Macro Tsimmis

intelligently hedged investment

Neurocrine Biosciences (NBIX) update #4

Posted by intelledgement on Thu, 13 Dec 07

Wow. It has not been a good couple of days for our biotech, Neurocrine Biosciences (NBIX).

The company announced that yesterday, the FDA issued an approvable letter in response to NBIX’s revised New Drug Application (NDA) for their prospective insomnia product, indiplon. This in itself was a big surprize and very disappointing, in that the FDA had issued an approvable letter in response to NBIX’s original NDA for the product back in May 2006 and the company took a year to respond to all the concerns the agency had listed in that letter (and then the FDA took six months to review the response). Thus it was widely expected that the FDA would approve the product this time around.

Even more surprizing were the concerns the FDA cited for not approving the product this time.

First of all, they want a new study focused on safety and efficacy for elderly users of indiplon. This actually echoes a concern expressed by the agency in May 2006, but the company had worked with the agency for months thereafter and management believed they had mutually agreed that no additional study was necessary. The resubmission of the NDA included significant safety and efficacy data for elderly users. Apparently either management misunderstood months of guidance by the agency, or the FDA changed their minds.

Second of all, the agency wants a new safety study comparing indiplon with an unnamed product already on the market focusing on major adverse effects such as sleepwalking. Such events appear to be very rare with indiplon—there was only one at the applied for dosages of 5mg and 10mg in all the studies conducted to date—and so it would appear on the face of it that to obtain a meaningful statistical base of such AEs would require minimally a six-month study with a 5,000 or more patients. This requirement is unprecedented—no other approved sleep remedy has ever been tested in this way—and would be very expensive.

The third concern is even more bizarre. The agency wants a new study on the effects of indiplon on third-trimester pregnant animals. Indiplon was administered to pregnant animals as a matter of course during pre-human testing and there were no indications of any effect on mammalian fetuses but the agency now wants an expanded study focusing on this issue. This is particularly weird in view of the fact that indiplon is not indicated for use by pregnant humans (nor is any insomnia remedy currently approved for use by the FDA; nor has such a special study ever been required before).

Management conducted a teleconference this morning and are evidently clueless. They plan to meet with the FDA in the next few weeks to seek clarity with respect to the agency’s concerns, but clearly investors at this point need to discount indiplon completely. If the FDA does not ameliorate their demands, it is probably too expensive for NBIX to pursue approval. And even if the agency does relent in part, does it make sense to throw good money after bad when apparently they are apparently either unwilling to approve new insomnia remedies or so incompetent as to be likely to come up with fresh irrational objections?

So kissing the $100MM-to-$250MM of projected indiplon annual revenues goodbye, is NBIX still worth owning here? We still have a potential $1B+ product: the GnRH antagonist receptor anti-endometriosis agent currently in phase 2b testing. The problem is that revenues there are three years away at best, and the company has only $125MM cash. Layoffs are coming—the company had built up a sales staff in anticipation of FDA approval of indiplon—the costs of which will eat into that hoard. In any event, the cash on had might cover a year of operations at best. So a need for additional financing to the tune of $200MM or so before we see any serious income is probable. At the close yesterday (management did not announce the FDA decision until 3am today), the company had a market cap of $378MM…so for the sake of argument, if this bizarre FDA decision costs shareholders $200MM, then let’s say the company should now be worth $178MM. In point of fact, the stock opened today at $5.50—an overnight decline of 46%, in keeping with our observation about it being a bad couple of days for NBIX—which amounts to a marketcap of $203MM, so evidently The Street more or less concur with this back-of-the-envelope figuring.

Of course, what The Street say the company is worth, while interesting, is not how we determine valuation. (Logically, if it were, then there would never be any reason to buy or sell a stock, as the current valuation as determined by The Street would always be correct.) If we posit GnRH agonist approval in early 2011 and sales ramping up to $1B in the next four years, then at a valuation of 15x sales, NBIX should be worth $15B by 2015. But the GnRH agonist product is still in phase 2, and the FDA have gone insane, so let’s discount heavily for risk…say, 40% per year? Working backwards, a reasonable valuation for NBIX would then be about $250MM here.

So bottom line, we think The Street have overshot the mark here in correcting NBIX’s valuation, and we are sticking with the company. Since May 2006—when the nonapprovable letter with respect to the 20mg tablet killed off the chance for $1B revenues—indiplon has been a sideshow. Management should attempt to sell the drug to a better-capitalized company in need of product who can afford to contend with the FDA’s schizoid demands. The focus now has to be on the GnRH product. In today’s teleconference, NBIX CEO Gary A. Lyons stated that he expected to be able to announce a partnership agreement with respect to the GnRH product by early January, possibly by the end of the year. That could be a good next step towards realizing the inherent potential value.

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