Forget the Dog Days: Biotech Stocks Poised to Perform


"While the dog days of summer have been tough on biotech investors, fall is just around the corner. The outstanding performance of the biotechs year-to-date should attract investors who may have missed out on the earlier strength in the sector."

The "dog days" of August have not been kind to the biotechs. Last week we witnessed two more biotech companies selling off in the heat of the summer. Hepatitis C (HCV) drug developers must feel like they live in the Wild West of Old, where today's champion is just as likely to end up with a tombstone tomorrow.

Last week, Idenix Pharmaceuticals (IDIX) was big news in the biotech sector after blowing up and losing 30% in value. The bad news was that the FDA had placed its lead compound for hepatitis C, IDX-184, on partial clinical hold. According to IDIX, the hold on clinical trials is based on FDA caution related to a serious cardiovascular event seen with a competing, but similar, compound from Bristol-Myers Squibb, BMS-986094.

While it may a bit early to make IDIX a tombstone, Wall Street analysts served as undertakers last week as they carefully measured the size of IDIX's potential coffin. (Last week Bristol-Myers Squibb abandoned BMS-986094 after one patient died of heart failure and nine others were hospitalized during the phase 2 study. The move comes less than a month after the company suspended the trial due to safety issues among patients.)

Despite IDIX telling investors on a conference call that IDX-184 has different properties than BMS-986094, the two compounds are very similar and become the same active drug once in the body. IDIX is hoping that the different steps to convert these drugs to their active forms is reason enough to believe that their toxicity profiles will differ. Given the compounds' strong similarities as they are "chemical cousins," the FDA's caution makes sense. IDIX is currently tasked with trying to track down 67 patients who took its drug so they can perform cardiac tests on them. All of the patients have been off the medicine for at least a month, the company said on the conference call.

The goal of HCV drug developers is to create, for HCV patients, an all-oral regimen that does not include the injected therapy interferon, which can cause significant side effects such as fatigue and flulike symptoms. About 180 million people worldwide are chronically infected with HCV. The global hepatitis Cmarket was estimated at $6 billion (B) in 2011 and is forecasted to grow to $20B until the end of the decade. The combination of this huge and growing market and insufficient efficacy of interferon-based therapy has generated an immense interest among investors. Going forward, we will take a hard, close look at IDIX and 184 to evaluate if they can emerge from the FDA’s clinical hold relatively unscathed.

We also saw Vivus Inc. (VVUS) stock sink last week after Wall Street (Jefferies) downgraded the stock to Underperform from Hold based on its belief that doctors may prescribe two generic drugs, topiramate and phentermine, instead of VVUS's Qsymia, a combination of the two. In a note to investors, Jefferies stated that insurers are unlikely to cover Qsymia and this will provide doctors with a strong incentive to prescribe the two generic drugs instead, the firm argues.

VVUS counters that doctors will be reluctant to prescribe the generic pills for an off-label use, i.e. obesity treatment, due to liability concerns. Jefferies, after studying the matter, said it is "increasingly skeptical" about this argument. Finally, the firm, noting that VVUS itself used the two generic pills during a proof of concept study, said data suggests that there's no material difference between the effectiveness of VVUS' Qsymia and the two generic drugs.

We have spoken to many obesity experts over the years and many have consistently said that they already prescribe the generic combo whenever they feel it can help a patient. Jefferies reduced its estimate for peak Qsymia sales to $1.2B from $3.6B and slashed its target on the shares to $16 from $31.

This is just one of the many problems facing VVUS. We have always been skeptical regarding the potential size of the obesity market as the largest-selling obesity drug in history has never topped $1B in sales. Roche's Xenical achieved peak sales of $600M in 2001. The primary reason is that initially, a large number of obese patients will try a new drug, and within two years almost all of the patients will have stopped. A 2007 article in the International Journal of Obesity clearly illustrates the problems of recent obesity drug launches. Researchers used administrative data from British Columbia to track 17,000 users of Xenical and 3,500 users of Meridia. They found that after two years, only 2% of patients were still taking their medicines. We continue to believe that the obesity market is smaller and more fragmented than the VVUS bulls will let on.

While the dog days of summer have been tough on everybody, including biotech investors, fall is just around the corner. This means biotech will be back on investors' radar screens as the slew of upcoming investor conferences will provide an excellent opportunity for the biotechs to tell their compelling investment stories. The outstanding performance of the biotechs year-to-date should also add more investors to the space who may have missed out on the earlier strength in the sector.

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