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The small pharmaceutical sector has significant investment potential for investors lucky enough or wise enough to choose solid companies with significant upside possible. However, the downside risk due to clinical failures, dilutive financings, lost partnerships, expensive regulatory and marketing paths, competition and a host of other concerns often keep the more conservative investors away due to the risks involved. One alternative to having exposure to this promising sector, but keeping risk to a minimum, is by having only a limited exposure to one or two stocks. Nonetheless, risk can never be eliminated, only minimized with these often development-phase companies. With reduced exposure also comes reduced upside in the event of positive catalysts.

I have chosen a different avenue to my investment approach with regard to these possible upcoming gems. Rather than limiting my exposure to one or two small positions in development-phase small pharma, I have decided to have a larger portion of my portfolio dedicated to such high-risk, high-reward possibilities via my own method of diversification. In order to minimize risks associated with any one company or even one type of technology or sector, I have chosen to maintain holdings of what I consider to be top-tier small pharmaceutical representatives of differing sectors. This gives me greater exposure to the upside potential via upcoming catalysts in small pharmaceuticals while limiting my downside due to new competitions within certain indications, sector-wide failures (for example, solar energy has been doing poorly as a sector for many years running now), or simple bad choices of picks made in general.

The companies I wish to present are not the sector leaders, but rather are what I consider to be among the best small pharma members of the sectors. Their upside potential is based not only on current depressed share prices, but also on the markets targeted, their current financials, pipeline progression/diversification and stock technical analysis. Article size limitations and time constraints prevent me from presenting all of my sector favorites, but I hope to present what could be the beginning of investor due diligence into my favorite possibilities that should be investigated more thoroughly by interested investors.

Immunotherapy-based Treatment of Cancer - Celldex Therapeutics

Celldex Therapeutics (CLDX) is one of the small pharma leaders that is trading as it should with its extremely promising pipeline-up 140% YTD. The company's lead product candidate is rindopepimut, a vaccine targeting a tumor specific oncogene called EGFRvIII, a mutation of the epidermal growth factor receptor [EGFR]. The EGFR protein has been well-documented as a target for cancer treatment, but presents some safety concerns, as EGFR is also present in healthy tissues. Its EGFRvIII variant, meanwhile, has not been detected at appreciable levels in healthy tissues but is present in multiple cancer types. Celldex has been garnering investor attention due to rindopepimut's clinicals in treating front-line glioblastoma (a deadly brain cancer) and recurrent glioblastoma. EGFRvIII is found in about 31% of glioblastoma tumors, and patients having these expressions are the targeted group for rindopepimut's current clinicals.

Celldex started the year off with a significant catalyst, and has been keeping investors' interests ever since. On January 4th, the company announced the enrollment initiation for rindopepimut's phase 2 trial for recurrent glioblastoma, termed the ReACT study. The trial will enroll 95 patients, all of which will receive Genentech's (OTCQX:RHHBY) Avastin® (bevacizumab), 70 Avastin® naive patients will be randomized to receive either rindopepimut or a control injection of Keyhole Limpet Hemocyanin [KLH] in a blinded fashion, while 25 who are refractory to Avastin® will receive rindopepimut plus Avastin® in a single treatment arm. Patients in all three arms of the trial will be evaluated for progression rate at six months (PFS6), objective response rate [ORR], overall survival [OS] and progression free survival [PFS]. With 20 sites across the U.S. enrolling and treating patients, I anticipate enrollment completion in early 2013 with PFS6 (six month) readout following. The company initiated the pivotal phase 3 trial evaluating rindopepimut for front-line glioblastoma, termed the ACT IV study, on December 1, 2011. The trial is expected to enroll 440 patients internationally, with 374 patients with Gross Total Resection [GTR] for the primary analysis. In its Q3 2012 filing, the company noted that enrollment was progressing with 150 sites around the world recruiting for the ACT IV study, with 105 of those actively screening patients. It also noted that 21 sites were screening to date for the ReACT study.

Rindopepimut is promising for the company as it showed much hope in early-stage trials. In three phase 2 trials termed ACTIVATE, ACT II and ACT III, clinical results were consistent with progression-free survival from diagnosis at 14.2, 15.3 and 12.3 months, while median overall survival [OS] from diagnosis was 24.6, 24.4 and 24.6 months, respectively. With many investors watching for interim data for the two currently-enrolling trials, the company did release 3-year survival data for the ongoing ACTIVATE, ACT II and ACT III trials. Rindopepimut continued to impress with 3-year overall survival at 33%, 23% and 26%, respectively. This compares very favorably to historical controls with a range of 6% to 18% OS at 3 years.

As of September 30th, Celldex had cash and equivalents of $77.6 million which it noted as funding development of its pipeline into 2014. Trading under its 52-week high of $6.71, interested investors are advised to make entries either at price dips or at confirmed breakouts. With a diverse pipeline, Celldex has potential for many catalysts in the coming days and months, both known and unknown. Additional research is also advised for its breast cancer drug CDX-011, which is deep into its phase 2 trial (termed the EMERGE study) with results being released on May 23rd of this year, and provides for additional attention in this developing company.

Stem Cell Therapy Leader - NeoStem

NeoStem Inc (NBS) is an emerging leader in the stem cell sector. It has renewed its focus on cell therapy with the recent divestiture completion of its 51% ownership of the Chinese generic pharmaceutical company, Suzhou Erye Pharmaceutical. Not only can it now more fully focus its resources on its core businesses, but its balance sheet is markedly better as the sale provides the company with $12.3 million in cash and removes $30 million in debt from its balance sheet as well.

Moving forward, NeoStem has two major share price drivers that make it a potentially solid investment and excellent representative of the stem cell sector. Along the clinical front, the company is developing AMR-001 in a phase 2 clinical, termed the PreSERVE trial, to treat patients who have had myocardial infarctions (heart attacks) and prevent further major adverse cardiac events. The target market group is substantial with approximately 800,000 cases of myocardial infarctions in the U.S. annually with the population representing about $1.2 billion according to the company s website. An August 15th update on the ongoing trial noted that the Data Monitoring Committee (DMC) recommended continuation of the trial after its first interim data and safety review. This recommendation indicated that there were no safety concerns associated with the treatment at that time. The trial is expected to enroll 160 patients at more than 40 clinical sites. Enrollment completion is expected in 2013 with 6 month interim data in Q4 2013. Additional press releases on trial continuation and enrollment completion should provide for more investor interest in the coming weeks and months. The 6-month interim data readout will likely be a strong share price driver for the company if results are indicative of solid efficacy with minimal safety concerns.

The second major share price driver for the company sets it apart from most of the stem cell sector's members. With few sources of real revenue across the entire sector, NeoStem s Progenitor Cell Therapy [PCT] division is a sector-leading source of revenue for this quickly emerging stem cell company. In my recent article, The Stem Cell Sector Further Validates Itself with a Successful Q3, I researched the stem cell sector's events and revenue for that quarter. Although the sector as a whole is improving with a couple of regulatory approvals to its credit and late-stage trials showing promise, NeoStem set itself apart due to PCT's revenue generation of $4.4 million for the quarter and $11.6 million for the first nine months of the year, markedly higher than its peers. PCT is a cell manufacturing and storage division. It serves both the stem cell and immunotherapy sectors via its function as a contract manufacturing organization [CMO], a third party manufacturer of cell-based therapies. The company has current manufacturing contracts producing cells for Baxter International (BAX) for its phase 3 stem cell trial to target chronic myocardial infarction, for ImmunoCellular Therapeutics (IMUC) for its phase 2 trial of ICT-107 immunotherapy vaccine targeting glioblastoma, and a pivotal phase 3 trial with SOTIO, LLC, for its dendritic cell prostate cancer vaccine. Lost in Dendreon's (DNDN) fanfare it received for gaining regulatory approval for the world's first immunotherapy cancer vaccine, Provenge®, NeoStem produced Provenge® during its pivotal phase 3 trial.

With shares trading up about 19% YTD, 2012 has given NeoStem investors a wild ride with a 52-week range of $0.30 to $0.90. The chart has settled down since early July, and shares have traded in a much tighter range of $0.60 to $0.75 in recent weeks. The company's ever-growing revenue and increasing focus on its own clinicals has given its shares stability with hopes of a promising year ahead with key clinical data expected and a growing contract base shoring up the company's financials. A solid representative of the sector due to its stem cell therapy manufacturing contracts, NeoStem offers investors hope of a good investment in the increasingly validated technology of stem cell therapy. As its contracts grow, it could even be construed as a good representative of the immunotherapy approach to fighting cancer as that customer base also grows. The company's shares are now trading just above the $0.60 support which may make for good current entry. Interested investors should more closely research the company's quarterly statements over the last couple of years in order to more fully ascertain the growing revenue generation of its PCT division. Still operating at a loss, investors should consider the risks associated with the $102.4 million market capitalization company and formulate solid entry and exit plans in the event stock support fails. I accept the volatility of the company's shares as I expect this to be a long-term investment. I may trade in and out of a portion of the holding, but I try to maintain a base holding of shares for my core investment.

Diabetes Treatment Hopeful - Biodel, Inc.

Biodel (BIOD) had a huge investor following in 2009-2010 as it was seeking approval for its injectable fast-acting human insulin drug, Linjeta™ (formerly referred to as VIAject®). The drug had promising phase 3 results via multiple trials for patients having type 1 and type 2 diabetes. While presenting the data for each of the trials, the only notable concern regarding the treatment was pain at the injection site which reportedly waned during the treatment regimen. There were also anomalies with some of the data at a clinical site in India that the company attributed to poor temperature control of the therapy while in transit. Nonetheless, the company received the FDA's dreaded Complete Response Letter [CRL], rejecting the drug and pummeling the company's share price. The CRL noted "comments related to clinical trials, statistical analysis and chemistry, manufacturing and controls."

After a subsequent meeting with the FDA, Biodel decided to scrap Linjeta™ and pursue other formulations at its disposal. After several phase 1 clinicals, BIOD-123 was chosen as the candidate to develop, and a phase 2 trial initiation was announced on September 13th. Topline safety and efficacy results are expected in Q3 2013, and should be considered a major share price mover if data is positive in the 130 subject trial addressing type 1 diabetes. The candidate's phase 1 trial indicated that the formulation had more rapid absorption than Humalog®, a fast acting injectable insulin manufactured by Eli Lilly (LLY), and had comparable injection site tolerability. The injection site tolerability will be significant as it is my opinion that this was a major reason for the initial CRL as many statistical analysis and manufacturing controls could have been resolved with only a short trial or data reevaluation instead of scrapping the program completely if the efficacy was as positive as it appeared to be.

An investment in Biodel is a different type of investment now than it was during the days of the Linjeta™ clinicals. The company is more diverse with a varied pipeline and less of an "all the eggs in one basket" mentality. To facilitate its transition from a development-phase company to a marketing-phase entity, the company has also been pursuing a new formulation of glucagon, a compound given to patients with insulin overdoses. Normally a dry powder needing reconstitution, glucagon is given to patients in distress to regulate their blood glucose levels by signaling the liver to convert glycogen into glucose. Glucagon is typically an unstable compound in solution (dissolved) and is usually kept in the form of a dry powder until needed by a patient.

However, the steps necessary for reconstitution require time - something some patients could be short on in such a scenario. Biodel has developed its liquid "rescue" drug that is stable in solution and ready to be delivered by an auto-injector device on demand. The company is seeking regulatory approval for the treatment, now termed BIOD-Stable Glucagon, via the FDA's 505(b)2 clause which allows regulatory approval of a differing form of an already approved therapy with a much shorter clinical trial period (with much less money required). Biodel is planning on a new drug application (NDA) to the FDA in Q1, 2013 which should be a fairly near-term catalyst that could positively affect share price.

For investors desiring more immediate near-term catalysts, Biodel expects to report results on its phase 1 trial evaluating its analog-based ultra-rapid-acting insulin in Q1 2013, according to its most recent quarterly filing. Although an early stage development, promising results there may begin turning more heads toward Biodel and its upcoming catalysts ahead as mentioned before. Also in early-phase clinicals, Biodel's under-touted VIAtab™ tablet for sublingual administration could be another promising catalyst in the more immediate future. The tablet dissolves in minutes when placed under the tongue of type 2 diabetes patients and delivers insulin into the bloodstream. The treatment's profile is said to closely mimic the first-phase insulin-release signaling seen in healthy patients. VIAtab™'s use will likely target patient sets with early stage type 2 diabetes (by treating hypoglycemia) with hopes that the treatment could prevent many of these patients from developing the full onset of type 2 diabetes, offering solid hope not often seen in many insulin products.

Biodel is not the same speculative company that I first invested in during the 2009-2010 Linjeta™ era. However, it is still a development phase small pharma with much risk for investors moving forward. It is a more diversified company with catalysts coming from its more diverse pipeline than earlier when it was largely dependent on Linjeta™ for its future. The upcoming NDA for BIOD-Stable Glucagon could represent a solid share price mover for the company. Acceptance of the NDA and subsequent regulatory approval could be a good share price-mover for this early-stage company.

Investors should consider the risk of a rejected NDA or refusal to approve for marketing as possible downsides with regard to the Glucagon catalysts. Upside for the phase 2 trial for BIO-123 could also provide for increased shareholder interest in 2013. Positive results there could pave the way for an upcoming phase 3 trial with enrollment likely to begin in Q4 2013 or Q1 2014. Biodel released its Q3 2012 financials on August 8th. As of June 30, 2012, the company had cash and cash equivalents of $43.7 million with 14.0 million and 5.4 million shares of common stock and convertible preferred stock outstanding, respectively. The company's common shares are now trading at $2.48, just at the $2.50 and $2.25 support. With recent financing for $18 million out of the way and a 1:4 reverse split to remain in compliance with NASDAQ's listing requirements already taking place, interested investors should perform additional research and consider a near-term entry. It remains to be seen how much of a price run up occurs to the Q1 Glucagon NDA filing, but the regulatory decision for it and the phase 2 results for BIO-123 could both bring investors back to this promising company.

Source: Small Pharma Sector Leaders Could Make A Profitable Diversified Portfolio