If you are invested in Arena (ARNA) and/or Vivus (VVUS) you are likely well aware that both companies are utilizing free trials in getting their respective anti-obesity drugs on the market. This is a widely used strategy that is, in theory, designed to bring more consumers to the table in hopes that these customers will become self paying in subsequent months. The concept is tried and true, but not designed for the impatient.
When Arena reported its Q2 numbers the company booked revenue based on sales at the wholesale level. The reasoning behind that is sound in that Arena sells the pills to marketing partner Eisai for a percentage of the net. The methodology is that Eisai pays Arena on an estimate of net sales and then, as time passes, adjustments are made by which one party will cut a check to the other to reflect the actual net sales rather than estimated. The downside of this for investors is that it becomes difficult to analyze traction until later on in the process.
What we know from the 3 weeks that Arena's Belviq was on the market in Q2 is that marketing partner Eisai booked $10 million in gross sales, $4.1 million and net sales, and that Arena booked revenue of $1.3 million (the Arena revenue represents 31.5% of the net sales).
The gross sales is attributable to 50,000 bottles of Belviq shipped to wholesales. The net sales are arrived at after subtracting various items allowed in the contract such as shipping, the $75 dollar discounts, and the free trials. On it's face it would appear that $10 million in gross sales and $4.1 million in net sales implies $5.9 million worth of discounts. This would, in simple terms make the average prescription price $82. It is not that simple though.
The early launch is weighted heavily toward free samples. In fact, the vast majority of the first month of sales were indeed freebies. This is where patience and understanding the concept behind free samples comes into play. The idea is to gain loyal customers that are willing to pay moving forward. Essentially Arena and Eisai are investing a 15 day supply in order to get a perpetual customer. Thus, before running off and modeling script sales at $80, we will need to wait and see what the subsequent month looks like. Over time the percentage of freebies relative to the overall script sales will become less and less. That will bring the average script price upward. For now, all we can do is estimate.
Prior to the conference call, I had modeled the average script price at $125. It was a generous number, and clearly will need to come down to a more reasonable level for the near term. In my opinion it may be reasonable to use $85 or $90 for Q3. Investors will be able to assess further when we get to see the Q3 report. Q4 could see the average move up to $85 or $90. Investors that take the time to model the financial performance will arrive at their own estimates.
Vivus reported its Q2 results after the bell on Tuesday, August 6th. The company underwhelmed the market with an EPS miss, a revenue miss, and a cost side miss. Prescriptions and revenue were both up about 37% from the previous quarter. This would indicate that the pricing in the first 6 months of the year has remained pretty constant. Vivus announced that 81,000 scripts were filled during the quarter. That would equate to an average price of $67 per bottle.
With Vivus, tracking sales and projecting is a bit easier. Revenue booked is essentially sales to consumers rather than sales to a wholesaler. With Arena we are seeing a "stocking of the shelves" number whereas with Vivus we are seeing the number of scripts sold to patients. Looking at the first month of Q3, Qsymia sales are already at about 40,000. The pace for the quarter on a straight-line basis would be 120,000. Factor in some growth and the final number by the end of the quarter could be about 140,000. If you apply $67 per bottle it would lead to a reasonable assumption that Q3 revenue will be a minimum of $9.4 million.
Before these products went to market many investors and analysts modeled average script prices at $150 or more. What we are currently seeing is the impact that discounts and free trials are having on the bottom line. What we have here are two drugs that are all about potential. It will take time for that potential to be realized. Investors simply need patience. Lets look at a few numbers. They may seem disheartening at first, but bear with me. Remember, this is about potential.
In a very over-simplified glace, it takes $10 million in gross sales to arrive at $1.3 million into Area's coffers. Analysts are expecting Belviq "royalties" (the 31.5% of the net) to be $10 million by the end of the year. Thus, using current numbers, it will take $77 million in gross sales to meet analyst expectations. Bear in mind, things will improve as the impact of freebies lessens. That $77 million in gross sales equates to 385,000 scripts for 2013. That 385,000 is total scripts. Arena has sold roughly 16,000 through mid July.
Vivus obtained $9.6 million in the first 6 months of the year. It took nearly 170,000 prescriptions to get to that point. If we want to see 2013 full year revenue from Qsymia at $25 million it will mean that Vivus needs to sell nearly 224,000 scripts in the second half of the year.
How it Happens for Both
I know that the numbers seem high for both of these drugs. Now consider what Phentermine does in weekly prescriptions. It is not uncommon for phentermie to sell 150,000 scripts per week. That gives you an idea of the size of the market which both Qsymia and Belviq have barely scratched. Nearly 3.9 million phentermine scripts will sell in the second half of this year. If Vivus can pick up just 6% of this market in the second half of the year, the company can deliver on $25 million in revenue.
If Arena can tap into just 10% of the phentermine market then it can get to $10 million in "royalty" revenue. Some analysts have a $12 price target on Arena at the point where it gets $10 million in "royalty" revenue in 2013.
The good news here is that these companies can start their path to compelling stories by simply getting small respective segments of the current market. Bear in mind that I have only used phentermine in this example. The anti-obesity market is huge and has many consumers that are not even taking a prescription pill to try to address their issues with weight. Using phentermine as an example is prudent because these are consumers that are already using a prescription pill, thus, in theory would not need to be convinced to try a drug to address the problem. How many people that are not taking any pill will be willing to try? For every customer they get from that category the percentage of the dent into the phentermine market decreases. Using a little imagination you can begin to see how attainable the numbers I spoke of above actually are.
Both of these equities have volatility and both will be susceptible to news flow and perception of things like the weekly data. Both companies also have very active traders (long and short) involved. The shorter term moves in these equities can frustrate the buy-and-hold crowd, but with a little homework such as what I have outlined here, the buy-and-hold investor can become more confident in her investment and let the runs and drops simply happen as part of the process.
The bottom line here is that impressive revenue numbers are still a ways off. If you believe in the sector, you simply need some patience to let this play out. Catalysts such as broader insurance coverage can have substantial impacts as discounts will be lessened, thereby increasing the average price per script and decreasing the number of bottles that need to be sold to meet targets. If you are long term, let the active traders play their sprints. You are in a longer race and now have some tools and numbers to work with to better understand the pace of your expectations. Stay Tuned.
Additional disclosure: I have no position in Vivus