Cephalon Inc. said yesterday that it would pay $425 million to settle federal and related state Medicaid investigations into its marketing practices and would agree to a single misdemeanor violation of the U.S. Food, Drug and Cosmetic Act.

The Frazer company announced the settlement along with its third-quarter financial results, in which it reported lower revenue and a net loss due to a sizeable reserve to settle the probe.

Cephalon said it reached an agreement in principle with the U.S. Attorney's Office in Philadelphia and the U.S. Department of Justice over an investigation that began in 2004 of its "off-label" promotion and sales and marketing practices.

Cephalon, which said it increased its existing financial reserves for the settlement by $369 million, will also enter into a corporate-integrity agreement with the Office of Inspector General of the U.S. Department of Health and Human Services.

In all, Cephalon has reserved $425 million to resolve the investigation.

A separate previously disclosed investigation by the Connecticut attorney general is ongoing, the company said.

While the U.S. and state Medicaid claims are settled, Cephalon chairman and chief executive officer Frank Baldino Jr. said investors and Wall Street could expect future litigation.

"What happens routinely to every company involved in these kinds of settlements is that state, local and private litigation ensues," Baldino said. "The way we look at this, the big settlement with the feds is more comprehensive and covers a lot of issues. There will be, most likely, state, local, private litigation. But that's not going to affect our business today, and will not affect our business going forward." Any additional settlements would not be nearly as large, the company said.

Cephalon posted a net loss of $306.8 million, or $4.58 a share, in the quarter ended Sept. 30, compared with a profit of $95.7 million, or $1.43 a share, in the same quarter a year ago.

Excluding the settlement reserve and other items, the company said it earned $1.08 a share, down from $1.71 in the year-ago period. Revenue fell to $438 million from $482 million.

Sales of the company's pain medications, including Actiq, which is facing generic competition, sank 33 percent. Actiq sales were $56 million, compared with $181.7 million a year ago.

Wall Street analyst Corey Davis at Natixis Bleichroeder Inc. said the $425 million settlement was in line with his expectations, especially after the Food and Drug Administration warned in September of potential fatal side effects linked to Cephalon's Fentora narcotic pain medicine after reports of several deaths.

"The law hasn't changed in years. It's the government's interpretation of the law that's changed," Davis said in an interview.

"We are in a gray area: Did they promote off-label or not? I think the answer is formally 'no, they did not,' according to the law," he said. "Did they call on physicians who might not otherwise write a prescription for Provigil, if they were not called on? Perhaps."

Davis said it was "good for all parties" to get the litigation behind them.

In September 2004, the U.S. attorney in Philadelphia subpoenaed documents about Cephalon's sales and marketing of pain medication Actiq and two other products: Provigil for sleep disorders and Gabitril for epilepsy.

The Connecticut attorney general began a probe after information about off-label use and problems with diversion, or illegal use, of Actiq after the death in 2003 of a Southington, Conn., woman. Actiq, a berry-flavored narcotic painkiller on a stick, is approved only to treat so-called breakthrough cancer pain. But doctors widely prescribe it "off label" to treat other types of pain, such as migraines and backaches.

While doctors are free to prescribe medicines for any condition they think appropriate, drug manufacturers can promote products in the United States only for uses approved by the FDA.

"We have worked to enhance our policies and practices in our commercial operations that are not only consistent with the letter, but also the spirit of the law," Baldino told investors on a conference call.

Cephalon's goal "is to build compliance into the very fabric of our operations." To that end, the company recently elevated the post of chief compliance officer to executive vice president reporting directly to the CEO "with a dotted line to the audit committee of the board," Baldino said.

On Nov. 1, Cephalon named Valli F. Baldassano, a former partner at Fox Rothschild L.L.P., as its new executive vice president and chief compliance officer. Previously, she was an assistant Philadelphia U.S. attorney investigating cases of health-care fraud and public corruption.

Shares of Cephalon, which released its earnings and news of the settlement after the close of trading on Wall Street, closed up $1.09 yesterday at $74.13 on the Nasdaq. Shares fell as low as $72.01 in after-hours trading.

Contact staff writer Linda Loyd at 215-854-2831 or lloyd@phillynews.com.