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By Jason Napodano, CFA

I've written extensively on InVivo Therapeutics (NASDAQ:NVIV) over the past two years. My first article came out back in July 2011, when I initiated coverage of the stock to clients of Zacks Investment Research with an 'Outperform' rating. InVivo was $0.96 that day - it's been a nice run ever since.

But today, I think InVivo shares still offer nice upside to investors. Back in March 2013 I wrote that InVivo's pipeline could contain a billion dollar solution to spinal cord injury. My article from March discusses the company's impressive preclinical data, since published in the Journal of Neuroscience Methods, that won the company the prestigious 2011 Apple Award from the American Spinal Injury Association recognizing excellence in SCI research. Several fellow Seeking Alpha authors have written about InVivo, generally coming to a similar conclusion with respect to this unique technology.

In April 2013, the company went two-for-two on regulatory applications. On April 4th, InVivo announced that the U.S. FDA had approved the company's request for a Humanitarian Use Device (HUD) designation for its biopolymer scaffolding product. The next day, on April 5th, the FDA granted approval allowing the start of the first human trials with the device. Given this new information, many investors want to know today - what is InVivo worth?

Who Can InVivo Treat?

Approval of the HUD grants the biopolymer scaffolding orphan status for the treatment of recent complete spinal cord injury with no motor or sensory function (i.e. ASIA-A) that does not involve penetrating injury (e.g. a gunshot wound) or complete severing of the spinal cord. This pathway allows for commercialization under a Humanitarian Device Exemption (HDE) rather than a Pre-Market Approval (PMA) pathway, saving InVivo an estimated 2-3 years and tens of millions in clinical trials prior to its first authorized sale. HDE applications are exempt from the effectiveness requirement of PMA, and only need to demonstrate reasonable assurance of safety.

The first human trial that InVivo will conduct will be in patients with thoracic injury, but HUD designation allows InVivo to treat all ASIA-A complete injury patients, not just thoracic. According to the National Spinal Cord Injury Statistical Center (NSCISC), an estimated 12,000 individuals will become fully or partially paralyzed each year due to spinal cord injury. NSCISC data show that approximately 46% of these individuals (Table-61) will have complete ASIA-A impairment. With respect to the planned clinical trial, 75% of spinal cord injuries are thoracic (Table-63), so I believe InVivo should have no problem enrolling 5 patients in this open-label study to start in the next few months. If I assume that 75% of the population does not have a penetrating injury or the complete severing of the spinal cord (Table-26), investors can see the market opportunity here is just under 4,000 patients.

HUD guidelines, which can be found in this document (section 613) allow InVivo to sell its biopolymer scaffolding device up to an annual distribution number. The annual distribution number is defined as: the number of such devices reasonably needed to treat, diagnose, or cure a population of 4,000 individuals in the United States. Investors need to read that sentence again, because I see significant confusion around this restriction. HUD limits the number of devices sold under the annual distribution number to treat, diagnose, or cure 4,000 patients. The patient population is the gate-keeper here, not the number of devices sold.

I briefly spoke with the FDA in preparation for this article. There is no restriction on the number of devices per patient. Take stents for example. A patient may require two or three stents to be treated. In that case, the annual distribution number could be two or three times 4,000. For InVivo's case, I assume one device per patient, but investors need to be aware that under the new FDASIA law, it's the patient population that is monitored and capped, not the actual device sales. Could a patient with a severe spinal cord injury require two devices? Perhaps!

Additionally, the annual distribution number can be modified based on additional information - e.g. new clinical trial data. The new HUD guidelines under the revised FDASIA law improve the market dynamics greatly from the old HUD/HDE guidelines set into place back in 2007.

The old guidelines make it clear that the annual distribution number was pretty firm, and capped at 4,000 devices no matter what. New FDASIA guidelines seems to suggest flexibility in the number of devices, with upside to the originally agreed upon figure if treatment (or cure) is working. Does anyone honestly believe the FDA is going to tell InVivo to stop treating complete spinal cord injury with its device at 4,000 patients if this thing truly works?

What Can InVivo Charge?

Data from the NSCISC shows that the average cost to care for a spinal cord injury patient in the first year of the injury ranges between $335,00 and $1,025,00. For a 25-year old with complete tetraplegia, the lifetime cost of care is an estimated $4.5 million. For a complete paraplegic, it's an estimated $2.2 million. This would seem to suggest that InVivo can charge upwards of $100,000 or more for its device.

Under the new FDASIA law, "Manufacturers of HDE devices would be allowed to profit on devices intended for a condition or disease that does not occur (or only rarely occurs) in pediatric patients, so long as it meets certain other specified conditions." These specified conditions include three circumstances: 1) the disease / disorder / event occurs in pediatric patients and the device includes a pediatric label, or 2) the disease / disorder / event occurs in pediatrics but it is not feasible to test (via clinical trials) the device in a pediatric population, or 3) the disease / disorder / event does not occur in pediatric patients (e.g. some subset of Alzheimer's or Parkinson's disease, or post-menopausal... whatever).

It's pretty clear that spinal cord injury does occur in pediatric patients (0-15 years old). I spoke briefly with InVivo management last week and it believes its biopolymer scaffolding device will have unrestricted profit up to the annual distribution number, or 4,000 patients. According to statistics from the NSCISC (Table-17), one can see that only 3.3% of all spinal cord injury events occur in pediatric patients. That's only 400 patients per year. If I further narrow down that number to only ASIA-A, as defined under the HUD, and then consider only those with thoracic injury as cleared under the IDE, investors can see the number of target pediatric patients in around 135. I suspect that management will petition the Office of Orphan Products Development (OOPD) for a waiver on the pediatric requirement.

Therefore, for the sake of my model, I assume InVivo charges a price of $65,000 (unrestricted profit) for the biopolymer scaffolding up to the target population outlined above (roughly 3,840 patients), and then recoups cost at around $10,000 per patient thereafter. I want to be clear here - the $65,000 number is my estimate, not management's. In speaking to management, I get the sense it is thinking of an even higher price.

Doing The Math

Below is a snap-shot of a model I built to project sales of the device using the above assumptions. I started with 12,000 spinal cord injury patient in the U.S., narrowed by 46% to include only those with complete ASIA-A injury, then narrowed again by 75% to include only those with non-penetrating injury. The result is around 3,840 patients (in 2013). I grew the overall population by 1.5% each year, arriving at just under 4,500 patients by 2023.

I modeled the launch of the device under HDE in 2015, at an unrestricted price of $65,000 per treatment. I believe InVivo can penetrate 50% of the target population by 2018. Subsequently, I assume modest off-label use of the device in patients with incomplete or penetrating injury. I assume only 7.5% market penetration in this category, and assume InVivo can only "recoup cost" on the marketing of the device until full Pre-Market Approval (PMA) in 2019. At that time, I shift the model to capture full price for the device, which I forecast will grow to $91,000 at that time. I forecast 15% market penetration in this population after PMA approval.

Under these assumptions, I see the market opportunity for InVivo with its biopolymer scaffolding device under HDE at $271 million by 2023. I see the off-label use as another $110 million opportunity.

(click to enlarge)

My model assumes no other revenue opportunities for the company. That's nothing for the hydrogel alone, or the hydrogel + methylprednisolone for spinal cord injury or peripheral nerve pain, nothing for seeding the scaffolding device with human neural stem cells, and nothing for the company's DureGraft, InVivoSeal, or Nerve Conduit products, which management tells us will be filed under U.S. 510(k) applications in 2014 (see pipeline graph below).

(click to enlarge)

Again, I want to make it clear to investors, the only revenue source that's currently in my model and getting me to $381 million in sales by 2023 is the potential for the biopolymer scaffolding device as a stand-alone product to launch in 2015 under HUD. That's the only product with an IDE approval. I will begin to add additional products once the company receives clearance to start human clinical trials on these programs later in 2013 or in 2014. I've stated in the past, the hydrogel product alone has billion-dollar potential in spinal cord injury and peripheral nerve pain. Management is particularly optimistic on its DuraGraft and InVivoSeal programs. These offer only upside to the investment story in my opinion.

If investors turn their attention back to the revenue model I've built above, the next logical question is - what will it cost InVivo to obtain these revenues? Below is a snap-shot of the discounted cash flow analysis on those revenues. It includes a cost of good sold on the device at around $10,000. It includes continuing R&D to support the PMA studies with the scaffolding at around $15 million per year, as well as work to move the hydrogel, DuraGraft, InVivoSeal, and Nerve Conduit programs forward. It includes InVivo maintaining operational overhead at levels consistent with 2013, with modest growth thereafter, plus hiring a 25 person sales force to promote the scaffolding device to the 75+ Level-1 trauma centers around the U.S. starting in 2015. It includes modest sub-license and royalty payments to the company founders. It includes a fully-adjusted tax rate of 33% starting in 2019. Based on all this information, with a 17.5% discount rate, I believe InVivo is worth $437 million in value. Based on 66.1 million basic share count, plus 19.6 million stock options and warrants, this equates to roughly $5 per share.

(click to enlarge)

Uplisting Should Bring Credibility

In two weeks, the company should report on the results of the offer to exchange warrants that first went into action early in April 2013. In my previous article, I noted the exchanging of these warrants was designed to improve the company's balance sheet by removing the non-cash derivative liability, which totaled $14.6 million as of December 31, 2012. Once this non-cash liability is gone, the company's balance sheet, projected at June 31, 2013, will report a positive stockholder's equity in the area of $12.5 million and cash in the area of $10 million. This should allow the company to qualify for listing on the NASDAQ-CM or NYSE-MKT.

The company's shares are currently traded on the OTC-QB. Moving to the NASDAQ-CM or NYSE-MKT will bring increased credibility to the story, as many retail and the majority of institutional investors choose not to invest in OTC-traded names. Besides reducing the potential for manipulation, moving to a national exchange greatly increases liquidity and visibility. Around the time of the expected move to the NASDAQ-CM or NYSE-MKT, InVivo should be announcing the enrollment of the first patient in its planned clinical study. I think this is the catalyst the shares need to breakout from their current range and approach my fair-value target of $5 per share.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Source: Why I Think InVivo Is Under-Valued