Saturday, July 25, 2009

Decoupled moves in Biotech indices highlight opportunities and challenges

The chart below shows returns for the last 6 months of the two Biotech indices that I follow: BTK and NBI.

After a significant and equivalent downside move in March, both indices have turned positive with an explosive move since middle of July. I speculate that the March downside move was a response to concerns over Obama's health care proposal and its impact on Medicare. However, upon further examination, the adjustments in Medicare rebates would translate to no more than a double digit change in revenues. Moreover, the biotech story is in large a product story where launch of a new product has a much higher impact on revenues than any adjustments in rebate system which can be overcome with cost and price adjustments and while keeping healthy profit margins.

The explosive returns in July are rather interesting and may be indicative of things to come. The divergence in the charts of two indices (35% return for BTK vs. 12% for NBI) underlying story of the biotech industry. This trend indicates a value disparity between mid-large cap biotechs and smaller companies. The BTK move can be contributed to recent earnings and product advancement reports coming out of Celgene (CELG), Gilead (GILD), Amgen (AMGN) and other pharma companies that highlight decent earnings growth despite a challenging environment in addition to value added product development successes.

The M&A activity over the last few quarters have just contributed positively to perceived value of these stocks as the recent acquisition of Medarex (MDRX) highlights a larger trend of big pharma acquiring biologics assets and capabilities. This has resulted in speculative run-ups in shares of other companies such as Elan(ELN) and Seattle Genetics (SGEN) who have biologic portfolios. This trend, however, could reverse as rapidly if no new deals are announced in the next few months.

The muted returns in the NBI index highlights the financing concerns that still remain for smaller companies which may cause a wave of consolidations, bankruptcies and asset sales at depressed values.

My favorite large cap names are Genzyme (GENZ) and Amgen(AMGN) and Biomarin (BMRN) and Vertex (VRTX) among mid-sized companies.

Disclosure: The author has no direct stock or option positions in any of the stocks mentioned in this article.

Saturday, July 11, 2009

Rigel's Phase II Rheumatoid Arthritis drug data are good but financing remains a challenge

On July 9th, Rigel Pharmaceuticals (RIGL) announced the results of TASKi2, a 457 patient Phase IIb Rheumatoid Arthritis study that in most part showed R788 ( a Syk kinase inhibitor) has efficacy similar to existing injectable anti-TNF medications (although it was not a head-to-head comparison). There were some safety issues associated with neutropenia that were somewhat expected and transient.

Despite multiple multi-billion dollar products on the market (Enbrel, Remicade and Humira), there is still room for products that are easier to use and have better efficacy/safety profile. R788 has addressed the ease-of-use problem by being an oral therapy; giving it a large competitive advantage. The pending Taski3 study may shed some light on whether Syk inhibition, with a mechanism of action that is more upstream than Anti-TNF therapy, can be proven to be efficacious in patients who do not respond to Anti-TNFs. This is a large hurdle to pass. Inhibiting Syk enzyme, an intracellular signal transduction enzyme, may affect many inflammatory pathways and may result in a more potent response, however for the same reason, it may me more toxic.

There is low probability that Taski3 data will be overwhelmingly successful. Given the patient population and existing safety issues of the product, it is more prudent to expect a mixed set of results. The results of this study should be considered an upside option on the product. Even if it is not succesful, R788 has a clinical path to market (perhaps a less expensive one!).

Financing is a big hurdle that Rigel and other biotechs are facing this year. With less than one year of cash on hand ( about $100 million with a $100 million plus burn rate and increasing!), the company has to either partner or raise capital through equity offering. The company has already disclosed willingness to partner the product. However, this will most likely not happen until Rigel has met with FDA in october regarding its Phase III clincical trial plans.

So who are the most likely parnters? Amgen (AMGN), J&J (JNJ) and Abbott (ABT) seem obvious as they have existing products in this therapeutic area ( mentioned earlier) and have exisitng sales force serving the physicians and plenty of cash to fund the trials.

So what should we expect of a partnership deal? Given Rigel's cash position, it will not be able to spend much money on development costs and therefor should expect to give most of the sales revenues away. Recent deals involving phase II/III products imply an upront cash payment of $50-100 million, with additional $100-400 milion in development milestones and double digit tiered royalty. The payments may be significantly larger if the deal includes all possible indications (other inflammation, cancer?) and geographic territories. This may sound like a great deal but it may not be a home-run most investors are expecting. A large value builder would be a deal, or a series of deals, that would result in large profit shares in the future.

Eariler, the company had announced a decrease in work force and programs. I consider these annoucnements as events that lower value as they most often mean that the company can not sustain its investments in multiple programs and is relying on one drug to make it. But this potential partnership deal would add to Rigel's cash position and would verify R788, and syk inhibitors, as a credible commercial drug. And if you believe R788 is at least a billion dollar drug, it would result in a few hundred million in revenues.

One point of caution is competition; although I am not aware of other syk inhibitors in the clinic, this data may result in more competition from this and other kinase inhibitors. There are also many injectable and oral RA products in development.

In summary, R788 Phase IIb results are impressive and Taski3 may provide an indication for this drug with limited competition. With a recent restructuring, it is obvious that the future of the company now solely rests on success of R788. The stock will have volatility depending on Taski3 results and a lucrative parntership deal in Q4. I would recommend to buy RIGL shares, trading around $13 , considering the speculative nature of the impending binary events, and to take profits within a year or if the company's valuation significantly advances beyond $750 million as I still see development and financial risks to the company and do not see much value in earlier pipeline program without further funding and partnerships. I would not be surprised if the company announces dilutive financing through offering shares in Q4 2009 or 1H 2010.

Disclosure: The author does not have any positions in RIGL.

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