VALEANT PHARMACEUTICALS INTERNATIONAL - 10-Q Quarterly Report

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Form 10-Q


(Mark One)
þ		QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

		For the quarterly period ended September 30, 2003

or

o		TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

		For the transition period from to

Commission File Number: 1-11397

Valeant Pharmaceuticals International

(Exact name of registrant as specified in its charter)


Delaware		33-0628076
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)

3300 Hyland Avenue Costa Mesa, California (Address of principal executive offices)		92626 (Zip Code)

(714) 545-0100

(Registrant’s telephone number, including area code)

ICN Pharmaceuticals, Inc.

(Former name, former address and former fiscal year, if changed since last report)

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 of 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 an accelerated filer (as defined in Exchange Act Rule 12b-2). Yes þ No o

The number of outstanding shares of the registrant’s Common Stock, $0.01 par value, as of November 7, 2003 was 83,089,398.

TABLE OF CONTENTS


PART I -- FINANCIAL INFORMATION
	CONSOLIDATED CONDENSED BALANCE SHEETS
	CONSOLIDATED CONDENSED STATEMENTS OF INCOME
	CONSOLIDATED CONDENSED STATEMENTS OF COMPREHENSIVE INCOME
	CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
	MANAGEMENT’S STATEMENT REGARDING UNAUDITED FINANCIAL STATEMENTS
	NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
	NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS --(Continued)
	Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
	Item 3. Quantitative and Qualitative Disclosures About Market Risk
	Item 4. Controls and Procedures.
FORWARD LOOKING STATEMENTS
PART II -- OTHER INFORMATION
	Item 1. Legal Proceedings
	Item 6. Exhibits and Reports on Form 8-K
SIGNATURES
EXHIBIT INDEX
EXHIBIT 3.1
EXHIBIT 15.1
EXHIBIT 15.2
EXHIBIT 31.1
EXHIBIT 31.2
EXHIBIT 32.1

VALEANT PHARMACEUTICALS INTERNATIONAL

INDEX


		Page
		Number

PART I — FINANCIAL INFORMATION
Item 1.	Financial Statements
	Consolidated Condensed Balance Sheets — September 30, 2003 and December 31, 2002		2
	Consolidated Condensed Statements of Income — Three months and nine months ended September 30, 2003 and 2002		3
	Consolidated Condensed Statements of Comprehensive Income — Three months and nine months ended September 30, 2003 and 2002		4
	Consolidated Condensed Statements of Cash Flows — Nine months ended September 30, 2003 and 2002		5
	Management’s Statement Regarding Unaudited Financial Statements		6
	Notes to Consolidated Condensed Financial Statements		7
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations		30
Item 3.	Quantitative and Qualitative Disclosures About Market Risk		39
Item 4.	Controls and Procedures		39
PART II — OTHER INFORMATION
Item 1.	Legal Proceedings		43
Item 6.	Exhibits and Reports on Form 8-K		43
SIGNATURES			44

PART I — FINANCIAL INFORMATION

Item 1. Financial Statements

VALEANT PHARMACEUTICALS INTERNATIONAL

CONSOLIDATED CONDENSED BALANCE SHEETS

September 30, 2003 and December 31, 2002

(In thousands, except per share data)


			September 30,			December 31,
			2003			2002

			(Unaudited)
ASSETS
Current Assets:
	Cash and cash equivalents		$	301,028		$	245,184
	Accounts receivable, net			156,361			215,776
	Inventories, net			91,812			88,862
	Income taxes receivable			—			12,779
	Prepaid expenses and other current assets			16,771			13,972

		Total current assets		565,972			576,573
Property, plant and equipment, net				235,051			242,888
Deferred tax assets, net				89,720			39,180
Intangible assets, net				442,809			384,547
Other assets				44,273			43,531

		Total non-current assets		811,853			710,146
Assets of discontinued operations				27,172			201,830

			$	1,404,997		$	1,488,549

LIABILITIES AND STOCKHOLDERS’ EQUITY
Current Liabilities:
	Trade payables		$	32,366		$	33,487
	Accrued liabilities			124,217			142,093
	Notes payable and current portion of long-term debt			1,303			3,923
	Income taxes payable			28,250			—

		Total current liabilities		186,136			179,503
Long-term debt, less current portion				478,652			481,548
Deferred income taxes and other liabilities				73,515			52,288
Minority interest				3,397			23,452

		Total non-current liabilities		555,564			557,288
Liabilities of discontinued operations				19,216			48,068

Commitments and contingencies
Stockholders’ Equity:
	Common stock, $0.01 par value; 200,000 shares authorized; 83,075 (September 30, 2003) and 84,066 (December 31, 2002) shares outstanding (after deducting shares in treasury of 1,068 as of September 30, 2003)			831			841
	Additional capital			1,020,829			1,027,335
	Accumulated deficit			(330,174	)		(256,809	)
	Accumulated other comprehensive loss			(47,405	)		(67,677	)

		Total stockholders’ equity		644,081			703,690

			$	1,404,997		$	1,488,549

The accompanying notes are an integral part of these consolidated condensed financial statements.

VALEANT PHARMACEUTICALS INTERNATIONAL

CONSOLIDATED CONDENSED STATEMENTS OF INCOME

For the three months and nine months ended September 30, 2003 and 2002

(Unaudited, in thousands, except per share data)



			Three Months Ended						Nine Months Ended
			September 30,						September 30,

			2003			2002			2003			2002

Revenues:
	Product sales		$	131,290		$	108,284		$	372,956		$	351,100
	Royalties			36,217			63,367			136,755			186,368

		Total revenues		167,507			171,651			509,711			537,468

Costs and expenses:
	Cost of goods sold			42,128			39,769			131,295			113,360
	Selling expenses			40,478			40,140			121,146			119,120
	General and administrative expenses			25,512			54,483			80,797			293,112
	Research and development costs			10,752			13,479			29,701			35,526
	Acquired in-process research and development			117,609			—			117,609			—
	Amortization expense			10,453			7,930			27,371			23,960

		Total expenses		246,932			155,801			507,919			585,078

		Income (loss) from operations		(79,425	)		15,850			1,792			(47,610	)
Other income, net, including translation and exchange				2,208			4,253			496			8,192
Gain (loss) on sale of subsidiary stock				—			(1,012	)		—			261,937
Gain (loss) on early extinguishment of debt				—			17,538			—			(25,730	)
Interest income				953			1,458			3,066			4,434
Interest expense				(7,871	)		(9,189	)		(23,892	)		(34,381	)

Income (loss) from continuing operations before income taxes and minority interest				(84,135	)		28,898			(18,538	)		166,842
Provision for income taxes				12,720			7,498			37,647			58,811
Minority interest, net				1,656			5,702			11,667			10,670

	Income (loss) from continuing operations			(98,511	)		15,698			(67,852	)		97,361
	Income (loss) from discontinued operations			16,110			(90,633	)		13,992			(109,742	)
	Cumulative effect of change in accounting principle			—			—			—			(21,791	)

	Net loss		$	(82,401	)	$	(74,935	)	$	(53,860	)	$	(34,172	)

Basic earnings per share:
	Income (loss) from continuing operations		$	(1.18	)	$	0.19		$	(0.81	)	$	1.17
	Discontinued operations			0.19			(1.09	)		0.17			(1.32	)
	Cumulative effect of change in accounting principle			—			—			—			(0.26	)

	Basic net loss per share		$	(0.99	)	$	(0.90	)	$	(0.64	)	$	(0.41	)

Diluted earnings per share:
	Income (loss) from continuing operations		$	(1.18	)	$	0.19		$	(0.81	)	$	1.15
	Discontinued operations			0.19			(1.09	)		0.17			(1.11	)
	Cumulative effect of change in accounting principle			—			—			—			(0.22	)

	Diluted net loss per share		$	(0.99	)	$	(0.90	)	$	(0.64	)	$	(0.18	)

Shares used in per share computation:
	Basic			83,067			83,392			83,759			83,053

	Diluted			83,067			83,484			83,759			99,023

The accompanying notes are an integral part of these consolidated condensed financial statements.

VALEANT PHARMACEUTICALS INTERNATIONAL

CONSOLIDATED CONDENSED STATEMENTS OF COMPREHENSIVE INCOME

For the three months and nine months ended September 30, 2003 and 2002

(Unaudited, in thousands)



		Three Months Ended						Nine Months Ended
		September 30,						September 30,

		2003			2002			2003			2002

Net loss		$	(82,401	)	$	(74,935	)	$	(53,860	)	$	(34,172	)
Other comprehensive income:
	Foreign currency translation adjustments		(1,065	)		(4,677	)		19,134			(2,891	)
	Unrealized gain (loss) on marketable equity securities and other		1,205			(3,956	)		1,138			(4,701	)

Comprehensive loss		$	(82,261	)	$	(83,568	)	$	(33,588	)	$	(41,764	)

The accompanying notes are an integral part of these consolidated condensed financial statements.

VALEANT PHARMACEUTICALS INTERNATIONAL

CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS

For the nine months ended September 30, 2003 and 2002

(Unaudited, in thousands)



				Nine Months Ended
				September 30,

				2003			2002

Cash flows from operating activities:
	Income (loss) from continuing operations			$	(67,852	)	$	97,361
	Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:
		Depreciation and amortization			45,827			42,758
		Provision for losses on accounts receivable and inventory obsolescence			3,631			4,374
		Translation and exchange (gains) losses, net			(496	)		(8,192	)
		Other non-cash items			464			44,286
		Write-off of acquired in-process R&D			117,609			—
		Deferred income taxes			(7,455	)		34
		Minority interest			11,667			10,670
		Gain on sale of subsidiary stock			—			(261,937	)
		Loss on extinguishment of debt			—			25,730
	Change in assets and liabilities, net of effects of acquisitions:
		Accounts receivable			61,876			21,857
		Inventories			(510	)		(4,300	)
		Prepaid expenses and other assets			(10,236	)		(20,793	)
		Trade payables and accrued liabilities			(42,855	)		10,618
		Income taxes payable			45,582			16,813
		Other liabilities			(8,058	)		4,272

		Cash flow from operating activities in continuing operations			149,194			(16,449	)
		Cash flow from operating activities in discontinued operations			21,938			8,065

			Net cash provided by (used in) operating activities		171,132			(8,384	)

Cash flows from investing activities:
	Capital expenditures				(9,241	)		(13,593	)
	Proceeds from sale of assets				318			356
	Proceeds from sale of subsidiary stock				—			276,611
	Acquisition of license rights, product lines and businesses				(192,923	)		(26,765	)

	Cash flow from investing activities in continuing operations				(201,846	)		236,609
	Cash flow from investing activities in discontinued operations				104,276			5,621

		Net cash (used in) provided by investing activities			(97,570	)		242,230

Cash flows from financing activities:
	Proceeds from issuance of long-term debt and notes payable				—			686
	Payments on long-term debt and notes payable				(6,797	)		(273,630	)
	Proceeds from exercise of stock options				317			12,892
	Dividends paid				(19,501	)		(19,035	)
	Repurchase of common stock				—			(31,955	)
	Funds received from discontinued operations				133,774			8,706

	Cash flow from financing activities in continuing operations				107,793			(302,336	)
	Cash flow from financing activities in discontinued operations				(134,070	)		(8,513	)

		Net cash used in financing activities			(26,277	)		(310,849	)

Effect of exchange rate changes on cash and cash equivalents					966			(161	)

Net increase (decrease) in cash and cash equivalents					48,251			(77,164	)
Cash and cash equivalents at beginning of period					253,664			325,253

Cash and cash equivalents at end of period					301,915			248,089
Cash and cash equivalents classified as part of discontinued operations					(887	)		(13,332	)

Cash and cash equivalents of continuing operations				$	301,028		$	234,757

The accompanying notes are an integral part of these consolidated condensed financial statements.

MANAGEMENT’S STATEMENT REGARDING UNAUDITED FINANCIAL STATEMENTS

The consolidated condensed financial statements included herein have been prepared by the Company, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared on the basis of accounting principles generally accepted in the United States of America have been condensed or omitted pursuant to such rules and regulations. The results of operations presented herein are not necessarily indicative of the results to be expected for a full year. Although the Company believes that all adjustments (consisting only of normal, recurring adjustments) necessary for a fair presentation of the interim periods presented are included and that the disclosures are adequate to make the information presented not misleading, these consolidated condensed financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2002.

VALEANT PHARMACEUTICALS INTERNATIONAL

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

September 30, 2003

(Unaudited)


1.	Summary of Significant Accounting Policies

Principles of Consolidation: The accompanying consolidated condensed financial statements include the accounts of Valeant Pharmaceuticals International (formerly known as ICN Pharmaceuticals, Inc.) and its wholly owned subsidiaries (the “Company” or “Valeant”) and all of its majority-owned subsidiaries. Minority interest in results of operations of consolidated subsidiaries represents the minority shareholders’ share of the income or loss of such consolidated subsidiaries. All significant intercompany account balances and transactions have been eliminated.

Comprehensive Income: Accumulated other comprehensive loss consists of accumulated foreign currency translation adjustments, unrealized losses on marketable equity securities and minimum pension liability. Other comprehensive loss has not been recorded net of any tax provision or benefit as the Company does not expect to realize any significant tax benefit or expense from these items.

Per Share Information: In 2003, the Company’s Board of Directors declared a first, second and third quarter cash dividends of $0.0775 per share, which were paid on April 23, July 25 and October 29, 2003, respectively. While the Company has historically paid quarterly cash dividends, there can be no assurance that the Company will continue to do so.

Goodwill and Intangible Assets: In July 2001, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 141, Business Combinations, and SFAS No. 142, Goodwill and Other Intangible Assets. During the second quarter of 2002, the Company completed the transitional impairment test required by SFAS No. 142. As a result, the Company recorded an impairment loss of $25,332,000 which was offset by a benefit of $3,541,000 for the write-off of negative goodwill. The net amount of $21,791,000 has been recorded as a cumulative effect of change in accounting principle in the nine months ended September 30, 2002.

At September 30, 2003 and December 31, 2002, intangible assets were as follows (in thousands):



			September 30, 2003					December 31, 2002

			Gross		Accumulated			Gross		Accumulated
			Amount		Amortization			Amount		Amortization

Intangible assets:
	Product rights		$	582,298	$	(152,566	)	$	511,556	$	(127,270	)
	Goodwill			13,077		—			261		—

		Total	$	595,375	$	(152,566	)	$	511,817	$	(127,270	)

Estimated amortization expense for the years ending December 31, 2004, 2005, 2006, 2007 and 2008 is $48,000,000, $43,000,000, $43,000,000, $42,000,000 and $35,000,000, respectively.

Stock-Based Compensation: The Company has adopted the disclosure-only provisions of SFAS No. 123 and SFAS No. 148, Accounting for Stock-Based Compensation — Transition and Disclosure. Compensation cost for stock-based compensation issued to employees has been measured using the intrinsic value method provided by Accounting Principles Board Opinion No. 25. Accordingly, no compensation cost has been recognized for options granted under the Company’s 2003 Equity Incentive Plan (which amends and restates the 1998 Stock Option Plan (the “Option Plan”)) as all options granted under the Option Plan had an exercise price equal to the market value of the underlying common stock on the date of grant (excluding options issued in exchange for Ribapharm Inc. stock options — See Note 2). Had compensation cost for the Option Plan been determined based on the fair value at the grant date for awards in the three and nine months ended September 30, 2003 and 2002 consistent with the provisions of SFAS No. 123, the Company’s net

VALEANT PHARMACEUTICALS INTERNATIONAL

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

income and earnings per share would have been the unaudited pro forma amounts indicated below (in thousands, except per share data):



		Three Months Ended						Nine Months Ended
		September 30,						September 30,

		2003			2002			2003			2002

Net loss as reported		$	(82,401	)	$	(74,935	)	$	(53,860	)	$	(34,172	)
Compensation costs related to the Company’s employee stock Compensation plan, net			—			—			—			38,068
Stock based employee compensation expense
	Determined under fair value based method, net of related tax effects		(965	)		(406	)		(1,910	)		(25,999	)

Pro forma net loss		$	(83,366	)	$	(75,341	)	$	(55,770	)	$	(22,103	)

Earnings per share:
	Basic — as reported	$	(0.99	)	$	(0.90	)	$	(0.64	)	$	(0.41	)

	Basic — pro forma	$	(1.00	)	$	(0.90	)	$	(0.67	)	$	(0.27	)

	Diluted — as reported	$	(0.99	)	$	(0.90	)	$	(0.64	)	$	(0.18	)

	Diluted — pro forma	$	(1.00	)	$	(0.90	)	$	(0.67	)	$	(0.06	)

Under the Option Plan, all outstanding options immediately vested as a result of the Change of Control that occurred as a result of the May 2002 Annual Meeting of Stockholders (See Note 6). The pro forma amounts for the three and nine months ended September 30, 2002 include the expense of all unvested options under the Option Plan vesting in these periods.

Property, Plant and Equipment: During the third quarter of 2003 the Company approved its global manufacturing strategy. Under its manufacturing strategy, the goal is to establish a global manufacturing and supply chain network of five manufacturing sites which will result in the closing of eight of the Company’s current manufacturing sites. A review for potential impairment was performed in accordance with SFAS No. 144, Impairment of Long-Lived Assets. In determining asset groups, the Company grouped assets at the lowest level for which independent identifiable cash flows were available. In determining whether an asset was impaired, the Company compared undiscounted future cash flows and asset residual values to the asset group carrying value on a site by site basis. The impairment analysis indicated that the asset groups were not impaired as of September 30, 2003, therefore, no impairment losses were recognized in the third quarter of 2003. Based on the estimated remaining useful lives of the manufacturing sites to be disposed of, the book value would exceed the residual value on the estimated disposal date for five of the manufacturing sites. As a result, the Company has revised the depreciation period on these assets and will incur an additional annual depreciation expense of approximately $6,400,000 through the third quarter of 2005.

Acquired In-Process Research and Development: In the quarter ended September 30, 2003, the Company incurred an expense of $117,609,000 associated with acquired in-process research and development (“IPR&D”) related to the Ribapharm Acquisition. The amount expensed as IPR&D represents an estimate of the fair value of purchased in-process technology for projects that, as of the acquisition date, had not yet reached technological feasibility and had no alternative future use. The data used to determine the respective fair values requires significant judgment, differences in those judgments would have the impact of changing the allocation of purchase price to other intangible assets, goodwill. The estimated fair value of these projects was based on the use of a discounted cash flow model (based on an estimate of future sales and a cross margin of using a rate of 25%). For each project, the estimated after-tax cash flows were probability weighted to take

VALEANT PHARMACEUTICALS INTERNATIONAL

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

account of the stage of completion and the risks surrounding the successful development and commercialization. These cash flows were then discounted to a present value using a discount rate of 15%. In addition, solely for the purposes of estimating the fair value of these IPR&D projects as of August 25, 2003, the following assumptions were made:

• Future research and development costs of approximately $150,000,000 would be incurred to complete the IPR&D projects.

• The IPR&D projects, which are in various stages of development from Phase I to Phase II clinical trials, are expected to reach completion by the end of 2006.

The major risks and uncertainties associated with the timely and successful completion of these projects consist of the ability to confirm the safety and efficacy of the technology based on the data from clinical trials and obtaining necessary regulatory approvals. In addition, no assurance can be given that the underlying assumptions used to forecast the cash flows or the timely and successful completion of such projects will materialize, as estimated. For these reasons, among others, actual results may vary significantly from the estimated results. For example, in October 2003, Roche notified the Company that they are abandoning development of Levovirin.

Reclassifications: Certain prior year amounts have been reclassified to conform with the current period presentation, with no effect on previously reported net income or stockholders’ equity.


2.	Ribapharm

In April 2002, the Company completed an underwritten public offering of 29,900,000 shares of common stock, par value $0.01 per share, of Ribapharm, previously a wholly-owned subsidiary, representing 19.93% of the total outstanding common stock of Ribapharm (the “Ribapharm Offering”). In connection with the Ribapharm Offering, the Company received net cash proceeds of $276,611,000 and recorded a gain on the sale of Ribapharm’s stock of $261,937,000, net of offering costs.

In connection with the Ribapharm Offering, the Company paid cash bonuses to its officers, directors and employees totaling $47,839,000 in April 2002. The Company is seeking to recover a portion of these bonuses (See Note 9 Commitments and Contingencies — Derivative Actions). Additionally, the Company paid other professional fees of $13,000,000 related to the structuring of Ribapharm in April 2002. These amounts are included on the Company’s statements of income in selling, general and administrative expenses.

In August 2003, the Company repurchased the approximately 20% minority interest in its Ribapharm subsidiary for an aggregated total purchase price of $207,438,000 (the “Ribapharm Acquisition”). The Company paid $6.25 in cash for each of the 29,900,703 outstanding publicly held shares of Ribapharm. Additionally, the Company included the fair value of the Company’s stock options issued in exchange for outstanding Ribapharm stock options in the purchase price. The fair value of stock options issued were determined based on a $15.43 stock price, the closing stock price on August 22, 2003, using the Black-Scholes option valuation model assuming an expected life of 4.2 years, weighted average risk-free rate of 2.3%, volatility of 62% and dividends of $0.31. The acquisition increased the Company’s ownership of Ribapharm to a 100% interest and was accounted for using the purchase method of accounting. The results of operations of Ribapharm have always been included in the consolidated income before minority interest of the Company. Prior to the acquisition, the minority interest in the Ribapharm income was excluded from the Company’s consolidated net income. Since the date of acquisition on August 25, 2003, no minority interest exists in Ribapharm and, accordingly, the consolidated net income includes the full amount of Ribapharm’s results from this date. As a result of the acquisition, minority interest included on the Company’s consolidated balance sheet relating to Ribapharm as of the acquisition date has been eliminated. The remaining minority interest as of September 30, 2003 relates to foreign subsidiaries.

VALEANT PHARMACEUTICALS INTERNATIONAL

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

The purchase price of the Ribapharm Acquisition was (in thousands):


Cash consideration		$	186,879
Fair value of the Company’s options issued			10,415
Transaction costs			10,144

	Total	$	207,438

The following table summarizes the preliminary estimated fair value of the assets acquired and liabilities assumed as of the date of the Ribapharm Acquisition (in thousands):


In-process research and development	$	117,609
Ribavirin license agreements		67,376
Unearned compensation		2,700
Goodwill		12,845
Minority interest		33,859
Deferred tax liability		(26,951	)

	$	207,438

The aggregate purchase price was allocated to identifiable intangible assets acquired based on estimates of fair value using a discounted cash flow model. The intangible asset related to the ribavirin license agreements with Schering and Roche is amortized using an estimated useful life of five years. Identifiable intangible assets related to Viramidine, Hepavir B and Levovirin totaled approximately $101,000,000, $12,000,000 and $5,000,000, respectively, and are expensed as in-process research and development as the technological feasibility of these assets has not occurred. Subsequent to the Ribapharm Acquisition, Roche notified the Company that it was no longer developing Levovirin. The Company recorded deferred compensation cost related to the unvested intrinsic value of the Company’s options issued in exchange for unvested Ribapharm options, which will be amortized over 3 1/2 years. The remaining excess of the aggregate purchase price over the fair value of the identifiable net assets acquired has been recognized as goodwill.

The following unaudited pro forma financial information presents the combined results of the Company and Ribapharm as if the acquisition had occurred at the beginning of each period presented (in thousands except per share amounts):



		Three Months Ended					Nine Months Ended
		September 30,					September 30,

		2003		2002			2003		2002

Net revenue		$	167,507	$	171,651		$	509,711	$	537,468
Income before discontinued operations and accounting change			23,011		17,659			51,870		97,012
Net income (loss)			39,121		(72,974	)		65,862		(34,521	)
Basic net income (loss) per share:
	Income before discontinued operations and accounting change	$	0.28	$	0.21		$	0.62	$	1.17
Net income (loss)		$	0.47	$	(0.88	)	$	0.79	$	(0.42	)
Diluted net income (loss) per share:
	Income before discontinued operations and accounting change	$	0.27	$	0.21		$	0.61	$	1.15
Net income (loss)		$	0.46	$	(0.87	)	$	0.78	$	(0.18	)

VALEANT PHARMACEUTICALS INTERNATIONAL

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

The above pro forma financial information excludes the acquired in-process research and development charge noted above and includes adjustments for interest income on cash disbursed for the acquisition, amortization of identifiable intangible assets and adjustments for the expenses incurred by Ribapharm related to the exchange offer for all Ribapharm outstanding publicly held shares. The expenses incurred by Ribapharm amounted to $4,544,000 in the quarter ended September 30, 2003.


3.	Discontinued Operations

In June 2002, the Company initiated a strategic review that included retaining investment bankers and a consulting firm. As a result of this strategic review, in the second half of 2002 the Company made the decision to divest its Russian Pharmaceuticals segment, Biomedicals segment, Photonics business, raw materials businesses and manufacturing capability in Central Europe and Circe unit.

The results of the discontinued businesses have been reflected as discontinued operations in the consolidated condensed financial statements in accordance with SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets. The consolidated condensed financial statements have been reclassified to conform to discontinued operations presentation for all historical periods presented.

On September 30, 2003, the Company sold the remaining assets of its Biomedicals segment, Dosimetry, for gross cash proceeds of $58,000,000. The Company recorded a net gain on disposal of discontinued operations of $23,288,000, net of a taxes of $15,526,000, related to the sale of Dosimetry in the quarter ended September 30, 2003.

In June 2003, the Company sold its Russian Pharmaceuticals segment and certain assets of its Biomedicals segment. The Company received gross proceeds of $55,000,000 in cash for the Russian Pharmaceuticals segment and received 727,990 shares of its common stock that was held by the purchaser, which had a fair market value of approximately $12,369,000, for the assets of its Biomedicals segment. The Company recorded a net loss on disposal of discontinued operations of $7,942,000, net of a tax benefit of approximately $10,161,000, related to the sale of these businesses in the nine months ended September 30, 2003.

Deferred tax assets of approximately $53,000,000 related to the businesses sold have been reclassified from net assets of discontinued operations to deferred tax assets, net, as of September 30, 2003 in the accompanying condensed consolidated balance sheets.

The Company disposed of the Circe unit in the fourth quarter of 2002 for a nominal sales price.

The Company disposed of its Photonics business in two stages. First, it discontinued the medical services business in September 2002. Second, the Company sold the laser device business in March 2003 for approximately $505,000.

The Company is actively marketing for sale the raw materials businesses and manufacturing capability in Central Europe and is working toward disposing of these assets.

VALEANT PHARMACEUTICALS INTERNATIONAL

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

Summarized selected financial information for discontinued operations for the three and nine months ended September 30, 2003 and 2002 is as follows (in thousands):



			Three Months Ended						Nine Months Ended
			September 30,						September 30,

			2003			2002			2003			2002

Revenue			$	10,342		$	49,008		$	111,836		$	165,880

Income (loss) before income taxes			$	3,492		$	(16,966	)	$	9,117		$	(28,257	)
Income tax benefit (provision)				(456	)		1,624			(1,603	)		1,903

	Income (loss) from discontinued operations, net			3,036			(15,342	)		7,514			(26,354	)

Income (loss) on disposal of discontinued operations				26,507			(118,438	)		10,370			(127,662	)
Income tax benefit (provision)				(13,433	)		43,147			(3,892	)		44,274

	Income (loss) on disposal of discontinued operations, net			13,074			(75,291	)		6,478			(83,388	)

		Income (loss) from discontinued operations	$	16,110		$	(90,633	)	$	13,992		$	(109,742	)

VALEANT PHARMACEUTICALS INTERNATIONAL

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

The assets and liabilities of discontinued operations are stated separately as of September 30, 2003 and December 31, 2002 on the accompanying consolidated condensed balance sheets. The major asset and liability categories are as follows (in thousands):


		September 30,		December 31,
		2003		2002

Cash		$	887	$	9,098
Accounts receivable, net			7,132		46,601
Inventories, net			12,123		54,306
Property, plant and equipment, net			5,836		29,481
Other assets			1,194		62,344

	Assets of discontinued operations	$	27,172	$	201,830

Accounts payable		$	4,106	$	20,010
Accrued liabilities			11,998		26,372
Other liabilities			3,112		1,686

	Liabilities of discontinued operations	$	19,216	$	48,068

Included in accumulated other comprehensive loss are translation gains of $8,490,000 related to discontinued operations.


4.	Non-recurring and Other Unusual Charges

The Company recorded $23,920,000 and $204,958,000 of non-recurring and other unusual charges, which are included in general and administrative expenses, for the three months and nine months ended September 30, 2002, respectively. The following is a summary of the non-recurring and other unusual charges (in thousands):


	Three Months		Nine Months
	Ended		Ended
	September 30,		September 30,
	2002		2002

Executive and director bonuses paid in connection with the Ribapharm IPO (Note 2)	$	—	$	47,839
Professional fees related to Ribapharm (Note 2)		—		13,000
Compensation costs related to the Company’s employee stock compensation plan (Note 6)		—		61,400
Long-term incentive plan compensation costs (Note 6)		—		12,022
Severance costs (Note 6)		18,708		30,708
Asset impairments		—		9,100
Write-off of capitalized offering costs		—		18,295
Environmental remediation and related expenses		5,212		5,212
Costs incurred in the Company’s 2002 proxy contest		—		7,382

	$	23,920	$	204,958

There were no non-recurring and other unusual charges in the three and nine months ended September 30, 2003.

VALEANT PHARMACEUTICALS INTERNATIONAL

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

During 2002, based on a number of factors, including changes in market conditions and changes in strategic direction, the Company evaluated the net realizable value of certain long-lived assets, including capitalized offering costs related to the proposed public offering of ICN International AG, the Company’s corporate aircraft and other assets. The Company concluded that due to the passage of time and the strategic business review, the capitalized offering costs of ICN International AG of $18,295,000 should be written-off. Also, an impairment charge of $9,100,000 was recorded for the difference between the carrying value and the fair value of the corporate aircraft, as determined by appraisals.

The Company incurred a significant amount of professional fees in connection with proxy contests in 2002. Proxy contest expenses were $7,382,000 for the nine months ended September 30, 2002.


5.	Debt Repurchases

On April 17, 2002, the Company used the proceeds of the Ribapharm Offering to complete its tender offer and consent solicitation for all of its outstanding 8 3/4% Senior Notes due 2008. The redemption of these notes resulted in a loss on extinguishment of debt of $43,268,000. In July and August 2002, the Company repurchased $59,410,000 principal amount of its 6 1/2% Convertible Subordinated Notes due 2008. In connection with these repurchases, the Company recorded a gain on early extinguishment of debt of $17,538,000.


6.	Change of Control

As a result of the May 29, 2002 Annual Meeting of Stockholders, three persons nominated by Franklin Mutual Advisors, LLC and Iridian Asset Management LLC were elected to the Board of Directors. Under the terms of employment agreements with some key executives, a long-term stock incentive plan and the Option Plan, the results of the 2002 election, together with the results of the 2001 election, constitute a change of control (the “Change of Control”).

Under the terms of a long-term incentive plan, all restricted stock awards vested immediately upon the Change of Control on June 11, 2002. As a result, compensation expense of $12,022,000 was recorded in the nine months ended September 30, 2002.

The Option Plan provides that all options immediately vested and that an option holder had sixty days following the Change of Control to elect to surrender his or her nonqualified options to the Company for a cash payment equal to the excess of the highest closing market price of the stock during the 90 days preceding the Change of Control, which was $32.50 per share, or the closing market price on the day preceding the date of surrender, whichever is higher, over the exercise price for the surrendered options. During the nine months ended September 30, 2002, the Company recorded a charge of $61,400,000 related to the cash payment obligation under the Option Plan.

Under employment agreements the Company had with some of its former key executives, the Company had payment obligations that were triggered upon a termination of the executive’s employment either by the Company or the executive following the Change of Control. During the third quarter of 2002, the Company triggered its payment obligations and recorded an obligation for the payments to the executives totaling $15,507,000. The Company recorded expenses of $3,201,000 for employee termination and severance benefits in 2002 unrelated to the aforementioned executive employment agreements. This amount primarily relates to severance related to former employees and the restructuring of the Company’s ICN International headquarters in Basel, Switzerland. In addition, on June 19, 2002, Mr. Milan Panic, the Company’s former Chief Executive Officer and Chairman of the Board, resigned with immediate effect from his positions as Chairman and Chief Executive Officer and from all positions he held as a director or officer of any of the Company’s affiliates. Mr. Panic also resigned as one of the Company’s employees with effect from June 30, 2002 and is no

VALEANT PHARMACEUTICALS INTERNATIONAL

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

longer one of the Company’s directors. In connection with Mr. Panic’s termination, the Company recorded severance expense of $12,000,000 in the nine months ended September 30, 2002.


7.	Earnings Per Share

The following table sets forth the computation of basic and diluted earnings per share (in thousands, except per share data):



			Three Months Ended						Nine Months Ended
			September 30,						September 30,

			2003			2002			2003			2002

Income:
	Numerator for basic earnings per share — income (loss) available to common stockholders		$	(98,511	)	$	15,698		$	(67,852	)	$	97,361
	Interest expense on convertible debt, net of tax			—			—			—			16,625

	Numerator for diluted earnings per share — income (loss) available to common stockholders after assumed conversions		$	(98,511	)	$	15,698		$	(67,852	)	$	113,986

Shares:
	Denominator for basic earnings per share — weighted-average shares outstanding			83,067			83,392			83,759			83,053
	Effect of dilutive securities:
		Employee stock options		—			92			—			838
		Convertible debt		—			—			—			15,132
		Other dilutive securities		—			—			—			—

	Dilutive potential common shares			—			92			—			15,970

	Denominator for diluted earnings per share — weighted-average shares adjusted for assumed conversions			83,067			83,484			83,759			99,023

Basic earnings per share:
	Income (loss) from continuing operations		$	(1.18	)	$	0.19		$	(0.81	)	$	1.17
	Discontinued operations, net of taxes			0.19			(1.09	)		0.17			(1.32	)
	Cumulative effect of change in accounting principle			—			—			—			(0.26	)

	Basic net loss per share		$	(0.99	)	$	(0.90	)	$	(0.64	)	$	(0.41	)

Diluted earnings per share:
	Income (loss) from continuing operations		$	(1.18	)	$	0.19		$	(0.81	)	$	1.15
	Discontinued operations, net of taxes			0.19			(1.09	)		0.17			(1.11	)
	Cumulative effect of change in accounting principle			—			—			—			(0.22	)

	Diluted net loss per share		$	(0.99	)	$	(0.90	)	$	(0.64	)	$	(0.18	)

VALEANT PHARMACEUTICALS INTERNATIONAL

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

For the three and nine months ended September 30, 2003, 2,961,002 and 4,966,041 weighted average stock options, respectively, and 13,591,690 shares from the effect of convertible debt, are not included in the computation of earnings per share as such securities are anti-dilutive.


8.	Detail of Certain Accounts


		September 30,			December 31,
		2003			2002


		(In thousands)
Accounts receivable, net:
	Trade accounts receivable	$	103,220		$	100,724
	Royalties receivable		47,480			105,496
	Other receivables		13,599			17,202

			164,299			223,422
	Allowance for doubtful accounts		(7,938	)		(7,646	)

		$	156,361		$	215,776

Inventories, net:
	Raw materials and supplies	$	34,285		$	42,398
	Work-in-process		25,959			29,290
	Finished goods		43,148			28,234

			103,392			99,922
	Allowance for inventory obsolescence		(11,580	)		(11,060	)

		$	91,812		$	88,862

Property, plant and equipment, net:
	Property, plant and equipment, at cost	$	383,425		$	361,357
	Accumulated depreciation and amortization		(148,374	)		(118,469	)

		$	235,051		$	242,888


9.	Commitments and Contingencies

Ribapharm Tender Offer Litigation: In June 2003, seven purported class actions on behalf of certain stockholders of Ribapharm were filed against the Company, Ribapharm and certain directors and officers of Ribapharm in the Delaware Court of Chancery. Six of these complaints were consolidated under the caption In re Ribapharm Inc. Shareholders Litigation, Consol. C.A. No. 20337. The seventh suit has not yet been formally consolidated into C.A. No. 20337 but is proceeding in coordination with the consolidated case. On June 26, 2003, the plaintiffs in the consolidated action filed a First Amended Class Action Complaint naming only the Company as a defendant. The First Amended Class Action Complaint alleges, among other things, that the Company breached its fiduciary duties as a controlling stockholder of Ribapharm in connection with its tender offer for the shares of Ribapharm it did not already own. On August 4, 2003, the Company and the plaintiffs reached an agreement in principle to settle these lawsuits and, after settlement papers are prepared, will present that settlement to the Court of Chancery for its approval.

On June 25, 2003, the Company instituted a suit captioned ICN Pharmaceuticals, Inc. v. Ribapharm, Inc., Daniel J. Paracka, Santo J. Costa, Gregory F. Boron, James Pieczynski and Andre Dimitriadis, C.A. No. 20387 for declaratory and injunctive relief against Ribapharm and certain of its directors in the Delaware Court of Chancery. This complaint alleges, among other things, that the defendants breached their fiduciary

VALEANT PHARMACEUTICALS INTERNATIONAL

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

duties and certain contracts by implementing a shareholder rights plan in response to the Company’s tender offer. The Company requested a preliminary injunction hearing prior to the expiration of the tender offer on July 22, 2003 and sought a temporary restraining order barring the defendants from taking certain actions with respect to Ribapharm’s newly enacted shareholders rights plan. On June 30, 2003, the Court of Chancery scheduled a preliminary injunction hearing for September 3, 2003. This hearing did not occur because the parties had reached an agreement in principle to settle this lawsuit.

On June 27, 2003, a purported class action on behalf of certain stockholders of Ribapharm was filed against the Company in the Delaware Court of Chancery. This class action is captioned Maxine Phillips, Robert Garfield, Nora Mazzini, Andrew Samet, Kathleen A. Pasek, Richard Jacob and Steven Silverberg v. ICN Pharmaceuticals, Inc., C.A. No. 20391, and seeks a declaration that the shareholders rights plan is valid and enforceable. This action has been consolidated with the suit instituted by the Company on June 25, 2003 and captioned In re Ribapharm, Inc. Rights Plan Litigation, Consol. C.A. No. 20387. On August 4, 2003, the Company and the plaintiffs reached an agreement in principle to settle this lawsuit. Such settlement will be completed in combination with the settlement In re Ribapharm Inc. Shareholders Litigation, Consol. C.A. No. 20337.

On June 3, 2003, a purported class action, captioned Len Brody v. Roberts A. Smith, Andre C. Dimitriadis, Santo J. Costa, James J. Pieczynski, Daniel J. Paracka, Gregory F. Boron, Ribapharm, Inc. and ICN Pharmaceuticals, Inc., Case No. 03 CC 00211, was filed in the Superior Court of Orange County, California, against the Company, Ribapharm and certain of Ribapharm’s officers and directors. The complaint in this action purports to assert the same claims, on behalf of the same class of plaintiffs and against the same defendants as in the seven lawsuits filed in Delaware that are described above. This California action has been stayed and a status conference has been set for November 18, 2003 in light of the settlement of the Delaware tender offer litigation. The settlement of the Delaware tender offer litigation will be designed to release the claims brought in this lawsuit, although the decision as to effect of that release will be up to the California court.

In the opinion of management, the ultimate resolution of these matters will not have a material effect on the Company’s consolidated financial position, results of operations or liquidity.

Derivative Actions: The Company is a nominal defendant in a shareholder derivative lawsuit pending in state court in Orange County, California. This lawsuit, which was filed on June 6, 2002, purports to assert derivative claims on behalf of the Company against certain current and/or former officers and directors of the Company. The lawsuit asserts claims for breach of fiduciary duties, abuse of control, gross mismanagement and waste of corporate assets. The plaintiff seeks, among other things, damages and a constructive trust over cash bonuses paid to the officer and director defendants in connection with the Ribapharm Offering (the “Ribapharm Bonuses”). Because it is a derivative lawsuit, the plaintiff does not seek recovery from the Company but rather on behalf of the Company.

On October 1, 2002, several former and current directors of the Company, as individuals, as well as the Company, as a nominal defendant, were named as defendants in a second shareholder’s derivative complaint filed in Delaware Chancery Court. The complaint purports to state causes of action for violation of Delaware General Corporate Law Section 144, breach of fiduciary duties and waste of corporate assets in connection with the defendants’ management of the Company. Because it is a derivative lawsuit, the complaint does not seek recovery from the Company but rather on behalf or the Company. The allegations largely duplicate those contained in the derivative lawsuit filed in Orange County, California, but add a disclosure-based claim relating to the allegations of federal securities law violations made in the class actions.

The Company established a Special Litigation Committee to evaluate the plaintiffs’ claims in both derivative actions. The Special Litigation Committee concluded that it would not be in the best interests of the Company’s shareholders to pursue many of the claims in these two lawsuits, but decided to pursue, through

VALEANT PHARMACEUTICALS INTERNATIONAL

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

litigation or settlement, claims arising from the April 2002 decision of the Board to approve the payment of approximately $50,000,000 in bonuses to various members of the Board and management arising from the initial public offering of Ribapharm. On April 25, 2003, the Company filed a motion to stay or dismiss the California plaintiff’s complaint in favor of the Company amending the existing Delaware derivative action to substitute the Company as the plaintiff. Following limited discovery pertaining to the Special Litigation Committee’s investigation, the Court granted the Company’s motion. The Court stayed the plaintiff’s prosecution of the claim concerning the Ribapharm Bonuses in favor of similar proceedings in Delaware, and dismissed each of the plaintiff’s remaining claims with prejudice. On June 27, 2003, pursuant to the Special Litigation Committee’s recommendation, the Company filed a motion in the Delaware derivative action to (a) realign itself as plaintiff in this action, (b) pursue the primary derivative claims relating to the Ribapharm Bonuses, (c) seek dismissal of the secondary derivative claims, and (d) settle certain claims with respect to certain of the defendants. The Court granted the Company’s motion for realignment on October 27, 2003. Additional aspects of the Company’s motion are still pending.

Securities Class Actions: Since July 25, 2002, multiple class actions have been filed in the United States District Courts for the Eastern District of New York, the District of New Jersey and the Central District of California against the Company and some of its current and former executive officers. The lawsuits allege that the defendants violated Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, and Rule 10b-5 promulgated thereunder, by issuing false and misleading financial results to the market during different class periods ranging from May 3, 2001 to July 10, 2002, thereby artificially inflating the price of the Company’s stock. The lawsuits generally claim that the Company issued false and misleading statements regarding the Company’s earnings prospects and sales figures, its operations in Russia and the earnings and sales of its Photonics division. The plaintiffs generally seek to recover compensatory damages, including interest. The actions filed in the Eastern District of New York and the District of New Jersey have been transferred to the Central District of California by stipulation of the parties. The parties to all of the class actions pending in the Central District of California have filed an Initial Case Management Order seeking to have all related actions consolidated before the Honorable David O. Carter. The Company filed a motion to dismiss plaintiffs’ consolidated amended complaint on August 29, 2003, and a hearing on that motion is scheduled for December 22, 2003.

On May 9, 2003, a bondholder filed a class action lawsuit in Orange County Superior Court against the Company and some of its current and former directors and executive officers. The lawsuit alleges that defendants violated Sections 11 and 15 of the Securities Act of 1933 by making false and misleading statements in connection with an offering of Convertible Subordinated Notes in November 2001, thereby artificially inflating the market price of the Notes. The plaintiffs generally seek to recover compensatory damages, including interest. The Company removed this action to federal court, and intends to file a motion to dismiss plaintiff’s complaint.

Generic Litigation: Three generic pharmaceutical companies, Geneva Pharmaceuticals Technology Corporation, which merged into its parent, Geneva Pharmaceuticals, Inc. (“Geneva”), Three Rivers Pharmaceuticals, LLC (“Three Rivers”) and Teva Pharmaceuticals USA, Inc. (“Teva”), filed Abbreviated New Drug Applications (“ANDA”) with the FDA to market generic forms of ribavirin for use as part of a combination therapy for the treatment of hepatitis C. The Company sued all three of these pharmaceutical companies to prevent them from marketing a generic form of ribavirin in the United States market. The three cases were all before the same judge, and summary judgment motions were filed by the defendants. In July 2003, the U.S. District Court for the Central District of California issued a memorandum of decision and order granting the defendants their motion for summary judgment of non-infringement of the asserted patents in the patent infringement suit brought by the Company. The decision and order did not rule on defendants’ motion for summary judgment that the patents are invalid. This ruling permits the FDA to approve the defendant generic companies’ ANDAs, in their discretion. On July 17, 2003, the Company filed a Citizen’s Petition with the FDA requesting that the Commissioner of Food and Drugs refrain from approving ANDA

VALEANT PHARMACEUTICALS INTERNATIONAL

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

for ribavirin products with labeling that omits information about the product’s use in combination with PEG-Intron® (peginterferon alfa-2b). Action by the FDA on the Citizen’s Petition is pending. The successful entry of any generic pharmaceutical company into the U.S. market will have a material negative impact on the Company’s future U.S. royalty revenue. On August 11, 2003, the District Court ordered entry of judgment dismissing the action against Teva and Three Rivers based on its July decision. On September 10, 2003, the Company filed notices of appeal with respect to these judgments. The District Court also entered an order on October 14, 2003 certifying its July 2003 decision as a final appealable decision with respect Geneva, and on October 16, 2003, the Company filed a notice of appeal of the July decision in the Geneva actions.

Patents: Various parties are opposing the Company’s ribavirin patents in actions before the European Patent Office, and the Company is responding to these oppositions. Regardless of the outcome of these oppositions, the Company believes the combination therapies marketed by Schering and Roche will continue to benefit from a period of data and marketing protection in the major markets of the European Union until 2009 for Schering and 2012 for Roche.

Yugoslavia: In March 1999, arbitration was initiated in the following matters before the International Chamber of Commerce International Court of Arbitration: (a) State Health Fund of Serbia v. ICN Pharmaceuticals, Inc., Case No. 10 373/ AMW/ BDW, and (b) ICN Pharmaceuticals, Inc. v. Federal Republic of Yugoslavia and Republic of Serbia, Case No. 10 439/ BWD. At issue in these matters is the parties’ respective ownership percentages in ICN Yugoslavia, a joint venture formed by the parties’ purported predecessors-in-interest in 1990.

In these proceedings, the Company has asserted claims and counterclaims against the Federal Republic of Yugoslavia and the Republic of Serbia for unlawful expropriation of its majority interest in the joint venture, failure to pay obligations in excess of $176,000,000, violation of a contractual right of first refusal regarding the minority owners’ sale of its interest, and failure to return the Company’s contributed intangible assets following partial appropriation of the Company’s majority interest. The State Health Fund of Serbia has asserted a claim against the Company for breach of the joint venture agreement based on the Company’s alleged failure to contribute certain intangible assets and alleged mismanagement.

The arbitration hearings in this matter began in November 2002 and are continuing. The Tribunal has requested supplemental briefing and may order one or more rounds of additional hearings.

Circe: The former shareholders (the “Circe Stockholders”) of Circe Biomedical, Inc. (“Circe”) filed in July 2003 a demand for arbitration claiming indemnification from the Company for approximately $10,000,000 of purported financial losses, based on provisions of an agreement entered into at the time the Company acquired Circe. The Circe Stockholders claim to have suffered such losses as a result of the Company’s alleged breach of its obligations to register for resale the Company shares issued to the Circe Stockholders as part of the purchase price for the Circe acquisition. The parties have selected an arbitrator, and the arbitration hearing is scheduled for March 22 – 26, 2004. The Company intends to vigorously defend against the claim.

Russia: The Company is involved in various legal proceedings relating to its distribution company in Russia. These proceedings arise out of a claim relating to non-payment under a contract entered into in January 1995, prior to the Company’s acquisition of the Russian distribution company. The claimant, Minnex Trading Corporation (“Minnex”) in July 2001 initiated bankruptcy proceedings against OAO Pharmsnabsbyt (“PSS”), the Company’s Russian distribution company, in the Arbitration Court of Moscow Region, and seeks to recover $6,200,000 in damages, plus expenses. Certain other Valeant affiliates are also creditors of PSS, and have asserted claims in bankruptcy in excess of $12,000,000. Claims have also been made that the Company is responsible for PSS’s bankruptcy. Under certain circumstances, Russian law imposes liability on a company whose actions create liabilities or cause bankruptcy for its Russian subsidiary. The Company intends to vigorously assert its interests in this matter.

VALEANT PHARMACEUTICALS INTERNATIONAL

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

Other: The Company has also identified potential violations of the U.S. Asset Control Regulations by its subsidiaries with respect to certain business transactions. The Company submitted a voluntary disclosure of the potential violations to the Office of Foreign Assets Control (“OFAC”), as well as a request for settlement. The Company does not expect any such settlement to have a material adverse impact on our financial situation or our ability to operate as planned. The Company is a party to other pending lawsuits or subject to a number of threatened lawsuits. While the ultimate outcome of pending and threatened lawsuits or pending violations cannot be predicted with certainty, and an unfavorable outcome could have a negative impact on the Company, at this time in the opinion of management, the ultimate resolution of these matters will not have a material effect on the Company’s consolidated financial position, results of operations or liquidity.


10.	Business Segments

The Company has four reportable pharmaceutical segments comprising the Company’s pharmaceutical operations in North America, Latin America, Europe and Asia, Africa and Australia. In addition, the Company has a research and development division (formerly Ribapharm). The segment reporting has been reclassified to conform to discontinued operations presentation for all periods presented. See Note 3 for discussion of discontinued operations.

VALEANT PHARMACEUTICALS INTERNATIONAL

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

The following table sets forth the amounts of segment revenues and operating income of the Company for each of the three months and nine months ended September 30, 2003 and 2002 (in thousands):



			Three Months Ended						Nine Months Ended
			September 30,						September 30,

			2003			2002			2003			2002

Revenues
Pharmaceuticals
	North America		$	29,403		$	16,757		$	70,837		$	78,151
	Latin America			34,746			31,985			94,802			94,019
	Europe			54,512			44,334			169,396			138,632
	Asia, Africa, Australia			12,629			15,208			37,921			40,298

		Total Pharmaceuticals		131,290			108,284			372,956			351,100
	Royalty revenues			36,217			63,367			136,755			186,368

		Consolidated revenues	$	167,507		$	171,651		$	509,711		$	537,468

Operating Income (Loss)
Pharmaceuticals
	North America		$	12,851		$	(1,012	)	$	18,897		$	22,612
	Latin America			11,840			11,191			30,219			32,442
	Europe			8,384			357			24,821			12,380
	Asia, Africa, Australia			1,819			(2,294	)		3,407			89

		Total Pharmaceuticals		34,894			8,242			77,344			67,523
Research and development division(1)				(101,279	)		46,926			(30,470	)		145,628

Consolidated segment operating income (loss)				(66,385	)		55,168			46,874			213,151
Corporate expenses				(13,040	)		(39,318	)		(45,082	)		(260,761	)
Interest income				953			1,458			3,066			4,434
Interest expense				(7,871	)		(9,189	)		(23,892	)		(34,381	)
Other, net				2,208			20,779			496			244,399

Income (loss) from continuing operations before provision for income taxes and minority interest			$	(84,135	)	$	28,898		$	(18,538	)	$	166,842

(1) Includes expense associated with the write-off of acquired in-process research and development related to the Ribapharm Acquisition.

VALEANT PHARMACEUTICALS INTERNATIONAL

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

The following table sets forth the segment total assets of the Company as of September 30, 2003 and December 31, 2002 (in thousands):



			Total Assets

			September 30,		December 31,
			2003		2002

Pharmaceuticals
	North America		$	399,420	$	435,506
	Latin America			97,146		162,877
	Europe			321,390		292,047
	Asia, Africa, Australia			22,315		19,658

		Total Pharmaceuticals		840,271		910,088
Corporate				272,731		177,556
Research and development division				264,823		199,075
Discontinued operations				27,172		201,830

Total			$	1,404,997	$	1,488,549


11.	Consolidating Financial Information

The Company and Ribapharm are jointly and severally liable for the obligations under the 6 1/2% Subordinated Convertible Notes due 2008. The following consolidating condensed financial statements show the financial position, results of operations and cash flow for Valeant Pharmaceuticals International excluding Ribapharm, Ribapharm and eliminations necessary to arrive at the Company’s consolidated financial position, results of operations and cash flows for the periods presented.

VALEANT PHARMACEUTICALS INTERNATIONAL

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

Consolidating Condensed Balance Sheet as of September 30, 2003

(Unaudited, in thousands)


			Valeant									Valeant
			Excluding									Pharmaceuticals
			Ribapharm			Ribapharm			Eliminations			International

ASSETS
Current Assets:
	Cash and cash equivalents		$	178,500		$	122,528		$	—		$	301,028
	Accounts receivable, net			108,869			47,492			—			156,361
	Inventories, net			91,812			—			—			91,812
	Prepaid expenses and other current assets			12,591			4,180			—			16,771

		Total current assets		391,772			174,200			—			565,972
Property, plant and equipment, net				225,456			9,595			—			235,051
Deferred tax assets, net				86,986			2,734			—			89,720
Intangibles, net				364,523			78,286			—			442,809
Other assets				44,265			8			—			44,273

		Total non-current assets		721,230			90,623			—			811,853
Assets of discontinued operations				27,172			—			—			27,172

			$	1,140,174		$	264,823		$	—		$	1,404,997


LIABILITIES AND STOCKHOLDERS’ EQUITY
Current Liabilities:
	Trade payables		$	31,949		$	417		$	—		$	32,366
	Accrued liabilities			104,155			26,367			(6,305	)		124,217
	Notes payable and current portion of long-term debt			1,303			—			—			1,303
	Income taxes payable			22,335			5,915			—			28,250
	Intercompany payables (receivables)			(185,761	)		33,301			152,460			—

		Total current liabilities		(26,019	)		66,000			146,155			186,136
Long-term debt, less current portion				478,652			465,590			(465,590	)		478,652
Deferred income taxes and other liabilities				46,631			26,884			—			73,515
Minority interest				3,397			—			—			3,397

		Total non-current liabilities		528,680			492,474			(465,590	)		555,564
Liabilities of discontinued operations				19,216			—			—			19,216

Commitments and contingencies
Stockholders’ Equity:
	Common stock			831			1,500			(1,500	)		831
	Additional capital			1,020,829			(300,935	)		300,935			1,020,829
	Accumulated deficit			(355,958	)		5,784			20,000			(330,174	)
	Accumulated other comprehensive loss			(47,405	)		—			—			(47,405	)

		Total stockholders’ equity		618,297			(293,651	)		319,435			644,081

			$	1,140,174		$	264,823		$	—		$	1,404,997

VALEANT PHARMACEUTICALS INTERNATIONAL

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

Consolidating Condensed Balance Sheet as of December 31, 2002

(Unaudited, in thousands)


			Valeant									Valeant
			Excluding									Pharmaceuticals
			Ribapharm			Ribapharm			Eliminations			International

ASSETS
Current Assets:
	Cash and cash equivalents		$	165,434		$	79,750		$	—		$	245,184
	Accounts receivable, net			110,280			105,496			—			215,776
	Inventories, net			88,862			—			—			88,862
	Income taxes receivable			12,779			—			—			12,779
	Prepaid expenses and other current assets			13,381			591			—			13,972

		Total current assets		390,736			185,837			—			576,573
Property, plant and equipment, net				232,384			10,504			—			242,888
Deferred tax assets, net				36,446			2,734			—			39,180
Intangibles, net				384,547			—			—			384,547
Other assets				43,531			—			—			43,531

		Total non-current assets		696,908			13,238			—			710,146
Assets of discontinued operations				201,830			—			—			201,830

			$	1,289,474		$	199,075		$	—		$	1,488,549


LIABILITIES AND STOCKHOLDERS’ EQUITY
Current Liabilities:
	Trade payables		$	32,201		$	1,286		$	—		$	33,487
	Accrued liabilities			117,964			38,000			(13,871	)		142,093
	Notes payable and current portion of long-term debt			3,923			—			—			3,923
	Income taxes payable			(17,450	)		17,450			—			—
	Intercompany payables (receivables)			(40,766	)		39,266			1,500			—

		Total current liabilities		95,872			96,002			(12,371	)		179,503
Long-term debt, less current portion				481,548			465,590			(465,590	)		481,548
Deferred income taxes and other liabilities				51,581			707			—			52,288
Minority interest				23,452			—			—			23,452

		Total non-current liabilities		556,581			466,297			(465,590	)		557,288
Liabilities of discontinued operations				48,068			—			—			48,068

Commitments and contingencies
Stockholders’ Equity:
	Common stock			841			1,500			(1,500	)		841
	Additional capital			1,027,335			(479,461	)		479,461			1,027,335
	Accumulated deficit			(371,546	)		114,737			—			(256,809	)
	Accumulated other comprehensive loss			(67,677	)		—			—			(67,677	)

		Total stockholders’ equity		588,953			(363,224	)		477,961			703,690

			$	1,289,474		$	199,075		$	—		$	1,488,549

VALEANT PHARMACEUTICALS INTERNATIONAL

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

Consolidating Condensed Statement of Income for the three months ended September 30, 2003

(Unaudited, in thousands)


			Valeant									Valeant
			Excluding									Pharmaceuticals
			Ribapharm			Ribapharm			Eliminations			International

Revenues:
	Product sales		$	131,290		$	—		$	—		$	131,290
	Royalties			—			36,217			—			36,217

		Total revenues		131,290			36,217			—			167,507

Costs and expenses:
	Cost of goods sold			42,128			—			—			42,128
	Selling expenses			40,478			—			—			40,478
	General and administrative expenses			17,874			7,638			—			25,512
	Research and development costs			438			10,314			—			10,752
	Acquired in-process research and development			—			117,609			—			117,609
	Amortization expense			8,518			1,935			—			10,453

		Total expenses		109,436			137,496			—			246,932

		Income (loss) from operations		21,854			(101,279	)		—			(79,425	)
Other income, net, including translation and exchange				2,208			—			—			2,208
Interest income				643			310			—			953
Interest expense				(7,871	)		—			—			(7,871	)

Income (loss) from continuing operations before income taxes and minority interest				16,834			(100,969	)		—			(84,135	)
Provision for income taxes				7,152			5,568			—			12,720
Minority interest, net				56			—			1,600			1,656

	Income (loss) from continuing operations			9,626			(106,537	)		(1,600	)		(98,511	)
	Income from discontinued operations			16,110			—			—			16,110

	Net income (loss)		$	25,736		$	(106,537	)	$	(1,600	)	$	(82,401	)

VALEANT PHARMACEUTICALS INTERNATIONAL

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

Consolidating Condensed Statements of Income for the three months ended September 30, 2002

(Unaudited, in thousands)


			Valeant									Valeant
			Excluding									Pharmaceuticals
			Ribapharm			Ribapharm			Eliminations			International

Revenues:
	Product sales		$	108,284		$	—		$	—		$	108,284
	Royalties			—			63,367			—			63,367

		Total revenues		108,284			63,367			—			171,651

Costs and expenses:
	Cost of goods sold			39,769			—			—			39,769
	Selling expenses			40,140			—			—			40,140
	General and administrative expenses			50,851			2,922			710			54,483
	Research and development costs			671			13,518			(710	)		13,479
	Amortization expense			7,930			—			—			7,930

		Total expenses		139,361			16,440			—			155,801

		Income (loss) from operations		(31,077	)		46,927			—			15,850
Other income, net, including translation and exchange				4,253			—			—			4,253
Loss on sale of subsidiary stock				(1,012	)		—			—			(1,012	)
Gain on early extinguishment of debt				17,538			—			—			17,538
Intercompany interest				441			(441	)		—			—
Interest income				1,371			87			—			1,458
Interest expense				(9,189	)		—			—			(9,189	)

Income (loss) from continuing operations before income taxes and minority interest				(17,675	)		46,573			—			28,898
Provision for income taxes				(10,211	)		17,709			—			7,498
Minority interest, net				127			—			5,575			5,702

	Income (loss) from continuing operations			(7,591	)		28,864			(5,575	)		15,698
	Loss from discontinued operations			(90,633	)		—			—			(90,633	)

	Net income (loss)		$	(98,224	)	$	28,864		$	(5,575	)	$	(74,935	)

VALEANT PHARMACEUTICALS INTERNATIONAL

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

Consolidating Condensed Statement of Income for the nine months ended September 30, 2003

(Unaudited, in thousands)


			Valeant									Valeant
			Excluding									Pharmaceuticals
			Ribapharm			Ribapharm			Eliminations			International

Revenues:
	Product sales		$	372,956		$	—		$	—		$	372,956
	Royalties			—			136,755			—			136,755

		Total revenues		372,956			136,755			—			509,711

Costs and expenses:
	Cost of goods sold			131,295			—			—			131,295
	Selling expenses			121,146			—			—			121,146
	General and administrative expenses			62,623			18,174			—			80,797
	Research and development costs			194			29,507			—			29,701
	Acquired in-process research and development			—			117,609			—			117,609
	Amortization expense			25,436			1,935			—			27,371

		Total expenses		340,694			167,225			—			507,919

		Income (loss) from operations		32,262			(30,470	)		—			1,792
Other income, net, including translation and exchange				496			—			—			496
Intercompany interest				455			(455	)		—			—
Interest income				2,154			912			—			3,066
Interest expense				(23,892	)		—			—			(23,892	)

Income (loss) from continuing operations before income taxes and minority interest				11,475			(30,013	)		—			(18,538	)
Provision for income taxes				7,954			29,693			—			37,647
Minority interest, net				97			—			11,570			11,667

	Income (loss) from continuing operations			3,424			(59,706	)		(11,570	)		(67,852	)
	Income from discontinued operations			13,992			—			—			13,992

	Net income (loss)		$	17,416		$	(59,706	)	$	(11,570	)	$	(53,860	)

VALEANT PHARMACEUTICALS INTERNATIONAL

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

Consolidating Condensed Statement of Income for the nine months ended September 30, 2002

(Unaudited, in thousands)


			Valeant									Valeant
			Excluding									Pharmaceuticals
			Ribapharm			Ribapharm			Eliminations			International

Revenues:
	Product sales		$	351,100		$	—		$	—		$	351,100
	Royalties			—			186,368			—			186,368

		Total revenues		351,100			186,368			—			537,468

Costs and expenses:
	Cost of goods sold			113,360			—			—			113,360
	Selling expenses			119,120			—			—			119,120
	General and administrative expenses			283,941			6,999			2,172			293,112
	Research and development costs			3,957			33,741			(2,172	)		35,526
	Amortization expense			23,960			—			—			23,960

		Total expenses		544,338			40,740			—			585,078

		Income (loss) from operations		(193,238	)		145,628			—			(47,610	)
Other income, net, including translation and exchange				8,192			—			—			8,192
Gain on sale of subsidiary stock				261,937			—			—			261,937
Loss on early extinguishment of debt				(25,730	)		—			—			(25,730	)
Intercompany interest				614			(614	)		—			—
Interest income				4,335			99			—			4,434
Interest expense				(34,381	)		—			—			(34,381	)

Income from continuing operations before income taxes and minority interest				21,729			145,113			—			166,842
Provision for income taxes				3,657			55,154			—			58,811
Minority interest, net				180			—			10,490			10,670

Income from continuing operations				17,892			89,959			(10,490	)		97,361
Loss from discontinued operations				(109,742	)		—			—			(109,742	)
	Cumulative effect of change in accounting principle			(21,791	)		—			—			(21,791	)

	Net Income (loss)		$	(113,641	)	$	89,959		$	(10,490	)	$	(34,172	)

VALEANT PHARMACEUTICALS INTERNATIONAL

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

Consolidating Condensed Statement of Cash Flow for the nine months ended September 30, 2003

(Unaudited, in thousands)


				Valeant									Valeant
				Excluding									Pharmaceutical
				Ribapharm			Ribapharm			Eliminations			International

Cash flows from operating activities:
	Income (loss) from continuing operations			$	3,424		$	(59,706	)	$	(11,570	)	$	(67,852	)
	Adjustments to reconcile net income (loss) to net cash provided by operating activities:
		Depreciation and amortization			41,315			4,512			—			45,827
		Provision for losses on accounts receivable and inventory obsolescence			3,631			—			—			3,631
		Translation and exchange gains, net			(496	)		—			—			(496	)
		Other non-cash items			387			77			—			464
		Write-off of acquired in-process R&D			—			117,609			—			117,609
		Deferred income taxes			(7,455	)		—			—			(7,455	)
		Minority interest			97			—			11,570			11,667
	Change in assets and liabilities, net of effects of acquisitions:
		Accounts receivable			3,860			58,016			—			61,876
		Inventories			(510	)		—			—			(510	)
		Prepaid expenses and other assets			(6,626	)		(3,610	)		—			(10,236	)
		Trade payables and accrued liabilities			(37,921	)		(4,934	)		—			(42,855	)
		Income taxes payable			57,464			(11,882	)		—			45,582
		Other liabilities			(8,058	)		—			—			(8,058	)
		Funds provided to (from) intercompany			641			(641	)		—			—

		Cash flow from operating activities in continuing operations			49,753			99,441			—			149,194
		Cash flow from operating activities in discontinued operations			21,938			—			—			21,938

			Net cash provided by operating activities		71,691			99,441			—			171,132

Cash flows from investing activities:
	Capital expenditures				(7,574	)		(1,667	)		—			(9,241	)
	Proceeds from sale of assets				318			—			—			318
	Acquisition of license rights, product lines and businesses				(192,923	)		—			—			(192,923	)

	Cash flow from investing activities in continuing operations				(200,179	)		(1,667	)		—			(201,846	)
	Cash flow from investing activities in discontinued operations				104,276			—			—			104,276

		Net cash used in investing activities			(95,903	)		(1,667	)		—			(97,570	)

Cash flows from financing activities:
	Payments on long-term debt and notes payable				(6,797	)		—			—			(6,797	)
	Proceeds from exercise of stock options				317			—			—			317
	Dividends paid				(19,501	)		—			—			(19,501	)
	Funds provided to (from) intercompany				54,996			(54,996	)		—			—
	Funds received from discontinued operations				133,774			—			—			133,774

	Cash flow from financing activities in continuing operations				162,789			(54,996	)		—			107,793
	Cash flow from financing activities in discontinued operations				(134,070	)		—			—			(134,070	)

		Net cash provided by (used) in financing activities			28,719			(54,996	)		—			(26,277	)

Effect of exchange rate changes on cash and cash equivalents					966			—			—			966

Net increase in cash and cash equivalents					5,473			42,778			—			48,251
Cash and cash equivalents at beginning of period					173,914			79,750			—			253,664

Cash and cash equivalents at end of period					179,387			122,528			—			301,915
Cash and cash equivalents classified as part of discontinued operations					(887	)		—			—			(887	)

Cash and cash equivalents of continuing operations				$	178,500		$	122,528		$	—		$	301,028

VALEANT PHARMACEUTICALS INTERNATIONAL

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

Consolidating Condensed Statement of Cash Flow for the nine months ended September 30, 2002

(Unaudited, in thousands)


				Valeant									Valeant
				Excluding									Pharmaceuticals
				Ribapharm			Ribapharm			Eliminations			International

Cash flows from operating activities:
	Income (loss) from continuing operations			$	17,892		$	89,959		$	(10,490	)	$	97,361
	Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:
		Depreciation and amortization			40,721			2,037			—			42,758
		Provision for losses on accounts receivable and inventory obsolescence			4,374			—			—			4,374
		Translation and exchange (gains) losses, net			(8,192	)		—			—			(8,192	)
		Other non-cash items			44,286			—			—			44,286
		Write-off of acquired in-process R&D			—			—			—			—
		Deferred income taxes			34			—			—			34
		Minority interest			180			—			10,490			10,670
		Gain on sale of subsidiary stock			(261,937	)		—			—			(261,937	)
		Loss on extinguishment of debt			25,730			—			—			25,730
	Change in assets and liabilities, net of effects of acquisitions:
		Accounts receivable			93,057			(71,200	)		—			21,857
		Inventories			(4,300	)		—			—			(4,300	)
		Prepaid expenses and other assets			(20,199	)		(594	)		—			(20,793	)
		Trade payables and accrued liabilities			(949	)		11,567			—			10,618
		Income taxes payable			16,813			—			—			16,813
		Other liabilities			4,272			—			—			4,272
		Funds provided to (from) intercompany			(19,933	)		19,933			—			—

		Cash flow from operating activities in continuing operations			(68,151	)		51,702			—			(16,449	)
		Cash flow from operating activities in discontinued operations			8,065			—			—			8,065

			Net cash provided by (used in) operating activities		(60,086	)		51,702			—			(8,384	)

Cash flows from investing activities:
	Capital expenditures				(11,952	)		(1,641	)		—			(13,593	)
	Proceeds from sale of assets				356			—			—			356
	Proceeds from sale of subsidiary stock				276,611			—			—			276,611
	Acquisition of license rights, product lines and businesses				(26,765	)		—			—			(26,765	)

	Cash flow from investing activities in continuing operations				238,250			(1,641	)		—			236,609
	Cash flow from investing activities in discontinued operations				5,621			—			—			5,621

		Net cash (used in) provided by investing activities			243,871			(1,641	)		—			242,230

Cash flows from financing activities:
	Proceeds from issuance of long-term debt and notes payable				686			—			—			686
	Payments on long-term debt and notes payable				(273,630	)		—			—			(273,630	)
	Proceeds from exercise of stock options				12,892			—			—			12,892
	Dividends paid				(19,035	)		—			—			(19,035	)
	Repurchase of common stock				(31,955	)		—			—			(31,955	)
	Funds provided to (from) intercompany				(777	)		777			—			—
	Funds received from discontinued operations				8,706			—			—			8,706

	Cash flow from financing activities in continuing operations				(303,113	)		777			—			(302,336	)
	Cash flow from financing activities in discontinued operations				(8,513	)		—			—			(8,513	)

		Net cash used in financing activities			(311,626	)		777			—			(310,849	)

Effect of exchange rate changes on cash and cash equivalents					(161	)		—			—			(161	)

Net increase (decrease) in cash and cash equivalents					(128,002	)		50,838			—			(77,164	)
Cash and cash equivalents at beginning of period					325,253			—			—			325,253

Cash and cash equivalents at end of period					197,251			50,838			—			248,089
Cash and cash equivalents classified as part of discontinued operations					(13,332	)		—			—			(13,332	)

Cash and cash equivalents of continuing operations				$	183,919		$	50,838		$	—		$	234,757

VALEANT PHARMACEUTICALS INTERNATIONAL

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)


Item 2.	*Management’s Discussion and Analysis of Financial Condition and Results of Operations*

The following discussion relates to the information presented in the Consolidated Condensed Financial Statements included in this Quarterly Report. With respect to certain items set forth in such Consolidated Condensed Financial Statements, management has sought, in connection with its discussion of the material changes in the Company’s financial condition and results of operations between the periods for which information is presented in the Consolidated Condensed Financial Statements, to identify and, in some cases, quantify, the material factors which contributed to such material changes. However, the quantification of such factors may result in the presentation of numerical measures that exclude amounts that are included in the most directly comparable measure calculated and presented in accordance with accounting principles generally accepted in the United States (“GAAP”). Management is providing this information because it believes that it is useful to enable readers to assess material changes in the Company’s financial condition and results of operations between the periods for which information is presented in the Financial Statements. In each instance, such information is presented immediately following (and in connection with an explanation of) the most directly comparable financial measure calculated in accordance with GAAP, and includes other material information necessary to reconcile the information with the comparable GAAP financial measure.

Results of Operations

Certain financial information for the Company’s business segments is set forth below. This discussion should be read in conjunction with the Consolidated Condensed Financial Statements of the Company included elsewhere in this Quarterly Report. For additional financial information by business segment, see Note 10 of Notes to Consolidated Condensed Financial Statements included elsewhere in this Quarterly Report.


	*Revenues (in thousands)*



			Three Months Ended						Nine Months Ended
			September 30,						September 30,

			2003			2002			2003			2002

Pharmaceuticals
	North America		$	29,403		$	16,757		$	70,837		$	78,151
	Latin America			34,746			31,985			94,802			94,019
	Europe			54,512			44,334			169,396			138,632
	Asia, Africa, Australia			12,629			15,208			37,921			40,298

		Total pharmaceuticals		131,290			108,284			372,956			351,100
Royalties				36,217			63,367			136,755			186,368

Total revenues			$	167,507		$	171,651		$	509,711		$	537,468

Cost of goods sold			$	42,128		$	39,769		$	131,295		$	113,360
Gross profit margin on product sales				68	%		63	%		65	%		68	%

Quarter Ended September 30, 2003 Compared to 2002


	Pharmaceutical Revenues:

In the North America Pharmaceuticals segment, revenues for the three months ended September 30, 2003 were $29,403,000 compared to $16,757,000 for the same period of 2002, an increase of $12,646,000

(75%). The increase in 2003 is primarily due to revenues in the third quarter of 2002 being negatively impacted by the inventory reduction program at the Company’s wholesalers that began in June 2002. The Company completed the inventory reduction program in April 2003.

In the Latin America Pharmaceuticals segment, revenues for the three months ended September 30, 2003 were $34,746,000, compared to $31,985,000 for the same period of 2002, an increase of $2,761,000 (9%). The increase is primarily due to price and volume increases of $4,142,000, partially offset by a 4% decrease in the value of currencies in the region of $1,381,000. The Company continues to see an impact from generic substitution in the Latin American market and is taking steps to realign and increase sales force in this region.

In the Europe Pharmaceuticals segment, revenues for the three months ended September 30, 2003 were $54,512,000 compared to $44,334,000 for the same period of 2002, an increase of $10,178,000 (23%). The increase is primarily due to an increase in the value of currencies in the region relative to the U.S. Dollar, which resulted in an increase in revenues of $4,815,000. Additionally, excluding the effect of currencies, revenues in Poland increased $2,441,000.

In the Asia, Africa and Australia (“AAA”) Pharmaceuticals segment, revenues for the three months ended September 30, 2003 were $12,629,000 compared to $15,208,000 for the same period of 2002, a decrease of $2,579,000 (17%). The decrease is primarily due to lower sales volume primarily related to a decrease in Reptilase sales partially off-set by an increase in sales of Nyal® products in Australia.

Royalties: Royalty revenues represent amounts earned under the License and Supply Agreement with Schering-Plough Ltd. (“Schering”) (the “License Agreement”) and for fiscal 2003, under a license agreement with F. Hoffman-LaRoche Ltd. (“Roche”). Under the License Agreement, Schering licensed all oral forms of ribavirin for the treatment of chronic hepatitis C in combination with Schering’s alpha interferon (the “Combination Therapy”).

On January 6, 2003, the Company and Roche reached agreement on a settlement of pending patent disputes over Roche’s combination anti-viral product containing Roche’s version of ribavirin, known as Copegus. Under the agreement, Roche may continue to register and commercialize Copegus globally. The financial terms of this settlement agreement include a license by the Company of ribavirin to Roche. The license authorizes Roche to make or have made and to sell Copegus under the Company’s patents. Roche pays royalty fees to the Company on all sales of Copegus for use in combination with interferon alfa or pegylated interferon alfa.

Royalties earned for the three months ended September 30, 2003 from Schering and Roche were $36,217,000 compared to $63,367,000 for the same period of 2002, a decrease of $27,150,000 (43%). The Company believes that the decrease in royalties during the three months ended September 30, 2003, include the effects of increasing competition between Schering and Roche, Schering’s provision for estimated rebates on its U.S. sales of ribavirin and changes in trade inventory levels as reported to the Company by Schering. The Company has no information with regard to the basis for the rebate and return provision other than public statements by Schering suggesting generic competition in the last half of 2003 would have an impact on demand.

Gross Profit: Gross profit margin on product sales increased to 68% for the three months ended September 30, 2003 compared to 63% for 2002. The increase in gross profit is primarily due to a change in the geographic mix in sales primarily related to higher sales in the U.S., which increased the Company’s overall margin, partially offset costs related the Company’s manufacturing rationalization project.

Selling Expenses: Selling expenses were $40,478,000 for the three months ended September 30, 2003, compared to $40,140,000 for the same period in 2002, an increase of $338,000 (1%). As a percentage of sales, selling expenses decreased to 31% in the third quarter of 2003 from 37% in the same period in 2002, which reflects the Company’s intention of lowering overall costs.

General and Administrative Expenses: General and administrative expenses were $25,512,000 for the three months ended September 30, 2003, compared to $54,483,000 for the same period in 2002, a decrease of $28,971,000. Included in general and administrative expenses for the quarter ended September 30, 2002 are

reported non-recurring and other unusual charges of $23,920,000, which include severance costs of $18,708,000 and environmental remediation and related expenses of $5,212,000.

The remaining decrease of $5,051,000 primarily reflects a reduction in corporate general and administrative expenses of $4,514,000 and lower general and administrative expenses in the pharmaceuticals segment related to the closing of the Company’s European headquarters in Basel, Switzerland in October 2002 of $2,023,000 and expenses related to flood damage in the Czech Republic of $1,577,000 in the third quarter of 2002. The decrease was partially offset by an increase in Ribapharm’s general and administrative expenses related to legal and professional fees of $4,544,000 incurred by Ribapharm in connection with the Ribapharm Acquisition.

Research and Development: Research and development expenses for the 2003 third quarter were $10,752,000 compared to $13,479,000 for the same period in 2002. The decrease is primarily attributable to the timing of costs associated with the clinical trials of Viramidine and Hepavir B. It is expected that research and development expenses will increase in the fourth quarter of 2003 and in 2004 as the Company initiates Phase III studies of Viramidine and progress continues with the clinical trials of Hepavir B.

Other Income, Net, Including Translation and Exchange: Other income, net, including translation and exchange was a gain of $2,208,000 for the three months ended September 30, 2003 compared to a gain of $4,253,000 for the same period in 2002, a change of $2,045,000. In the third quarter of 2003, the Company recorded translation and exchange gains primarily related to the Company’s dollar denominated net assets in Europe of $1,604,000 and in Canada of $1,090,000, partially off-set by translation losses in Mexico of $396,000. The Company is currently taking steps to mitigate the impact of foreign currency translation on the income statement.

Gain (Loss) on Early Extinguishment of Debt: In the three months ended September 30, 2002, the Company recorded a gain on early extinguishment of $17,538,000 related to the repurchase of $59,410,000 principal amount of its 6 1/2% Convertible Subordinated Notes due 2008. In the nine months ended September 30, 2002, the Company recorded a loss on early extinguishment of debt of $25,730,000. The loss

was primarily related to a loss on extinguishment of debt of $43,268,000 related to the repurchase of the Company’s outstanding 8 3/4% Senior Notes due 2008, partially offset by a gain on early extinguishment of debt of $17,538,000 related to the repurchase of the Company’s 6 1/2% Convertible Subordinated Notes due 2008.

32.1

Interest Expense and Income: Interest expense during the three months ended September 30, 2003 decreased $1,318,000 compared to the same period in 2002. The decrease was the result of the repurchase of $59,410,000 principal amount of the Company’s 6 1/2% Convertible Subordinated Notes due 2008 in July and August 2002. Interest income decreased from $1,458,000 in the third quarter of 2002 to $953,000 in the same period of 2003 due to lower yields on investments partially offset by an increase in interest-bearing cash.

Income Taxes: The Company’s effective income tax rate for the three months ended September 30, 2003 was a negative 15% compared to 26% for the same period of 2002. The Company’s negative effective tax rate for 2003 was primarily due to the pre-tax loss resulting from the write-off of acquired IPR&D expenses in connection with the Ribapharm Acquisition which is not deductible for tax purposes. Excluding the effect of the acquired IPR&D write-off, the 2003 effective tax rate would have been 38%. The effective tax rate for 2002 reflects a tax benefit of $3,861,000 recognized in the third quarter of 2002 related to costs previously incurred in connection with a joint venture in China. Excluding the effect of this benefit, the Company had an effective tax rate of 39% for the three months ended September 30, 2002.

Income (loss) from Discontinued Operations, Net of Taxes: Income (loss) from discontinued operations relating to the Company’s Russian Pharmaceuticals segment, Biomedicals segment, Photonics business and raw materials businesses and manufacturing capabilities in Central Europe was recorded as income of $16,110,000 for the three months ended September 30, 2003 compared to a loss of $90,633,000 for the same period in 2002. In September 2003, the Company sold the remaining assets of its Biomedicals segment, Dosimetry, for cash proceeds of $58,000,000 and recorded a net gain on disposal of $23,288,000, net of taxes of $15,526,000. The income in 2003 includes income from discontinued operations of $3,036,000. The loss for 2002 includes a net loss on disposal of discontinued operations of $75,291,000 due to impairments on the Russian Pharmaceutical business, Photonics business and Circe and a loss from discontinued operations of $15,342,000.

Nine Months Ended September 30, 2003 Compared to 2002


	Pharmaceutical Revenues:

In the North America Pharmaceuticals segment, revenues for the nine months ended September 30, 2003 were $70,837,000 compared to $78,151,000 for the same period of 2002, a decrease of $7,314,000 (9%). The decrease in 2003 sales is primarily due to reduced sales to wholesalers during the first four months of 2003 related to an inventory reduction program at the Company’s wholesalers, which the Company began in June 2002 and completed in April 2003.

In the Latin America Pharmaceuticals segment, revenues for the nine months ended September 30, 2003 were $94,802,000 compared to $94,019,000 for the same period of 2002, an increase of $783,000 (1%). Revenues in Latin America were affected by a 10% decrease in the value of currencies in the region of $9,403,000, offset by price and volume increases.

In the Europe Pharmaceuticals segment, revenues for the nine months ended September 30, 2003 were $169,396,000 compared to $138,632,000 for the same period of 2002, an increase of $30,764,000 (22%). The increase is primarily due to an increase in the value of currencies in the region relative to the U.S. Dollar, which resulted in an increase in revenues of $20,870,000. Additionally, excluding the effect of currencies, revenues in Poland increased $6,516,000 and revenues in Spain increased $1,632,000 primarily due to price increases and new product launches. Revenues in 2003 were affected by challenges with German health care reform, reference-pricing litigation in Spain and price controls in Italy.

In the AAA Pharmaceuticals segment, revenues for the nine months ended September 30, 2003 were $37,921,000 compared to $40,298,000 for the same period of 2002, a decrease of $2,377,000 (6%). The decrease is due to lower sales volume in several products including Reptilase, partially offset by an increase in sales of Nyal products in Australia.

Ribapharm Royalty Revenues: Royalties earned for the nine months ended September 30, 2003 were $136,755,000 compared to $186,368,000 for the same period of 2002, a decrease of $49,613,000 (27%). The Company believes that the decrease in royalties during the nine months ended September 30, 2003 includes

the effects of increasing competition between Schering and Roche, Schering’s provision for estimated rebates on its U.S. sales of ribavirin and changes in trade inventory levels as reported to Ribapharm by Schering. The Company has no information with regard to the basis for the rebate and return provision other than public statements made by Schering suggesting generic competition in the last half of 2003 would have an impact on demand.

Gross Profit: Gross profit margin on product sales decreased to 65% for the nine months ended September 30, 2003 compared to 68% in 2002. The decrease in gross profit is primarily due a change in the geographic mix in sales, primarily in the U.S. and Europe, which lowered the Company’s overall gross profit margin, higher inefficiencies in the Company’s manufacturing operations in certain countries and costs related to a manufacturing rationalization project.

Selling Expenses: Selling expenses were $121,146,000 for the nine months ended September 30, 2003, compared to $119,120,000 for the same period in 2002, an increase of $2,026,000 (2%). The increase reflects the Company’s increased promotional efforts, mainly in Europe of $5,559,000, partially offset by a decrease in selling expenses in North America Pharmaceuticals segment of $2,861,000.

General and Administrative Expenses: General and administrative expenses were $80,797,000 for the nine months ended September 30, 2003, compared to $293,112,000 for the same period in 2002, a decrease of $212,315,000. Included in selling, general and administrative expenses for the nine months ended September 30, 2002, are non-recurring and other unusual charges of $204,958,000, which primarily include stock compensation costs related to the Company’s Change of Control under the Company’s Option Plan ($61,400,000); executive and director bonuses paid in connection with the Ribapharm Offering ($47,839,000); professional fees related to Ribapharm ($13,000,000); incentive compensation costs related to the accelerated vesting of restricted stock upon the Change of Control under the Company’s Long-Term Incentive Plan ($12,022,000); costs incurred in the Company’s 2002 proxy contest ($7,382,000); the write-down of the corporate airplane ($9,100,000); the write-off of ICN International AG capitalized offering costs ($18,295,000); and severance costs ($30,708,000).

The remaining decrease of $7,357,000 reflects a reduction in corporate general and administrative expenses of $14,635,000, which is mainly attributable to expenses incurred in the nine months ended 2002 related to severance costs of $4,343,000, a compensation charge of $2,968,000 for the exercise of stock options, the write-off of deferred acquisition costs of $2,674,000 and lower general and administrative expenses in the pharmaceutical segment of $2,606,000 due primarily to the closing of the European headquarters in Basel, Switzerland. These expenses were partially offset by an increase in Ribapharm’s general and administrative expenses of $11,175,000 related to severance costs incurred early this year and legal and professional fees incurred in connection with the Ribapharm Acquisition.

Research and Development: Research and development expenses for the nine months ended September 30, 2003 were $29,701,000, compared to $35,526,000 for the same period in 2002. The $5,825,000 decrease is primarily attributable to the timing of costs associated with the clinical trials of Viramidine^TM and Hepavir B^TM.

Gain on Sale of Subsidiary Stock: In April 2002, the Company sold, through an underwritten public offering, 29,900,000 shares of common stock representing 19.93% of the total outstanding common stock of Ribapharm (the “Ribapharm Offering”). In connection with the Ribapharm Offering, the Company received net cash proceeds of $276,611,000 and recorded a gain on the sale of Ribapharm’s stock of $261,937,000, net of offering costs in the nine months ended September 30, 2002.

Other Income, Net, Including Translation and Exchange: Other income, net, including translation and exchange was a gain of $496,000 for the nine months ended September 30, 2003, compared to a gain of $8,192,000 for the same period in 2002. In 2003, translation gains principally consisted of translation and exchange gains in Europe and AAA of $4,521,000 partially offset by transaction and exchange losses related to the Company’s dollar denominated net assets in Canada of $3,949,000.

Interest Expense and Income: Interest expense during the nine months ended September 30, 2003 decreased $10,489,000 compared to the same period in 2002 due to repurchases of debt in 2002. Interest

income decreased $1,368,000 due to lower yields on investments partially offset by an increase in interest-bearing cash.

Income Taxes: The Company’s effective income tax rate for the nine months ended September 30, 2003 was a negative 203% compared to 35% for the same period of 2002. The Company’s negative effective tax rate for 2003 was primarily due to the pre-tax loss resulting from the write-off of acquired IPR&D expenses in connection with the Ribapharm Acquisition which is not deductible for tax purposes. Excluding the effect of the acquired IPR&D write-off, the 2003 effective tax rate would have been 38%. The effective tax rate for 2002 reflects a tax benefit of $3,861,000 related to costs previously incurred in connection with a joint venture in China. Excluding the effect of this benefit, the Company had an effective tax rate of 38% for the nine months ended September 30, 2002.

Minority Interest: Minority interest was $11,667,000 and $10,670,000 for the nine months ended September 30, 2003 and 2002, respectively. Minority interest primarily relates to the minority shareholders’ portion of the net income of Ribapharm. In connection with the Ribapharm Acquisition, Ribapharm became a wholly owned subsidiary of the Company and the Company will no longer record minority interest related to Ribapharm.

Income (loss) from Discontinued Operations, Net of Taxes: Income (loss) from discontinued operations relating to the Company’s Russian Pharmaceuticals segment, Biomedicals segment, raw materials businesses and manufacturing capabilities in Central Europe and Photonics business (in 2002) and was income of $13,992,000 for the nine months ended September 30, 2003 compared to a loss of $109,742,000 for the same period in 2002. In the nine months ended September 30, 2003, the Company recorded income from discontinued operations of $7,514,000 primarily related to the Russian Pharmaceutical segment and the Biomedicals segment. These segments were sold in 2003 for a net gain on disposal of discontinued operations of $6,478,000. The loss for 2002 includes a net loss on disposal of discontinued operations of $83,388,000 due to impairments on the Russian Pharmaceutical business, Photonics business and Circe and a net loss from discontinued operations of $26,354,000.

Liquidity and Capital Resources

Cash and cash equivalents totaled $301,028,000 at September 30, 2003 compared to $245,184,000 at December 31, 2002. Working capital was $379,836,000 at September 30, 2003 compared to $397,070,000 at December 31, 2002. The change in working capital of $17,234,000 is primarily attributable to the use of cash in the Ribapharm Acquisition of $186,879,000, partially offset by cash generated from operations, cash proceeds of $113,000,000 received in connection with the sale of the Russian Pharmaceuticals business and the Biomedicals Dosimetry business and the decrease in the royalty receivable from Schering.

Cash provided by operating activities is expected to continue to be the Company’s primary recurring source of funds in 2003. During the nine months ended September 30, 2003, cash provided by operating activities totaled $171,132,000, compared to cash used in operating activities of $8,384,000 in 2002. During the nine months ended 2003, the Company recorded a non-cash write-off of in-process research and development of $117,609,000. During the nine months ended September 30, 2002, cash flow from operating activities was negatively impacted by certain non-recurring and other unusual cash payments. Those cash payments included cash paid for the compensation costs related to the change of control of the Company under the Company’s Option Plan ($61,400,000), costs incurred in the Company’s 2002 proxy contest ($7,382,000), professional fees related to Ribapharm ($13,000,000) and executive and director bonuses paid in connection with the Ribapharm Offering ($47,839,000).

Cash (used in) provided by investing activities was $(97,570,000) for the nine months ended September 30, 2003 compared to $242,230,000 for the same period of 2002. In 2003, net cash used in investing activities consisted of payments for the acquisition of license rights, product lines and businesses of $192,923,000 related to the Ribapharm Acquisition and capital expenditures of $9,241,000 partially offset by investing activities in discontinued operations of $104,276,000 primarily related to net proceeds from the sale of the Russian Pharmaceuticals segment and the Biomedicals Dosimetry business. In 2002, net cash provided by investing activities consisted of proceeds from the sale of subsidiary stock of $276,611,000 partially offset by

the acquisition of license rights, product lines and businesses of $26,765,000 and payments for capital expenditures of $13,593,000.

Cash used in financing activities totaled $26,277,000 for the nine months ended September 30, 2003, including cash dividends paid on common stock of $19,501,000 and payments on notes payable of $6,797,000. In 2002, cash used in financing activities totaled $310,849,000 for the nine months ended September 30, 2002, including payments on long-term debt of $273,630,000 principally consisting of the repurchase of $194,611,000 principal of the Company’s outstanding 8 3/4% Senior Notes and the repurchase of $59,410,000 principal of the Company’s 6 1/2% Convertible Subordinated Notes due 2008, the repurchase of an aggregate 1,146,000 shares of the Company’s common stock for $31,955,000 and cash dividends paid on common stock of $19,035,000 partially offset by proceeds from the exercise of employee stock options of $12,892,000.

Management believes that the Company’s existing cash and cash equivalents and funds generated from operations will be sufficient to meet its operating requirements at least through September 30, 2004 and to fund anticipated acquisitions and capital expenditures and the Company’s research and development program. The Company may also seek additional debt financing or issue additional equity securities to finance future acquisitions. The Company funds its cash requirements primarily from cash provided by its operating activities. The Company’s sources of liquidity are its cash and cash equivalent balances and its cash flow from operations.

In February and March 2003, Schering entered into license agreements with three generic pharmaceutical companies, which granted to each company a non-exclusive, non-sublicensable license to Schering’s U.S. ribavirin patents. In connection with the Company’s patent infringement suit against the same three pharmaceutical companies to prevent them from marketing a generic form of ribavirin in the U.S., the U.S. District Court for the Central District of California issued a memorandum of decision and order granting the generic pharmaceutical companies’ motion for summary judgment of non-infringement of the Company’s asserted patents. The decision and order did not rule on defendants’ motion for summary judgment that the patents are invalid. The Company filed a joint Citizen Petition with the FDA on July 17, 2003, and the Company has appealed the summary judgment decision. Competition from generic pharmaceutical companies could have a material negative impact on the Company’s future royalty revenue. With respect to Schering, royalties will be affected by the likelihood of reduced sales by Schering as well as a reduction in the royalty rate per the license agreement. With respect to Roche, under the license agreement, introduction of generics in any market will eliminate the obligation of Roche to pay royalties for sales in that market. See Note 9 of “Notes to Consolidated Condensed Financial Statements” regarding “Commitments and Contingencies — Generic Litigation.”

While the Company has historically paid quarterly cash dividends, there can be no assurance that the Company will continue to do so.

The Company evaluates the carrying value of its inventories on a regular basis, taking into account such factors as historical and anticipated future sales compared with quantities on hand, the price the Company expects to obtain for its products in their respective markets compared with historical cost, and the remaining shelf life of goods on hand. If actual market conditions are less favorable than those projected by management, additional inventory write-downs may be required. The Company also evaluates the collectibility of its receivables on a regular basis. The Company’s methodology for establishing the allowance for bad debts varies with the regions in which it operates. The allowance for bad debts is based upon specific identification of customer accounts and the Company’s best estimate of the likelihood of potential loss, taking into account such factors as the financial condition and payment history of major customers. As of September 30, 2003, the Company believes that adequate provision has been made for inventory obsolescence and for anticipated losses on uncollectible accounts receivable.

The Company is currently self-insured with respect to product liability claims. While to date no material adverse claim for personal injury resulting from allegedly defective products has been successfully maintained against the Company, a substantial claim, if successful, could have a negative impact on the Company’s liquidity and financial performance.

Restructuring

Discontinued Operations

During 2002, the Company conducted a strategic review of its operations. As a result of that review, the Company now intends to emphasize its specialty pharmaceuticals business, to divest itself of those businesses that do not fit the Company’s strategic growth plans and to exert efforts to bring its overall cost structure in line with industry averages.

As a result of this strategic review, the Company made the decision to divest its Russian Pharmaceuticals segment, Biomedicals segment, Photonics business, raw materials business and manufacturing capability in Central Europe and Circe unit. The results of these operations and the related financial position have been reflected as discontinued operations in the Company’s consolidated condensed financial statements in accordance with Statement of Financial Accounting Standard (“SFAS”) No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets. The consolidated condensed financial statements have been reclassified to conform to the discontinued operations presentation for all historical periods presented.

On September 30, 2003, the Company sold the remaining assets of its Biomedicals segment, Dosimetry, for gross cash proceeds of $58,000,000. The Company recorded a net gain on disposal of discontinued operations of $23,288,000, net of a taxes of $15,526,000 related to the sale of Dosimetry in the quarter ended September 30, 2003.

In June 2003, the Company sold its Russian Pharmaceuticals segment and certain assets of its Biomedicals segment. The Company received gross proceeds of $55,000,000 in cash for the Russian Pharmaceuticals segment and received 727,990 shares of its common stock held by the purchaser, which had a fair market value of approximately $12,369,000 for the assets of its Biomedicals segment. The Company recorded a net loss on disposal of discontinued operations of $7,942,000 related to the sale of these businesses in the nine months ended September 30, 2003.

The Company is actively marketing for sale the raw materials businesses and manufacturing capability in Hungary and the Czech Republic and is working toward disposing of these assets.


	*Ribapharm Acquisition*

As part of the Company’s overall restructuring strategy, the Company re-evaluated the ownership structure of Ribapharm. The Company determined that the benefits perceived at the time of the initial public offering of Ribapharm had diminished and that the potential advantages to the Company of repurchasing the publicly held shares of Ribapharm outweighed the advantages of continuing to maintain Ribapharm as a separate publicly-traded entity or completing a spin-off of Ribapharm. In August 2003, the Company repurchased the approximately 20% minority interest in its Ribapharm subsidiary for aggregated total purchase price of $207,438,000. The Company paid $6.25 in cash for each of the 29,900,703 outstanding publicly held shares of Ribapharm.


	*Global Manufacturing Strategy*

During the third quarter of 2003 the Company approved its global manufacturing strategy, which it announced in October 2003. Under its manufacturing strategy, the goal is to establish a global manufacturing and supply chain network of five manufacturing sites which will result in the closing of eight of the Company’s current manufacturing sites. A review for potential asset impairment was performed in accordance with SFAS No. 144 Impairment of Long-Lived Assets. In determining asset groups, the Company grouped assets at the lowest level for which independent identifiable cash flows were available. In determining whether an asset was impaired, the Company compared undiscounted future cash flows and asset residual values to the asset group carrying value on a site by site basis. The impairment analysis indicated that the asset groups were not impaired as of September 30, 2003, therefore, no impairment losses were recognized in the third quarter of 2003. Based on the estimated remaining useful lives of the manufacturing sites to be disposed of, the book value would exceed the residual value on the estimated disposal date for five of the manufacturing sites. As a

result, the Company has revised the depreciation period on these assets and will incur an additional annual depreciation expense of approximately $6,400,000 through the third quarter of 2005.

The Company is currently evaluating its disposal plan for each manufacturing site. The Company’s intention is to sell each site as an operating plant. However, the Company may not find buyers for the all of the manufacturing sites. Additionally, the Company may incur cash expenditures related to severance charges and other costs in disposing of these manufacturing sites. The Company has not determined what these cash costs would be at this time, if any.

Products in Development

The Company expects its research and development expenses to increase in the future, of which a large percentage will be to support product development programs for Viramidine and Hepavir B. For Viramidine, the Company has conducted a Phase II study, which enrolled a total of 180 patients. The study also included an interim analysis performed on the first 160 patients who received at least 12 weeks therapy. Analysis of the 12-week data showed that Viramidine, in combination with a pegylated interferon, produced a clinically significant reduction in viral load. In addition, Viramidine, when compared with ribavirin, produced approximately half the drop in hemoglobin levels at treatment week four, which was maintained through week 12. The Company has drafted a protocol for the Phase III program for Viramidine and met with the FDA in September 2003 to discuss preliminary Phase II data and to discuss the possibility of early commencement and design of Phase III clinical trials in the United States and Europe. After that meeting the Company has decided that it will initiate Phase III studies of Viramidine. The Phase III program will consist of two global studies in 80 sites with approximately 1,000 patients in each study. The studies will compare Viramidine and ribavirin, each in conjunction with a pegylated interferon. The Company’s external research and development expenses for Viramidine are approximately $15,142,000 from inception through September 30, 2003.

The Company initiated a Phase I clinical trial of Hepavir B in Europe in August 2002, and filed an Investigational New Drug (“IND”) application with the FDA in October 2002. The Company initiated a Phase I multiple rising dose safety trial in the United States in January 2003 and patient enrollment is progressing as planned. Additionally, the Company has identified specific investigators in Asia to conduct a similar multiple dose safety trial in anticipation of conducting Phase II trials in that region. The Company’s external research and development expenses for Hepavir B^TM are approximately $12,643,000 (including a milestone payment of $1,100,000) from inception through September 30, 2003.

Foreign Operations

Approximately 63% and 54% of the Company’s revenues from continuing operations for the nine months ended September 30, 2003 and 2002, respectively, were generated from operations outside the United States. All of the Company’s foreign operations are subject to risks inherent in conducting business abroad, including possible nationalization or expropriation, price and currency exchange controls, fluctuations in the relative values of currencies, political instability and restrictive governmental actions. Changes in the relative values of currencies occur from time to time and may, in some instances, materially affect the Company’s results of operations. The effect of these risks remains difficult to predict.

Inflation and Changing Prices

The effects of inflation are experienced by the Company through increases in the costs of labor, services and raw materials. The Company is subject to price control restrictions on its pharmaceutical products in the majority of countries in which it operates. While the Company attempts to raise selling prices in anticipation of inflation, the Company operates in some markets which have price controls that may limit its ability to raise prices in a timely fashion. Future sales and gross profit will be reduced if the Company is unable to obtain price increases commensurate with the levels of inflation.


Item 3.	*Quantitative and Qualitative Disclosures About Market Risk*

The Company’s business and financial results are affected by fluctuations in world financial markets. The Company evaluates its exposure to such risks on an ongoing basis, and reviews its risk management policy to manage these risks to an acceptable level, based on management’s judgment of the appropriate trade-off between risk, opportunity and costs. The Company does not hold any significant amount of market risk sensitive instruments whose value is subject to market price risk. The Company seeks to manage its foreign currency exposure by maintaining the majority of cash balances at foreign subsidiaries in the U.S. dollar and through operational means by managing local currency revenues in relation to local currency costs. The Company is currently taking steps to mitigate the impact of foreign currency on the income statement, which include hedging its foreign currency exposure through net investment hedges.

In the normal course of business, the Company also faces risks that are either non-financial or non-quantifiable. Such risks principally include country risk, credit risk, and legal risk and are not discussed or quantified in the following analysis.

Interest Rate Risk: The Company currently does not hold financial instruments for trading or speculative purposes. The financial assets of the Company are not subject to significant interest rate risk due to their short duration. At September 30, 2003, the Company had $12,742,000 of foreign denominated debt that would subject it to both interest and currency risk. The principal financial liabilities of the Company that are subject to interest rate risk are its fixed-rate long-term debt (principally its 6 1/2% Subordinated Convertible Notes due 2008) totaling approximately $465,590,000. The Company does not use any derivatives or similar instruments to manage its interest rate risk. A 100 basis-point increase in interest rates (approximately 15% of the Company’s weighted average interest rate on fixed-rate debt) affecting the Company’s financial instruments would have an immaterial effect on the Company’s nine month and third quarter 2003 pretax earnings. However, such a change would reduce the fair value of the Company’s fixed-rate debt instruments by approximately $16,700,000 as of September 30, 2003.


Item 4.	*Controls and Procedures.*

Commencing with the fiscal quarter ended June 30, 2002, and continuing quarterly since then, the Company has instituted a program of questionnaires sent to, certifications provided by, and telephonic interviews conducted with individual officers or employees responsible for oversight and management of parts of the Company’s different business operations. The questionnaires, certifications and interviews are intended to reinforce the Company’s existing system of internal controls, and are designed to ensure that information required to be disclosed by the Company in the reports that it files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms. Such controls and procedures are also designed to ensure that information required to be disclosed by the Company in the reports that it files or submits under that Act is accumulated and communicated to the Company’s management, including its principal executive officer or officers and principal financial officer or officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure. The Company’s Chief Executive Officer and Chief Financial Officer, with the participation of the Company’s management, have conducted an evaluation of the effectiveness of the Company’s disclosure controls and procedures as of the end of the period covered by this report. Based on this evaluation, the Chief Executive Officer and Chief Financial Officer have concluded that the Company’s disclosure controls and procedures are effective in making known to them material information relating to the Company (including its consolidated subsidiaries required to be included in this report).

There have been no changes in the Company’s internal controls over financial reporting known to the Chief Executive Officer or Chief Financial Officer, that occurred during the period covered by this report that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

FORWARD LOOKING STATEMENTS

This Quarterly Report on Form 10-Q contains statements that constitute forward looking statements. Those statements appear in a number of places in this Quarterly Report on Form 10-Q. Examples of forward-looking statements include statements regarding, among other matters, the Company’s strategic review, the Company’s acquisition strategy, the Company’s reorganization plans, the Company’s expectations regarding sales of products by the North America Pharmaceutical segment, expectations regarding research and development costs during the remainder of 2003 and other factors affecting the Company’s financial condition or results of operations. In some cases, forward looking statements may be identified by terminology such as “may,” “will,” “intends,” “should,” “would,” “expects,” “plans,” “anticipates,” “believes,” “estimates,” “predicts,” “potential,” or “continue” or the negative of those terms or comparable terminology. Similarly, statements that describe the Company’s plans, strategies, intentions, expectations, objectives, goals or prospects are forward looking. The Company undertakes no obligation to publicly release the result of any revisions to these forward-looking statements that may be made to reflect events or circumstances after the date of this report or to reflect the occurrence of unexpected events.

These forward looking statements are inherently subject to risk and uncertainties, and the Company can give no assurances that its expectations will prove to be correct. Actual results could differ from those described in this report because of numerous factors, many of which are beyond the control of the Company. These risk factors include, without limitation, those described below:

• A substantial portion of the Company’s revenues are royalties generated from sales of ribavirin by the Company’s licensees. The launch of generic versions of ribavirin in the United States is expected soon. Additionally, there is the potential for other of the Company’s products to face generic competition. Sales of generic versions of the Company’s products may reduce future revenues, and may impact its ability to finance future research and development activities.

• The future growth of the Company’s business is based upon the development and approval of new products, including Viramidine. The process of developing new drugs has an inherent risk of failure. Although certain of the Company’s research compounds show promise at their current stages of development, the Company may fail to commercialize them for various reasons. For example, they may turn out to be ineffective or unsafe in clinical or pre-clinical testing; their patent position may become compromised; other therapies may prove more safe or effective; or the prevalence of the disease for which they are being developed may decrease. Accordingly, the Company’s inability to successfully develop its products may negatively impact future revenues.

• The Company will be able to protect the its products from generic substitution by third parties only to the extent that the its technologies are covered by valid and enforceable patents, are effectively maintained as trade secrets or are protected by data exclusivity. However, the Company’s presently pending or future patent applications may not issue as patents. Any patent issued may be challenged, invalidated, held unenforceable or circumvented. Furthermore, the Company’s patents may not be sufficiently broad to prevent third parties’ competing products.

• The scope of protection afforded by a patent can be highly uncertain. A pending claim or a result unfavorable to the Company in a patent dispute may preclude development or commercialization of products or impact sales of existing products, and result in payment of monetary damages.

• Uncertainties and delays inherent in the drug approval process in the United States and other countries can preclude or delay development and commercialization of the Company’s products.

• The Company’s current business plan includes expansion through acquisitions in addition to the development of new products. If the Company is unable to successfully execute on its expansion plans, to find attractive acquisition candidates at appropriate prices, and to integrate successfully any acquired companies or products, the growth of the Company’s business will be impeded.

• The Company and its competitors are always striving to develop products that are more effective, safer, more easily tolerated or less costly. If the Company’s competitors succeed in developing better

alternatives to the Company’s current products before it does, the Company will lose sales and revenues to their alternative products.

• The pharmaceutical industry is subject to substantial government regulation, including the approval of new pharmaceutical products, labeling, advertising and, in some countries, pricing.

• The Company sells products in many countries that are susceptible to significant foreign currency risk. The Company generally sells products in these countries for United States dollars. While this eliminates the Company’s direct currency risk, it increases the Company’s credit risk because if a local currency is devalued significantly it becomes more expensive for customers in that market to purchase the Company’s products in United States dollars. The Company currently does not enter into third party hedges to protect against foreign currency exposure.

• A significant part of the Company’s revenue is derived from products manufactured by third parties. The Company relies on their quality level, compliance with FDA regulations and continuity of supply. Any failure by them in these areas could disrupt the Company’s product supply and negatively impact its revenue.

• The Company has entered into an agreement granting Schering a limited right to commercialize its research compounds. The agreement could limit the Company’s ability to commercially exploit some of its potential products. This could impede the Company’s plans for growth.

• If the Company is unsuccessful in the defense of current securities litigation, it may be ordered to pay significant monetary damages, which may have a material negative impact on the Company’s current financial position.

• To purchase the Company’s products many patients rely on reimbursement by third party payors such as insurance companies, HMOs and government agencies. These third party payors are increasingly attempting to contain costs by limiting both coverage and the level of reimbursement of new drug products. The reimbursement levels established by third party payors in the future may not be sufficient for the Company to realize an appropriate return on the its investment in product development.

• Some of the Company’s development programs are based on the library of nucleoside compounds it has developed. The Company’s nucleoside library is at risk of loss in earthquakes, fire and other natural disasters.

• The Company has recently announced plans to sell eight manufacturing facilities and establish a new global manufacturing and supply chain network. If the Company is unsuccessful in its effort to execute on these plans it may not achieve anticipated cost savings. Additionally, there may be unforeseen costs and complications with this effort to rationalize the Company’s manufacturing operations.

• All drugs have potential harmful side effects and can expose drug manufacturers and distributors to liability. The Company generally does not maintain product liability insurance. As a result, in the event one or more of the Company’s products is found to have harmed an individual or individuals, it may be responsible for paying all or substantially all damages awarded. Any product liability exposure and the Company’s lack of any insurance coverage may have a material negative impact on its financial position and results of operations.

• Subject to the terms of the Company’s agreements with the its existing lenders, the Company may incur additional indebtedness from time to time to finance working capital needs, acquisitions, capital expenditures or for other purposes. There can be no assurance that financing will continue to be available on terms acceptable to the Company or at all. The absence of such financing will reduce the Company’s ability to respond to changing business and economic conditions, to fund scheduled investments and capital expenditures, to make future acquisitions and to absorb negative operating results.

• The Company is also subject to those risks and uncertainties described from time to time in Valeant’s filings with the Commission.

The Company is subject to a Consent Order with the Securities and Exchange Commission, which among other things requires the Company to pre-clear all FDA-related press releases with the FDA, and permanently enjoins the Company from violating securities laws and regulations. The Consent Order also precludes protection for forward-looking statements under the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. The existence of the permanent injunction under the Consent Order, and the lack of protection under the Safe Harbor may limit the Company’s ability to defend future allegations.

PART II — OTHER INFORMATION


Item 1.	*Legal Proceedings*

See Note 9 of Notes to Consolidated Condensed Financial Statements in Item 1 of Part I of this Quarterly Report, which is incorporated herein by reference.


Item 6.	*Exhibits and Reports on Form 8-K*

(a) Exhibits


	3.1					Restated Certificate of Incorporation, as amended to date.
	15.1					Review Report of Independent Accountants
	15.2					Awareness Letter of Independent Accountants
	31.1					Certification of Chief Executive Officer pursuant to Rule 13a-14(a) under the Exchange Act and Section 302 of the Sarbanes-Oxley Act of 2002.
	31.2					Certification of Chief Financial Officer pursuant to Rule 13a-14(a) under the Exchange Act and Section 302 of the Sarbanes-Oxley Act of 2002.
	32.1					Certification of Chief Executive Officer and Chief Financial Officer of Periodic Financial Reports pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. § 1350.

(b) Reports on Form 8-K

The Company filed the following reports on Form 8-K during the quarter ended September 30, 2003:


	1.					Current Report on Form 8-K dated July 14, 2003 (the date of the earliest event reported), filed on July 16, 2003, for the purpose of reporting certain information under Item 5.
	2.					Current Report on Form 8-K dated August 25, 2003 (the date of the earliest event reported), filed on August 27, 2003, for the purpose of reporting certain information under Item 5.

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

VALEANT PHARMACEUTICALS INTERNATIONAL

Registrant

/s/ ROBERT W. O’LEARY

Robert W. O’Leary

Chairman of the Board and Chief Executive Officer

Date: November 12, 2003

/s/ BARY G. BAILEY

Bary G. Bailey

Executive Vice President and Chief Financial Officer

(principal financial and accounting officer)

Date: November 12, 2003

EXHIBIT INDEX


Exhibit

	3	.1	Restated Certificate of Incorporation, as amended to date.
	15	.1	Review Report of Independent Accountants.
	15	.2	Awareness Letter of Independent Accountants.
	31	.1	Certification of Chief Executive Officer pursuant to Rule 13a-14(a) under the Exchange Act and Section 302 of the Sarbanes-Oxley Act of 2002.
	31	.2	Certification of Chief Financial Officer pursuant to Rule 13a-14(a) under the Exchange Act and Section 302 of the Sarbanes-Oxley Act of 2002.
	32	.1	Certification of Chief Executive Officer and Chief Financial Officer of Periodic Financial Reports pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. § 1350.


	•	Future research and development costs of approximately $150,000,000 would be incurred to complete the IPR&D projects.

	•	The IPR&D projects, which are in various stages of development from Phase I to Phase II clinical trials, are expected to reach completion by the end of 2006.


(1)	Includes expense associated with the write-off of acquired in-process research and development related to the Ribapharm Acquisition.


	•	A substantial portion of the Company’s revenues are royalties generated from sales of ribavirin by the Company’s licensees. The launch of generic versions of ribavirin in the United States is expected soon. Additionally, there is the potential for other of the Company’s products to face generic competition. Sales of generic versions of the Company’s products may reduce future revenues, and may impact its ability to finance future research and development activities.

	•	The future growth of the Company’s business is based upon the development and approval of new products, including Viramidine. The process of developing new drugs has an inherent risk of failure. Although certain of the Company’s research compounds show promise at their current stages of development, the Company may fail to commercialize them for various reasons. For example, they may turn out to be ineffective or unsafe in clinical or pre-clinical testing; their patent position may become compromised; other therapies may prove more safe or effective; or the prevalence of the disease for which they are being developed may decrease. Accordingly, the Company’s inability to successfully develop its products may negatively impact future revenues.

	•	The Company will be able to protect the its products from generic substitution by third parties only to the extent that the its technologies are covered by valid and enforceable patents, are effectively maintained as trade secrets or are protected by data exclusivity. However, the Company’s presently pending or future patent applications may not issue as patents. Any patent issued may be challenged, invalidated, held unenforceable or circumvented. Furthermore, the Company’s patents may not be sufficiently broad to prevent third parties’ competing products.

	•	The scope of protection afforded by a patent can be highly uncertain. A pending claim or a result unfavorable to the Company in a patent dispute may preclude development or commercialization of products or impact sales of existing products, and result in payment of monetary damages.

	•	Uncertainties and delays inherent in the drug approval process in the United States and other countries can preclude or delay development and commercialization of the Company’s products.

	•	The Company’s current business plan includes expansion through acquisitions in addition to the development of new products. If the Company is unable to successfully execute on its expansion plans, to find attractive acquisition candidates at appropriate prices, and to integrate successfully any acquired companies or products, the growth of the Company’s business will be impeded.

	•	The Company and its competitors are always striving to develop products that are more effective, safer, more easily tolerated or less costly. If the Company’s competitors succeed in developing better


		alternatives to the Company’s current products before it does, the Company will lose sales and revenues to their alternative products.

	•	The pharmaceutical industry is subject to substantial government regulation, including the approval of new pharmaceutical products, labeling, advertising and, in some countries, pricing.

	•	The Company sells products in many countries that are susceptible to significant foreign currency risk. The Company generally sells products in these countries for United States dollars. While this eliminates the Company’s direct currency risk, it increases the Company’s credit risk because if a local currency is devalued significantly it becomes more expensive for customers in that market to purchase the Company’s products in United States dollars. The Company currently does not enter into third party hedges to protect against foreign currency exposure.

	•	A significant part of the Company’s revenue is derived from products manufactured by third parties. The Company relies on their quality level, compliance with FDA regulations and continuity of supply. Any failure by them in these areas could disrupt the Company’s product supply and negatively impact its revenue.

	•	The Company has entered into an agreement granting Schering a limited right to commercialize its research compounds. The agreement could limit the Company’s ability to commercially exploit some of its potential products. This could impede the Company’s plans for growth.

	•	If the Company is unsuccessful in the defense of current securities litigation, it may be ordered to pay significant monetary damages, which may have a material negative impact on the Company’s current financial position.

	•	To purchase the Company’s products many patients rely on reimbursement by third party payors such as insurance companies, HMOs and government agencies. These third party payors are increasingly attempting to contain costs by limiting both coverage and the level of reimbursement of new drug products. The reimbursement levels established by third party payors in the future may not be sufficient for the Company to realize an appropriate return on the its investment in product development.

	•	Some of the Company’s development programs are based on the library of nucleoside compounds it has developed. The Company’s nucleoside library is at risk of loss in earthquakes, fire and other natural disasters.

	•	The Company has recently announced plans to sell eight manufacturing facilities and establish a new global manufacturing and supply chain network. If the Company is unsuccessful in its effort to execute on these plans it may not achieve anticipated cost savings. Additionally, there may be unforeseen costs and complications with this effort to rationalize the Company’s manufacturing operations.

	•	All drugs have potential harmful side effects and can expose drug manufacturers and distributors to liability. The Company generally does not maintain product liability insurance. As a result, in the event one or more of the Company’s products is found to have harmed an individual or individuals, it may be responsible for paying all or substantially all damages awarded. Any product liability exposure and the Company’s lack of any insurance coverage may have a material negative impact on its financial position and results of operations.

	•	Subject to the terms of the Company’s agreements with the its existing lenders, the Company may incur additional indebtedness from time to time to finance working capital needs, acquisitions, capital expenditures or for other purposes. There can be no assurance that financing will continue to be available on terms acceptable to the Company or at all. The absence of such financing will reduce the Company’s ability to respond to changing business and economic conditions, to fund scheduled investments and capital expenditures, to make future acquisitions and to absorb negative operating results.


	•	The Company is also subject to those risks and uncertainties described from time to time in Valeant’s filings with the Commission.


	VALEANT PHARMACEUTICALS INTERNATIONAL
	Registrant

	/s/ ROBERT W. O’LEARY

	Robert W. O’Leary
	Chairman of the Board and Chief Executive Officer


	/s/ BARY G. BAILEY

	Bary G. Bailey
	Executive Vice President and Chief Financial Officer
	(principal financial and accounting officer)