General

Total net revenues were $722.7 million and $2,304.5 million for the three and nine months ended December 31, 2012, respectively, as compared to $1,209.3 million and $3,530.3 million for the same periods last year. The decline was primarily due to a decrease in Lexapro® sales resulting from the expiration of its market exclusivity, partially offset by increases in sales of our currently promoted products. Lexapro's market exclusivity expired in March 2012 and in mid-September, the 180 day Hatch-Waxman period, available to the first filing generic manufacturer, ended, which opened the way for full generic competition. Excluding Lexapro sales, net sales increased $89.3 million or 15.7% and $325.9 million or 20.1% for the three and nine months ended December 31, 2012, respectively. Sales of our next generation products, Bystolic®, Savella®, Teflaro®, Daliresp® and Viibryd®, totaled $204.0 million for the current quarter, representing growth of 35.4% over the year ago period. We also launched two of our newest products during this quarter, TudorzaTM and LinzessTM and sales for these two products totaled $31.4 million for the quarter. For the three months ended December 31, 2012, the Company had a net loss of $153.6 million as compared to net income of $278.4 million for the same period last year. The decrease was primarily driven by the decrease in Lexapro sales, coupled with milestone and upfront payments totaling $120.5 million in the quarter, partially offset by increases in sales of our currently promoted products. For the nine-month period ended December 31, 2012, the Company recorded a net loss of $77.5 million compared to net income of $786.4 million for the same period last year. This decrease was driven by the expiration of Lexapro's market exclusivity, and upfront and pre-approval milestone payments totaling $120.5 million in the current year as compared to $94.6 million in the prior year period.

In August 2012, the U.S. Food and Drug Administration (FDA) approved Linzess as a once-daily treatment for adult men and women suffering from irritable bowel syndrome with constipation (IBS-C) or chronic idiopathic constipation
(CIC). Pursuant to the Company's collaboration agreement with Ironwood Pharmaceuticals, Inc. (Ironwood) for the development and commercialization of linaclotide, the Company made a milestone payment of $85 million upon FDA approval. In December 2012, the Company commercially launched this product and recorded sales of $19.2 million primarily related to trade stocking.

In July 2012, the Company received FDA approval for Tudorza Pressair (aclidinium bromide inhalation powder), for the long-term maintenance treatment of bronchospasm associated with chronic obstructive pulmonary disease (COPD), including chronic bronchitis and emphysema. The Company licensed rights to aclidinium in the United States through an agreement with Almirall, S.A. (Almirall), pursuant to which the Company made a milestone payment of $40 million which was due upon FDA approval. In December 2012, the Company commercial launched this product and recorded sales of $12.2 million primarily related to trade stocking.

On October 22, 2012, the Company announced an agreement with moksha8, a privately-held pharmaceutical company which markets products in Latin America, which includes an exclusive license from Forest to moksha8 to commercialize Viibryd, and potentially other Forest products, in Latin America. In addition, the Company will provide up to $125 million in financing to moksha8 in several tranches over a two-year period, conditioned upon moksha8 achieving certain business goals, of which $82.7 million was funded as of December 31, 2012. At the conclusion of this two-year period, the Company will have the option to acquire moksha8 in a merger transaction at a fixed price of $157 million, subsequent to which the moksha8 shareholders will have the option to put to Forest all assets of moksha8 at a fixed price of $144 million, provided that moksha8 has achieved certain business objectives.

On June 1, 2012, the Company announced an agreement with Nabriva Therapeutics (Nabriva) for the development of Nabriva's novel antibacterial agent, BC-3781. Pursuant to the agreement, the Company provided funding of $25 million to Nabriva, and will conduct, in collaboration with Nabriva, certain development activities related to BC-3781 over the twelve month period following the execution of the agreement. During the twelve-month period, the Company has the exclusive right to acquire Nabriva. The Company's decision to acquire Nabriva will be dependent upon certain contingencies.

Financial Condition and Liquidity

Net current assets decreased by $726.0 million from March 31, 2012, driven by a decrease in cash of $630.6 million, a decrease in short-term marketable securities of $76.6 million, a decrease in accounts receivable of $73.9 million, an increase in accounts payable and accruals of $16.7 million, offset by an increase in inventory of $83.7 million. Cash decreased due to net purchases of marketable securities of $455.8 million, payment of milestones for the approval of Linzess and Tudorza Pressair of $85 million and $40 million, respectively, capital expenditures of $50.6 million, and, funding provided to moksha8 and Nabriva of $108.1 million. These decreases were offset by cash generated from operating activities of $90.3 million. Cash, cash equivalents and investments collectively decreased by $179.5 million. Of our total cash and cash equivalents and marketable securities position at December 31, 2012 of $3.0 billion, approximately 5% or $146.1 million, was domiciled domestically with the remainder held by our international subsidiaries. Approximately $2.8 billion is held in low tax jurisdictions and is attributable to earnings that are expected to be indefinitely reinvested offshore. We invest funds in variable rate demand notes that have major bank liquidity agreements, municipal bonds and notes, government agency bonds, commercial paper, corporate bonds, certificates of deposit, auction rate securities and floating rate notes. Cash repatriations are subject to restrictions in certain jurisdictions and may be subject to withholding and other taxes. We continue to actively seek opportunities to further develop foreign operations through strategic alliances, business acquisitions, collaboration agreements, and other investing activities including working capital and capital expenditures. We expect cash generated by our U.S. operations, together with existing cash, cash equivalents, marketable securities, our $750 million revolving credit facility and access to capital markets to be sufficient to cover cash needs for our U.S. operations including common stock repurchases, strategic alliances and acquisitions, milestone payments, working capital and capital expenditures.

Trade accounts receivable decreased $77.8 million primarily due to lower sales as a result of the expiration of Lexapro's market exclusivity. Net inventories increased $83.7 million in order to support continued demand for our products, including the launch of Linzess and Tudorza in the third quarter of fiscal 2013. We believe that current inventory levels are adequate to support continued demand for our products. Accounts payable decreased primarily due to the payment of the annual Pharma Manufacturing Fee (Pharma Fee) mandated under the Affordable Care Act and timing differences between accounts payable and accrued expenses. Accrued expenses and other liabilities increased due to payments related to customer rebates and government programs. The current period also included a $12 million accrual for a post-retirement benefit plan. In June 2012, we recorded a change in estimate of $12 million related to the Pharma Fee which increased the estimate.

Property, plant and equipment increased from March 31, 2012 as we continue to invest in our technology and facilities.

On May 18, 2010, the Board of Directors authorized the 2010 Repurchase Program for up to 50 million shares of our common stock. Since the beginning of fiscal 2011, we have repurchased a cumulative total of $1.35 billion of our common stock utilizing accelerated share repurchase transactions (ASRs): a $500 million ASR entered into in June 2010, a $500 million ASR entered into in June 2011 and a $350 million ASR entered into in August 2011. As of December 31, 2012, through these ASR agreements, we have received a total of 41.3 million shares; 16.9 million during fiscal 2011 (5.7 million under the 2007 Repurchase Program and 11.2 million under the 2010 Repurchase Program), 21.5 million (all under the 2010 Repurchase Program) during fiscal 2012 and 2.9 million (all under the 2010 Repurchase Program) during fiscal 2013. As of February 6, 2013 we had the authority to repurchase an additional 14.4 million shares under the 2010 Repurchase Program.

Results of Operations

Net sales for the three and nine-month periods ended December 31, 2012 decreased 41.6% and 37.5% from the same periods last year to $678.0 million and $2,121.8 million, respectively. The decline was primarily due to a decrease in Lexapro sales of $572.7 million and $1,599.8 million, respectively, partially offset by increases in sales of our promoted products Namenda®, Bystolic, Teflaro, Viibryd, Daliresp, Linzess, and Tudorza. The decrease in Lexapro sales is due to the expiration of its market exclusivity in March 2012. Excluding Lexapro sales, net sales increased $89.3 million or 15.7% and $325.9 million or 20.1% for the three and nine months ended December 31, 2012, respectively.

Sales of Namenda (memantine HCl), our N-methyl-D-aspartate (NMDA) receptor antagonist for the treatment of moderate to severe Alzheimer's disease increased 1.6% and 8.5% for the current quarter and nine months, respectively, to $345.8 million and $1,081.8 million. This represents increases of $5.4 million and $84.6 million as compared with the same periods last year. The increase for the nine-month period was primarily due to price increases while the increase for the quarter was primarily due to an increase in volume. For the first two quarters of fiscal 2013, Namenda experienced a decline in volume which was driven primarily by a decline in demand in the long-term care setting. In the third quarter of fiscal 2013, Namenda sales were negatively impacted by higher contract rebates, largely driven by the Medicare Part D Coverage Gap liability, which peaked in the fiscal third quarter and are expected to return to normal levels in the fiscal fourth quarter. Namenda's patent is set to expire in January 2015.

Bystolic (nebivolol), our beta-blocker indicated for the treatment of hypertension, experienced growth in sales of 20.1% to $108.8 million and 28.8% to $323.1 million in the current three and nine-month periods, respectively, as compared to $90.6 million and $250.9 million for the same periods last year, of which $15.0 million and $49.0 million, respectively, was due to increased sales volume and $3.2 million and $23.2 million, respectively, was due to price increases.

Sales of Savella (milnacipran HCl), a selective serotonin and norepinephrine reuptake inhibitor (SNRI) for the management of fibromyalgia declined 2.7% in the current three-month period to $25.6 million as compared to $26.3 million in the prior year period. This was primarily driven by a decrease in volume. For the nine months ended December 31, 2012, sales of Savella increased 1.3% to $78.5 million compared to $77.5 million for same period last year. The increase was driven by pricing increases.

Teflaro (ceftaroline fosamil), a broad-spectrum hospital-based injectable cephalosporin antibiotic for the treatment of adults with community-acquired bacterial pneumonia and with acute bacterial skin and skin structure infections, launched in March 2011, achieved sales of $11.5 million and $30.9 million for the three and nine-month periods ended December 31, 2012, respectively, up from $6.5 million and $14.5 million for the same periods last year primarily due to increased volume.

Daliresp (roflumilast), our selective phosphodiesterase 4 (PDE4) enzyme inhibitor indicated for the treatment to reduce the risk of exacerbations in patients with severe COPD associated with chronic bronchitis and a history of exacerbations, achieved sales of $17.5 million and $54.8 million for the current three and nine-month periods, respectively, as compared to $8.4 million and $18.1 million for the same periods last year. The increase year over year was driven by increased volume. Daliresp was launched in August 2011.

Viibryd (vilazodone HCl), our selective serotonin reuptake inhibitor (SSRI) and a 5-HT1A receptor partial agonist for the treatment of adults with major depressive disorder (MDD) recorded sales of $40.6 million and $117.9 million for the three and nine-month periods ended December 31, 2012, respectively, as compared to $18.9 million and $31.6 million for the same periods last year. The increase year over year was driven by increased volume. Viibryd was launched in August 2011.

In December 2012, we launched our two newest products, Linzess and Tudorza:

Linzess (linaclotide), our guanylate cyclase (GC-C) agonist for the treatment of IBS-C and CIC in adults recorded sales of $19.2 million for the three and nine-month periods.

Tudorza, an anticholinergic indicated for the long-term maintenance treatment of bronchospasm associated with COPD, recorded sales of $12.2 million for the three and nine-month periods.

Sales of Lexapro (escitalopram oxalate), an SSRI indicated for the initial and maintenance treatment of MDD in adults and adolescents and generalized anxiety disorder in adults, decreased to $20.3 million and $175.0 million in the current three and nine-month periods, respectively, as compared to $593.0 million and $1.8 billion in the same periods last year due to the loss of market exclusivity in March 2012. Lexapro has since faced generic competition, which has significantly eroded sales.

Contract revenue for the three and nine months ended December 31, 2012 totaled $38.3 million and $158.4 million, respectively, compared to $34.1 million and $108.4 million in the same periods last year. Benicar® (olmesartan medoxomil) co-promotion income totaled $36.0 million and $101.6 million, compared to $31.4 million and $99.7 million in the same periods last year. Contract revenue for the current nine-month period also included $51.3 million of income from a distribution agreement with Mylan, Inc. (Mylan) pursuant to which Mylan is authorized to sell a generic version of Lexapro and we receive a portion of the profits from those sales. Year-to-date income included a change in estimate of $13 million related to revenue from the distribution agreement with Mylan. In mid-September, the 180 day Hatch-Waxman period for Lexapro for the first filing generic manufacturer ended, opening the way for full generic competition.

Cost of sales as a percentage of net sales was 22.6% for both the current and prior year quarter. For the nine-month periods ended December 31, 2012 and 2011, cost of sales as a percentage of net sales was 22.2% and 23.0%, respectively. Cost of sales includes royalties in respect of our products. In the case of our principal products subject to royalties, which includes Namenda, these royalties are in the range of 15 to 25%.

Selling, general and administrative expense (SG&A) increased to $428.4 million for the current quarter as compared to $396.1 million for the same period last year. SG&A increased to $1,185.6 million for the nine-month period ended December 31, 2012 as compared to $1,142.8 million for the same period last year. The current level of spending reflects the resources and activities required to support our currently marketed products, particularly our newest products: Teflaro, Viibryd, Daliresp, Tudorza, and Linzess.

Research and development expense (R&D) increased to $325.3 million and $723.3 million in the current three and nine-month periods, respectively, as compared to $191.3 million and $583.0 million in the same periods last year. R&D included upfront licensing agreement payments of $76.0 million and milestone payments of $44.5 million for both the three and nine-month periods ended December 31, 2012. During the quarter ended December 31, 2012, we made an upfront payment of $65.0 million to Adamas for the development and commercialization of a fixed dosed combination (FDC) of Namenda XRTM (memantine HCI extended release) and donepezil HCI which will be a daily therapy for the treatment of moderate and severe dementia of Alzheimer's. The prior year quarter included $24.6 million of product development milestone payments. The prior year nine-month period included a $40.0 million upfront payment to Blue Ash Therapeutics, LLC (Blue Ash) for rights to azimilide and $54.6 million of product development milestone payments. Excluding milestone and upfront payments, for the three and nine-month periods ended December 31, 2012, R&D increased by $38.1 million and $114.4 million, respectively, compared to the prior year.

Research and development expense is comprised of third party development costs, internal and other development costs and milestone and upfront charges. For the three and nine-month periods ended December 31, 2012 and 2011, research and development expense by category was as follows:

                                           Three months ended           Nine months ended
(In thousands)                                December 31,                December 31,
                                              2012          2011          2012          2011
Category
Third party development costs            $ 114,600     $  79,725     $ 335,347     $ 248,142
Internal and other development costs        90,221        86,960       267,479       240,317
Milestone and upfront charges              120,469        24,584       120,469        94,584
Total research and development expense   $ 325,290     $ 191,269     $ 723,295     $ 583,043

Third party development costs are incurred for clinical trials performed by third parties on our behalf with respect to products in various stages of development. In the three and nine-month periods ended December 31, 2012, these costs were largely related to clinical trials for nebivolol/valsartan, aclidinium/formoterol, vilazodone, cariprazine and roflumilast. Internal and other development costs are primarily associated with activities performed by internal research personnel. Milestone and upfront charges are incurred upon consummation of new licensing agreements and achievement of certain development milestones.

Research and development expense reflects the following:

· In December 2009, we entered into an agreement with AstraZeneca AB (AstraZeneca) to acquire additional rights to avibactam and amended the Company's prior agreement with Novexel S.A. Pursuant to this amended agreement, the Company acquired full worldwide rights to the ceftaroline/avibactam combination while simultaneously out-licensing rights to this combination outside the United States, Canada and Japan to AstraZeneca. We also acquired co-development and exclusive commercialization rights in the United States and Canada to all other products containing avibactam including the ceftazidime/avibactam combination. Avibactam is a novel broad-spectrum beta-lactamase inhibitor designed to be co-administered intravenously with select antibiotics to enhance their spectrum of activity by overcoming beta-lactamase-related antibacterial resistance. Avibactam is currently being developed in combination with ceftaroline (Teflaro) and ceftazidime. Ceftazidime is a cephalosporin antibiotic having a different spectrum of activity compared to ceftaroline. The ceftaroline/avibactam combination is currently being studied in Phase II clinical trials conducted by Forest. Data from two Phase II trials for ceftazidime/avibactam in patients with complicated intra-abdominal infections (cIAI) and complicated urinary tract infections (cUTI) demonstrated that ceftazidime/avibactam achieved high clinical cure rates and was well tolerated in patients with cIAI and cUTI. Based on the results of these studies, we and AstraZeneca initiated Phase III studies for ceftazidime/avibactam in patients with cIAI in December 2011 and in patients with cUTI in July 2012 which are currently ongoing. We plan to start Phase III trials of ceftaroline avibactam in skin infections in calendar year 2013.

· In January 2011, we reported positive results from two Phase II(b) dose-ranging studies comparing fixed-dose combinations of aclidinium (Tudorza), a novel long-acting muscarinic antagonist developed as an inhaled therapy for the treatment of COPD and the long-acting beta-agonist formoterol to aclidinium alone, formoterol alone and placebo administered BID (twice-daily) in patients with moderate to severe COPD. Both studies showed statistically significant differences for the fixed-dose combination on the primary endpoint versus placebo. The fixed-dose combinations also provided a numerically higher bronchodilation effect compared to aclidinium alone and formoterol alone. Phase III studies with the fixed-dose combination commenced in September 2011 and we anticipate top-line results from the trials during the first half of calendar 2013. We and our licensing partner Almirall received marketing approval for Tudorza Pressair for the long-term maintenance treatment of bronchospasm associated with COPD, including chronic bronchitis and emphysema, in July 2012. We anticipate results from the Phase III trials during the second quarter of calendar year 2013 and assuming positive results, will submit the NDA in first quarter of calendar year 2014.

· In December 2008, we entered into an agreement with Pierre Fabre Médicament to develop and commercialize levomilnacipran (F2695) in the United States and Canada. Levomilnacipran is a proprietary selective norepinephrine and serotonin reuptake inhibitor that is being developed for the treatment of depression. In April 2012, we reported positive results from the third Phase III randomized, double-blind, placebo-controlled, fixed-dose clinical trial evaluating the efficacy, safety and tolerability of levomilnacipran compared to placebo in adult patients with MDD. Treatment with levomilnacipran significantly reduced depression symptoms in patients with MDD compared to placebo, as measured by Montgomery-Asberg Depression Rating Scale-Clinician Rated (MADRS-CR). Based on the overall success of the development program, the Company and Pierre Fabre Médicament filed an NDA for levomilnacipran with the FDA in September 2012 and the Prescription Drug User Fee Act (PDUFA) target action date is expected to occur during the third quarter of calendar 2013.

· In November 2004, we entered into an agreement with Gedeon Richter Ltd. (Richter) for the North American rights to cariprazine, an oral D2/D3 partial agonist, and related compounds, being developed as an atypical antipsychotic for the treatment of schizophrenia, acute mania associated with bipolar depression, bipolar depression and as an adjunct treatment for MDD. In October 2011 and February 2012, we reported preliminary top-line results from two Phase III studies of cariprazine in patients with acute mania associated with bipolar disorder. The data from both studies showed that cariprazine-treated patients with acute manic episodes experienced significant symptom improvement compared to placebo-treated patients. In February, we also reported the results of two Phase III studies of cariprazine in patients with schizophrenia showing that cariprazine-treated patients with schizophrenia experienced significant symptom improvement compared to placebo-treated patients. In November 2012, we filed an NDA for cariprazine for those two indications and the PDUFA target action date is expected to occur during the fourth calendar quarter of 2013. Cariprazine is in Phase II development for bipolar depression and as an adjunct treatment for MDD. We expect to report the top-line results of these Phase II studies near the end of calendar 2013 and mid-2014.

· A Phase III clinical trial is underway to study a fixed-dose combination of Bystolic, our proprietary beta-blocker launched in January 2008, and the market's leading angiotensin II receptor blocker (ARB) valsartan for the treatment of patients with hypertension. In January 2012, we began a multicenter, randomized, double-blind, placebo-controlled study of approximately 3,750 patients to evaluate the safety and efficacy of Bystolic and valsartan patients with stage 1 or 2 essential hypertension. We expect to report preliminary top-line data from the study in the second quarter of calendar 2013.

· In December 2010, we entered into a license agreement with Grünenthal for the co-development and commercialization of GRT 6005 (cebranopadol) and its follow-on compound GRT 6006, both being small molecule analgesic compounds in development for the treatment of moderate to severe chronic pain conditions. Cebranopadol and GRT 6006 are novel first-in-class compounds with unique pharmacological and pharmacokinetic profiles that may enhance their effect in certain pain conditions. The unique mode of action of these compounds builds on the ORL-1 receptor and, supported by the established mu opioid receptor, is particularly suitable for the treatment of moderate to severe chronic pain. Cebranopadol has successfully completed initial proof-of-concept studies in nociceptive and neuropathic pain with further Phase II studies planned prior to initiation of Phase III studies.

· In June 2010, we entered into a license agreement with TransTech Pharma, Inc. (TransTech) for the development and commercialization of TTP399, a functionally liver selective glucokinase activator discovered and being developed by TransTech for the treatment of Type II diabetes. Early Phase I testing suggests that pharmacological enhancement of glucokinase activity may lower blood glucose in diabetic patients. We have initiated a Phase II clinical program.

· In April 2011, we entered into an agreement with Blue Ash for the worldwide rights to azimilide, a novel class III antiarrhythmic agent. Azimilide has been studied in over 5,300 patients to investigate its potential as an antiarrhythmic agent. Based on its mechanism of action and results of clinical trials, azimilide was determined to be best suited for use in patients with a history of life-threatening ventricular arrhythmias and who have an implantable cardioverter defibrillator. In 2006, following submission of data from the SHIELD 1 Phase III clinical study, the FDA, under its then operable review practices, issued an Approvable Letter requesting an additional clinical trial for azimilide. In 2010, the FDA agreed to one additional Phase III study to support a regulatory submission for azimilide in the U.S. The SHIELD 2 study was initiated in November 2011 and is being conducted under a Special Protocol Assessment with the FDA. We expect to report top-line results from this study in the second half of calendar 2014.

· In November 2012, we entered into an agreement with Adamas for the development and commercialization of an FDC of Namenda XR (memantine HCI extended release) . . .