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By Jason Napodano, CFA

On November 4, 2013, Durect Corp. (NASDAQ:DRRX) reported financial results for the third quarter 2013. The company reported total revenues in the quarter of $3.0 million, consisting of $2.6 million of product and excipient sales, mainly driven by sales of ALZET Pumps and LACTLE polymer, and $0.4 million in collaborative payments. Collaborative revenues were driven by certain feasibility projects the company is working on with collaborators. Net loss for the quarter totaled $6.0 million, or $0.06 per share. Durect exited the third quarter 2013 with approximately $17.4 million in cash and investments. Net cash usage for the third quarter totaled roughly $2.9 million. We find the existing cash balance to be sufficient to fund operations into the fourth quarter of 2014.

Pfizer Pushing Forward With Remoxy

Although no real updated was provided by Pfizer (NYSE:PFE) on its third quarter earnings call last week, information released by both Pain Therapeutics (NASDAQ:PTIE) and Durect management notes Pfizer has decided to push forward with Remoxy development. This was pretty much expected, but reassuring nevertheless considering Pfizer's last formal update came in late July 2013 and noted they were "considering options with respect to Remoxy."

In August 2013, we learned that Pfizer had initiated a small study with Remoxy in health volunteers. The study was an open-label, single-dose, randomized, three-way crossover study to estimate the effects of food on Remoxy pharmacokinetics following oral 40 mg. doses of "Formulation K" and to estimate its relative bioavailability compared to "Formulation X" in the fasted state. We note since 2011, Pfizer has been working on various formulations of Remoxy to address the issues raised in the second complete response letter in June of that year.

On October 21, 2013, Pfizer notified Pain Therapeutics and Durect that it had achieved technical milestones related to manufacturing of Remoxy, and that they planned to continue moving forward with development. Pfizer also noted, thanks to guidance received from the U.S. FDA earlier in the year, that they planned to conduct two clinical studies with Remoxy prior to re-filing the new drug application (NDA). These include a pivotal bioequivalence study with the modified Remoxy formulation to bridge to the clinical data related to the original Remoxy formulation, and an abuse-potential study with the new modified formulation. Pfizer told Pain Therapeutics and Durect that the FDA did not require any further drug efficacy trials with Remoxy.

With respect to Pfizer's commitment to Remoxy, the company notified Pain Therapeutics that they were terminating their rights and obligations with respect to developing new abuse-resistant formulations of hydrocodone, hydromorphone and oxymorphone. As such, it looks like Pfizer will throw all its "abuse-resistant" eggs into the Remoxy basket, conduct the two necessary studies noted above, and re-file the application for approval. Pfizer believes they should be in position to re-file the NDA around the middle of 2015.

As for additional ORADUR-opioid candidates, Pain Therapeutics is now free to move forward independently to either develop in-house or out-license these products. We note that Phase I clinical trials have been conducted for ORADUR-hydrocodone and ORADUR-hydromorphone, and an Investigational New Drug (IND) application has been filed and accepted by the FDA for ORADUR-oxymorphone. Pain Therapeutics has stated that they have not yet made a decision to develop or out-license the three product candidates.

We continue to believe that Remoxy remains an enormous opportunity for Durect. We see Remoxy as having potential peak sales in the $1.5 billion range, and Durect's tiered royalty - roughly 9.1% at $1.5 billion in sales - would provide significant cash flow to the company. We model Remoxy approval in 2016 at Pfizer, with sales eclipsing $1.5 billion by 2020. With a 15% discount rate on the cash flows and 50% probability of approval, we see Remoxy as worth $1.50 per share to Durect.

Posidur PDUFA Approaching

On June 20, 2013, Durect announced that the U.S. FDA had accepted the company's NDA for Posidur (SABER-Bupivacaine) for the treatment of post-operative pain relief. The PDUFA date is February 12, 2014. We believe the market is largely ignoring the opportunity with Posidur. We encourage investors to view our Durect article from June 2013 where we analyze the clinical data and outline the market opportunity for Posidur.

Despite the approaching PDUFA, our financial model does not assume Posidur approval until 2016, which means we expect a complete response letter in February 2014 outlining the necessary steps to conduct one additional clinical study prior to a re-file in 2015. We do this to be conservative in our modeling. Nevertheless, we believe Posidur is a potential $300 million drug, and that Durect will be able to partner after a successful Phase III in gall bladder removal in 2015. With a 15% discount rate and 50% probability of approval, we believe Posidur is worth $0.50 per share today to Durect.

Upside to this figure obviously comes with approval in February 2014 and if Durect launches the drug itself. On the third quarter conference call management noted the opportunity to enter into a structured debt transaction to fund the launch. At this point we think it is too early to speculate on exactly how all this plays out. Regardless, even assuming a complete response letter and approximate two-year delay to re-filing, Posidur has real value not being recognized by investors at today's price.

The Undervalued Pipeline

Below we briefly touch on the rest of the pipeline, which we believe offers some modest upside, albeit at a less predictable rate, besides the aforementioned Remoxy and Posidur.

... Relday ...

In July 2011, Durect and Zogenix, Inc. entered into a license agreement to develop and commercialize a proprietary, long-acting injectable formulation of risperidone using Durect's SABER controlled release formulation technology in combination with Zogenix's DosePro needle-free, subcutaneous drug delivery system. The product is called Relday. Zogenix is handling the clinical work for Relday. Durect received an upfront fee of $2.25 million, and can earn up to an additional $103 million in total future milestone payments, along with mid-single-digit to low double-digit royalty on annual net sales.

On July 12, 2012, Zogenix announced that it has initiated its first Phase I clinical trial for Relday. Results were released in early January 2013. The data showed a favorable safety and PK profile demonstrated with the 25 mg and 50 mg once-monthly doses of Relday. In fact, Zogenix elected to continue the current study to include a 100 mg dose of the same formulation. These results were released on May 2, 2013. Top-line data shows the 100 mg dose achieved risperidone blood concentrations in the therapeutic range on the first day of dosing, and maintained throughout the one-month period.

With this trial now complete, dose proportionality has been established across the full dose range that would be anticipated to be used in clinical practice (50 mg to 100 mg). The 100 mg dose was safe and well-tolerated, with no unexpected adverse events, including injection site reactions, as compared to the initial Phase I clinical trial with the 25 mg and 50 mg doses. We expect that Zogenix will push forward with multi-dose clinical trial, which would provide the required steady-state PK and safety data prior to initiating Phase III development studies, sometime in the next few months.

Relday is designed to compete with Johnson & Johnson's (NYSE:JNJ) long-acting formulation of risperidone called Risperdal-Consta, or Consta for short. The FDA approved Consta in 2007 for both schizophrenia and bipolar I disorder. J&J sold approximately $1.6 billion worth of Risperdal Consta in 2012. Dosing is with a 21 gauge needle every two weeks. A 21 gauge needle is 0.8192 mm thick (outer diameter). Relday would offer both less frequent dosing along with a less painful needle-free injector that utilizes Zogenix DosePro technology. If successful, we see Relday as a potential $500 million product. But even before commercialization, we think it is fair to assume that Durect will collect another $10 to $20 million in milestone on Relday between now and the end of 2014 (estimated Phase III).

Zogenix has begun partnering activities on Relday. The company has retained Locust Walk Partners of Cambridge, MA, a transaction advisory firm for life sciences companies, to provide exclusive transaction advisory and support services for a Relday commercial deal. On Durect's second quarter conference call in early May 2013, management noted the economics of a sub-license payment being in the area of 10-20% of the overall deal. The market is largely ignoring this potential for non-dilutive cash in our view. Relday only further supports our belief that downside in Durect is limited at today's price.

... ORADUR-Methylphenidate ...

Durect is developing a drug candidate for the treatment of Attention Deficit Hyperactivity Disorder (NASDAQ:ADHD) using its ORADUR tamper-resistant technology; this is the same technology used in Remoxy. Durect is seeking a way to provide once-a-day dosing with added tamper-resistant characteristics to address common methods of abuse and misuse of the most widely used ADHD drug, methylphenidate (previously sold as branded Ritalin).

ADHD drugs act by stimulating chemical neurotransmitters in the brain such as dopamine and epinephrine. However, stimulants such methylphenidates (Concerta and Ritalin), dextroamphentamine (Adderall), and lisdexamfetamine (Vyvanse) are often misused and abused by teenagers as a means to perform better in school.

MonitoringTheFuture.org reports that 6.4% of 10th-graders and 6.8% of 12th-graders used prescription amphetamines non-medically in 2008. In the study, amphetamines ranked 3rd among 12th-graders for illicit drug use. A National Survey on Drug Use and Health (NSDUH) showed that in 2006 and 2007, about 6.4% of full-time college students reported using such stimulants as Adderall or Ritalin non-medically. A 2009 investigation tracking calls to the American Association of Poison Control Centers from 1998 to 2005 showed that teenaged victims of prescription ADHD drug abuse rose by 76% over that eight-year span.

In August 2009, Durect entered into a development and license agreement with Taiwan-based Orient Pharma Co., Ltd. Under terms of the agreement, Durect granted to Orient Pharma development and commercialization rights in certain defined Asian and South Pacific countries to ORADUR-ADHD. Durect retains rights to North America, Europe, Japan and all other countries not specifically licensed to Orient Pharma.

The goal of the collaboration is to generate a clinical data package through a Phase II study. Durect is responsible for formulation and study design of the Phase I and Phase II clinical trials, which Orient Pharma will fund and execute. Orient Pharma is responsible for all remaining development and commercialization activities in its licensed territory. If commercialized, Durect will be entitled to receive a royalty on sales of ORADUR- Methylphenidate by Orient Pharma. Orient Pharma has committed to supply a portion of Durect's commercial requirements for ORADUR-Methylphenidate in all territories other than the U.S. Orient plans to meet with the Taiwanese FDA shortly to outline the design for a Phase III study.

Methylphenidate is the most commonly used medication for the treatment of ADHD. In 2012, approximately 3.06 million prescriptions of generic methylphenidate were written. The product is cheap, at only roughly $10 per monthly prescription. However, branded competitors such as Concerta (an improved formulation of methylphenidate extended release) sells for as much as $165 per month. Concerta sales peaked at $1.3 billion in 2009 (~$1 billion in the U.S.). Global sales of Concerta in 2012 totaled around $1 billion (~$0.6 million in the U.S.). Generic methylphenidate in branded terms equates to a roughly $500 million opportunity in the U.S., similar to the current run-rate for Concerta.

Stock Still Very Attractive

In the past we've written that Remoxy has at least a 50/50 chance at approval. We still believe that to be the case; in fact we think the odds go up substantially after Pfizer files the application in 2015. We encourage investors to keep an eye on ClinicalTrials.gov for the initiations of the pivotal bioequivalence and abuse-potential studies in the next few months.

In the meantime, the Posidur PDUFA is scheduled for February 12, 2014. We think the odds of approval are 50/50 given the previously demonstrated efficacy of the drug in shoulder surgery and hernia and the failure of the Phase III trial BESST. Pacira (NASDAQ:PCRX) has done a nice job in carving out the new market for a similar drug in Exparel, so approval would be a major positive event for the company. If Posidur is met with a complete response letter, which seems to be the consensus based on our rudimentary investor poll, we believe the company can quickly move forward with a Phase III gall bladder removal study in 2014 and re-file in 2015. A surprise approval is an enormous positive for Durect and allows management to either partner or launch the drug themselves.

The stock is currently trading at $1.51 per share. We value Durect based on the risk-adjusted probability of future cash flows. Based on our analysis, Remoxy is worth $1.50 per share and Posidur is worth $0.50 per share. That gets us to $2.00. Adding in the $17.4 million ($0.17 per share) in cash on the books as of September 30, 2013, another $0.30 for ALZET and LACTLE, and another $0.30 for the pipeline that includes Relday and ORADUR-methylphenidate, and that brings us up to roughly $3.00 per share.

Source: Risk/Reward Remains Positive For Durect