Biotech Investor Realism with Andrew Fein

Source: Peter Byrne of The Life Sciences Report (8/29/13)

Expert healthcare company watcher Andrew Fein of H.C. Wainwright & Co. knows how the sausage is made in the stock analyst factory. And he doesn’t pull any punches: In this interview with The Life Sciences Report, Fein dishes out praise for sticking to sellside fundamentals and suggests skimming off bloggers who have yet to earn their analytical chops. He rounds out the menu by naming biotech companies with the potential to rise to the top of the simmering biotech market.

The Life Sciences Report: How has the nature of biotech investing changed since you began analyzing healthcare biotech equities in 2000?

Andrew Fein: Clearly, the web as a source of “investment analytics” is a new paradigm. With so much collectively generated information available on the web, investors are forgetting to analyze individual data points, such as talking directly to physicians and medical experts. Folks who write opinionated investment blogs and emit endless Twitter streams are disproportionately influencing the movement of stocks outside of the traditional analytical Wall Street paradigm. There is always room for new and thoughtful analysis, but it is troubling when the background of the source of what is promoted as important information is unclear. And, unfortunately, hidden biases and agendas often influence the opinion of the non-traditional analyst—such as trying to pump up his or her book.

TLSR: How can investors distinguish between the professional abilities of competing analysts?

AF: When I started in this game, the folks who held senior spots at the big banks were legendary analysts with tremendous tenure and gravitas. The overall experience level at the biggest banks has contracted during the past few years, as sellside analysts have retired or migrated to the buyside or to industry. The interesting upshot of this phenomenon is that there is now an opportunity to take advantage of the online information disconnect by sticking to traditional analytical fundamentals.

Judging the true capability of an analyst goes beyond whether he or she has a track record of being directionally right, because the froth of both bull and bear market analytics can hide a lot of sloppy research. It is easy to look like a seer in a bull market, and it is not hard for a cynic to look correct in a bear market. But it is not just the directional movement of the stock that matters: It is the depth of the underlying research that separates out the best analysts. I listen to bank analysts with a good track record and a history of doing highbrow, thoughtful research with quality quotients based on market fundamentals. Thorough diligence will always drive the day.

TLSR: How does following the fundamentals play out in practice?

AF: The fundamentals include speaking directly with physicians and people in the industry, doing surveys and intermingling with folks at various scientific conferences—especially the one-off meetings, not just the ones with hundreds of people in attendance, like the annual American Society of Clinical Oncology (ASCO) conference. The information garnered at a large conference is not very proprietary, but when I go to the random European medical conference, with not a lot of people milling about schmoozing, I can find proprietary information. The lesser-known gatherings are where an analyst really gets a chance to stress test a thesis by talking to experts and thinking about things in a different light.

And a good analyst will not only cover smaller companies. Analytical chops are earned by making excellent research calls on stocks that are large enough and liquid enough to matter to the big institutions. Alternatively, if the analyst just covers the large names, his or her clients will miss out on a lot of the great, disruptive science happening at the smaller companies. To gain a thorough understanding of the therapeutic landscape, a healthcare analyst must cover companies across the market cap spectrum, in my opinion.

TLSR: Will a good analyst say when it is time to sell?

AF: If an analyst uses a structured valuation methodology and a company hits its price target, it only makes sense to reduce exposure to the name and take the profits—unless there is a material event or catalyst that causes the analyst to readjust the probability of continued success.

TLSR: Will we return to the glory days of biotech IPOs?

AF: The overall quality of the IPO group this year has been quite good. The closed IPO window of the past several years has allowed the various technologies housed within private companies to mature. We are seeing a macro shift toward the orphan disease space, which is very investor-friendly because it shortens the regulatory timeline. It is certainly more reasonable for a small company to focus on an orphan disease than to go into products that require command of a larger resource base, such as addressing psoriasis, rheumatoid arthritis or cardiovascular disease.

TLSR: Where do small biotechs access capital these days?

AF: The financing market is quite friendly toward both large and small biotechs. The biotech market is, in fact, hot, and we are seeing more generalists’ money flow into it. There is no shortage of capital. This is very different from 2008, when companies simply could not access capital.

But it is not a free-for-all. Firms must still validate claims with data. And small companies that were around before the crash may need to redefine themselves—sometimes a company needs a second baptism to get back onto the radar screens of analysts. They need to reintroduce themselves and let investors know how their pipelines have advanced and, especially, how they have rebranded preexisting programs as new constructs that are better suited to the newest technologies.

TLSR: What about licensing deals?

AF: A small biotech company will get much better terms from a potential partner if it takes enough money from the investment community to allow its science to mature and to accumulate the validating data it will need to engage potential partners. Historically, some companies were so desirous of gaining the perceived validation that comes from larger pharma or larger biotech partners that they gave up a lot on the backend, which ended up hurting them down the road.

Pharma does not have a lot of risk tolerance. The majors are highly interested in disruptive science, but they require solid validation of the scientific approach before they’re willing to go in whole hog. Pharma is valuation-sensitive and not willing to chase stocks or partners at any price.

TLSR: What biotech stocks are good values today?

AF: On the large-cap side, we like United Therapeutics Corp. (UTHR:NASDAQ) and Vertex Pharmaceuticals Inc. (VRTX:NASDAQ). United Therapeutics, in particular, has fallen out of favor somewhat, especially relative to the level of investor interest in the name 5–6 years back. Institutional holders have shifted from a largely biotech specialist group to a mix of value and generalist stocks. The upshot is that incremental buying on the part of healthcare specialists, as they reengage with the name, ought to have a very positive impact on United Therapeutics’ share price.

As for Vertex, as we get closer to the 2014 data readout in the company’s ongoing combination study of ivacaftor + VX-809 in cystic fibrosis (CF), investors will start to realize that Vertex’s study is extraordinarily overpowered and that the product’s probability of success is really high. Given that this will be the first corrector-potentiator combination available in the cystic fibrosis market, Vertex is going to define its own level of clinical significance.

What I do expect, though, is increased focus on the secondary endpoints (such as weight gain) as we get closer to the time of data readout. This could prove fodder for shorts, as we have not seen enough data to support secondary endpoint improvements. Nonetheless, it will simply be noise, as a statistically significant improvement in the study’s primary endpoint (relative improvement in lung function; forced expiratory volume in one second [FEV1]) ought to lead to approval.

TLSR: What is overpowered about the Vertex study?

AF: Vertex is a rock star within the cystic fibrosis patient community. A simple perusing of the various cystic fibrosis patient blogs readily drives home this point. The VX-809 phase 3 studies are powered at 90% to detect a 5% difference in relative FEV1 improvement. Given that just about every cystic fibrosis patient wants to be involved with its state-of-the-art clinical study, the company is able to enroll the ideal patients, those with forced expiratory volume predicted in the range of 40–90%. Patients in that range at baseline are best suited to demonstrate small changes in lung capacity. The company’s positive perception within the CF community should also yield “flash” over-enrollment in the study, shortening the study’s timeline and padding its statistical buffer.

Then the question becomes: Are the results clinically significant or statistically significant? We believe the statistical significance bar will likely be regarded as a substitute for clinical significance, given the absence of a gold standard for clinically significant benefit in CF. Upon approval, we think even a modestly efficacious drug will become a significant commercial success.

TLSR: Does United Therapeutics have something similar going on?

AF: The big question mark with United Therapeutics is the degree to which it will be impacted by patent expirations. It holds a greatly underappreciated patent through 2029, which means that there is overlooked inherent value in United Therapeutics.

TLSR: What is that patent?

AF: United Therapeutics has a patent on the diluent used with Remodulin (treprostinil), one of its pulmonary arterial hypertension (PAH) therapies. Several years back some patients developed sepsis while using intravenous Remodulin, and to address that issue, United Therapeutics developed a new diluent with a higher pH for use with intravenous Remodulin. The company patented the diluent very smartly. The legal result is that even if a generic version of Remodulin is introduced, it cannot be introduced with the new diluent. A patient using the generic will likely feel the psychological threat of being at an increased risk for sepsis infection—a threat that could be niftily avoided by using the branded product with the branded diluent.

Remember too that physicians are, by nature, risk adverse, and unlikely to switch a patient’s treatment regimen if it is producing results, particularly in a complex disease like PAH. Additionally, United Therapeutics has strong physician advocates in the U.S., and we believe their long-standing relationships with the company will lead, at most, to a slow phasing-in of any generic into their clinical practice. Last, if United Therapeutics is successfully able to introduce implantable pump delivery, the company may maintain patients on Remodulin for the long term.

TLSR: Do you have any companies in the mid-cap arena, around $450 million ($450M)?

AF: Kamada Ltd. (KMDA:NASDAQ) is a relatively unknown Israeli company that is doing very well. It is listed on the Tel Aviv Stock Exchange and the NASDAQ. It has an intravenous form of a drug for alpha-1 antitrypsin (AAT) deficiency, which causes lung and liver disease, that is partnered with Baxter International Inc. (BAX:NYSE).

With $74M/year in revenue expected in 2013 (per company guidance), Kamada’s earnings before interest, taxes, depreciation and amortization (EBITDA) are positive, which is extremely rare for a small biotech. It also owns 100% of the rights to an inhaled formulation of its AAT therapy coming down the pike. The phase 3 study in Europe for the inhaled formulation should read out in January 2014. If the data are positive, the situation should mirror what happened after United Therapeutics introduced inhaled Remodulin, which did not cannibalize sales of intravenous Remodulin. The inhaled product grew the overall market size, because patients who were not on the intravenous therapy of necessity now had a more user-friendly therapy available to them. I think the same is likely to happen in the AAT deficiency space.

TLSR: What are the advantages of Kamada’s inhaled therapy?

AF: It is easy to use in the home—a patient takes a twice-daily inhalation with a portable nebulizer, so he or she is not tethered to an IV once a week. Much like the business model for United Therapeutics, Kamada is extraordinarily leveraged. The selling, general and administrative spend required is extremely low. The company could easily be earning in excess of $7/share by 2020 if the inhalation therapy study is successful.

TLSR: Is there a target price?

AF: We have a $17 target price on Kamada.

TLSR: How about mid caps or large caps in the weight-loss space?

AF: I harbor some concern about the current product lines of a number of the obesity names. It is hard to see patients lining up for some of these weight-loss products when the side effects are so annoying. Dry mouth, for example, does not seem particularly scary when listed as a side effect on a chart, but it is awful to live with on a daily basis. And the user who is not committed to the daily intake of these medications will not experience the promised weight loss.

The bottom line is that these are just not great drugs as a class. At the end of the day, the marketing spend required in the current obesity space is extremely high. I do not see any material event coming that will fundamentally alter the revenue course in that class of drugs. The obesity space, with the currently marketed therapies, may be fundamentally broken. Of the group, one can highlight Orexigen Therapeutics Inc. (OREX:NASDAQ) as having an investable catalyst ahead, but its longer-term prospects are unlikely to differ from those of the other companies in the space.

Looking forward, there are two private companies, Zafgen Inc., and Rhythm Pharmaceuticals that have very interesting data on new drugs that could be game changers in the obesity space. Keep your eyes on them.

TLSR: What about the small caps?

AF: Synthetic Biologics Inc. (SYN:NYSE.MKT) should be partnering its multiple sclerosis program soon. That ought to free up enough capital for the firm to focus exclusively on the anti-infective space and, most notably, on its Clostridium difficile (C. difficile) program. The preclinical data for a trial is early at this point, but the scientific rationale makes a lot of sense. And the company has a very solid management team.

TLSR: What is the scientific rationale?

AF: Rather than treat C. difficile after it occurs, Synthetic’s approach treats it prophylactically. The company’s drug (SYN-004) is a second-generation beta-lactamase enzyme developed to preserve gastrointestinal microflora and prevent opportunistic C. difficile infection, which is a growing problem in healthcare facilities and has overtaken methicillin-resistant staphylococcus aureus (MRSA) as the most frequent hospital-acquired infection. Given the wave of consolidation and investor interest in the anti-infective space, Synthetic’s stock could do well.

TLSR: Any more names in the small-cap space?

AF: NeoStem Inc. (NBS:NYSE.MKT) and CytRx Corp. (CYTR:NASDAQ) are examples of stocks that investors need to get reacquainted with. Both stocks have been around for a while, as have the management teams.

NeoStem is slated to have data readout next year, which ought to validate its stem cell-based treatment for heart disease. The company’s lead therapy, AMR-001, is an autologous bone marrow enrichment of two cell types, and is in a phase 2 study called PreSERVE for ST-segment elevation acute myocardial infarction (STEMI). Enrollment in the study is on track to complete by year-end 2013, and we should get phase 2 data by the second quarter of next year. We believe the study is well powered to show a meaningful benefit in therapy.

CytRx has had a few interesting data points of late. In mouse models in the treatment of glioblastoma, the company has shown that its new drug, aldoxorubicin, can cross the blood-brain barrier. Doxorubicin, which is used in the treatment of a variety of cancers, is not able to cross that barrier. Additionally, by year-end, we should get phase 2b study results from a head-to-head comparison of aldoxorubicin and doxorubicin in treatment-naïve soft tissue sarcoma. We believe results from this study will be positive and ignite investor interest in CytRx.

TLSR: Anything in the cancer treatment space?

AF: CEL-SCI Corp. (CVM:NASDAQ), which targets cancers and other diseases with immunotherapies, is in a very large, phase 3 study with its Multikine (leukocyte interleukin injection) program in head-and-neck cancer, but we do not know when we will get the data. The company needs to create news flow and investment catalysts, which it is not currently generating from the Multikine program. Stay tuned.

TLSR: Any final thoughts?

AF: It has been a great time for biotech. The macro indicators suggest that the ride will not end any time soon.

TLSR: Thanks, Andrew.

AF: My pleasure.

In May 2013, Andrew Fein joined H.C. Wainwright & Co. as managing director and senior biotechnology analyst to cover companies in the biotechnology and life sciences sectors. He has 13 years of experience in healthcare and biotechnology equity research. He was previously a senior analyst at Chardan Capital Markets and held prior research positions at Jefferies & Co., Piper Jaffrey, Collins Stewart, Leerink Swann LLC and J.P. Morgan.

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DISCLOSURE:

1) Peter Byrne conducted this interview for The Life Sciences Report and provides services to The Life Sciences Report as an independent contractor. He or his family own shares of the following companies mentioned in this interview: None.

2) The following companies mentioned in the interview are sponsors of Streetwise Reports: Synthetic Biologics Inc., CytRx Corp., NeoStem Inc. Streetwise Reports does not accept stock in exchange for its services or as sponsorship payment.

3) Andrew Fein: I own, or my family owns, shares of the following companies mentioned in this interview: None. I personally am, or my family is, paid by the following companies mentioned in this interview: None. My company has a financial relationship with the following companies mentioned in this interview: CytRx Corp. I was not paid by Streetwise Reports for participating in this interview. Comments and opinions expressed are my own comments and opinions. I had the opportunity to review the interview for accuracy as of the date of the interview and am responsible for the content of the interview.

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