##### Table of Contents



UNITED STATES SECURITIES AND EXCHANGE COMMISSION
 Washington, D.C. 20549
 FORM 10-Q
 Quarterly Report Pursuant to Section 13 or 15 (d) of the Securities Exchange Act of 1934
For the quarterly period ended September 30, 2006
 Commission file number 0-17254
 NOVEN PHARMACEUTICALS, INC.
  STATE OF DELAWARE
    
    59-2767632(State or other jurisdiction of 
incorporation or organization)
    
    (I.R.S. Employer
Identification Number)
 (Address of principal executive offices) (Zip Code)
 (Registrants telephone number, including area code)
 þ o
  o þ o
 o þ
  Class
    
    Outstanding at October 31, 2006Common stock $.0001 par value
    
    24,361,178




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##### 



NOVEN PHARMACEUTICALS, INC.
  Page No.PART I - FINANCIAL INFORMATIONItem 1 - Unaudited Condensed Financial StatementsCondensed Statements of Operations for the Three and Nine Months Ended September 30, 2006 and 2005
    
    
    3Condensed Balance Sheets as of September 30, 2006 and December 31, 2005
    
    
    4Condensed Statements of Cash Flows for the Nine Months Ended September 30, 2006 and 2005
    
    
    5Notes to Unaudited Condensed Financial Statements
    
    
    6Item 2 - Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    20Item 3 - Quantitative and Qualitative Disclosures About Market Risk
    
    
    41Item 4 - Controls and Procedures
    
    
    42PART II - OTHER INFORMATIONItem 1 - Legal Proceedings
    
    
    43Item 1A - Risk Factors
    
    
    43Item 2 - Unregistered Sales of Equity Securities and Use of Proceeds
    
    
    44Item 5 - Other Information
    
    
    44Item 6 - Exhibits
    
    
    45SIGNATURES
    
    
    46EX-10.1 Nonqualified Deferred Compensation PlanEX-31.1 Section 302 Certification of CEOEX-31.2 Section 302 Certification of CFOEX-32.1 Section 906 Certification of CEOEX-32.2 Section 302 Certification of CFO
   ®  ® ® ®  
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##### Table of Contents



Item 1. Financial Statements
 NOVEN PHARMACEUTICALS, INC.
 
     Three Months
    
    
    Nine Months2006
    
    
    2005
    
    
    2006
    
    
    2005Revenues:Product revenues  Novogyne:Product sales
    
    $
    5,273
    
    
    $
    4,740
    
    
    $
    13,990
    
    
    $
    14,432Royalties
    
    
    1,791
    
    
    
    1,790
    
    
    
    5,138
    
    
    
    4,617Total product revenues  Novogyne
    
    
    7,064
    
    
    
    6,530
    
    
    
    19,128
    
    
    
    19,049Product revenues  third parties
    
    
    5,761
    
    
    
    3,917
    
    
    
    15,648
    
    
    
    11,888Total product revenues
    
    
    12,825
    
    
    
    10,447
    
    
    
    34,776
    
    
    
    30,937Contract and license revenues:Contract
    
    
    44
    
    
    
    769
    
    
    
    1,112
    
    
    
    1,793License
    
    
    2,839
    
    
    
    1,024
    
    
    
    7,559
    
    
    
    3,017Contract and license revenues
    
    
    2,883
    
    
    
    1,793
    
    
    
    8,671
    
    
    
    4,810Net revenues
    
    
    15,708
    
    
    
    12,240
    
    
    
    43,447
    
    
    
    35,747Expenses:Cost of products sold  Novogyne
    
    
    3,702
    
    
    
    3,521
    
    
    
    10,304
    
    
    
    9,219Cost of products sold  third parties
    
    
    5,339
    
    
    
    11,895
    
    
    
    16,764
    
    
    
    17,307Total cost of products sold
    
    
    9,041
    
    
    
    15,416
    
    
    
    27,068
    
    
    
    26,526Research and development
    
    
    2,527
    
    
    
    3,826
    
    
    
    8,899
    
    
    
    9,752Marketing, general and administrative
    
    
    6,010
    
    
    
    4,237
    
    
    
    16,386
    
    
    
    12,481Total expenses
    
    
    17,578
    
    
    
    23,479
    
    
    
    52,353
    
    
    
    48,759Loss from operations
    
    
    (1,870
    )
    
    
    (11,239
    )
    
    
    (8,906
    )
    
    
    (13,012
    )Equity in earnings of Novogyne
    
    
    8,234
    
    
    
    8,081
    
    
    
    19,323
    
    
    
    17,094Interest income, net
    
    
    1,168
    
    
    
    512
    
    
    
    2,890
    
    
    
    1,608Income (loss) before income taxes
    
    
    7,532
    
    
    
    (2,646
    )
    
    
    13,307
    
    
    
    5,690Provision (benefit) for income taxes
    
    
    2,501
    
    
    
    (1,224
    )
    
    
    4,439
    
    
    
    1,780Net income (loss)
    
    $
    5,031
    
    
    $
    (1,422
    )
    
    $
    8,868
    
    
    $
    3,910Basic earnings (loss) per share
    
    $
    0.21
    
    
    $
    (0.06
    )
    
    $
    0.37
    
    
    $
    0.17Diluted earnings (loss) per share
    
    $
    0.20
    
    
    $
    (0.06
    )
    
    $
    0.37
    
    
    $
    0.16Weighted average number of common shares
outstanding:Basic
    
    
    23,954
    
    
    
    23,586
    
    
    
    23,768
    
    
    
    23,554Diluted
    
    
    24,574
    
    
    
    23,586
    
    
    
    24,142
    
    
    
    24,021
 The accompanying notes are an integral part of these statements.
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NOVEN PHARMACEUTICALS, INC.
 
    September 30, 2006
    
    
    December 31, 2005AssetsCurrent Assets:Cash and cash equivalents
    
    $
    8,676
    
    
    $
    66,964Short-term investments available-for-sale, at fair value
    
    
    130,510
    
    
    
    17,900Accounts receivable  trade (less allowance for doubtful
accounts of $47 in 2006 and $53 in 2005)
    
    
    6,091
    
    
    
    2,919Accounts receivable  Novogyne, net
    
    
    7,783
    
    
    
    8,912Inventories
    
    
    8,134
    
    
    
    7,861Net deferred income tax asset, current portion
    
    
    4,200
    
    
    
    6,000Prepaid income taxes
    
    
    6,007
    
    
    
    7,697Prepaid and other current assets
    
    
    2,481
    
    
    
    1,357173,882
    
    
    
    119,610Property, plant and equipment, net
    
    
    37,414
    
    
    
    34,455Other Assets:Investment in Novogyne
    
    
    22,710
    
    
    
    23,243Net deferred income tax asset
    
    
    8,225
    
    
    
    6,373Patent development costs, net
    
    
    2,371
    
    
    
    2,211Deposits and other assets
    
    
    221
    
    
    
    1833,527
    
    
    
    31,845$
    244,823
    
    
    $
    185,910Liabilities and Stockholders EquityCurrent Liabilities:Accounts payable and accrued expenses
    
    $
    4,824
    
    
    $
    5,812Capital lease obligation  current portion
    
    
    34
    
    
    
    121Accrued liability  Shire
    
    
    419
    
    
    
    5,488Accrued compensation and related liabilities
    
    
    4,729
    
    
    
    5,771Other accrued liabilities
    
    
    2,679
    
    
    
    2,124Deferred rent credit
    
    
    89
    
    
    
    89Deferred contract revenues
    
    
    1,758
    
    
    
    1,481Deferred license revenues  current portion
    
    
    11,174
    
    
    
    7,60225,706
    
    
    
    28,488Long-Term Liabilities:Capital lease obligation
    
    
    38
    
    
    
    Deferred rent credit
    
    
    681
    
    
    
    748Deferred license revenues
    
    
    55,936
    
    
    
    16,053Deferred compensation liability
    
    
    134
    
    
    
    82,495
    
    
    
    45,289Commitments and Contingencies (Note 14)Stockholders Equity:Preferred stock  authorized 100,000 shares of $.01 par
value; no shares issued or outstanding
    
    
    
    
    
    
    Common stock  authorized 80,000,000 shares,
par value $.0001 per share; issued and
outstanding 24,294,309 at September 30,
2006 and
23,617,221 at December 31, 2005
    
    
    2
    
    
    
    2Additional paid-in capital
    
    
    102,685
    
    
    
    89,846Retained earnings
    
    
    59,641
    
    
    
    50,773162,328
    
    
    
    140,621$
    244,823
    
    
    $
    185,910
 The accompanying notes are an integral part of these statements.
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##### Table of Contents



NOVEN PHARMACEUTICALS, INC.
 
     2006
    
    
    2005Cash flows from operating activities:Net income
    
    $
    8,868
    
    
    $
    3,910Adjustments to reconcile net income to net cash flows
provided by operating activities:Depreciation and amortization
    
    
    2,864
    
    
    
    1,892Write-off of fentanyl inventories deemed non-saleable
    
    
    
    
    
    
    9,475Stock-based compensation expense
    
    
    2,358
    
    
    
    Amortization of patent costs
    
    
    379
    
    
    
    334Increase in cash surrender value of company-owned life insurance
    
    
    (3
    )
    
    
    Amortization of deferred rent credit
    
    
    (67
    )
    
    
    (53
    )Income tax benefits on exercise of stock options
    
    
    687
    
    
    
    228Deferred income tax benefit
    
    
    (52
    )
    
    
    (689
    )Recognition of deferred license revenues
    
    
    (7,559
    )
    
    
    (3,017
    )Equity in earnings of Novogyne
    
    
    (19,323
    )
    
    
    (17,094
    )Distributions from Novogyne
    
    
    17,644
    
    
    
    18,092Changes in operating assets and liabilities:(Increase) decrease in accounts receivable  trade, net
    
    
    (3,172
    )
    
    
    2,430Decrease in accounts receivable  Novogyne, net
    
    
    1,129
    
    
    
    3,319Increase in accounts receivable  Endo
    
    
    
    
    
    
    (4,467
    )(Increase) decrease in inventories
    
    
    (273
    )
    
    
    93Decrease in prepaid income taxes
    
    
    3,902
    
    
    
    3,987Increase in prepaid and other current assets
    
    
    (1,124
    )
    
    
    (1,130
    )(Increase) decrease in deposits and other assets
    
    
    (15
    )
    
    
    3Decrease in accounts payable
    
    
    (988
    )
    
    
    (5,346
    )Decrease in accrued liability  Shire
    
    
    (5,069
    )
    
    
    (5,608
    )Decrease in accrued compensation and related liabilities
    
    
    (1,042
    )
    
    
    (1,595
    )Increase in other accrued liabilities
    
    
    555
    
    
    
    111Increase (decrease) in deferred contract revenue, net
    
    
    277
    
    
    
    (741
    )Increase in deferred license revenue
    
    
    51,000
    
    
    
    Increase in deferred compensation liability
    
    
    134
    
    
    
    Amounts recoverable from (reimburseable to) Shire and offset against
deferred license revenue related to Daytrana approval
    
    
    14
    
    
    
    (5,170
    )Cash flows provided by (used in) operating activities
    
    
    51,124
    
    
    
    (1,036
    )Cash flows from investing activities:Purchases of property, plant and equipment, net
    
    
    (5,823
    )
    
    
    (10,462
    )Payments for patent development costs, net
    
    
    (539
    )
    
    
    (410
    )Purchase of company-owned life insurance
    
    
    (185
    )
    
    
    Purchases of short-term investments
    
    
    (1,012,385
    )
    
    
    (340,590
    )Proceeds from sale of short-term investments
    
    
    899,775
    
    
    
    289,765Cash flows used in investing activities
    
    
    (119,157
    )
    
    
    (61,697
    )Cash flows from financing activities:Issuance of common stock from exercise of stock options
    
    
    8,080
    
    
    
    1,201Payments under capital leases
    
    
    (49
    )
    
    
    (86
    )Excess tax deduction from exercise of stock options
    
    
    1,714
    
    
    
    Cash flows provided by financing activities
    
    
    9,745
    
    
    
    1,115Net decrease in cash and cash equivalents
    
    
    (58,288
    )
    
    
    (61,618
    )Cash and cash equivalents, beginning of period
    
    
    66,964
    
    
    
    93,958Cash and cash equivalents, end of period
    
    $
    8,676
    
    
    $
    32,340
 The accompanying notes are an integral part of these statements.
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NOVEN PHARMACEUTICALS, INC.
 
 Notes to Unaudited Condensed Financial Statements
   ®  ®
      6




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##### Table of Contents



Non-cash Operating Activities
  Non-cash Investing Activities
  7




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September 30, 2006
    
    
    December 31, 2005Commercial
    
    
    Pre-launch
    
    
    Total
    
    
    Commercial
    
    
    Pre-launch
    
    
    TotalFinished goods
    
    $
    1,362
    
    
    $
    
    
    
    $
    1,362
    
    
    $
    760
    
    
    $
    
    
    
    $
    760Work in progress
    
    
    2,735
    
    
    
    
    
    
    
    2,735
    
    
    
    1,278
    
    
    
    1,004
    
    
    
    2,282Raw materials
    
    
    4,037
    
    
    
    
    
    
    
    4,037
    
    
    
    3,422
    
    
    
    1,397
    
    
    
    4,819$
    8,134
    
    
    $
    
    
    
    $
    8,134
    
    
    $
    5,460
    
    
    $
    2,401
    
    
    $
    7,861
 
 8




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  
   
      9




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##### Table of Contents



2006
    
    2005Volatility
    
    
    52.8
    %
    
    
    69.0
    %Risk free interest rate
    
    
    5.17
    %
    
    
    3.88
    %Expected life (years)
    
    
    5
    
    
    
    5
 10




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Three
    
    
    NineMonths
    
    
    MonthsMarketing, general and administrative
    
    $
    649
    
    
    $
    1,791Research and development
    
    
    109
    
    
    
    333Cost of products sold
    
    
    71
    
    
    
    234$
    829
    
    
    $
    2,358Tax benefit recognized related to
compensation expense
    
    $
    198
    
    
    $
    556
    2006WeightedWeighted
    
    
    
    
    
    
    AverageAverage
    
    
    Aggregate
    
    
    RemainingOptions/
    
    
    Exercise
    
    
    Intrinsic
    
    
    ContractualSSARs
    
    
    Price
    
    
    Value
    
    
    TermOutstanding at
beginning of the period
    
    
    4,004
    
    
    $
    17.23Granted
    
    
    29
    
    
    
    17.62Exercised
    
    
    (682
    )
    
    
    11.99
    
    
    $
    6,748Canceled and expired
    
    
    (65
    )
    
    
    12.37Outstanding at end
of the period
    
    
    3,286
    
    
    $
    18.32
    
    
    $
    23,087
    
    
    
    4.05Outstanding and exercisable
at end of period
    
    
    2,274
    
    
    $
    20.91
    
    
    $
    11,313
    
    
    
    3.64
 11




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##### Table of Contents



2006WeightedAverageGrant-DateShares
    
    
    Fair ValueNonvested at
December 31, 2005
    
    
    
    
    
    $
    Granted
    
    
    34
    
    
    
    17.47Vested
    
    
    (17
    )
    
    
    17.47Forfeited
    
    
    
    
    
    
    Nonvested at
September 30, 2006
    
    
    17
    
    
    $
    17.47
   12




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Three Months
    
    
    Nine Months2005
    
    
    2005Net income:As reported
    
    $
    (1,422
    )
    
    $
    3,910Total stock-based employee
compensation expense determined
under fair value based method for all
awards, net of related tax effects
    
    
    (149
    )
    
    
    (12,119
    )Pro forma
    
    $
    (1,571
    )
    
    $
    (8,209
    )Basic earnings per share:As reported
    
    $
    (0.06
    )
    
    $
    0.17Pro forma
    
    $
    (0.07
    )
    
    $
    (0.35
    )Diluted earnings per share:As reported
    
    $
    (0.06
    )
    
    $
    0.16Pro forma
    
    $
    (0.07
    )
    
    $
    (0.35
    )
     13




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##### Table of Contents



Shire
 
  P&G Pharmaceuticals
   
 Other
  11.
    
    INVESTMENT IN VIVELLE VENTURES LLC (d/b/a NOVOGYNE):
  14




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Three Months
    
    
    Nine Months2006
    
    
    2005
    
    
    2006
    
    
    2005Revenues:Product sales
    
    $
    5,273
    
    
    $
    4,740
    
    
    $
    13,990
    
    
    $
    14,432Royalties
    
    
    1,791
    
    
    
    1,790
    
    
    
    5,138
    
    
    
    4,617$
    7,064
    
    
    $
    6,530
    
    
    $
    19,128
    
    
    $
    19,049Reimbursed expenses
    
    $
    7,125
    
    
    $
    6,576
    
    
    $
    21,043
    
    
    $
    20,196
   Three Months
    
    
    Nine Months2006
    
    
    2005
    
    
    2006
    
    
    2005Gross revenues
    
    $
    39,204
    
    
    $
    37,974
    
    
    $
    112,138
    
    
    $
    100,519Sales allowances
    
    
    4,283
    
    
    
    4,007
    
    
    
    11,622
    
    
    
    11,078Sales return allowances
    
    
    1,193
    
    
    
    192
    
    
    
    4,576
    
    
    
    1,057Sales allowances and returns
    
    
    5,476
    
    
    
    4,199
    
    
    
    16,198
    
    
    
    12,135Net revenues
    
    
    33,728
    
    
    
    33,775
    
    
    
    95,940
    
    
    
    88,384Cost of sales1
    
    
    7,529
    
    
    
    7,940
    
    
    
    22,212
    
    
    
    21,347Selling, general and
administrative expenses
    
    
    9,419
    
    
    
    9,187
    
    
    
    28,172
    
    
    
    25,627Income from operations
    
    
    16,780
    
    
    
    16,648
    
    
    
    45,556
    
    
    
    41,410Interest income
    
    
    250
    
    
    
    201
    
    
    
    564
    
    
    
    336Net income
    
    $
    17,030
    
    
    $
    16,849
    
    
    $
    46,120
    
    
    $
    41,746Novens equity in earnings of Novogyne
    
    $
    8,234
    
    
    $
    8,081
    
    
    $
    19,323
    
    
    $
    17,094
 
 1
    
    Novogynes costs of sales for all periods presented include the
amortization of the marketing rights Novogyne acquired for CombiPatch® of $1.5 million
and $4.6 million for each of the three and nine months ended September 30, 2006 and 2005,
respectively. This amortization was previously reported as a separate operating expense in
Novogynes statement of operations. 15




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Investment in Novogyne, beginning of period
    
    $
    23,243Equity in earnings of Novogyne
    
    
    19,323Cash distributions from Novogyne
    
    
    (17,644
    )Non-cash distribution from Novogyne (Note 5)
    
    
    (2,212
    )Investment in Novogyne, end of period
    
    $
    22,710
   
  
  HT Studies
  16




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® ® ® ® ®
 Production Issues
  ®     
 ® ® ®
 17




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##### Table of Contents



® ®
 ® ®  ® ®
  Supply Agreement
 ® 
 Litigation, Claims and Assessments
 ®
 ®
 18




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##### Table of Contents



® ®
  ® ®
   19




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##### Table of Contents



Item 2. Managements Discussion and Analysis of Financial Condition and Results of
Operations
  
    
    An executive summary of our results of operations for the three months ended
September 30, 2006;
    
    An overview of Noven and our Novogyne joint venture;
    
    A review of certain items that may affect the historical or future comparability of our
results of operations;
    
    An analysis of our results of operations and our liquidity and capital resources;
    
    An outlook that includes our current financial guidance;
    
    A discussion of how we apply our critical accounting estimates; and
    
    A discussion of recently-issued accounting standards.
  Executive Summary
 The following Executive Summary is qualified in its entirety by the more detailed discussion
and analysis of our financial condition and results of operations appearing in this Item 2 as well
as in our financial statements and related notes included in this Form 10-Q .
 
   
 
 
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  
  
 Overview of Noven and Our Novogyne Joint Venture
 ®  ®
 ®  ® ® ®
 ®  ® ®  ®
  21




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®   ®
 ® ® ®
 Certain Items that May Affect Historical or Future Comparability
  Cost Reduction Program
 
 22




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##### Table of Contents



DEA Quota
     
 P&G Pharmaceuticals
  
 Stock-Based Compensation
    23




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24




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Results of Operations
 Three and nine months ended September 30, 2006 compared to the three and nine months ended
September 30, 2005
 Revenues
  Three Months
    
    
    Nine Months2006
    
    
    2005
    
    
    % Change
    
    
    2006
    
    
    2005
    
    
    % ChangeProduct revenues  Novogyne:Product sales
    
    $
    5,273
    
    
    $
    4,740
    
    
    
    11
    %
    
    $
    13,990
    
    
    $
    14,432
    
    
    
    (3
    %)Royalties
    
    
    1,791
    
    
    
    1,790
    
    
    
    0
    %
    
    
    5,138
    
    
    
    4,617
    
    
    
    11
    %7,064
    
    
    
    6,530
    
    
    
    8
    %
    
    
    19,128
    
    
    
    19,049
    
    
    
    0
    %Product revenues  third parties:Product sales
    
    
    5,671
    
    
    
    3,823
    
    
    
    48
    %
    
    
    15,402
    
    
    
    11,646
    
    
    
    32
    %Royalties
    
    
    90
    
    
    
    94
    
    
    
    (4
    %)
    
    
    246
    
    
    
    242
    
    
    
    2
    %5,761
    
    
    
    3,917
    
    
    
    47
    %
    
    
    15,648
    
    
    
    11,888
    
    
    
    32
    %Total product revenues
    
    
    12,825
    
    
    
    10,447
    
    
    
    23
    %
    
    
    34,776
    
    
    
    30,937
    
    
    
    12
    %Contract and license revenues:Contract
    
    
    44
    
    
    
    769
    
    
    
    (94
    %)
    
    
    1,112
    
    
    
    1,793
    
    
    
    (38
    %)License
    
    
    2,839
    
    
    
    1,024
    
    
    
    177
    %
    
    
    7,559
    
    
    
    3,017
    
    
    
    151
    %2,883
    
    
    
    1,793
    
    
    
    61
    %
    
    
    8,671
    
    
    
    4,810
    
    
    
    80
    %Net revenues
    
    $
    15,708
    
    
    $
    12,240
    
    
    
    28
    %
    
    $
    43,447
    
    
    $
    35,747
    
    
    
    22
    %
 Net Revenues
 
 
 Product Revenues  Novogyne
  ® ® ®  ®
  25




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##### Table of Contents



 ® ®  ® ®
  ® ® ®  ® ® ®
 Product
Revenues  Third Parties
 ® ® ® ® 
  ® ®  ® ®
  ®  ® ®
 Contract and License Revenues
  26




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##### Table of Contents




 Gross Margin
   27




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##### Table of Contents



Gross Margin  Total
  Three Months
    
    
    Nine Months2006
    
    
    2005
    
    
    2006
    
    
    2005Gross Margin Total:Product revenues
    
    $
    12,825
    
    
    $
    10,447
    
    
    $
    34,776
    
    
    $
    30,937Cost of products sold
    
    
    9,041
    
    
    
    15,416
    
    
    
    27,068
    
    
    
    26,526Gross profit (product revenues
less cost of products sold)
    
    
    3,784
    
    
    
    (4,969
    )
    
    
    7,708
    
    
    
    4,411Gross margin (gross profit as a
percentage of product revenues)
    
    
    30
    %
    
    
    -48
    %
    
    
    22
    %
    
    
    14
    %Pre-launch inventory write-off
    
    
    
    
    
    
    9,475
    
    
    
    
    
    
    
    9,475Gross profit excluding pre-launch
inventory write-off of fentanyl
    
    
    3,784
    
    
    
    4,506
    
    
    
    7,708
    
    
    
    13,886Gross margin excluding pre-launch
inventory write-off of fentanyl
    
    
    30
    %
    
    
    43
    %
    
    
    22
    %
    
    
    45
    %
  
  28




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##### Table of Contents




  Gross
Margin  Sales to Novogyne
 Three Months
    
    
    Nine Months2006
    
    
    2005
    
    
    2006
    
    
    2005Gross Margin Novogyne:Product revenues
    
    $
    7,064
    
    
    $
    6,530
    
    
    $
    19,128
    
    
    $
    19,049Cost of products sold
    
    
    3,702
    
    
    
    3,521
    
    
    
    10,304
    
    
    
    9,219Gross profit (product revenues
less cost of products sold)
    
    
    3,362
    
    
    
    3,009
    
    
    
    8,824
    
    
    
    9,830Gross margin (gross profit as a
percentage of product revenues)
    
    
    48
    %
    
    
    46
    %
    
    
    46
    %
    
    
    52
    %
  ® ®  ® ®
  29




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##### Table of Contents



Gross Margin  Sales to third parties
 Three Months
    
    
    Nine Months2006
    
    
    2005
    
    
    2006
    
    
    2005Gross Margin Third Parties:Product revenues
    
    $
    5,761
    
    
    $
    3,917
    
    
    $
    15,648
    
    
    $
    11,888Cost of products sold
    
    
    5,339
    
    
    
    11,895
    
    
    
    16,764
    
    
    
    17,307Gross profit (loss) (product
revenues
less cost of products sold)
    
    
    422
    
    
    
    (7,978
    )
    
    
    (1,116
    )
    
    
    (5,419
    )Gross margin (gross profit (loss)
as a
percentage of product revenues)
    
    
    7
    %
    
    
    (204
    %)
    
    
    (7
    %)
    
    
    (46
    %)Pre-launch inventory write-off of fentanyl
    
    
    
    
    
    
    9,475
    
    
    
    
    
    
    
    9,475Gross profit (loss) excluding
pre-launch
inventory write-off of fentanyl
    
    
    422
    
    
    
    1,497
    
    
    
    (1,116
    )
    
    
    4,056Gross margin excluding pre-launch
inventory write-off of fentanyl
    
    
    7
    %
    
    
    38
    %
    
    
    (7
    %)
    
    
    34
    %
 
    
  
  30




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##### Table of Contents



Operating Expenses
  Three Months
    
    Nine Months2006
    
    2005
    
    % Change
    
    2006
    
    2005
    
    % ChangeResearch and development
    
    $
    2,527
    
    
    $
    3,826
    
    
    
    (34
    %)
    
    $
    8,899
    
    
    $
    9,752
    
    
    
    (9
    %)Marketing, general and
administrative
    
    
    6,010
    
    
    
    4,237
    
    
    
    42
    %
    
    
    16,386
    
    
    
    12,481
    
    
    
    31
    %
 Research and Development
  
 
 Marketing, General and Administrative
   31




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##### Table of Contents





Other Income and Expenses


Interest Income





Income Taxes




Equity in Earnings of Novogyne




32



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##### Table of Contents



Three Months
    
    
    Nine Months2006
    
    
    2005
    
    
    % Change
    
    
    2006
    
    
    2005
    
    
    % ChangeGross revenues1
    
    $
    39,204
    
    
    $
    37,974
    
    
    
    3
    %
    
    $
    112,138
    
    
    $
    100,519
    
    
    
    12
    %Sales allowances
    
    
    4,283
    
    
    
    4,007
    
    
    
    7
    %
    
    
    11,622
    
    
    
    11,078
    
    
    
    5
    %Sales returns allowances
    
    
    1,193
    
    
    
    192
    
    
    
    N/M
    
    
    
    4,576
    
    
    
    1,057
    
    
    
    N/MSales and returns allowances
    
    
    5,476
    
    
    
    4,199
    
    
    
    30
    %
    
    
    16,198
    
    
    
    12,135
    
    
    
    33
    %Net revenues
    
    
    33,728
    
    
    
    33,775
    
    
    
    0
    %
    
    
    95,940
    
    
    
    88,384
    
    
    
    9
    %Cost of sales2
    
    
    7,529
    
    
    
    7,940
    
    
    
    (5
    %)
    
    
    22,212
    
    
    
    21,347
    
    
    
    4
    %Gross profit
    
    
    26,199
    
    
    
    25,835
    
    
    
    1
    %
    
    
    73,728
    
    
    
    67,037
    
    
    
    10
    %Gross margin percentage
    
    
    78
    %
    
    
    76
    %
    
    
    
    
    
    
    77
    %
    
    
    76
    %Selling, general and
administrative expenses
    
    
    9,419
    
    
    
    9,187
    
    
    
    3
    %
    
    
    28,172
    
    
    
    25,627
    
    
    
    10
    %Income from operations
    
    
    16,780
    
    
    
    16,648
    
    
    
    1
    %
    
    
    45,556
    
    
    
    41,410
    
    
    
    10
    %Interest income
    
    
    250
    
    
    
    201
    
    
    
    24
    %
    
    
    564
    
    
    
    336
    
    
    
    68
    %Net income
    
    $
    17,030
    
    
    $
    16,849
    
    
    
    1
    %
    
    $
    46,120
    
    
    $
    41,746
    
    
    
    10
    %Novens equity in earnings of Novogyne
    
    $
    8,234
    
    
    $
    8,081
    
    
    
    2
    %
    
    $
    19,323
    
    
    $
    17,094
    
    
    
    13
    %
 
 N/M  Not Meaningful1
    
    Novogynes gross revenues, which are calculated by adding sales allowances and sales
returns allowances to net revenues, are discussed in this section because Novens management
believes it is a useful measure to evaluate and compare Novogynes sales period to period in light
of the significant historic fluctuations in Novogynes sales allowances and returns.2
    
    Novogynes costs of sales for all periods presented include the amortization of the
marketing rights Novogyne acquired for CombiPatch® of $1.5 million and $4.6 million for
each of the three and nine months ended September 30, 2006 and 2005, respectively. This
amortization was previously reported as a separate operating expense in Novogynes statement of
operations. Novogyne Net Revenues
  
 33




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##### Table of Contents



® ® ® ®  ®
 ®
  ® ® ®  ® ® ® ® ®
   Three Months
    
    
    Nine Months2006
    
    
    2005
    
    
    2006
    
    
    2005Changes in allowances for returns primarily of expiring product
    
    $
    1,193
    
    
    $
    192
    
    
    $
    4,576
    
    
    $
    1,057Actual returns primarily for expiring product
    
    $
    (862
    )
    
    $
    (1,174
    )
    
    $
    (3,135
    )
    
    $
    (2,909
    )
  ®  ® ®
 34




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##### Table of Contents



Novogyne Gross Margin
  Novogyne Selling, General and Administrative Expenses
   Liquidity and Capital Resources
  September 30, 2006
    
    December 31, 2005Cash and cash equivalents
    
    $
    8,676
    
    
    $
    66,964Short-term investments
    
    
    130,510
    
    
    
    17,900Working capital
    
    
    148,176
    
    
    
    91,122
  Nine Months2006
    
    2005Cash flows:Operating activities
    
    $
    51,124
    
    
    $
    (1,036
    )Investing activities
    
    
    (119,157
    )
    
    
    (61,697
    )Financing activities
    
    
    9,745
    
    
    
    1,115
 35




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##### Table of Contents



Operating Activities
  
 
 Investing Activities
    Financing Activities
  Short-Term and Long-Term Liquidity
   36




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 












37




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##### Table of Contents







Aggregate Contractual Obligations




Critical Accounting Estimates




Revenue Recognition  License Revenues


  


Stock-Based Compensation




38




---



##### Table of Contents









Recent Accounting Pronouncements






39



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##### Table of Contents



Outlook
  
    
    transactions;
    
    changes in Novens or Novogynes accounting or accounting principles (except as
indicated below with respect to Novens method of accounting for equity compensation) or
any of the estimates or judgments underlying our critical accounting policies;
    
    regulatory, technological or clinical study developments;
    
    changes in the supply of, demand for, or distribution of our HT products or
Daytrana, (including any changes resulting from competitive HT or ADHD
products, product recalls, or new HT or ADHD study results);
    
    unexpected actions with respect to our applications for methylphenidate quota;
    
    changes in our business relationships/collaborations; or
    
    changes in the economy or the health care sector generally.
  Stock-Based Compensation Expenses.
 Daytrana  
 40




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##### Table of Contents



   
 HT Product Revenues
 Gross Margin.
 Research and Development. 
 Marketing, General and Administrative Expense.
 Novogyne.
 Effective Tax Rate.
 Capital Expenditures
 
 Item 3. Quantitative and Qualitative Disclosure About Market Risk
  41




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Item 4. Controls and Procedures
   42




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##### Table of Contents



PART II. OTHER INFORMATION
 
 Item 1. Legal Proceedings
   ® ®
   
 Item 1A. Risk Factors
  43




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##### Table of Contents



Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
  Total Number ofShares
    
    ApproximatePurchased as
    
    Dollar ValuePart of
    
    That May YetTotal Number of
    
    Average Price
    
    Publicly
    
    be PurchasedShares
    
    Paid
    
    Announced
    
    under thePurchased
    
    Per Share
    
    Program
    
    Program(1)July 1, 2006 to
July 31, 2006
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    23,711,040August 1, 2006 to
August 31,
2006
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    23,711,040September 1, 2006 to
September 30, 2006
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    23,711,040Totals
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    23,711,040
 
 (1)
    
    In March 2003, we announced a stock repurchase program authorizing the repurchase of
up to $25.0 million of our Common Stock. There is no expiration date specified for this
program. 
 Item 5. Other Information
  44




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##### Table of Contents



Item 6. Exhibits
 10.1
    
    Noven Pharmaceuticals, Inc. Nonqualified Deferred Compensation Plan, as
amended and restated September 15, 2006.31.1
    
    Certification of Robert C. Strauss, President, Chief Executive Officer
and Chairman of the Board, pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant
to Section 302 of the Sarbanes-Oxley Act of 200231.2
    
    Certification of Diane M. Barrett, Vice President and Chief Financial
Officer, pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 302 of
the Sarbanes-Oxley Act of 200232.1
    
    Certification of Robert C. Strauss, President, Chief Executive Officer
and Chairman of the Board, pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant
to Section 906 of the Sarbanes-Oxley Act of 200232.2
    
    Certification of Diane M. Barrett, Vice President and Chief Financial
Officer, pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002
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##### Table of Contents



Signatures
  NOVEN PHARMACEUTICALS, INC.Date:
November 9, 2006
    
    
    
    By:

    /s/ Diane M. BarrettDiane M. BarrettVice President andChief Financial Officer
 46