these laws could result in significant capital expenditures, as well as other costs and liabilities, which could materially adversely affect us.

If we fail to comply with our reporting and payment obligations under the Medicaid rebate program or other governmental pricing programs, then we could be subject to additional reimbursements, penalties, sanctions and fines, which could have a material adverse effect on our business.

 

As a condition of reimbursement under Medicaid, we participate in the U.S. federal Medicaid rebate program, as well as several state rebate programs. Under the federal and state Medicaid rebate programs, we pay a rebate to each state for our products that are reimbursed by those programs. The amount of the rebate for each unit of product is set by law based on reported pricing data. The rebate amount may also include a penalty if our prices increase faster than the rate of inflation.

 

As a manufacturer of single source, innovator and non-innovator multiple source products, rebate calculations vary among products and programs. The calculations are complex and, in some respects, subject to interpretation by governmental or regulatory agencies, the courts and us. The Medicaid rebate amount is computed each quarter based on our pricing data submission to the Centers for Medicare and Medicaid Services at the U.S. Department of Health and Human Services. The terms of our participation in the program impose an obligation to correct the prices reported in previous quarters, as may be necessary. Any such corrections could result in an overage or shortfall in our rebate liability for past quarters (up to 12 past quarters), depending on the direction of the correction. Governmental agencies may also make changes in program interpretations, requirements or conditions of participation, some of which may have implications for amounts previously estimated or paid.

 

U.S. Federal law requires that any company that participates in the federal Medicaid rebate program extend comparable discounts to qualified purchasers under the Public Health Services pharmaceutical pricing program. This pricing program extends discounts comparable to the Medicaid net price to a variety of community health clinics and other entities that receive health services grants from the Public Health Service, as well as outpatient utilization at hospitals that serve a disproportionate share of poor patients.

 

Additionally, each calendar quarter, we calculate and report an Average Sales Price (ASP) for all products covered by Medicare Part B (primarily injectable or infused products). We submit ASP information for each such product within 30 days of the end of each calendar quarter. This information is then used to set reimbursement levels to reimburse Part B providers for the drugs and biologicals dispensed to Medicare Part B participants.

 

Furthermore, pursuant to the Veterans Health Care Act, a Non-Federal Average Manufacturer Price is calculated each quarter and a Federal Ceiling Price is calculated each year for every Covered Drug marketed by us. These prices are used to set pricing for purchases by the military arm of the government.

 

These price reporting obligations are complicated and often involve decisions regarding issues for which there is no clear-cut guidance from the government. Failure to submit correct pricing data can subject us to civil, administrative, and criminal penalties, and could have a material adverse effect on our business, financial condition and results of operations.

 

We are subject to continuing potential product liability risks, which could harm our business.

 

Risks relating to product liability claims are inherent in the development, manufacturing and marketing of our products. Any person who is injured while using one of our products may have a product liability claim against us. Since we distribute and sell our products to a wide number of end users, the risk of such claims could be material. Persons who participate in clinical trials involving our products may also bring product liability claims.

 

We currently do not maintain product liability insurance for the first $25.0 million of aggregate claims, but do maintain coverage for the next $150.0 million with our insurers. Our insurance coverage may not be sufficient to cover fully all potential claims.

 

If our claims experience results in higher rates, or if product liability insurance otherwise becomes costlier because of general economic, market or industry conditions, then we may not be able to maintain product liability coverage on acceptable terms. If sales of our products increase materially, or if we add significant products to our portfolio, then we will require increased coverage and may not be able to secure such coverage at reasonable rates.

We and some of our officers and directors have been named as defendants in putative class actions; an adverse outcome in the class actions could have a material adverse effect on us.

 

We and some of our officers and directors have been named as defendants in putative class actions filed in 2005. The class action complaints allege claims under the U.S. federal securities laws and state laws. The complaints allege that we caused the release of materially false or misleading information regarding Tysabri. The complaints seek damages and other relief that the courts may deem just and proper. We believe that the claims in the lawsuits are without merit and intend to defend against them vigorously.

 

An adverse result in the lawsuits could have a material adverse effect on us.

 

Our stock price is volatile, which could result in substantial losses for investors purchasing shares.

 

The market prices for our shares and for securities of other companies engaged primarily in biotechnology and pharmaceutical development, manufacture and distribution are highly volatile. For example, on February 28, 2005, we lost approximately 70% of our market capitalization and on March 31, 2005, we lost more than 50% of our market capitalization. The market price of our shares likely will continue to fluctuate due to a variety of factors, including:

 

 

Certain provisions of agreements to which we are a party may discourage or prevent a third party from acquiring us and could prevent shareholders from receiving a premium for their shares.

 

We are a party to agreements that may discourage a takeover attempt that might be viewed as beneficial to shareholders who wish to receive a premium for their shares from a potential bidder. For example:

 

 

 

 

Elan, an Irish public limited company, is a neuroscience-based biotechnology company headquartered in Dublin, Ireland.

 

We were incorporated as a private limited company in Ireland in December 1969 and became a public limited company in January 1984. Our principal executive offices are located at Treasury Building, Lower Grand Canal Street, Dublin 2, Ireland and our telephone number is 353-1-709-4000. Our principal research and development, manufacturing and marketing facilities are located in Ireland, the United States and the United Kingdom.

 

 

Our business is organized into two business units: Biopharmaceuticals and Elan Drug Technologies (EDT). Biopharmaceuticals engages in research, development and commercial activities and includes our activities in the areas of autoimmune diseases, neurodegenerative diseases, and our specialty business group. EDT focuses on product development, scale-up and manufacturing to address drug optimization challenges of the pharmaceutical industry.

 

In the area of autoimmune diseases, we continue to research and develop novel therapies that may help patients who suffer from diseases where an immune reaction is mistakenly directed at cells, tissues and organs in different parts of the body. Currently there are few autoimmune diseases for which the disease can be reversed or cured; autoimmune diseases are, therefore, often chronic, requiring life-long care.

 

The wide range of autoimmune diseases includes MS, Crohn’s disease (CD), ulcerative colitis (UC) and rheumatoid arthritis (RA). Worldwide it is estimated that one million people suffer from the different forms of MS; and more than a million people suffer from CD and UC.

 

Tysabri, an alpha 4 integrin antagonist, is the first in a new class of adhesion molecule inhibitors for the treatment of MS. Tysabri is designed to inhibit immune cells from leaving the bloodstream and to prevent these cells from migrating into chronically inflamed tissue where they may cause or maintain inflammation. Tysabri is being developed and commercialized by us in collaboration with Biogen Idec.

 

On March 7-8, 2006, the PCNS Advisory Committee reviewed and voted unanimously to recommend that Tysabri be reintroduced as a treatment for relapsing forms of MS. On March 21, 2006, we and Biogen Idec were informed by the FDA that the agency would extend its regulatory review of Tysabri by up to 90 days in order to complete a full review of the Tysabri risk management plan. Under the revised timeline, we anticipate an action from the FDA about the reintroduction of Tysabri as a treatment for relapsing forms of MS on or before June 28, 2006.

 

The PCNS Advisory Committee review regarding Tysabri culminated a 13-month process focused on reviewing the safety of the therapy and encompassing the following events:

 

 

 

In the area of neurodegenerative diseases, we continue to build on our discovery and clinical foundation in Alzheimer’s disease and Parkinson’s disease. In the United States and throughout the world, Alzheimer’s disease and related disorders represent a significant unmet medical need.

 

Alzheimer’s disease is a devastating brain degeneration disorder that primarily affects older persons. The disease can begin with forgetfulness and progress into advanced symptoms, including the decline or loss of memory, reasoning, abstraction, and language. Most patients will eventually need complete skilled nursing care, and in the absence of other illnesses, the progressive loss of brain function itself will cause death. In the United States, Alzheimer’s disease is estimated to afflict 4.5 million people, with 450,000 new diagnoses every year. Worldwide, 20 to 30 million people may be affected.

 

Parkinson’s disease also typically occurs later in life. Parkinson’s disease is a progressive degenerative neurologic movement disorder that destroys nerve cells in the part of the brain responsible for muscle control and movement, creating problems in walking, balance and coordination. In the United States, there are an estimated 500,000 to 1.5 million people with Parkinson’s disease, and approximately 50,000 new patients are diagnosed each year. It is estimated that four million people worldwide suffer from Parkinson’s disease.

 

While a number of approved treatment options exist for Alzheimer’s disease and Parkinson’s disease, current available options do not affect the underlying cause of the disease nor its progression.

 

Our research and development efforts in Alzheimer’s disease and Parkinson’s disease span more than two decades, and our work in neurodegeneration diseases is considered unique, especially in the area of immunotherapies targeting Alzheimer’s disease.

 

In a current, industry-leading immunotherapy program, in collaboration with Wyeth, we are conducting clinical trials for the treatment of mild to moderate Alzheimer’s disease. AAB-001, an experimental monoclonal antibody, is in Phase 2 studies, and ACC-001, a novel beta amyloid-related active immunization approach, entered Phase 1 studies in late 2005.

 

Our specialty business group encompasses our commercial activities related to meeting the needs of specialists treating severe bacterial infections in hospitals, and pain specialists addressing severe chronic pain. Currently, these products are the antibacterial hospital products Maxipime and Azactam, and Prialt, an innovative treatment for severe chronic pain, which we launched in the United States in January 2005.

 

In February 2005, the European Commission granted marketing authorization for Prialt for the treatment of severe, chronic pain in patients who require intrathecal analgesia. Prialt has been designated an orphan drug in the European Union. On March 20, 2006, we completed the sale of the European rights to Prialt to Eisai, while retaining the product rights in the United States.

EDT focuses on product development, scale-up and manufacturing to address drug optimization challenges of the pharmaceutical industry.

 

Elan has a proud track record of innovation and expertise in drug optimization. For more than 35 years, Elan has been applying its skills and knowledge to enhance the performance of dozens of drugs that have subsequently been marketed in more than 40 countries. Today, more than 2.5 million patients worldwide use drug products based on or enhanced by our technologies.

 

Elan’s NanoCrystal^tm technology, a drug optimization technology applicable to poorly water-soluble compounds, was integral to EDT’s 2005 results. NanoCrystal technology is covered by more than 130 U.S. and international patents and patent applications and is part of a suite of proprietary technologies that EDT offers to third-party clients.

 

AUTOIMMUNE DISEASES

 

About Autoimmune Diseases

 

In autoimmune diseases, the immune system mistakenly targets the cells, tissues and organs of a person’s body, generally causing inflammation. Inflammation is a response of body tissues to trauma, infection, chemical or physical injury, allergic reaction, or other factors. It is usually characterized by a collection of cells and molecules at a target site.

 

Different autoimmune diseases affect the body in different ways. For example, in MS, the autoimmune reaction is directed against the brain. In CD, it is directed against the gastrointestinal tract; and in RA, it is directed against the joints. Autoimmune diseases are often chronic, affecting millions of people and requiring life-long care. Most autoimmune diseases cannot currently be reversed or cured.

 

Elan’s therapeutic strategy for treating autoimmune diseases is to identify mechanisms common to autoimmune diseases, and develop novel therapeutics that stop the underlying causes of disease.

 

Alpha 4 integrin is a protein expressed by immune cells that allows those cells to leave the blood stream and invade target tissue. Blocking alpha 4 integrin stops immune cells from entering tissues and therefore stops injury before it can occur.

 

Tysabri

 

Tysabri, an alpha 4 integrin antagonist, is the first in a new class of adhesion molecule inhibitors for the treatment of MS. Tysabri is designed to inhibit immune cells from leaving the bloodstream and to prevent these cells from migrating into chronically inflamed tissue where they may cause or maintain inflammation. Tysabri is being developed and commercialized by us in collaboration with Biogen Idec.

 

FDA Review of Tysabri for the Treatment of MS

 

On March 7-8, 2006, the PCNS Advisory Committee reviewed and voted unanimously to recommend that Tysabri be reintroduced as a treatment for relapsing forms of MS. On March 21, 2006, we and Biogen Idec were informed by the FDA that the agency would extend its regulatory review of Tysabri by up to 90 days in order to complete a full review of the Tysabri risk management plan. Under the revised timeline, we anticipate an action from the FDA about the reintroduction of Tysabri as a treatment for relapsing forms of MS on or before June 28, 2006.

 

In November 2004, the FDA had granted accelerated approval of Tysabri as a treatment for relapsing forms of MS to reduce the frequency of clinical relapses, making Tysabri the first humanized monoclonal antibody to be approved for the treatment of MS. Revenue from sales of Tysabri amounted to $11.0 million in 2005 (2004: $6.4 million).

The PCNS Advisory Committee review regarding Tysabri culminated a 13-month process focused on reviewing the safety of the therapy and encompassing the following events:

 

Voluntary Suspension of Tysabri

 

In late February 2005, Elan and Biogen Idec suspended the marketing and dosing in clinical trials of Tysabri, based on two reports of PML, one of which was fatal, in patients treated for more than two years with Tysabri in combination with Avonex in clinical trials. PML is a rare and potentially fatal demyelinating disease of the central nervous system.

 

We and Biogen Idec initiated a comprehensive safety evaluation of Tysabri and any possible link to PML. The safety evaluation was comprised of the review of all clinical trial data. We and Biogen Idec worked with clinical trial investigators and PML and neurology experts to evaluate more than 3,000 patients in MS, CD and RA trials. The safety evaluation also included a review of any reports of potential PML in patients receiving Tysabri in the commercial setting.

 

In March 2005, we and Biogen Idec announced that the safety evaluation had led to a posthumous reassessment of PML in a patient in an open label CD clinical trial. The patient died in December 2003, and the case had originally been reported by a clinical trial investigator as malignant astrocytoma. This diagnosis was confirmed at the time by histopathology. The patient had received eight doses of Tysabri over an 18-month period, and prior medication history included multiple courses of immunosuppressant agents.

 

In August 2005, we and Biogen Idec reported that findings from the safety evaluation of Tysabri in patients with MS resulted in no new confirmed cases of PML beyond the three previously reported. On October 17, 2005, which marked the completion of the safety review, we reported the same results from our evaluation of patients with CD and RA.

 

More than 2,000 MS patients from clinical trials were eligible for the safety evaluation, and more than 91 percent of these patients agreed to participate. More than 1,500 CD and RA patients from clinical trials were eligible for the safety evaluation, and approximately 88 percent of these patients participated.

 

In September 2005, Elan and Biogen Idec announced that the companies had submitted an sBLA for Tysabri to the FDA for the treatment of MS and would submit a similar data package to the EMEA. In November 2005, the sBLA was accepted and designated for Priority Review by the FDA, and the European submission was accepted for review.

 

The sBLA included two-year data from the Phase 3 AFFIRM monotherapy trial and SENTINEL add-on trial with Avonex in MS, a revised label and risk management plan, and an integrated safety assessment of Tysabri clinical trial patients.

 

Redosing of Tysabri in Clinical Trial

 

On February 15, 2006, Elan and Biogen Idec were informed by the FDA that it had removed the hold on clinical trial dosing of Tysabri in MS in the United States, and the companies announced that they expected to begin an open label, multi-center safety extension study of Tysabri monotherapy in the United States and internationally.

 

AFFIRM Phase 3 Monotherapy Trial

 

The AFFIRM trial was a two-year, randomized, multi-center, placebo-controlled, double-blind study of 942 patients conducted in 99 sites worldwide, evaluating the effect of Tysabri on the progression of disability in MS at two years and the rate of clinical relapses at one and two years. Patients with relapsing forms of MS, who had experienced at least one relapse in the previous year, were randomized to receive a 300 milligram intravenous (300 mg IV) infusion of Tysabri (n= 627) or placebo (n=315) every four weeks.

 

At one year, there was a 66 percent relapse rate reduction in the Tysabri-treated group versus the placebo-treated group. An annualized relapse rate of 0.25 was seen with Tysabri-treated patients versus 0.74 with placebo-treated patients.

All secondary endpoints were also met. In the Tysabri-treated group, 60 percent of patients developed no new or newly enlarging T2 hyperintense lesions compared to 22 percent of placebo-treated patients. On the one-year MRI scan, 96 percent of Tysabri-treated patients had no gadolinium enhancing lesions compared to 68 percent of placebo-treated patients. The proportion of patients who remained relapse free was 76 percent in the Tysabri-treated group compared to 53 percent in the placebo-treated group.

 

In February 2005, we and Biogen Idec announced that the AFFIRM monotherapy trial achieved the two-year primary endpoint of slowing the progression of disability in patients with relapsing forms of MS. Tysabri treatment led to a 42 percent reduction in the risk of disability progression relative to placebo. These data also demonstrated a 67 percent reduction in the rate of clinical relapses over two years, which was sustained and consistent with the previously reported one-year results.

 

In April 2005, the full two-year AFFIRM monotherapy data was presented at the 57th annual American Academy of Neurology meeting. The data was published in the New England Journal of Medicine in March 2006.

 

SENTINEL Phase 3 Add-on Trial

 

The SENTINEL trial, also a two-year study, was a randomized, multi-center, placebo-controlled, double blind study of 1,171 patients in 123 clinical trial sites worldwide. The trial was designed to determine if adding Tysabri to ongoing Avonex therapy is more effective than continuing Avonex treatment alone in slowing the rate of disability in MS at two years and in reducing the rate of clinical relapses at one and two years in patients with evidence of relapses despite Avonex therapy.

 

Patients in the SENTINEL trial were required to have relapsing forms of MS, be on Avonex treatment for at least one year, and have experienced at least one relapse in the previous year. All patients continued to receive once-weekly Avonex and were randomized to add either a 300 mg IV infusion of Tysabri (n= 589) or placebo (n=582) every four weeks.

 

At one year, the addition of Tysabri to Avonex resulted in a 54 percent reduction in the rate of clinical relapses over the effect of Avonex alone. An annualized relapse rate of 0.36 was seen with Tysabri when added to Avonex versus 0.78 with Avonex plus placebo.

 

All secondary endpoints were also met. In the group treated with Tysabri plus Avonex, 67 percent of patients developed no new or newly enlarging T2 hyperintense lesions compared to 40 percent in the Avonex plus placebo-treated group. On the one-year MRI scan, 96 percent of Tysabri plus Avonex-treated patients had no gadolinium-enhancing lesions compared to 76 percent of Avonex plus placebo-treated patients. The proportion of patients who remained relapse-free was 67 percent in the Tysabri plus Avonex-treated group compared to 46 percent in the Avonex plus placebo-treated group.

 

In July 2005, we and Biogen Idec announced that SENTINEL achieved the two-year primary endpoint of slowing the progression of disability in patients with relapsing forms of MS. The addition of Tysabri to Avonex resulted in a 24 percent reduction in the risk of disability progression compared to the effect provided by Avonex alone. Data from SENTINEL also demonstrated that the addition of Tysabri to Avonex led to a 56 percent relative reduction in the rate of clinical relapses compared to that provided by Avonex alone. The reduction in relapse rate was statistically significant and sustained over the entire two-year study period.

 

Other efficacy data from SENTINEL at two years, including MRI measures and immunogenicity, were similar to previously reported one-year results. Data from SENTINEL was published in the New England Journal of Medicine in March 2006.

 

Evaluating Tysabri in Crohn’s Disease

 

In collaboration with Biogen Idec, we are evaluating Tysabri as a treatment for CD. In September 2004, we submitted a Marketing Authorization Application to the EMEA for the approval of Tysabri for the treatment of CD. The application included induction data and 12-month data from a Phase 3 maintenance trial, ENACT-2, showing sustained response, remission, and withdrawal from corticosteroids in a significant number of patients. In 2006, we expect European regulatory action regarding the potential approval of Tysabri in CD, dependent upon completion of

the regulatory review of Tysabri in MS. We expect to file a Biologics License Application (BLA) for Tysabri as a treatment for CD in the United States in 2006.

 

ENCORE Phase 3 Crohn’s Disease Trial

 

In June 2005, Elan and Biogen Idec reported the topline results of the second Phase 3 induction trial, ENCORE, for the treatment of moderately to severely active CD in patients with evidence of active inflammation. ENCORE met the primary endpoint of clinical response as defined by a 70-point decrease in baseline Crohn’s Disease Activity Index (CDAI) score at both weeks 8 and 12.

 

In addition, ENCORE met all of its secondary endpoints including clinical remission at both weeks 8 and 12. Clinical remission was defined as achieving a CDAI score of equal to or less than 150 at both weeks 8 and 12.

 

There were no notable differences in the overall rates of adverse events or serious adverse events between the Tysabri and the placebo treatment groups. The most common adverse events seen in the trial were headache, nausea, abdominal pain and nasopharyngitis. The full ENCORE data set will be presented during the 2006 Digestive Disease Week (DDW) conference in May.

 

ENCORE was a Phase 3, international, double-blind, placebo-controlled study of 510 patients at 114 sites to evaluate the safety and efficacy of intravenous Tysabri in patients with moderately to severely active CD (based on a confirmed diagnosis of CD and a CDAI score of greater than or equal to 220 and less than or equal to 450) and evidence of active inflammation (as evidenced by elevated C-reactive protein levels of greater than 2.87 mg/l, the upper limit of normal). Patients were randomized 1:1 to treatment with Tysabri (300 mg IV) or placebo infusions at weeks 0, 4, and 8. Efficacy and safety assessments were performed at weeks 4, 8 and 12.

 

At the time of the voluntary suspension of Tysabri dosing in all ongoing clinical trials (February 2005), all ENCORE study patients had completed dosing based on the study protocol.

 

ENACT-2 Phase 3 Crohn’s Disease Maintenance Trial

 

ENACT-2 was a Phase 3, double-blind, placebo-controlled, international maintenance trial of Tysabri in CD enrolled responders from ENACT-1 (a three-month double-blind, placebo-controlled study in patients with moderately to severely active CD). Tysabri responders from ENACT-1 (339 patients) were re-randomized after the three-month study to one of two double-blind treatment groups: Tysabri (300 mg IV) or placebo, both administered monthly for a total of 12 months. The primary endpoint of ENACT-2 was sustained maintenance of response throughout the first six months of treatment.

 

We presented six-month data from the ENACT-2 study at the DDW in May 2004. Twelve-month ENACT-2 data was presented as part of a regulatory filing announced and subsequently presented at the 12th Annual United European Gastroenterology Week meeting in September 2004.

 

The data presented at the DDW showed Tysabri maintained clinical response and remission rates throughout six months among patients with Crohn’s disease who had previously achieved clinical response. At six months, 61 percent of Tysabri-treated patients exhibited significant clinical response versus 28 percent of patients re-randomized to receive placebo, and clinical remission was maintained by 44 percent of patients receiving Tysabri versus 26 percent of placebo-treated patients. Forty-nine percent of Tysabri-treated patients who were also on chronic corticosteroid therapy were able to withdraw from corticosteroids and maintain response, in contrast to 20 percent of patients on placebo. There were no notable differences in the rate of serious or non-serious adverse events between treatment groups. The most frequently reported adverse events were headache, nasopharyngitis, nausea and abdominal pain.

 

Evaluating Tysabri in Rheumatoid Arthritis

 

In February 2004, in collaboration with Biogen Idec, we filed an Investigational New Drug (IND) application with the FDA for Tysabri for the treatment of RA and initiated a Phase 2 clinical trial in May 2004 to evaluate Tysabri in patients with RA. It was a multi-center, double-blind, placebo-controlled study of the efficacy and

tolerability of intravenous Tysabri in patients with moderate-to-severe RA receiving concomitant treatment with methotrexate.

 

This study was prematurely discontinued in February 2005 due to the voluntary suspension of Tysabri dosing in all clinical trials. The available results from the discontinued trial demonstrated biological activity, but less than competitive efficacy results. For this reason, we and Biogen Idec have decided not to pursue the development of Tysabri for the treatment of RA at this time.

 

Autoimmune Diseases Research & Development

 

Our ongoing research in autoimmune diseases is based primarily on cell trafficking and focuses on discovering disease-modifying approaches to treating a wide range of autoimmune diseases, including MS, CD and RA. Tysabri emerged from this research program.

 

Since first publishing the hypothesis concerning the therapeutic potential of blocking alpha 4 integrin in 1992, our scientists have been expanding and refining our understanding of how cells enter tissues. We now have a clear understanding of how cells enter the gut, brain, or joints, and cause the damage characteristic of CD, MS, and RA. Through the course of this work we have developed small molecules that can selectively block particular alpha 4 integrin interactions, culminating in the development of ELND001 and ELND002 - two alpha 4 integrin small molecule antagonists targeted at distinct autoimmune diseases. We hope to bring these new therapies into the clinic in 2006.

 

NEURODEGENERATIVE DISEASES

 

About Neurodegenerative Diseases

 

In addition to Alzheimer’s disease and Parkinson’s disease, neurodegenerative diseases encompass other disorders that are characterized by changes in normal neuronal function. In most cases of degenerative disease, the risk of these changes increases with age, and the disease progression itself is progressive. Currently, neurodegenerative diseases are generally considered incurable. Several drugs are approved to alleviate some symptoms of some neurodegenerative diseases.

 

Alzheimer’s disease is a degenerative brain disorder that primarily affects older persons. In the United States, an estimated 4.5 million people, most of them over age 65, have Alzheimer’s disease, and the disease is thought to afflict half of all Americans over 85. Alzheimer’s disease can begin with forgetfulness and progress into more advanced symptoms, including confusion, language disturbances, personality and behavior changes, impaired judgment and profound dementia. As the disease advances, most patients will eventually need complete skilled nursing care, and in the absence of other illnesses, the progressive loss of brain function itself will cause death.

 

Parkinson’s disease is a progressive degenerative neurologic movement disorder that destroys nerve cells in the part of the brain responsible for muscle control and movement. This creates problems walking, maintaining balance and coordination in patients diagnosed with the disease. Parkinson’s disease typically occurs later in life, with an average age of onset of slightly over 62 years for U.S. patients. In the United States, there are an estimated 500,000 to 1.5 million people with Parkinson’s disease, and approximately 50,000 new patients are diagnosed each year. It is estimated that four million people worldwide suffer from Parkinson’s disease.

 

Our Scientific Approach to Alzheimer’s Disease and Related Disorders

 

Our scientific approach to treating Alzheimer’s disease focuses on the beta amyloid hypothesis, as it is believed that blocking the generation of beta amyloid in the brain or enhancing the clearance of beta amyloid will result in the successful treatment of Alzheimer’s disease patients. The beta amyloid hypothesis asserts that beta amyloid is involved in the formation of the plaque that causes the disruption of thinking that is the hallmark of Alzheimer’s disease. This hypothesis is also the leading approach to developing therapeutic treatments that may fundamentally alter the progression of the disease, and evidence suggests that clearance of beta amyloid may lead to improved function in Alzheimer’s disease patients.

Beta amyloid, also known as Abeta, is actually a small part of a larger protein called the amyloid precursor protein, or APP. Beta amyloid is formed when certain enzymes called secretases “clip” (or cleave) APP. It is becoming increasingly clear that once beta amyloid is released, it exists in multiple physical forms with distinct functional activities. It is believed that the toxic effects of these forms are likely responsible for the complex mental disruption characteristic of Alzheimer’s disease.

 

Alzheimer’s Research and Development

 

Our scientists are investigating three key therapeutic approaches that target the accumulation and production of beta amyloid. In collaboration with Wyeth, we are developing amyloid immunotherapies. Separately, we have research programs focused on small molecule inhibitors of beta secretase and gamma secretase, enzymes whose actions result in the over-production of beta amyloid in the brains of patients with Alzheimer’s disease.

 

Research in Beta Amyloid Immunotherapy

 

Beta amyloid immunotherapy pioneered by Elan involves the treatment of Alzheimer’s disease by inducing or enhancing the body’s own immune response in order to clear beta amyloid from the brain. Active immunization stimulates the body’s own immune system to manufacture anti beta amyloid antibodies that may attach to amyloid and clear it from the brain. This, in turn, appears to reduce the build-up of beta amyloid in the brain tissue of patients.

 

Through a monoclonal antibody approach (passive immunization), synthetically engineered antibodies directed at beta amyloid are injected into the bloodstream and are thought to help reverse beta amyloid accumulation.

 

Our scientists have developed a series of monoclonal antibodies and active immunization approaches that have the ability to selectively clear a variety of beta amyloid species. These new approaches have the potential to deliver second-generation immunotherapies with improved potency and broader therapeutic activity. Both AAB-001 and AAB-002 have emerged from this important work.

 

AAB-001

 

We, in collaboration with Wyeth, are continuing to pursue beta amyloid immunotherapy for mild to moderate Alzheimer’s disease in Phase 2 studies of a humanized monoclonal antibody, AAB-001. This therapeutic antibody, which is thought to bind and clear beta amyloid peptide, is designed to provide antibodies to beta amyloid directly to the patient, rather than requiring patients to mount their own individual responses. This approach, therefore, eliminates the need for the patient to mount an immune response to beta amyloid.

 

Animal studies have shown that this approach is as effective in clearing beta amyloid from the brain as active immunization methods. By providing such a “passive immunization” approach for treatment of Alzheimer’s disease, the benefits demonstrated with an earlier active immunization study may be retained, while the safety concerns may be greatly reduced or eliminated due to the absence of stimulation of the patient’s immune response to beta amyloid.

 

During the first half of 2005, we initiated two Phase 2 clinical trials with AAB-001. Both trials are randomized, double-blind, placebo-controlled, multiple ascending dose studies. One trial includes 240 patients and the other includes 30 patients, all with mild to moderate Alzheimer’s disease. The patients will be followed for 18 months, during which period there will be several interim evaluations of the data. These analyses will be used to decide if and when the program will be moved to the next phase of clinical development.

 

AAB-002

 

We anticipate a potential filing of an IND in the latter half of 2006 for AAB-002, a follow-on antibody program, which is also in collaboration with Wyeth. This antibody has demonstrated unique attributes in our experimental animal models when compared to AAB-001, and therefore represents a potential follow-on candidate to the first-generation passive antibody.

ACC-001

 

We, in collaboration with Wyeth, are also developing ACC-001, a novel beta amyloid-related active immunization approach. ACC-001 is in a Phase 1 clinical study designed to study safety and immunogenicity in patients with mild to moderate Alzheimer’s disease. The ACC-001 approach is intended to induce a highly specific antibody response to beta amyloid. The goal is to clear beta amyloid while minimizing side effects such as inflammation of the central nervous system. During the course of 2006, we anticipate generating sufficient data to enter into Phase 2 clinical trials.

 

Our Secretase Inhibitor Research

 

Beta and gamma secretases are proteases (enzymes that break down other proteins) that appear to clip the APP, resulting in the formation of beta amyloid. This is significant because if the “clipping” of APP could be prevented, the pathology of Alzheimer’s disease may be changed. As a result of these discoveries, we have developed and are pursuing advanced discovery programs focused on molecule inhibitors of beta and gamma secretases. We have been at the forefront of research in this area, publishing extensively since 1989, and anticipate moving small molecule secretase antagonists into the clinic in the next two to three years.

 

Beta Secretase

 

Beta secretase is believed to initiate the first step in the formation of beta amyloid, the precursor to plaque development in the brain. We have been an industry leader in beta secretase research for more than 10 years. Our findings concerning the role beta secretase plays in beta amyloid production, published in Nature in 1999, are considered a landmark discovery. Today, we continue to be at the center of understanding the complexities of beta secretase and advancing potential disease-modifying agents that inhibit its role in Alzheimer’s disease pathology. In 2005, we resolved our dispute with Pfizer Inc. (Pfizer), our former collaborator on the beta secretase program. The settlement allows for both companies to operate with freedom in the beta secretase space. We are aggressively continuing our preclinical drug discovery efforts, including expansion of our strategic industry-leading patent portfolio covering beta secretase small molecule inhibitors.

 

Gamma Secretase

 

Gamma secretase is an unusual multi-protein complex that is thought to play a significant role in the formation of beta amyloid. We have played a critical leadership role in the increased awareness of how gamma secretase may affect Alzheimer’s disease pathology. Our finding, published in 2001, that functional gamma secretase inhibitors appear to reduce beta amyloid levels in the brain, was an important step in this area of Alzheimer’s disease research. Our gamma secretase research is currently in the preclinical discovery phase.

 

External Research Collaborations

 

As part of our continued emphasis on supporting novel research approaches in academia, we created a new research award program with the Institute for the Study of Aging, Ltd. (ISOA), a biomedical venture philanthropy founded by the Estée Lauder family. The three-year program, entitled Novel Approaches to Drug Discovery for Alzheimer’s Disease, seeks to catalyze and fund academic and biotechnology industry scientists worldwide to conduct research leading to the discovery of effective therapies for Alzheimer’s disease. The first winners of this research award program — four recipients selected from a highly competitive pool of 45 scientists from 12 countries — were announced by ISOA in March 2006.

 

Parkinson’s Research

 

Parkinson’s disease is believed to be a result of misfolded proteins in the brain. Parkinson’s disease is characterized by the accumulation of aggregated alpha-synuclein, or Lewy bodies, in degenerating neurons in particular regions of the brain.

 

Our early discovery efforts in Parkinson’s disease are guided by our expertise and leadership in Alzheimer’s disease research. We made significant scientific progress in 2005, identifying unusual modified forms of alpha-

synuclein in human Parkinson’s disease brain tissue. These unique forms have led us to a series of therapeutic targets that will be a focus of our drug discovery efforts over the next few years. Some of our findings were published in the June 2005 edition of the journal Neuron.

 

Our scientists are also studying parkin, a protein found in the brain that has been genetically linked to Parkinson’s disease. Parkin may be involved in the elimination of misfolded proteins within neurons. Some familial forms of Parkinson’s disease have been linked to mutations in parkin, and we are actively studying the relationship between parkin activity and neurodegeneration. This research is in the drug discovery stage.

 

Specialty Business Group

 

Our specialty business group encompasses our commercial activities related to meeting the needs of specialists treating severe bacterial infections in hospitals, and pain specialists addressing severe chronic pain. Currently, our products are the antibacterial hospital products Maxipime and Azactam, and Prialt, an innovative treatment for severe chronic pain.

 

About Severe Chronic Pain

 

There are many different ways to classify pain, including duration or time, disease base, and whether physiologically the pain is based in nerves that sense and respond to damage to parts of the body (nociceptive), or if the pain is the result of an injury or malfunction in the peripheral or central nervous system (neuropathic).

 

Chronic pain can be defined as pain that has lasted over six months and is not relieved by medical or surgical care. Chronic pain may result from a previous injury long since healed; or it may be from an ongoing condition, such as back and/or leg pain, cancer pain, complex regional pain syndromes, or painful nerve disorders (neuropathies).

 

Pain can be classified as “severe” based on standardized measurements, such as the Visual Analog Scale of Pain Intensity. Severe chronic pain is a significant debilitating condition. Approximately 52,000 patients with severe chronic pain have their condition managed by intrathecal therapy.

 

Our Focus

 

In severe and chronic pain, our efforts focus on inflammatory and neuropathic pain, and pain that is unresponsive to existing therapies.

 

Prialt — A Different Pain Treatment

 

On December 28, 2004, the FDA approved Prialt for the management of severe chronic pain in patients for whom intrathecal therapy is warranted, and who are intolerant of or refractory to other treatment, such as systemic analgesics, adjunctive therapies or intrathecal morphine. Prialt is approved for use only in the Medtronic SynchroMed^® EL, SynchroMed^® II Infusion System and CADD-Micro^® ambulatory infusion pump.

 

Prialt is administered through appropriate programmable microinfusion pumps that can be implanted or external, and which release the drug into the fluid surrounding the spinal cord.

 

Prialt has been evaluated as an intrathecal infusion in more that 1,200 patients participating in chronic pain trials. The longest treatment duration to date was more than seven years.

 

Prialt is in a new class of non-opioid analgesics known as N-type calcium channel blockers. It is a synthetic equivalent of a naturally occurring conopeptide found in a marine snail known as Conus magus. Research suggests that the novel mechanism of action of Prialt works by targeting and blocking N-type calcium channels on nerves that ordinarily transmit pain signals.

 

Prialt represents a unique accomplishment and opportunity for Elan. From a scientific perspective, Prialt is an important innovation — a new type of therapy in a field that has not seen a new product in approximately 20 years. The significance of this innovation has received wide industry validation and recognition, including a December 2005 profile in Popular Science, which listed Prialt as one of the 100 best innovations of the year.

In January 2005, we launched Prialt in the United States. The initial introduction of Prialt to the marketplace allowed physicians to gain the necessary experience with this treatment; drove our appropriate responses to reimbursement issues during the year; and clarified the marketing, education and other programs and parameters required to continuously improve patient availability. We believe Prialt represents an important therapeutic option addressing an unmet need, and that it has the potential for significant patient impact and market contribution in the area of severe chronic pain. Revenue from sales of Prialt totalled $6.3 million for 2005.

 

In February 2005, the European Commission granted marketing authorization for Prialt for the treatment of severe, chronic pain in patients who require intrathecal analgesia. Prialt has been awarded orphan drug status in the European Union, which designates it as a product used for the diagnosis, prevention or treatment of life-threatening or very serious rare disorders or conditions. On March 20, 2006, Elan completed the sale of the Prialt rights in Europe to Eisai, while retaining the product rights in the United States.

 

HOSPITAL BUSINESS AND PRODUCTS

 

Severe bacterial infections remain a major medical concern, even more so with the rise in resistance and fewer available therapies. We market two products that treat severe bacterial infections, each designed to address specific medical needs within the hospital market. Distinct from the community market, the hospital market is highly specialized and often relies on a team of healthcare professionals that influences the decision-making process. We are committed to meeting the needs of the infectious disease and critical care community within the hospital market.

 

The Hospital Business actively maintains relationships with 1,035 hospitals throughout the United States, each characterized by unique and complex decision-making processes. Approximately 550 of these are leading academic-teaching institutions. Our hospital sales force maintains key relationships with doctors and other healthcare professionals in the areas of infectious disease, critical care, pulmonary, emergency and pharmacy; and frequently interacts with oncologists.

 

Maxipime

 

We licensed the U.S. marketing rights to Maxipime from Bristol-Myers Squibb Company (Bristol-Myers) in January 1999. Maxipime is a fourth-generation injectable cephalosporin antibiotic used to treat patients with serious and/or life-threatening infections. Pulmonologists, infectious disease specialists, emergency medicine specialists, surgeons, internal medicine physicians, hematologists and oncologists prescribe Maxipime for patients with severe infections requiring hospitalization, such as pneumonia, urinary tract infection and febrile neutropenia. Attributes of Maxipime are its broad spectrum of activity, including activity against many pathogens resistant to other antibiotics, ease of use and favorable pharmaco-economic profile. Revenue from sales of Maxipime amounted to $140.3 million for 2005. The basic U.S. patent on Maxipime expires in March 2007. However, two other U.S. patents covering Maxipime formulations may provide protection until February 2008.

 

Azactam

 

We licensed the U.S. marketing rights to this injectable antibiotic from Bristol-Myers in January 1999. Azactam is a monobactam and is principally used by surgeons, infectious disease specialists and internal medicine physicians to treat pneumonia, post-surgical infections and septicemia. Revenue from sales of Azactam totalled $57.7 million for 2005. The basic U.S. patent on Azactam expired in October 2005. To date, no generic Azactam product has been approved. However, we expect that generic competition to Azactam will emerge in 2006.

 

Please refer to Item 5.A “Operating Results” for additional information concerning our revenue by category for 2005, 2004 and 2003.

ELAN DRUG TECHNOLOGIES

 

EDT focuses on product development, scale-up and manufacturing to address drug optimization challenges of the pharmaceutical industry. EDT offers the industry a suite of proprietary technology-driven solutions.

 

Our NanoCrystal technology was integral to the success of EDT in 2005. Sales by third parties of products incorporating NanoCrystal technology grew substantially in 2005, and the fourth NanoCrystal-incorporated product was launched in the United States. Important announcements for the year included the signing of a number of development agreements with third parties, as well as a broad license agreement with Roche. We also announced that our NanoCrystal technology is being used by Johnson & Johnson Pharmaceutical Research and Development in a Phase 3 clinical trial of a long acting injectable in patients with schizophrenia, and that the Japanese patent office had granted a key NanoCrystal technology patent.

 

Elan’s Patented and Commercialized NanoCrystal Technology

 

Elan’s NanoCrystal technology is a drug optimization technology applicable to poorly water-soluble compounds. It is covered by more than 130 U.S. and international patents and patent applications and is part of a suite of technologies that EDT offers to third-party clients.

 

Elan’s NanoCrystal technology has offered tangible patient benefits to a number of compounds. For one product, now commercialized the technology improved bioavailability by up to 600 percent; for another launched product, it allowed a four-time reduction in dosage volume; and for others it eliminated the fed-fasting effects providing clear patient benefits to particular therapies.

 

Products developed and now commercialized in the United States using Elan’s patented NanoCrystal technology include:

 

 

We currently have more than 30 products in various stages of development from feasibility through to Phase 3 projects.

 

About NanoCrystal Technology

 

NanoCrystal technology involves reducing crystalline drug to particles under 400 nanometers. By reducing particle size, the exposed surface area of the drug is increased and is then stabilized to maintain particle size. The drug in nano-form can be incorporated into common dosage forms, including tablets, capsules, inhalation devices, and sterile forms for injection, with the potential for substantial improvements to clinical performance.

 

Manufacturing and Scale-up Activities

 

The cohabitation of development and manufacturing capabilities on the same sites in EDT allows for streamlined scale-up and transfer to commercial scale manufacturing activities. EDT’s principal manufacturing and development facilities are located in Athlone, Ireland and Gainesville, Georgia, in the United States. In 2005, we expanded the range of services we offer clients, with the completion of a sterile fill and finish facility in our Athlone campus. Our range of services includes formulation development, analytical development, clinical trial manufacturing and scale-up, and product registration support.

 

The Athlone campus, an FDA/EMEA compliant site, now comprises more than 460,000 square feet under roof, of which 218,000 square feet has dedicated, fully-equipped cGMP compliant manufacturing capacity.

Experience, Expertise and Patented Technology Portfolio

 

Elan has a proud track record of innovation and expertise in drug optimization. For more than 35 years, Elan has been applying its skills and knowledge to enhance the performance of dozens of drugs that have subsequently been marketed in more than 40 countries worldwide. Today, more than 2.5 million patients worldwide use drug products based on or enhanced by our technologies.

 

Our NanoCrystal technology was integral to the success of EDT in 2005. We look forward to more product approvals incorporating this technology in the next few years and to growing our business substantially over this period.

 

ENVIRONMENT

 

Many factors and elements contribute to the environment in which we conduct our activities. Key factors and elements include the world pharmaceutical market, government regulation, the product approval process, manufacturing, patents and intellectual property rights, competition, distribution, raw materials and product supply, employees and principal properties.

 

World Pharmaceutical Market

 

IMS audited global pharmaceutical sales increased by 7% from 2004 to $602.0 billion in 2005. In 2004, IMS audited global pharmaceutical sales also increased by 7% over 2003. Biotech products accounted for 9% of global sales in 2005 and account for 27% of the active research and development pipeline.

 

North America, Japan and Europe accounted for approximately 82% of global pharmaceutical sales in 2005, compared to 88% as in 2004. North America’s pharmaceutical sales grew 5% to $265.7 billion, representing 44% of all global pharmaceutical sales in 2005.

 

The U.S. market is our most important market. Please refer to Note 28 to the Consolidated Financial Statements for an analysis of revenue by geographic region. For this reason, the factors discussed below, such as “Government Regulation” and “Product Approval,” place emphasis on requirements in the United States.

 

Government Regulation

 

The pharmaceutical industry is subject to significant regulation by international, national, state and local governmental regulatory agencies. Pharmaceutical product registration is primarily concerned with the safety, efficacy and quality of new drugs and devices, and, in some countries, their pricing. A product must generally undergo extensive clinical trials before it can be approved for marketing. The process of developing a new pharmaceutical product, from idea to commercialization, can take in excess of 10 years. This period varies considerably from case to case and from country to country.

 

An application for registration includes specific details concerning not only the chemical composition, but also the manufacturing plant and procedures involved in the production of the product. The time from submission of an application to commercialization of the product is typically two years or longer. After a product has been approved by the regulatory authorities and has been launched, it is a condition of the product approval that all aspects relating to its safety, efficacy and quality remain under review.

 

Governmental authorities, including the FDA and comparable regulatory authorities in other countries, regulate the design, development, testing, manufacturing and marketing of pharmaceutical products. For example, the Federal Food, Drug and Cosmetics Act, the Public Health Service Act, the Controlled Substances Act and other federal statutes and regulations impose requirements on the clinical and non-clinical testing, safety, effectiveness, manufacturing, labelling, storage, recordkeeping, reporting, advertising, marketing, import, export, distribution and approval of our products in the United States. Non-compliance with applicable requirements can result in fines and other judicially imposed sanctions, including product seizures, import restrictions, injunctive actions and criminal prosecutions. In addition, administrative remedies can involve requests to recall violative products, the refusal of the government to enter into supply contracts or the refusal to approve pending product approval applications for drugs, biological products, or medical devices, until manufacturing or other alleged deficiencies are brought into

compliance. The FDA also has the authority to cause the withdrawal of approval of a marketed product or to impose labelling restrictions.

 

In addition, the U.S. Centers for Disease Control and Prevention regulate select biologics and toxins. This includes registration and inspection of facilities involved in the transfer or receipt of select agents. Select agents are subject to specific regulations for packaging, labelling and transport. Non-compliance with applicable requirements could result in criminal penalties and the disallowance of research and manufacturing of clinical products. Exemptions are provided for select agents used for a legitimate medical purpose or for biomedical research, such as toxins for medical use and vaccines.

 

The pricing of pharmaceutical products is regulated in many countries. The mechanism of price regulation varies. For example, certain countries regulate the price of individual products while in other countries prices are controlled by limiting overall company profitability. In the United States, while there are limited indirect federal government price controls over private sector purchases of drugs, there have been ongoing discussions on potential reforms of the healthcare system, including the pricing of pharmaceuticals, which could result, directly or indirectly, in the implementation of price controls on a larger number of pharmaceutical products. Certain states are attempting to impose requirements, processes, or systems that would result in indirect price controls. It is not possible to predict future regulatory action on the pricing of pharmaceutical products.

 

In June 2002, we entered into a settlement with the U.S. Federal Trade Commission (FTC) resolving the FTC’s investigation of a licensing arrangement between us and Biovail Corporation (Biovail) relating to nifedipine, a generic version of the hypertension drug Adalat^tm CC (nifedipine). The settlement is reflected in a consent order which, by its terms, does not constitute an admission by us that any law had been violated, and does not provide for monetary fines or penalties. We continue to satisfy all of the terms of the consent order.

 

In June 2001, we received a letter from the FTC stating that the FTC was conducting a non-public investigation to determine “whether Brightstone Pharma, Inc. (Brightstone), Elan Corporation, plc or others may have engaged in an effort to restrain trade by entering into an agreement which may restrict the ability of Brightstone or others to market a bioequivalent or generic version of Naprelan.” In October 2001, our counsel met informally with the FTC staff to discuss the matter. No further communication from the FTC was received until December 2002, when we were served with a subpoena duces tecum from the FTC for the production of documents related to Naprelan. We have voluntarily provided documents and witness testimony in response to the subpoena and continue to cooperate with the FTC relating to this investigation. We do not believe that it is feasible to predict or determine the outcome of the investigation and any possible effect on our business, or reasonably to estimate the amounts or potential range of loss, if any, with respect to the resolution of the investigation.

 

On March 13, 2003, we received notification from the FTC that the FTC’s Bureau of Competition was conducting an investigation to determine whether we, King Pharmaceuticals, Inc. (King) or any other person was engaging in unfair methods of competition in violation of Section 5 of the Federal Trade Commission Act, including, among other things, by preventing or slowing generic competition to Skelaxin^tm (metaxalone). The FTC’s stated focus of the investigation was our listing in the FDA’s Approved Drug Products with Therapeutic Equivalence Evaluations (Orange Book) of at least one patent for Skelaxin, and other actions with regard to the FDA regulatory process. On May 8, 2003, we received notification from the FTC that it had discontinued that portion of its investigation concerning whether we wrongfully listed a patent for Skelaxin in the Orange Book. We do not believe that it is feasible to predict or determine the outcome of the remaining portion of the investigation and any possible effect on our business, or to reasonably estimate the amounts or potential range of loss, if any, with respect to the resolution of the investigation.

 

Product Approval

 

Preclinical tests assess the potential safety and efficacy of a product candidate in animal models. The results of these studies must be submitted to the FDA as part of an IND before human testing may proceed.

 

Under U.S. law, an IND must be submitted to the FDA and become effective before human clinical trials may commence. U.S. law further requires that studies conducted to support approval for product marketing be “adequate and well controlled.” In general, this means that either a placebo or a product already approved for the treatment of

the disease or condition under study must be used as a reference control. Studies must also be conducted in compliance with good clinical practice (GCP) requirements, and adverse event and other reporting requirements must be followed.

 

The clinical trial process can take three to 10 years or more to complete, and there can be no assurance that the data collected will be in compliance with GCP regulations, will demonstrate that the product is safe or effective, or, in the case of a biologic product, pure and potent, or will provide sufficient data to support FDA approval of the product. The FDA may place clinical trials on hold at any point in this process if, among other reasons, it concludes that clinical subjects are being exposed to an unacceptable health risk. Trials may also be terminated by institutional review boards, which must review and approve all research involving human subjects. Side effects or adverse events that are reported during clinical trials can delay, impede, or prevent marketing authorization.

 

The results of the preclinical and clinical testing, along with information regarding the manufacturing of the product and proposed product labelling, are evaluated and, if determined appropriate, submitted to the FDA through a license application such as a New Drug Application (NDA) or a BLA. In certain cases an Abbreviated New Drug Application (ANDA) can be filed in lieu of filing an NDA. An ANDA relies on bioequivalency tests that compare the applicant’s drug with an already approved reference drug rather than on clinical safety and efficacy studies. An ANDA might be available to us for a new formulation of a drug for which bioequivalent forms have already been approved by the FDA. In responding to applications for approval, the FDA could grant marketing approval, approve the product for a narrower indication, impose labelling or distribution restrictions, request additional information, require post-approval studies or deny the application. Applications are often referred to an outside FDA advisory committee of independent experts prior to the FDA acting on the application. Similar systems are in place for the testing and approval of biologics and medical devices.

 

There can be no marketing in the United States of any drug, biologic or device for which a marketing application is required until the application is approved by the FDA. Until an application is actually approved, there can be no assurance that the information requested and submitted will be considered adequate by the FDA. Additionally, any significant change in the approved product or in how it is manufactured, including changes in formulation or the site of manufacture, generally require prior FDA approval. The packaging and labelling of all products developed by us are also subject to FDA approval and ongoing regulation.

 

In the United States, under the Prescription Drug User Fee Act and the Medical Device User Fee and Modernization Act, the FDA receives fees for reviewing product applications and supplements thereto, as well as annual fees for commercial manufacturing establishments and for approved products. These fees can be significant. For example, the NDA or BLA review fee alone can exceed $0.5 million, although certain deferrals, waivers and reductions may be available. Even when user fees are significant, they do not generally constitute a major expense relative to the overall cost associated with product development and regulatory approval.

 

Whether or not FDA approval has been obtained, approval of a pharmaceutical product by comparable regulatory authorities in other countries outside the United States must be obtained prior to the marketing of the product in those countries. The approval procedure varies from country to country. It can involve additional testing and the time required can differ from that required for FDA approval. Although there are procedures for unified filings for EU countries, in general, most other countries have their own procedures and requirements.

 

Once a product has been approved, significant legal and regulatory requirements apply in order to market a product. In the United States these include, among other things, requirements related to adverse event and other reporting, product advertising and promotion, and ongoing adherence to cGMP requirements, as well as the need to submit appropriate new or supplemental applications and obtain FDA approval for certain changes to the approved product, product labelling or manufacturing process. Adverse events that are reported after marketing authorization can result in additional limitations being placed on a product’s use and, potentially, withdrawal of the product from the market. Any adverse event, either before or after marketing authorization, can result in product liability claims against us.

 

The FDA also enforces the requirements of the Prescription Drug Marketing Act, which, among other things, imposes various requirements in connection with the distribution of product samples to physicians. Sales, marketing and scientific/educational grant programs must comply with the Medicare-Medicaid Anti-Fraud and

Abuse Act, as amended, the False Claims Act, as amended, and similar state laws. Pricing and rebate programs must comply with the Medicaid rebate requirements of the Omnibus Budget Reconciliation Act of 1990, as amended. If products are made available to authorized users of the Federal Supply Schedule of the General Services Administration, additional laws and requirements apply.

 

Manufacturing

 

Each manufacturing establishment, including any contract manufacturers, used to manufacture a product must be listed in the product application for such product. In the United States, this means that each manufacturing establishment must be listed in the drug, biologic, or device application, and must be registered with the FDA. The application will not be approved until the FDA conducts a manufacturing inspection, approves the applicable manufacturing process for the product, and determines that the facility is in compliance with cGMP requirements. If the manufacturing facilities and processes fail to pass the FDA inspection, the FDA will not grant approval to market the product. All facilities are also subject to periodic regulatory inspections to ensure ongoing compliance with cGMP. At December 31, 2005, we had manufacturing facilities in Ireland and the United States.

 

At December 31, 2005, we employed 800 people in our manufacturing, supply and drug development activities, over half of these in Athlone, Ireland. This facility is the primary location for the manufacture of oral solid dosage products, including instant, controlled-release and oral micro particulate products. Additional dosage capabilities may be added as required to support future product introductions. Our facility in Gainesville, Georgia, United States, provides additional oral controlled-release dosage product manufacturing capability and is registered with the U.S. Drug Enforcement Administration for the manufacture, packaging and distribution of Schedule II controlled drugs. Capital expenditures at our manufacturing sites amounted to approximately $38.0 million in 2005 mainly at the Athlone facility, where we have completed construction of a new 41,800 sq ft sterile fill and finish facility which cost approximately $42.0 million to build. The sterile fill and finish facility is expected to be operational by the second quarter of 2006.

 

All facilities and manufacturing techniques used for the manufacture of products and devices for clinical use or for sale in the United States must be operated in conformity with cGMP regulations. There are FDA regulations governing the production of pharmaceutical products. Our facilities are also subject to periodic regulatory inspections to ensure ongoing compliance with cGMP regulations.

 

In May 2001, Elan Holdings, Inc. (Elan Holdings), a wholly owned subsidiary of Elan, the late Donal J. Geaney, then chairman and chief executive officer of Elan, William C. Clark, then president, operations, and two then employees of Elan Holdings, Hal Herring and Cheryl Schuster, entered into a consent decree of permanent injunction with the U.S. Attorney for the Northern District of Georgia, on behalf of the FDA, relating to alleged violations of cGMP at our Gainesville facility. The facility manufactured, and continues to manufacture, verapamil hydrochloride controlled-release capsules used in the treatment of high blood pressure, Avinza^tm once-daily, novel dual release morphine sulphate and RitalinLA^tm once-daily, pulsatile release of methylphenidate. In 2005, FDA approval was granted for the manufacture of Focalin XR^® — once daily dexmethylphenidate for treatment of Attention-Deficit Hyperactivity Disorder. The consent decree does not represent an admission by Elan Holdings of any of the allegations set forth in the decree. Under the terms of the consent decree, which will continue in effect until at least May 2006, Elan Holdings is permanently enjoined from violating cGMP regulations. In addition, Elan Holdings was required to engage an independent expert, subject to FDA approval, to conduct inspections of the facility at least annually through May 2004, in order to ensure the facility’s compliance with cGMP.

 

The first of these inspections was completed and reported upon by the independent expert to the FDA on September 3, 2002. A corrective action plan was prepared and sent to the FDA in response to this inspection. A second independent consultant audit occurred in May 2003 and was reported upon by the independent expert to the FDA on August 14, 2003. In May 2004, the independent expert closed out its third and final audit. The audit report was forwarded to the FDA in August 2004 and this report expressed satisfaction with our corrective action plan and response to date. During the term of the consent decree, we expect that the facility will be subject to increased FDA inspections and, under the terms of the consent decree, we will be required to reimburse the FDA for its costs related to these inspections. We believe that, during the term of the consent decree, the FDA will continue to process approvals for products to be manufactured at the facility. For example, during 2002 the FDA approved Avinza and

RitalinLA, and Focalin XR^® was approved in 2005, which are being manufactured at the Gainesville facility. Elan may petition the courts to have the consent decree removed after May 2006.

 

Patents and Intellectual Property Rights

 

Our competitive position depends on our ability to obtain patents on our technologies and products, to defend our patents, to protect our trade secrets and to operate without infringing the valid patents or trade secrets of others. We own or license a number of U.S. and foreign patents.

 

These patents cover:

 

 

Patents for products extend for varying periods according to the date of patent filing or grant and the legal term of patents in various countries. The actual protection afforded by a patent, which can vary from country to country, depends upon the type of patent, the scope of its coverage and the availability of legal remedies in the country.

 

Tysabri is covered by a number of pending patent applications and issued patents in the United States and many foreign countries. Elan has a basic U.S. patent for Tysabri covering the humanized antibody and its use to treat MS, which expires in 2014, subject to any available patent term extensions. Additional U.S. patents of Elan and/or its collaborator, Biogen Idec, which cover i) the use of Tysabri to treat irritable bowel disease and a variety of other indications and ii) methods of manufacturing Tysabri expire generally between 2012 and 2020. Outside the United States, patents on i) the product and methods of manufacturing the product, and ii) methods of treatment generally expire in the 2014-2016 and 2012-2020 timeframe, respectively. If Tysabri receives regulatory approval in those jurisdictions, those patents may be eligible for supplemental protection certificates.

 

In addition to our Tysabri collaboration with Biogen Idec, we have entered into licenses covering intellectual property related to Tysabri. We will pay royalties under these licenses based upon the level of Tysabri sales. We may be required to enter into additional licenses related to Tysabri intellectual property. If these licenses are not available, or are not available on reasonable terms, we may be materially and adversely affected.

 

The fundamental U.S. patent covering the use of Prialt to produce analgesia expires in 2011. Two further U.S. patents covering: (i) the commercial, stabilized formulation of Prialt, and (ii) a method for preventing progression of neuropathic pain expire in 2015. One of our patents covering Prialt may qualify for a U.S. patent term extension of up to five years.

 

The basic U.S. patent for Maxipime expires in March 2007. However, two U.S. patents covering Maxipime formulations may provide patent protection until February 2008.

 

The basic U.S. patent for Azactam expired in October 2005. Azactam is expected to face generic competition, which is expected to have a substantial adverse effect on our revenues from, and gross margin for, Azactam.  However, to date, no generic Azactam product has been approved.

 

The primary patents covering Elan’s NanoCrystal technology expire in the U.S. in 2011 and in countries outside the U.S. in 2012.

 

We also have more than 130 U.S. and international patents and patent applications that relate to our NanoCrystal drug optimization technology applicable to poorly water-soluble compounds.

 

Our products are sold around the world under brand name, logo and product design trademarks that we consider in the aggregate to be of material importance. Trademark protection continues in some countries for as long as the mark is used and, in other countries, for as long as it is registered. Registrations generally are for fixed, but renewable, terms.

Competition

 

The pharmaceutical industry is highly competitive. Our principal pharmaceutical competitors consist of major international companies, many of which are larger and have greater financial resources, technical staff, manufacturing, R&D and marketing capabilities than us. We also compete with smaller research companies and generic drug manufacturers.

 

When Tysabri is reintroduced in the United States as a treatment for relapsing forms of MS, it will compete primarily with Avonex marketed by our collaborator Biogen Idec; Betaseron^® marketed by Berlex Laboratories; Rebif^® marketed by Serono SA and Pfizer; and Copaxone^® marketed by Teva Pharmaceuticals Ltd. Many companies are working to develop new therapies or alternative formulations of products for MS, which if successfully developed would compete with Tysabri. A drug may be subject to competition from alternative therapies during the period of patent protection or regulatory exclusivity and, thereafter, it may be subject to further competition from generic products. Our product Azactam lost its basic U.S. patent protection in October 2005. We expect that generic competition to Azactam will emerge in 2006 and will have a material and adverse effect on sales of Azactam.

 

Generic competitors may also challenge existing patent protection or regulatory exclusivity. Governmental and other pressures toward the dispensing of generic products may rapidly and significantly reduce, slow, or reverse the growth in, sales and profitability of any of our products not protected by patents or regulatory exclusivity, and may adversely affect our future results and financial condition. The launch of competitor products, including generic versions of our products, may materially adversely affect our business, financial condition and results of operations.

 

Our competitive position depends, in part, upon our continuing ability to discover, acquire and develop innovative, cost-effective new products, as well as new indications and product improvements protected by patents and other intellectual property rights. We also compete on the basis of price and product differentiation and through our sales and marketing organization that provides information to medical professionals and launches new products. If we fail to maintain our competitive position, our business, financial condition and results of operations may be materially adversely affected.

 

Distribution

 

We sell our pharmaceutical products primarily to drug wholesalers. Our revenue reflects the demand from these wholesalers to meet the in-market consumption of our products and to reflect the level of inventory that wholesalers of our products carry. Changes in the level of inventory can directly impact our revenue and could result in our revenue not reflecting in-market consumption of our products.

 

We generally manufacture our drug delivery products for licensees and distributors but do not usually engage in any direct sales of drug delivery products.

 

Raw Materials and Product Supply

 

Raw materials and supplies are generally available in quantities adequate to meet the needs of our business. We have a policy of dual sourcing where practicable but do not have dual sourcing or manufacturing for a number of our raw materials or products. We are also dependent on third party manufacturers for most of the pharmaceutical products that we market. An inability to obtain raw materials or product supply could have a material adverse impact on our business, financial condition and results of operations.

 

Employees

 

On December 31, 2005, we had 1,729 employees worldwide, of whom 471 were engaged in R&D activities, 583 were engaged in manufacturing and supply activities, 310 were engaged in sales and marketing activities and the remainder worked in general and administrative areas.

 

At December 31, 2005, we had the following principal subsidiary undertakings:

 

 

 

We consider that our properties are in good operating condition and that our machinery and equipment has been well maintained. Facilities for the manufacture of products are suitable for their intended purposes and have capacities adequate for current and projected needs.

 

For additional information, please refer to Note 10 to the Consolidated Financial Statements, which discloses amounts invested in land and buildings and plant and equipment, Note 18 to the Consolidated Financial Statements, which discloses future minimum rental commitments, Note 24 to the Consolidated Financial Statements, which discloses capital commitments for the purchase of property, plant and equipment and dispositions of plant and equipment, and Item 5 B. “Liquidity and Capital Resources,” which discloses our capital expenditures.

The following table lists the location, ownership interest, use and size of our principal properties:

 

 

Not applicable.

 

The following discussion and analysis should be read in conjunction with our Consolidated Financial Statements, the accompanying notes thereto and other financial information, appearing in Item 18. “Consolidated Financial Statements.” Prior to the 2004 fiscal year, we prepared our Consolidated Financial Statements, incorporated by reference in our historical Form 20-F, in conformity with Irish GAAP. Beginning with our 2004 fiscal year, we have adopted U.S. GAAP as the basis for the preparation of our Consolidated Financial Statements on this Form 20-F. Accordingly, our Consolidated Financial Statements on this Form 20-F are prepared on the basis of U.S. GAAP for all periods presented.

 

We also prepared separate Consolidated Financial Statements, included in our Annual Report, in accordance with IFRS, which differ in certain significant respects from U.S. GAAP. The Consolidated Financial Statements included in our Annual Report have been prepared for the first time for the year ended December 31, 2005 under IFRS. Comparative information which was previously presented under Irish GAAP for the year ended December 31, 2004 has been restated under IFRS. The Annual Report under IFRS, which includes a reconciliation of previously reported Irish GAAP financial information to IFRS, is a separate document from this Form 20-F.

 

This financial review primarily discusses:

 

 

Our operating results may be affected by a number of factors, including those described under Item 3. D “Risk Factors”.

CURRENT OPERATIONS

 

Our business is organized into two business units: Biopharmaceuticals and EDT. Biopharmaceuticals engages in research, development and commercial activities and includes our activities in the areas of autoimmune diseases, neurodegenerative diseases and our specialty business group. EDT focuses on product development, scale-up and manufacturing to address drug optimization challenges of the pharmaceutical industry.

 

For additional information on our current operations, please refer to Item 4 on pages 15 to 35.

 

CRITICAL ACCOUNTING POLICIES

 

The Consolidated Financial Statements include certain estimates based on management’s best judgments. Estimates are used in determining items such as the carrying values of intangible assets, the accounting for contingencies and estimating sales rebates and discounts, among other items. Because of the uncertainties inherent in such estimates, actual results may differ materially from these estimates.

 

Goodwill, Other Intangible Assets and Impairment

 

We account for goodwill and identifiable intangible assets in accordance with SFAS 142. Effective January 1, 2002, goodwill and identifiable intangible assets with indefinite useful lives are no longer amortized, but instead are tested for impairment at least annually. Intangible assets with estimable useful lives are amortized on a straight-line basis over their respective estimated useful lives to their estimated residual values and reviewed for impairment in accordance with SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.”

 

We review our goodwill for impairment at least annually or whenever events or changes in circumstances indicate that the carrying amount of these assets may not be recoverable. At December 31, 2005, we had no other intangible assets with indefinite lives.

 

The goodwill impairment test is performed at the reporting unit level. A reporting unit is the same as, or one level below, an operating segment as defined by SFAS No. 131, “Disclosures About Segments of an Enterprise and Related Information.” We have two reporting units: Biopharmaceuticals and EDT. We compare the fair value of each reporting unit with its carrying value, including goodwill. If the fair value of the reporting unit exceeds its carrying amount, goodwill of the reporting unit is not considered impaired. If the carrying amount of a reporting unit exceeds its fair value, the second step of the goodwill impairment test would be performed to measure the amount of impairment charge, if any. The second step compares the implied fair value of the reporting unit goodwill with the carrying amount of that goodwill, and any excess of the carrying amount over the implied fair value is recognized as an impairment charge. The implied fair value of goodwill is determined in the same manner as the amount of goodwill recognized in a business combination is determined, by allocating the fair value of a reporting unit to individual assets and liabilities. The excess of the fair value of a reporting unit over the amounts assigned to its assets and liabilities is the implied fair value of goodwill. The results of our goodwill impairment tests did not indicate any impairment in 2005.

 

There were no material impairment charges relating to intangible assets in either 2005 or 2004. In 2003, we recorded an impairment charge to intangible assets of $32.6 million as a result of the recovery plan that we began in July 2002 and completed in early 2004. For additional information on this impairment charge, please refer to Note 19 to the Consolidated Financial Statements.

 

Total goodwill and other intangible assets amounted to $665.5 million at December 31, 2005 (2004: $753.7 million). If we were to use different estimates, particularly with respect to the likelihood of R&D success, the likelihood and date of commencement of generic competition or the impact of any reorganization or change of business focus, then an additional material impairment charge could arise. We believe that we have used reasonable estimates in assessing the carrying values of our intangible assets.

 

Contingencies Relating to Actual or Potential Administrative and Legal Proceedings

 

We are currently involved in certain legal and administrative proceedings, relating to securities matters, patent matters, antitrust matters and other matters, as described in Note 25 to the Consolidated Financial Statements. In

accordance with SFAS No. 5, “Accounting for Contingencies,” we assess the likelihood of any adverse outcomes to contingencies, including legal matters, as well as potential ranges of probable losses. We record accruals for such contingencies when it is probable that a liability has been incurred and the amount of the loss can be reasonably estimated. If an unfavorable outcome is probable, but the amount of the loss cannot be reasonably estimated, we estimate the range of probable loss and accrue the most probable loss within the range. If no amount within the range is deemed more probable, we accrue the minimum amount within the range. If neither a range of loss or a minimum amount of loss is estimable, then appropriate disclosure is provided, but no amounts are accrued. As of December 31, 2005, we had accrued $2.1 million, representing our estimates of costs for the current resolution of these matters. We developed estimates in consultation with outside counsel handling our defense in these matters using the current facts and circumstances known to us. The factors that we consider in developing our legal contingency accrual include the merits and jurisdiction of the litigation, the nature and number of other similar current and past litigation cases, the nature of the product and current assessment of the science subject to the litigation, and the likelihood of settlement and current state of settlement discussions, if any. We believe that the legal contingency accrual that we have established is appropriate based on current factors and circumstances. However, it is possible that other people applying reasonable judgment to the same facts and circumstances could develop a different liability amount. The nature of these matters is highly uncertain and subject to change. As a result, the amount of our liability for certain of these matters could exceed or be less than the amount of our current estimates, depending on the outcome of these matters.

 

Revenue Recognition

 

We recognize revenue from the sale of our products, royalties earned and contract arrangements in accordance with Staff Accounting Bulletin No. 104, “Revenue Recognition,” (SAB 104), which requires the deferral and amortization of up-front fees when there is a significant continuing involvement (such as an ongoing product manufacturing contract) by the seller after an asset disposal. We implemented SAB 104 in the fourth quarter of 2000 and recorded a non-cash charge of $344.0 million for the cumulative effect of this accounting change relating to revenue recognized in periods up to December 31, 1999. Included in contract revenue is $5.7 million for both 2005 and 2004 and $10.1 million for 2003 relating to the SAB 104 cumulative adjustment. We defer and amortize up-front license fees to the income statement over the “performance period”. The performance period is the period over which we expect to provide services to the licensee as determined by the contract provisions. Generally, milestone payments are recognized when earned and non-refundable, and when we have no future legal obligation pursuant to the payment. However, the actual accounting for milestones depends on the facts and circumstances of each contract. We apply the substantive milestone method in accounting for milestone payments. This method requires that substantive effort must have been applied to achieve the milestone prior to revenue recognition. If substantive effort has been applied, the milestone is recognized as revenue, subject to it being earned, non-refundable and not subject to future legal obligation. This requires an examination of the facts and circumstances of each contract. Substantive effort may be demonstrated by various factors, including the risks associated with achieving the milestone, the period of time over which effort was expended to achieve the milestone, the economic basis for the milestone payment and licensing arrangement and the costs and staffing to achieve the milestone. It is expected that the substantive milestone method will be appropriate for most contracts. If we determine the substantive milestone method is not appropriate, we will apply the percentage-of-completion method to the relevant contract. This method recognizes as revenue the percentage of cumulative non-refundable cash payments earned under the contract, based on the percentage of costs incurred to date compared to the total costs expected under the contract.

 

Sales Discounts and Allowances

 

We recognize revenue on a gross revenue basis and make various deductions to arrive at net revenue as reported in the Consolidated Statements of Operations. These adjustments are referred to as sales discounts and allowances and are described in detail below. Sales discounts and allowances include charge-backs, managed health care and Medicaid rebates, cash discounts, sales returns and other adjustments. Estimating these sales discounts and allowances is complex and involves significant estimates and judgments, and we use information from both internal and external sources to generate reasonable and reliable estimates. We believe that we have used reasonable judgments in assessing our estimates, and this is borne out by our historical experience. At December 31, 2005, we had total provisions of $17.2 million for sales discounts and allowances, of which approximately 58.8% and 28.3%

related to Maxipime and Azactam, respectively. We have over seven years of experience in relation to these two products.

 

We do not conduct our sales using the consignment model. All of our product sales transactions are based on normal and customary terms whereby title to the product and substantially all of the risks and rewards transfer to the customer upon either shipment or delivery. Furthermore, we do not have an incentive program which would compensate a wholesaler for the costs of holding inventory above normal inventory levels thereby encouraging wholesalers to hold excess inventory.

 

We account for sales discounts and allowances in accordance with EITF Issue No. 01-9, “Accounting for Consideration Given by a Vendor to a Customer (Including a Reseller of the Vendor’s Products),” and SFAS No. 48, “Revenue Recognition When Right of Return Exists,” (SFAS 48) as applicable.

 

The table below summarizes our sales discounts and allowances to adjust gross revenue to net revenue for each significant category. An analysis of the separate components of our revenue is set out in Item 5A. “Operating Results,” and in Note 3 to the Consolidated Financial Statements.

 

 

Total sales discounts and allowances decreased from 18.4% of gross revenue subject to discounts and allowances in 2003 to 17.9% in 2004, and increased to 20.6% in 2005, as detailed in the rollforward below and as further explained in the following paragraphs.

 

Charge-backs increased as a percentage of gross revenue subject to discounts and allowances from 5.1% in 2003 to 8.4% in 2004, and decreased slightly to 8.3% in 2005. The increase in 2004 is due primarily to changes in the product mix. Several of our divested products were sold through retail pharmacies (principally Skelaxin, Zonegran and Sonata^tm (zaleplon)) and therefore had lower levels of charge-backs in comparison to our retained products.

 

The reductions in managed health care and Medicaid rebates as a percentage of gross revenue subject to discounts and allowances from year to year are due principally to changes in the product mix. Several of our divested products (principally Skelaxin and Zonegran) were sold through retail pharmacies and therefore had larger components subject to managed health care and Medicaid rebates. Consequently, due primarily to the divestment of

these products, the managed health care and Medicaid rebates as a percentage of gross revenue subject to discounts and allowances have declined from 2.1% and 4.8%, respectively, in 2003, to 1.7% and 2.8% in 2004, and to 1.1% and 0.6% in 2005.

 

Cash discounts as a percentage of gross revenue subject to discounts and allowances remained fairly consistent at 1.7% in 2003 compared to 1.9% in 2004, and to 2.0% in 2005. In the United States, we offer cash discounts, generally at 2% of the sales price, as an incentive for prompt payment by our customers.

 

Sales returns as a percentage of gross revenue subject to discounts and allowances decreased from 4.6% in 2003 to 2.4% in 2004, and increased to 7.6% in 2005. The decrease in 2004, compared to 2003, is due to changes in the product mix as a result of product divestments. The increase in 2005, compared to 2004, is due to the voluntary suspension of Tysabri in February 2005, which increased the provision for returns in 2005, and changes in the product mix as a result of product divestments.

 

The following table sets forth the activities and ending balances of each significant category of adjustments for the sales discounts and allowances (in millions):

 

 

(a) Charge-backs

 

In the United States, we participate in charge-back programs with a number of entities, principally the U.S. Department of Defense, the U.S. Department of Veterans Affairs, Group Purchasing Organizations and other parties whereby pricing on products is extended below wholesalers’ list prices to participating entities. These entities purchase products through wholesalers at the lower negotiated price, and the wholesalers charge the difference between these entities’ acquisition cost and the lower negotiated price back to us. We account for charge-backs by reducing accounts receivable in an amount equal to our estimate of charge-back claims attributable to a sale. We determine our estimate of the charge-backs primarily based on historical experience on a product-by-product and program basis, and current contract prices under the charge-back programs. We consider vendor payments, estimated levels of inventory in the distribution channel, and our claim processing time lag and adjust accounts receivable and revenue periodically throughout each year to reflect actual and future estimated experience.

As described above, there are a number of factors involved in estimating the accrual for charge-backs, but the principal factor relates to our estimate of the levels of inventory in the distribution channel. At December 31, 2005, Maxipime and Azactam represented approximately 92.2% and 6.9%, respectively, of the total charge-backs accrual balance of $6.7 million. If we were to increase/(decrease) our estimated level of inventory in the distribution channel by one month’s worth of demand for these products, the accrual for charge-backs would increase/(decrease) by approximately $2.1 million. We believe that our estimate of the levels of inventory for Maxipime and Azactam in the distribution channel is reasonable because it is based upon multiple sources of information, including data received from all of the major wholesalers with respect to their inventory levels and sell-through to customers, third-party market research data, and our internal information.

 

(b) Managed health care rebates and other contract discounts

 

We offer rebates and discounts to managed health care organizations in the United States. We account for managed health care rebates and other contract discounts by establishing an accrual equal to our estimate of the amount attributable to a sale. We determine our estimate of this accrual primarily based on historical experience on a product-by-product and program basis and current contract prices. We consider the sales performance of products subject to managed health care rebates and other contract discounts, processing claim lag time and estimated levels of inventory in the distribution channel, and adjust the accrual and revenue periodically throughout each year to reflect actual and future estimated experience.

 

As described above, there are a number of factors involved in estimating this accrual, but the principal factor relates to our estimate of the levels of inventory in the distribution channel. At December 31, 2005, Maxipime and Azactam represented approximately 72.3% and 26.3%, respectively, of the total managed health care rebates and other contract discounts accrual balance of $1.4 million. If we were to increase/(decrease) our estimated level of inventory in the distribution channel by one month’s worth of demand for these products, the accrual would increase/(decrease) by approximately $0.3 million. We believe that our estimate of the levels of inventory for Maxipime and Azactam in the distribution channel is reasonable because it is based upon multiple sources of information, including data received from all of the major wholesalers with respect to their inventory levels and sell-through to customers, third-party market research data, and our internal information.

 

(c) Medicaid rebates

 

In the United States, we are required by law to participate in state government-managed Medicaid programs as well as certain other qualifying federal and state government programs whereby discounts and rebates are provided to participating state and local government entities. Discounts and rebates provided through these other qualifying federal and state government programs are included in our Medicaid rebate accrual and are considered Medicaid rebates for the purposes of this discussion. We account for Medicaid rebates by establishing an accrual in an amount equal to our estimate of Medicaid rebate claims attributable to a sale. We determine our estimate of the Medicaid rebates accrual primarily based on historical experience regarding Medicaid rebates, legal interpretations of the applicable laws related to the Medicaid and qualifying federal and state government programs, and any new information regarding changes in the Medicaid programs’ regulations and guidelines that would impact the amount of the rebates on a product-by-product basis. We consider outstanding Medicaid claims, Medicaid payments, claims processing lag time and estimated levels of inventory in the distribution channel and adjust the accrual and revenue periodically throughout each year to reflect actual and future estimated experience.

 

(d) Cash discounts

 

In the United States, we offer cash discounts, generally at 2% of the sales price, as an incentive for prompt payment. We account for cash discounts by reducing accounts receivable by the full amount of the discounts. We consider payment performance of each customer and adjust the accrual and revenue periodically throughout each year to reflect actual experience and future estimates.

(e) Sales returns

 

We account for sales returns in accordance with SFAS 48 by establishing an accrual in an amount equal to our estimate of revenue recorded for which the related products are expected to be returned.

 

For returns of established products, our sales return accrual is estimated principally based on historical experience, the estimated shelf life of inventory in the distribution channel, price increases, and our return goods policy (goods may only be returned six months prior to expiration date and for up to twelve months after expiration date). We also take into account product recalls and introductions of generic products. All of these factors are used to adjust the accrual and revenue periodically throughout each year to reflect actual and future estimated experience.

 

In the event of a product recall, product discontinuance or introduction of a generic product, we consider a number of factors, including the estimated level of inventory in the distribution channel that could potentially be returned, historical experience, estimates of the severity of generic product impact, estimates of continuing demand and our return goods policy. We consider the reasons for and impact of such actions and adjust the sales returns accrual and revenue as appropriate.

 

Returns from newly introduced products are significantly more difficult for us to assess. We determine our estimate of the sales return accrual primarily based on the historical sales returns experience of similar products, such as those within the same or similar therapeutic category. We also consider the shelf life of new products and determine whether we believe an adjustment to the sales return accrual is appropriate. The shelf life in connection with new products tends to be shorter than the shelf life for more established products because we may still be developing the optimal stability duration for the new product that would lengthen its shelf life, or an amount of launch quantities may have been manufactured in advance of the launch date to ensure sufficient supply exists to satisfy market demand. In those cases, we assess the reduced shelf life, together with estimated levels of inventory in the distribution channel and projected demand, and determine whether we believe an adjustment to the sales return accrual is appropriate. While it is inherently more difficult to assess returns from newly introduced products than from established products, nevertheless in all instances we believe we have been able to gather sufficient information in order to establish reasonable estimates.

 

As described above, there are a number of factors involved in estimating this accrual, but the principal factor relates to our estimate of the shelf life of inventory in the distribution channel. At December 31, 2005, Maxipime and Azactam represented approximately 35.6% and 57.7%, respectively, of the total sales returns accrual balance of $6.6 million. At December 31, 2005, we have estimated the gross revenue value of Maxipime and Azactam inventory in the distribution channel to be approximately $32.1 million (2004: $40.0 million) and $5.5 million (2004: $17.0 million), respectively. Assuming inventory leaves the distribution channel on a first-in first-out basis, we have estimated that this distribution channel inventory has a shelf life running to various dates during 2006 (gross revenue value approximately $0.2 million), 2007 (gross revenue value approximately $1.8 million), and 2008 (gross revenue value approximately $35.6 million). Azactam lost its patent exclusivity in October 2005; however, to date no generic Azactam product has been approved. We believe, based upon both the estimated shelf life and also our historical sales returns experience, that the vast majority of this inventory will be sold prior to its expiration date, and accordingly believe that our sales returns accrual is appropriate.

 

(f) Other adjustments

 

In addition to the significant sales discounts and allowances described above, we make other individually insignificant sales adjustments. We generally account for these other sales discounts and allowances by establishing an accrual in an amount equal to our estimate of the adjustments attributable to the sale. We generally determine our estimates of the accruals for these other adjustments primarily based on historical experience, performance on commitments to government entities and other relevant factors, including estimated levels of inventory in the distribution channel in some cases, and adjust the accruals and revenue periodically throughout each year to reflect actual experience.

(g) Provisions related to sales made in prior periods

 

During 2005, we recorded $1.5 million of adjustments to reduce the discounts and allowances related to sales made in prior periods, primarily due to the availability of additional information relating to the impact of genericization of Zanaflex^tm (tizanidine hydrochloride).

 

(h) Divestments

 

Since the beginning of 2003 we have divested a number of businesses, including principally our primary care franchise, Frova^tm (frovatriptan succinate), Zonegran and our European sales and marketing business. The divestment adjustments arise primarily as a result of the negotiated terms of these divestments. For example, we have entered into terms that would either extend or limit our liability for discounts and allowances related to the divested businesses. We have accordingly adjusted our discounts and allowances accruals to reflect the terms of the agreements. Divestment adjustments also include post-divestment revisions resulting from the availability of additional information. Divestment adjustments are recorded as part of the gain/(loss) on sale of businesses, and not as an increase or decrease from gross revenue.

 

(i) Use of information from external sources

 

We use information from external sources to estimate our significant sales discounts and allowances. Our estimates of inventory at the wholesalers are based on:

 

 

The inventory information received from wholesalers is a product of their record-keeping process and excludes inventory held by intermediaries to whom they sell, such as retailers and hospitals. We receive information from IMS Health, a supplier of market research to the pharmaceutical industry, which we use to project the prescription demand-based sales for our pharmaceutical products. We also use information from external sources to identify prescription trends and patient demand. Up to 2004, we received inventory pipeline data from IMS Health. Since 2004, IMS Health no longer provides this service and we have been receiving such pipeline data directly from the three major wholesalers (McKesson Corp., Cardinal Health, Inc. and AmerisourceBergen Corp.). Our estimates are subject to inherent limitations of estimates that rely on third-party information, as certain third-party information is itself in the form of estimates, and reflect other limitations including lags between the date as of which third-party information is generated and the date on which we receive such information.

 

RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS

 

In December 2004, the FASB issued Statement No. 123R, “Share-Based Payment — An Amendment of FASB Statements No. 123 and 95,” (SFAS 123R), effective for public companies in periods beginning after June 15, 2005. In April 2005, the SEC adopted a rule amendment that delayed the compliance dates for SFAS 123R to the first annual period beginning after June 15, 2005. We will adopt SFAS 123R effective January 1, 2006 and will elect to use the modified prospective transition method. Under the modified prospective transition method, awards that are granted, modified, repurchased or canceled after the date of adoption will be measured and accounted for in accordance with SFAS 123R. Share-based awards that were granted prior to the effective date will continue to be accounted for in accordance with SFAS 123, except that the expense, based on the fair value of unvested awards, must be recognized in the Consolidated Statement of Operations.

 

SFAS 123R requires companies to measure all share-based awards to employees using a fair value method and to recognize the expense over the requisite service period. We will elect to recognize compensation cost for an award using a graded-vesting method over the requisite service period for each separately vesting portion of the award as if the award was, in-substance, multiple awards.

In March 2005, the SEC issued Staff Accounting Bulletin No. 107 (SAB 107), which provides supplemental implementation guidance for SFAS 123R in a number of areas, including the valuation of share-based payment arrangements.

 

We expect the adoption of SFAS 123R will have a material adverse impact on our consolidated results of operations. The impact of adoption of SFAS 123R is an estimated increase in expense by between $40.0 million and $50.0 million for 2006. This estimate may change materially because it will depend on, among other things, levels of share-based payments granted, the market value of our common stock, and assumptions regarding a number of complex variables. These variables include, but are not limited to, our stock price, volatility and employee stock option exercise behaviors and the related tax impact.

 

As a result of the anticipated adoption of SFAS 123R and in conjunction with our annual total compensation review in 2005, we adjusted the equity component of our total compensation and, in the beginning of 2006, we began to issue restricted stock units in addition to stock option awards. In addition, for certain employees, we have eliminated the issuance of stock options and replaced such form of compensation with a cash bonus. We also implemented employee equity purchase plans in 2005 for employees in the United States, Ireland and the United Kingdom, which provide eligible employees the opportunity to share in the ownership of the Company by purchasing stock at a discount. See Note 23 to the Consolidated Financial Statements for more information on the employee equity purchase plans.

 

In November 2004, the FASB issued Statement No. 151, “Inventory Costs: an amendment of ARB No. 43, Chapter 4” (SFAS 151), which is effective for public companies prospectively for inventory costs incurred in periods beginning after June 15, 2005. This Statement amends the guidance in ARB No. 43, Chapter 4, “Inventory Pricing,” to clarify that accounting for abnormal amounts of idle facility expense, freight, handling costs and wasted material (spoilage) should be recognized as a current period charge and to require the allocation of fixed production overhead to the costs of conversion based on normal capacity of the production facilities. We do not expect that the adoption of SFAS 151 will have a material impact on our financial position or results of operations.

 

In February 2006, the FASB issued Statement No. 155, “Accounting for Certain Hybrid Financial Instruments,” (SFAS 155), which is effective for public companies for fiscal years beginning after September 15, 2006, with early adoption permitted. SFAS 155 permits fair value measurement for any hybrid financial instrument that contains an embedded derivative that would otherwise require bifurcation and separate accounting. An irrevocable election may be made at inception to measure such a hybrid financial instrument at fair value, with changes in fair value recognized through income. Such an election needs to be supported by concurrent documentation. We do not expect that the adoption of SFAS 155 will have a material impact on our financial position or results of operations.

 

POST BALANCE SHEET EVENTS

 

On March 7-8, 2006, the PCNS Advisory Committee reviewed and voted unanimously to recommend that Tysabri be reintroduced as a treatment for relapsing forms of MS. On March 21, 2006, we and Biogen Idec were informed by the FDA that the agency would extend its regulatory review of Tysabri by up to 90 days in order to complete a full review of the Tysabri risk management plan. Under the revised timeline, we anticipate an action from the FDA about the reintroduction of Tysabri as a treatment for relapsing forms of MS on or before June 28, 2006.

 

On March 20, 2006, we completed the sale of the European rights to Prialt to Eisai, while retaining the product rights in the United States. Under the terms of the agreement, we received $50.0 million on the closing of the transaction, we will receive a further $10.0 million on the earlier of two years from closing or launches of Prialt in key European markets, and we may receive an additional $40.0 million contingent on Prialt achieving revenue related milestones in Europe.

 

2005 Compared to 2004 (in millions, except share and per share amounts)

 

Product Revenue

 

The increase of 13% in total product revenue in 2005 was primarily due to the growth of product revenue from the core business. Product revenue from our core business increased 34% from 2004 and more than compensated for the loss of revenue from products divested during 2004. The components of product revenue are set out below (in millions):

 

 

 

 

(A) Revenue from marketed products

 

Total revenue from marketed products increased to $215.3 million in 2005 from $174.5 million in 2004. The increase of 23% primarily reflects higher sales of Maxipime and Azactam, and initial sales of Tysabri and Prialt.  Azactam lost its patent exclusivity in October 2005, and the basic patent on Maxipime expires in March 2007. Two U.S. patents covering Maxipime formulations may provide patent protection until 2008. The expiration of these patents is expected to result in generic competition for these products, which is expected to adversely impact future revenues. However, to date, no generic Azactam product has been approved.

 

Maxipime revenue increased from $117.5 million to $140.3 million. The 19% increase reflects growth in demand, a price increase of 8% taken at the end of 2004, and improved supply conditions. We experienced third party supply shortages and disruptions with Maxipime during 2005. This led to a significant decline in inventories held by our wholesale customers and hospitals and, consequently, affected our ability to meet demand. The supply situation improved beginning in the third quarter of 2005.

 

As reported by IMS Health Inc., Azactam prescription demand for 2005 increased by 6% over 2004, while the corresponding revenues increased from $50.6 million to $57.7 million, or 14%. The difference between prescription and revenue growth rates is due to changing wholesaler inventory levels and price increases taken during the period.

 

The FDA granted accelerated approval of Tysabri in late November 2004 for the treatment of patients in the United States with all forms of relapsing remitting MS. Revenue from Tysabri amounted to $11.0 million in 2005 and $6.4 million in 2004. The marketing and clinical dosing of Tysabri was voluntarily suspended in February 2005. On March 7-8, 2006, the PCNS Advisory Committee reviewed and voted unanimously to recommend that Tysabri

be reintroduced as a treatment for relapsing forms of MS. On March 21, 2006, we and Biogen Idec were informed by the FDA that the agency would extend its regulatory review of Tysabri by up to 90 days in order to complete a full review of the Tysabri risk management plan. Under the revised timeline, we anticipate an action from the FDA about the reintroduction of Tysabri as a treatment for relapsing forms of MS on or before June 28, 2006.

 

Prialt, a new treatment for severe chronic pain, was approved by the FDA in the United States in December 2004 and approved in Europe in February 2005. We began selling Prialt in the U.S. market in early 2005 and revenue from sales of Prialt was $6.3 million in 2005 (2004: $Nil). On March 20, 2006, we completed the sale of the European rights to Prialt to Eisai, while retaining the product rights in the United States.

 

(B) Manufacturing revenue and royalties

 

Manufacturing revenue and royalties are as follows (in millions):

 

 

Manufacturing revenue and royalties from our EDT business comprises revenue earned from products we manufacture for third parties and royalties we earn principally on sales by third parties of products that incorporate our technologies. The increase of 58% was primarily due to increased sales by third parties of products that incorporate Elan’s technologies, predominantly Tricor, and increased manufacturing activity for third parties. Except as noted above, no other single product accounted for more than 10% of our manufacturing revenue and royalties in either 2005 or 2004. In 2005, 34% of these revenues consisted of royalties received on products that we do not manufacture, compared to 19% in 2004.

 

(C) Amortized revenue — Adalat/Avinza

 

Amortized revenue of $34.0 million in both 2005 and 2004 related to the licensing to Watson Pharmaceuticals, Inc. (Watson) of rights to our generic form of Adalat CC ($9.0 million) and the restructuring of our Avinza license agreement with Ligand Pharmaceuticals, Inc (Ligand) ($25.0 million). Both of these transactions occurred in 2002. The remaining unamortized revenue on these products of $35.2 million is included in deferred revenue, due to our ongoing involvement in the manufacturing of these products. Of the remaining $35.2 million, $13.5 million of the deferred revenue relates to generic Adalat CC and will be recognized as revenue through June 2007. The remaining deferred revenue of $21.7 million relates to Avinza and will be recognized as revenue through November 2006.

 

(D) Divested products

 

During 2004, we sold a number of products and businesses as part of the recovery plan, which commenced in July 2002 and was completed in early 2004, and our subsequent strategic repositioning as a biotechnology company focused on a number of key therapeutic markets. The decrease in revenue from divested products in 2005 was primarily due to the divestment of a number of products and businesses during 2004, principally the European business and Zonegran, which are described below. No divestments occurred in 2005.

 

In February 2004, we completed the sale of our European sales and marketing business to Zeneus. Revenue for the divested European business was $Nil for 2005 (2004: $10.5 million).

In April 2004, we sold our interests in Zonegran for North America and Europe to Eisai. Zonegran generated revenue of $Nil for 2005 (2004: $41.2 million).

 

Contract Revenue

 

 

The decrease in contract revenue of 58% in 2005 is principally due to a reduction in research revenue and milestones arising from research and development activities we perform on behalf of third parties. The reduction resulted from, among other things, the timing of milestone receipts, the completion of transitional research and development activities related to certain divested products, and the suspension of activity related to Sonata.

 

Cost of Sales

 

Cost of sales was $196.1 million in 2005, compared to $173.6 million in 2004. The cost of sales as percentage of product revenue was 43% for both 2005 and 2004. The gross margin remained consistent with 2004 because of compensating changes in the mix of product revenues, the impact of the Tysabri voluntary suspension and the divestment of products in 2004.

 

Selling, General and Administrative Expenses (SG&A)

 

SG&A expenses were $358.4 million in 2005, compared to $337.3 million in 2004, and included $84.7 million (2004: $52.3 million) in relation to Tysabri. The increase of 6% reflects the costs of maintaining the Tysabri commercial infrastructure in place for the full year 2005 in anticipation of its potential return to market and the marketing cost of launching Prialt during 2005, offset by reduced costs in the rest of the business.

 

Research and Development Expenses

 

R&D expenses were $233.3 million in 2005, compared to $257.3 million in 2004, and included $66.9 million (2004: $84.2 million) in relation to Tysabri. The decrease of 9% reflects cost containment initiatives, the refocusing of research and development efforts on key Alzheimer’s disease programs, and reduced spending on Tysabri as a result of the completion of clinical trials, offset by the cost of the extensive Tysabri safety evaluation.

 

Net Gain on Sale of Businesses

 

 

In April 2004, we sold our interests in Zonegran in North America and Europe to Eisai for initial net consideration of $113.5 million at closing. We were also entitled to receive additional consideration of up to $110.0 million from Eisai through January 1, 2006, primarily contingent on the date of generic Zonegran approval. We received $85.0 million of this contingent consideration prior to the approval of generic Zonegran in December 2005. Consequently, the total net proceeds received from the sale of Zonegran amounted to $198.5 million and resulted in a cumulative net gain of $128.5 million, of which $85.6 million was recognized in 2005 and $42.9 million in 2004.

In February 2004, we sold our European sales and marketing business to Zeneus for initial net cash proceeds of $93.2 million, resulting in a loss of $2.9 million in 2004. We received an additional $6.0 million in February 2005, which was accrued at December 31, 2004, and $15.0 million of contingent consideration in December 2005, which resulted in a net gain of $17.1 million in 2005 after the release of contingent liabilities of $2.1 million, which were not required ultimately. We will not receive any further consideration in respect of this disposal.

 

Other Significant Net Charges

 

The principal items classified as other significant charges/(gains) include severance, relocation and exit costs, litigation settlement receipts, and losses incurred from litigation or regulatory actions, including shareholder class action litigation and the SEC investigation. These items have been treated consistently from period to period. Our management believes that disclosure of other significant charges/(gains) is meaningful because it provides additional information in relation to these material items.

 

 

(A) Pfizer litigation settlement, shareholder litigation, and SEC investigation

 

During 2005, we recorded a net gain of $7.4 million related primarily to the Pfizer litigation settlement in which we received a payment of $7.0 million. The nature of this action and its settlement is described in Note 25 to the Consolidated Financial Statements.

 

The $56.0 million charge recorded in 2004 arose primarily as a result of a $55.0 million provision made in relation to settlements of the SEC investigation and the related shareholder class action lawsuit. We and certain of our former and current officers and directors were named as defendants in a class action filed in early 2002 alleging that our financial statements were not prepared in accordance with GAAP, and that the defendants disseminated materially false and misleading information concerning our business and financial results. We agreed to settle the action in October 2004 and the settlement was formally approved by the U.S. District Court for the Southern District of New York in February 2005. The terms of the class action settlement received final court approval in April 2005. Under the class action settlement, all claims against us and the other named defendants were dismissed with no admission or finding of wrongdoing on the part of any defendant. The principal terms of the settlement provide for an aggregate cash payment to class members of $75.0 million, out of which the court awarded attorneys’ fees to plaintiffs’ counsel, and $35.0 million was paid by our insurance carrier.

 

We were also the subject of an investigation by the SEC’s Division of Enforcement regarding matters similar to those alleged in the class action. We provisionally settled the investigation in October 2004 and the SEC formally approved the settlement in February 2005. Under the settlement agreement reached with the SEC, we neither admitted nor denied the allegations contained in the SEC’s civil complaint, which included allegations of violations of certain provisions of the federal securities laws. The settlement contains a final judgment restraining and enjoining us from future violations of these provisions. In addition, under the final judgment, we paid a civil penalty of $15.0 million. In connection with the settlement, we were not required to restate or adjust any of our historical financial results or information.

 

For additional information on litigation which we are involved in, please refer to Note 25 to the Consolidated Financial Statements.

 

(B) Severance, relocation and exit costs

 

During 2005, we incurred severance, relocation and exit costs of $14.4 million arising from the realignment of our resources to meet our current business structure. These expenses arose from termination of certain operating leases and a reduction in employee headcount.

During 2004, we incurred severance, relocation and exit costs arising from the implementation of our recovery plan of $3.0 million. The recovery plan, which commenced in July 2002 and was completed in February 2004, involved the restructuring of our businesses, assets and balance sheet. These expenses arose from a reduction in the scope of our activities and a reduction in employee headcount.

 

Net Interest Expense

 

Net interest expense was $125.7 million in 2005, compared to $109.0 million in 2004. The increase of 15% primarily reflects the interest costs associated with the issuance of $850.0 million of 7.75% senior fixed rate notes (7.75% Notes) and $300.0 million of senior floating rate notes (Floating Rate Notes) in November 2004, partially offset by the impact of the repayment of the Elan Pharmaceutical Investments III Ltd. (EPIL III) Series B and C guaranteed notes (collectively, EPIL III Notes) in November 2004, the early retirement of $36.8 million of the 7.25% senior notes (Athena Notes) due in 2008 and the early conversion of $206.0 million in aggregate principal amount of 6.5% Convertible Notes due in 2008 in the second quarter of 2005, and increased interest income associated with higher cash balances and interest rates.

 

Net Investment Gains

 

Net investment gains were $16.3 million in 2005, compared to $114.6 million in 2004, a decrease of 86%. In 2005, we raised $62.7 million (2004: $255.5 million) in net cash proceeds from the disposal of investments and marketable investment securities. The net investment gains of $16.3 million in 2005 includes gains on the sale of securities of Allergy Therapeutics plc of $10.0 million, Iomai Corporation of $3.2 million and Emisphere Technologies, Inc. of $1.8 million. The net investment gains in 2004 of $114.6 million included a gain on the sale of securities of Warner Chilcott plc of $43.6 million, DOV Pharmaceutical, Inc. of $22.6 million, Curis, Inc. of $15.3 million and Atrix Laboratories of $13.1 million.

 

Impairment of Investments

 

During 2005, investment impairment charges of $23.5 million (2004: $71.8 million) reflect other-than-temporary impairments to the value of a number of investments, primarily in privately-held biotech companies.

 

Net Charge on Debt Retirement

 

In June 2005, we incurred a net charge of $51.8 million (2004: $Nil) associated with the early retirement of $36.8 million of the Athena Notes due in 2008 and the early conversion of $206.0 million in aggregate principal amount of the 6.5% Convertible Notes due in 2008. This reduced our debt by $242.8 million and our annualized interest expenses by approximately $16.0 million.

 

Charge Arising from Guarantee to EPIL II Noteholders

 

We had guaranteed EPIL II loan notes (EPIL II Notes) to the extent that the investments held by EPIL II were insufficient to repay the EPIL II Notes and accrued interest. EPIL II was a qualifying special purpose entity and was not consolidated under U.S. GAAP. On June 28, 2004, the EPIL II Notes of $450.0 million, together with accrued interest for the period from December 31, 2003 to June 28, 2004 of $21.5 million, were repaid. Of the aggregate payment of $471.5 million, $79.7 million was funded from the cash resources in EPIL II and through the sale of EPIL II’s entire investment portfolio. We funded the balance of $391.8 million under our guarantee. This resulted in a charge of $47.1 million in 2004, arising from interest of $21.5 million and investment losses of $25.6 million incurred by EPIL II during the first half of 2004.

 

Provision for/(Benefit from) Income Taxes

 

We had a net tax provision of $1.0 million for 2005, compared to a net tax benefit of $1.7 million for 2004. The overall tax provision for 2005 was $0.4 million. Of this amount, $0.6 million has been credited to shareholders’ equity to reflect utilization of stock option deductions. The remaining $1.0 million provision is allocated to ordinary activities. The tax provision reflected tax at standard rates in the jurisdictions in which we operate, income derived from Irish patents, foreign withholding tax and the availability of tax losses. Our Irish patent derived income was

exempt from taxation pursuant to Irish legislation, which exempts from Irish taxation income derived from qualifying patents. Currently, there is no termination date in effect for such exemption. For additional information regarding taxation, please refer to Note 17 to the Consolidated Financial Statements.

 

Net Income/(Loss) from Discontinued Operations

 

Net income from discontinued operations was $0.6 million in 2005, compared to a net income from discontinued operations of $19.0 million in 2004. The net income from discontinued operations includes a net gain on sale of businesses of $0.5 million (2004: $11.5 million). During the course of the completed recovery plan, we sold a number of products and businesses, including Athena Diagnostics, Elan Diagnostics, a portfolio of pain products (the Pain Portfolio), Actiq^tm (oral transmucosal fetanyl citrate), the dermatology portfolio of products, Abelcet^tm (amorphotericin B lipid complex) U.S./Canada, Myobloc^tm (botulinum toxin type B), Myambutol^tm (ethambutal hydrochloride) and Frova, which are included in discontinued operations. We have recorded the results and gains or losses on the divestment of these operations within discontinued operations in the Consolidated Statement of Operations.

 

Net Loss and Net Loss per Ordinary Share

 

Net loss for the year was $383.6 million for 2005, compared to a net loss of $394.7 million for 2004. Basic and diluted net loss per share was $0.93 for 2005, compared to $1.01 for 2004. Basic and diluted net loss from continuing operations was $0.93 per share for 2005, compared to $1.06 per share for 2004. Basic and diluted net income from discontinued operations was $Nil per share for 2005, compared to basic and diluted net income per share of $0.05 for 2004.

2004 Compared to 2003 (in millions, except share and per share amounts)