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By Ning Yang, Ph.D. and Nathan Klarer

Transcept Pharmaceuticals, Inc. (TSPT), a pharmaceutical company specializing in the field of neuroscience, released its financial results for the third quarter on November 12, 2012. The company recorded cash and equivalents of $98.7M and revenue of $10.4M, $10M of which was a milestone payment from its partner Purdue Pharma. Net income for the quarter was $4.9M and leading to earnings of $0.25 per diluted share. The Q3 financial results beat the consensus estimates across the board, largely due to the milestone payment.

On November 26, 2012, Transcept announced that Purdue began a national direct-to-consumer (DTC) promotional campaign in digital and print to support Intermezzo commercialization. Purdue plans to begin television promotion in February, 2013. The total cost for the campaign will be $29 million, and Transcept will contribute $10 million. Investors clearly welcomed the news, as the stock has risen roughly 16% in the subsequent week. We think that the weak launch for Transcept's drug Intermezzo, which is the first and only FDA approved sleep aid for middle-of-the-night (MOTN) dosing, remains the overriding concern for investors. This concern has caused the stock to drop from greater than $10 in April to its current level around of around $5.

Intermezzo is a low dosage, sublingual formulation of the generic drug zolpidem (more commonly known by the brand name Ambien) that is indicated for insomnia patients who suffer from MOTN awakening. Transcept first filed a new drug application (NDA) with the FDA in 2009, and received marketing approval in November, 2011. Intermezzo commercialization started on April 5, 2012 and was led by Purdue, which entered into the collaboration agreement with Transcept in 2009. The agreement included an exclusive license to commercialize and further develop Intermezzo in the US. Purdue has paid Transcept a cumulative $45M in license fees and milestone payments. As a return, Transcept will receive tiered royalties on net sales of Intermezzo in the US ranging from the mid-teens up to the mid-20% level. Purdue is obligated to pay Transcept up to an additional $70M upon the achievement of certain net sales target for Intermezzo in the US. Moreover, Transcept has retained an option to co-promote Intermezzo to psychiatrists in the US, which can be exercised as late as August, 2015.

Transcept received $0.2M of royalties from Purdue on the net sales of Intermezzo during Q3 2012. This is lower than royalty revenue of $0.5M the company received during Q2. Assuming that royalties were at the lowest level of 15%, $0.2M translates into total net sales of $1.33M for Intermezzo. The company has not released any numbers on drug prescriptions. However, if one uses the retail price of $215 per prescription (30 sublinguals), $1.33M is equivalent to about 6,200 prescriptions. According to established sources, such as Stanford and IMS Health, the market size for insomnia patients in the United States is about 80 million prescriptions per year. About 14%, or 11.2 million of those prescriptions are for MOTN awakening. It is clear from these numbers that six months after launch, Intermezzo has not lived up to its potential. We think that there are a couple of reasons for this. First, the drug is expensive compared to many generic insomnia drugs on the market, as summarized in Figure 1. According to Transcept's management, its partner Purdue is making an effort to expand managed care access for Intermezzo and offering a patient savings card that can reduce the co-pay to as little as $15. However, the company has not disclosed the number of potential patients whose managed care plans currently cover Intermezzo. Second, physicians tend not to differentiate insomnia patients from patients who suffered MOTN awakening because until Intermezzo was launched, there was no specific option for this indication. There is significant work ahead to build awareness among the physicians that Intermezzo is the right treatment option for MOTN awakening.

Transcept and Purdue are certainly aware of the challenge, as evidenced by the media campaign mentioned above. A total of $29 million is committed for the campaign with $19 million from Purdue and $10 million from Transcept. Purdue is also mobilizing its analgesic sales force of 525 sales representatives to promote Intermezzo to primary care prescribers and certain medical specialists, which is on the top of 90 sales representatives who are exclusively devoted to Intermezzo.

Figure 1: Major insomnia drugs on the market or in development.

Product

Description

Company

Indications

Price

Intermezzo

Sublingual formulation of zolpidem

Transcept Pharma

MOTN awakening

$215/30 sublinguals

Ambien

Generic zolpidem

Generic

Insomnia

15 cents/pill

Ambien CR

Extended release version of Ambien

Generic

Insomnia

$7/pill

Edluar

zolpidem tartrate sublingual tablet

Orexo

Approved in 2009 for short-term treatment of sleep-onset insomnia

$6/pill

Zolpimist

Oral spray of zolpidem tartrate

ECR Pharma

Short-term treatment of insomnia; MOTN version currently in the pipeline

$70/5mg

Sonata

zaleplon tablet

Generic

Taken late at night; not effective against MOTN awakening

75 cents/pill

Silenor

doxepin based medication

Somaxon Pharma (NASDAQ:SOMX)

Preventative measure against MOTN awakenings; approved by the FDA in March, 2010

$6/pill

Suvorexant

Orexin receptor antagonist

Merck (NYSE:MRK)

Completed in 3 Phase III trials; plan to file a NDA in 2012

n.a.

SB-649,868

Orexin receptor antagonist

GlaxoSmithKline

In Phase II development

n.a.

Source: LifeSci Advisors

Intermezzo Patent Dispute Update

In August, 2012 Transcept was issued two additional patents for Intermezzo, with claims covering methods and compositions for treating MOTN awakening. These two patents will expire in 2025 and 2029. In the meantime, Transcept received Paragraph IV notice letters from multiple companies with respect to Intermezzo including Actavis, Watson Laboratories, Novel Laboratories and Par Pharmaceutical. In response, Transcept joined Purdue in filing an action in the U.S. District Court for the District of New Jersey alleging patent infringement from these companies. The suit automatically stays FDA approval until January, 2015. In addition, Intermezzo was also granted three years of Hatch-Waxman regulatory exclusivity by the FDA, which will expire on November 23, 2014. Transcept is responsible for legal fees up to $1 million per calendar year and $4 million total.

Since zolpidem is already generic, competition from generic formulations of Intermezzo could severely harm revenue. Purdue is undoubtedly aware of this and they are putting their money where their mouth is by pledging $29 million for the marketing of Intermezzo in the United States in the first half of 2013. This can be seen as a bet that with their experience and a new patent in the works, they believe that they can defend Intermezzo against generics after the three years granted by the Hatch-Waxman Act.

TO-2061 Update

On September 12, 2012, Transcept announced that it had completed enrollment in its Phase II trial evaluating TO-2061 added as adjunctive therapy to serotonin reuptake inhibitors (SRI) for patients with obsessive compulsive disorder (OCD) who are not adequately responsive to first-line treatment. TO-2061 is a low dose formulation of ondansetron, a serotonin subtype 3 (5-HT3) receptor antagonist. The Phase II study is a double-blind, placebo-controlled trial with 168 OCD patients enrolled. The Phase II data will be available in Q1-2013.

Investment Case

Transcept ended the day of December 4 with 18.62 MM shares outstanding and a stock price of $5.39, leading to a market cap of $100.35MM. Cash at the end of Q3 was $98.7 MM, leading to an enterprise value of $1.31 MM as of November 30, 2012. The company is trading almost at cash level due to the fact that the launch of Intermezzo has been weak and royalty payments anemic. The Company had expenses of $5.5MM in 3Q and is therefore expected to burn about $22MM annually at the current sales run-rate. The fact that this stock is trading near cash levels reflects the expectation that Transcept will continue to burn through cash without achieving significant sales growth for Intermezzo. If the new marketing campaign works and sales begin to pick up, there will be significant upside for Transcept.

Source: What Is Next For Transcept Pharmaceuticals After Disappointing Intermezzo Launch?

Additional disclosure: Business relationship disclosure: LifeSci Advisors is a healthcare advisory firm. This article was written by Ning Yang and Nathan Klarer, two of our interns. We did not receive compensation for this article (other than from Seeking Alpha), and we have no business relationship with any company whose stock is mentioned in this article.