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ViroPharma (VPHM) is a relatively small biotech with two drugs on the market. Its legacy drug is Vancocin (vancomycin), which was acquired in 2004 and is used for the treatment of Clostridium difficile [CDI] infections, a digestive tract problem. Vancocin accounts for about 63% of revenues and yields 90% gross margins.

ViroPharma's second drug, acquired in 2008 with the buyout of Lev Pharmaceuticals, is Cinryze. Cinryze is the first and, so far, only treatment approved for the prevention of hereditary angioedema [HAE], a rare genetic disorder that causes potentially dangerous swelling. Cinryze produced the remaining 47% of sales in the most recent quarter.

Conceptually, it might be helpful to think of ViroPharma as a see-saw, with Vancocin on the falling end and Cinryze on the rising end. Vancocin has long been without patent protection (it expired back in 1996), and was protected only through regulatory limitations on developing a generic competitor, which were lifted about a year ago. Generic competition for Vancocin is expected to drastically affect ViroPharma's sales of the drug, starting as early as this year. Many analysts believe that the drug's contribution could fall to about $100 million within a few years, from a run rate of over $240mm this year, taking a third of current revenues along with it.

On the other hand, Cinryze is most certainly a growth story. Because it is the first approved preventative treatment for HAE, and HAE is a rare disease with a very limited market (less than 200k people in the U.S.), Cinryze has won orphan drug status, giving it a legal monopoly for 7 years, until 2015. ViroPharma will take full advantage, charging as much as $350,000 per year for use of the drug. Sales have taken off. Management projects $170 million in Cinryze sales for 2010, up from $97 million last year, the first year on the market. The peak market in the U.S. is estimated to be about $400 million a year, and ViroPharma is also making plans to launch the drug in Europe, where similar orphan drug laws exist. Longer term, the company will try to expand the use of Cinryze into additional indications for HAE. In a nutshell, this drug should at the very least take the place of lost Vancocin sales, and probably contribute to growth on top of it.

ViroPharma also has an in-house R&D pipeline, but it has been remarkably unsuccessful... consider that both marketed products were acquired, not developed in-house. The leading pipeline candidate, maribavir for cytomegalovirus, failed Phase III trials last February and was effectively discontinued. A partnership with Wyeth (now Pfizer (NYSE:PFE)) for a hepatitis C drug was broken off after failed Phase II trials. The company currently has a few pipeline candidates, the most promising a novel treatment for CRI to replace Vancocin. However, the pipeline is probably years away from contributing, even if successful.

The company has solid financial characteristics. The balance sheet has over $406 million in cash, with just $142 million in debt. Trailing 12-month free cash flow is prodigious at nearly $160mm. Operating margins currently sit at over 44%, although this will not be sustainable as Vancocin sales decline. Clearly, ViroPharma has plenty of ammo to pull off another shrewd acquisition similar to the Lev purchase.

Right now, ViroPharma looks somewhat undervalued at about $13.25. Projections for 2011 are for slightly over $300 million in revenue, but this seems too conservative considering they are still pulling almost $70 million a quarter in Vancocin sales and Cinryze is at $170mm a year already. MagicDiligence sees something closer to $350mm in revenue for 2011. This makes ViroPharma look quite cheap at a 12.5% forward earnings yield. A decent fair value for the stock is about $16, and I'm assigning it a "positive" outlook.

Investors should understand there is a fair amount of uncertainty around that figure, however. If Vancocin sales continue to remain stable, and Cinryze quickly reaches its market potential, ViroPharma could easily be worth over $20. On the other hand, if generic competition obliterates Vancocin, Cinryze levels off, and ViroPharma is unable to bring new drugs to market, the fair value could be below $10. This significant uncertainty holds me back from considering the stock as a Top Buy choice.

Disclosure: Steve owns PFE

Source: ViroPharma: A Tale of Two Drugs