ArQule, Inc. (ARQL) is an oncology-focused microcap biotechnology company. A graphical description of its pipeline shows six ongoing clinical trials studying five products. Its shares currently trade for under $2.20, after moving up and then down again in 2014, pursuant to depreciating through the past year and being removed from the NASDAQ Biotechnology Index (IBB) on December 23rd.
ArQule has some cash on hand as well as investments. Though the company has obtained funds through partnerships, and might continue to in the future, it is not financially self-sustaining. Yet, there appear to be multiple ways for the experimental firm to reward investors. One reason is that it has a considerable amount of Net Operating Losses ("NOL") that are advantageous for tax reasons and also attractive to potential acquirers.
Its stock's value can easily be shown to exceed its current share price. The company's lead candidate tivantinib, a potential second-line treatment for fatal cancer, has had challenges. Anyone who puts his or her capital at risk is probably concerned with ongoing research into tivantinib's efficacy at treating heptocellular carcinoma (liver cancer, or "HCC"), which could easily revive ArQule's fortunes.
HCC disproportionately strikes people in undeveloped regions. The concentration of potential HCC patients is smallest in the developed world (United States, Europe, Japan) where revenues can be anticipated if the product is successful. Some revenues from other places that have higher numbers affected (particularly China, also sub-Saharan Africa) may be reasonable to anticipate.
Important information about ArQule's drug products should become available throughout 2014. In addition to tivantinib, there are also early stage products. Though anything pivotal would be anticipated later in the year, there is also a possible near-term wild card catalyst.
C-Met Inhibitor Program, ARQ197
Tivantinib ("ARQ197") falls under ArQule's c-Met Inhibitor Program, studying a class of enzymes that mediate the signals for a variety of physiological processes that have implications for the initiation of tumors, or oncogenesis. Recent news involving liver cancer is encouraging; and supports prospects for the possibility of company success.
Looking back over the past decade, the stock tended to trade between $4 and $8. In October, 2012, the market repriced it, pursuant to discontinuation of a Phase 3 MARQUEE trial of ARQ197 when Progression Free Survival ("PFS") benefits did not translate to Overall Survival ("OS") for non-squamous Non-small cell lung cancer ("NSCLC"). An ATTENTION trial also evaluated tivantinib for treating non-squamous NSCLC patients, but in combination with erlotinib, pertaining to patients with the wild-type form of the epidermal growth factor receptor ("EGFR") gene. ArQule's partner, Japan's Kyowa Hakko Kirin (OTC:KYKOF, "KHK") suspended enrollment in its ATTENTION trial pursuant to an adverse drug-related event.
Discussion of NSCLC data has since been presented at the European Cancer Congress on September 29th, 2013:
- Significant improvement in Overall Survival ("OS") and PFS in 211 MET-high patients
- No difference in OS in 234 MET-low patients
- Similar PFS in MET-high and MET-low patients
A December, 2013 slide presentation provides information about status of the c-Met inhibitor in second line heptocellular carcinoma (after first line treatment with sorafenib).
Shares have recently moved up some, pursuant to a January 17th announcement that continuation of Phase 3 HCC studies have been recommended. Japan's Daichii Sankyo (OTCPK:DSKYF, "DS") is the company's partner in those particular trials. KHK is also evaluating tivantinib patients with c-Met diagnostic-high inoperable HCC treated with one prior sorafenib therapy.
KHK is now providing top line data in the previously-mentioned ATTENTION trial, of ARQ197 and erlotinib, and the Press Release says that "PFS and overall response rate ("ORR") results also show…a numerical trend toward improvement favoring the treatment arm." A potential catalyst for the stock is sub-group analysis of the population that expresses c-Met (also referred to as c-Met-high or c-Met positive). A decision from KHK or DS on resuming NSCLC studies is expected in 2014.
Early Stage Pipeline
After tivantinb, all other potential products have the majority of clinical trials ahead. While they are worth something, it is not enough to support the current share price. However, future possibilities certainly exist and success(es) may arouse suspicion of greater potential.
ArQule's newest product candidate is ARQ 087, a fibrolast growth factor receptor ("FGFR") inhibitor. It is in Phase 1b. The company believes "FGFR, the target of ARQ 087, may represent an attractive focus for anti-cancer therapy based on its important roles in cell proliferation, differentiation, migration, survival, protein synthesis and angiogenesis, as well as its comparatively recent emergence as a novel molecule of interest for targeted therapy in oncology." Data is expected to be released during the middle of 2014. While the candidate should only be assigned a small amount of value, demonstration of its dosage and preliminary indication of efficacy would be a meaningful step (Source 10-K).
There is some competition. AstraZeneca plc (AZN) is carrying out Phase 2 studies of an FGFR inhibitor, AZD4547. In addition to the fact that the drug has successfully completed Phase 1 trials, another consideration is that the British firm has far greater resources than ArQule. Its pipeline graphic shows the compound to also be a tyrosine kinase inhibitor under evaluation for solid tumors, and exploring very similar possibilities in comparison to ARQ087.
ARQ621 and 736's Investigational New Drug ("IND") applications have been placed on inactive status.
DS has terminated licensure and co-commercialization of the remaining candidate, ARQ092, an AKT inhibitor. ArQule now has worldwide rights to it; and is responsible for its costs. There is an ongoing Phase 1 trial and results are expected in the second half of 2014.
Competition is formidable. There is a who's who list of pharmaceutical giants that have been involved in Phase 2 studies of AKT inhibitors: AstraZeneca, Glaxo Smith Kline (GSK), Merck & Co., Inc. (MRK), and Eli Lilly (LLY). Genentech's GDC0068 remains in Phase 1. Lastly, SRI Biosciences has a product that completed a Phase 1 trial.
Globally, there are 750,000 new cases of liver cancer each year, and HCC represents over 90% of them (260k in 1997), roughly 675,000, with substantially higher presence in undeveloped countries (2% in USA). The vast majority, 80% of diagnosed patients, "…are inoperable and refractory to most conventional chemotherapies…" One study finds 27.9% c-Met expression in HCC. In its Q2 Conference Call ArQule gives 30% as a "Conservative assumption" to be c-Met high and available for second-line study.
It is reasonable to model at least (675,000 * 0.8 * 0.3) 162,000 potentially-addressable cases worldwide each year. Patients capable of paying for treatment would be a smaller number, close to 9,044 (3,240 in the USA; 40% overall population in Japan, 1,304; and 138% of USA's population in the EU, 4,500). At a treatment cost of $31,000, peak sales could be over $280 million.
A 2010 study shows small molecules having a 61% chance of advancing from Phase 3 to being an approved drug. Pursuant to ArQule's previous trials, there are questions about viability of inhibiting c-Met to treat HCC. While tivantinib has advanced through extensive study, and perhaps could see daylight, a 55% probability of success is within an acceptable range of likelihood while being somewhat conservative.
Launch would potentially be in 2016. Patent protection should remain in effect through 2029. A discount rate of 12.5% is used for the following reasons: the company has little debt, and therefore cost of it is low; and no one expects much from equities for the foreseeable future, and therefore the market risk premium is low also.
A royalty of 17.5% is assumed as ArQule refuses to provide any information. Using it, I arrive at a risk-adjusted $27 million p.a. in revenues. The resultant Net Present Value of an HCC indication for tivantinib is $138 million.
The two Phase 1 candidates that currently offer future possibilities face stiff odds of approval. DS's termination of ARQ092 speaks loudly. Further, it would be amazing if ArQule has obtained a better compound than its extensive competition.
ARQ087 appears to only be up against AstraZeneca's AZD4547 in the clinic. As such, ArQule might be in position to offer insight into FGFR inhibitors. Also, sorafenib, shown to prolong OS and PFS in HCC patients, is the first line treatment. Remarkably, mechanisms of resistance to sorafenib are believed to include FGFR-dependent and independent pathways.
Currently there are 62.4 million shares outstanding, plus another 8 million that could dilute investors pursuant to exercise of outstanding options, and 320,000 of vested and restricted stock to employees. I arrive at 70.7 million diluted shares. For two actively investigated Phase 1 drugs, $20 million or $0.28 per diluted share, is not too high an approximation; and ARQ087 is in Phase 1b.
Summing up the products valuations: $138 million + $20 million = $158 million. Thus, the company is worth $2.23 per share fully diluted and is not trading at a meaningful discount.
However, all of the above is cautious, and assumes no upside for a NSCLC indication of tivantinib. Other milestone payments are probable, but similar to cash on the balance sheet, need be burned through and are excluded from the valuation. Further, sales in developing nations offer potential.
While the company has raised a significant amount of its funds through equity issuances, the majority is actually shown to be generated through partnership milestones. Daichii Sankyo splits Phase 2 & 3 tivantinib study costs. ArQule solely pays its share of Phase 3 costs from milestone and royalty payments, and has netted its $36.9 million liability against [any] future payments from DS.
Under its agreement with KHK, future milestone payments for sales are a possibility, pursuant to $123 million remaining. They are not as likely to be triggered. Details about the agreements are proprietary; though it is known that KHK can walk away with 90 days notice.
At least in 2014, the financial onus is probably returning to stockholders. Though lower than past rates, close to $7 million per quarter is needed. Relevant considerations include:
- Savings of up to $4 million yearly pursuant to eliminating 26 employees commencing in 2014;
- Any additional lowering of R&D expense from approximately $8.5 million quarterly in 2012, and $6 million in Q3 2013;
- No foreseeable and offsetting milestone or royalty revenue, about $3.5 million quarterly in the past, in 2014;
- ArQule claims to have met capital requirements into 2016;
- General and Administrative averages out to nearly $3.2 million each quarter over the past two years.
At the time of the company's report for the period ended September 30, 2013, cash and short term investments are recorded at close to $80 million. Liabilities are approximately $40 million. The company burns roughly $7 million per quarter. Thus, there should be at least (80 - 40 - 7) / 70.7 = $0.47 per share in book value; a figure that can decline with time.
The company invests its cash. There are several risks related to ArQule's financial condition. While things appear to have run smoothly, it is curious to find that the company has no chief financial officer. Robert Weiskopf is VP of Finance.
A summary graphic from YCharts is not discouraging but may not be predictive in light of partnerships and milestones.
Even More Speculative
ArQule has NOLs that may be advantageous to it - or perhaps an acquirer, which is a most speculative matter. As of December 31, 2012, federal NOL, state NOL, and research and development credit carryforwards of approximately $265 million, $113 million and $26 million respectively are set to expire through 2032.
When a company acquires another company that has NOLs, they can be utilized for tax purposes. About 3.5% of the acquired company's value could count against tax liabilities, each year for 20 years until expiration, in the event of a buy in worth at least 50% of the company's value under §382 of the Internal Revenue Code. Roughly $5.6 million annually would ease the costs for an acquirer. NOLs can be applied toward the past two years as to result in a rebate or refund that is favorable to the purchaser's income statement and balance sheet.
Here are the results of summary calculations pertaining to federal NOLs only:
Federal NOLs: 5.6 / 70.4 = $0.80 per share p.a.
Tax benefit (multiplied by 35% tax rate): $0.80 * 35% = $0.28
Subtracting NOLs and then cash/liquid investment value from the current share price:
Maximum per share cost of pipeline, staff and other property in acquisition scenario = $2.30 - $.28 - $.47 = $1.85
An acquisition might never occur. However, if $0.28 can be used each year for years, a hypothetical buyout might be entirely worthwhile! The company should be known to AstraZeneca, as the British firm is also pursuing trials of AKT and FGFR inhibitors. DS and KHK are formally interested.
Patent expirations are ongoing problems can lead to disappointing results for them. ArQule's $26 million in R&D carryforwards; and substantially greater NOLs could certainly be used. AstraZeneca CEO Pascal Soriot has explicitly suspended share repurchases in order to pursue licensing and acquisition deals.
ArQule is working on some important things and has chances at helping people around the world. The company is not in a precarious state financially. However, it is an unprofitable micro cap and particularly risky. While conservative calculations show it to be fairly valued at current prices, and I doubt overvalued, multiple things can occur this year to change matters.
Phone call with Jason Zhang, Ph.D., Edison Investment Research, 2/6/14. Thanks!
Clinical Update, "Tivantinib back on track," 1/22/14, Edison Investment Research Limited, Jason Zhang, Ph.D. and Robin Davison.