When I wrote on Novo Nordisk's (NVO) earnings and near-term outlook last week (Can Anything Stop Novo Nordisk?), the biggest near-term risk I cited (apart from the valuation) was the possibility that the FDA could reject the company's new drugs Tresiba and Ryzodeg and demand a pre-approval cardiovascular outcomes study (CVOT). This risk has come home to roost, as the FDA did indeed reject the drugs and cited both the lack of a CVOT and a warning letter as the reasons.
As of this writing, Novo Nordisk shares have sold off sharply on this disappointment. While the rejection of Tresiba likely doesn't significantly change Novo Nordisk's long-term earnings potential, it does alter the timing and the resulting fair value today. This setback could certainly represent one of those rare opportunities to acquire shares at a more reasonable price, but investors should note that a lot of unknowns remain and the indicated pre-market price as of this writing doesn't yet make these shares a bargain.
The FDA Is Truly Serious About Safety
There is little doubt now that the FDA is truly serious about increasing the rigor of the safety and risk-benefit analysis for prospective new diabetes drugs. Whether you look at Amylin's difficulties in getting Bydureon to market, the setbacks with Bristol-Myers (BMY) / AstraZeneca's SGLT drug dapagliflozin, or this latest news on Novo Nordisk's Tresiba, it is clear that the post-approval safety problems with drugs like Glaxo's (GSK) Avandia has significantly changed the FDA's approach to new drugs.
In the case of Tresiba, Novo Nordisk had demonstrated that this new ultra long-acting basal insulin was effective, but the FDA's panel of reviewers was less convinced about the safety - particularly as it related to cardiovascular events like heart attacks. While the panel had voted for approval (by an 8-4 margin), it was widely expected that the company would have to do a post-approval CVOT study.
Instead, the FDA has chosen to demand that study as a prerequisite for approval. I suspect that many Novo Nordisk shareholders don't care about the FDA's reasoning, but I believe it is relevant for investors interested in the broader diabetes market. I believe that the FDA has reached the conclusion that the currently available alternatives (Novo's Levemir and Sanofi's (SNY) Lantus) are good enough that there is no pressing medical need to allow a new drug into the market without having answered all of the safety questions. So even though both Europe and Japan have approved Tresiba, Novo has work to do to get the FDA to sign off.
Investors should also note that the company recently got a warning letter from the FDA related to a filling facility in Denmark. Although it doesn't sound like a major operational issue for Novo, it's worth noting that the FDA's complete response letter for Tresiba did mention this and it may well have delayed approval even absent this CVOT demand.
What Happens Next? Nobody Knows For Certain
Not surprisingly, Novo Nordisk's management was not able to give a clear and definitive statement about the next steps in the process. While the company was certainly already working through the design of a post-approval study, that may or may not be completely applicable to what the FDA wants for Tresiba.
The biggest unknown is the trial design, or more specifically the length of the trial. A full and complete CVOT could easily take five years, but the FDA may allow the company to resubmit the NDA on the basis of an interim analysis (not unlike what the FDA has agreed to allow in the case of Orexigen's (OREX) study of obesity drug candidate Contrave). If the FDA signs off on an interim analysis, I would think a resubmission in 2016 could be possible. If not, 2018/2019 could be the target date.
Not A Disaster, But A Big Setback
Novo Nordisk still has Levemir, so it is not as though the company is now out of the long-acting insulin market. Certainly this gives Sanofi more breathing room with Lantus, and certainly it removes what would have been a premium-priced potential blockbuster, but taking away upside to growth is a little different than taking away actual revenue. What's more, while I'm not sure what happens next with Tresiba in Europe and Japan, I have little doubt that Novo will push Levemir even harder in the interim.
There is long-acting insulin competition on the horizon. Lilly (LLY) is working on a pegylated version of Humalog and Sanofi is developing a new follow-on to Lantus. Both of these are most likely to be 2015 launches. There is also the risk of competition from biosimilars, but I would argue that the FDA's strict view of risk/benefit could make the approval pathway for these biosimilars a little more challenging.
There is additional potential pipeline fallout to Novo Nordisk. With Tresiba delayed, IDegLira (an insulin/GLP-1 combo) is likely delayed as well, and Sanofi may be first to market with its combination even though Sanofi has announced a delay related to the device that administers the combo. I also believe investors should not rule out the possibility that the FDA will demand more safety data including, perhaps, a CVOT, before approving Victoza for obesity (assuming that pivotal data supports a submission for that indication).
Time Is Money
I don't believe that this setback for Tresiba dramatically alters Novo Nordisk's future. Assuming that the CVOT results are clean, Tresiba is likely to be approved down the road and the potential sales and earnings from the drug are still considerable.
At the same time, however, a dollar tomorrow is worth less than a dollar today and this news does shift back the timeline for Novo Nordisk's growth. Accordingly, while my long-term revenue and free cash flow growth rate estimates change little (10% and 7%-plus, respectively), the outward shift in timing pushes the fair value down to about $155. Relative to the indicated pre-market price, then, Novo still looks pretty pricey.
The Bottom Line
Stocks like Novo Nordisk don't often give investors a chance to buy in close to a fair value, so this setback is a tempting opportunity. There are definitely downsides now for investors to consider. There is the risk that the Tresiba CVOT will take more than three years, there is the risk that the safety data becomes problematic, and there is the risk of the warning letter becoming a bigger issue. There is also the risk that the premium Novo Nordisk has long carried for its superior growth and execution reputation now evaporates.
Those risks make me a little nervous about paying more than fair value for Novo Nordisk, even if the premium has shrunk. Even so, this company remains a premier franchise addressing a major global problem that is not going to get better in the near future. In a market with relatively few bargains, particularly in Big Pharma, Novo shares are definitely an interesting proposition today.