Dendreon: Revisiting the Risk/Reward Scenario

The volatility in Dendreon (DNDN) over the last few weeks has been remarkable. The stock price has gone from ~$4 to ~$25 in a matter of a couple weeks. Recently, the stock price has retraced considerably to $15. The movement coincided with Provenge receiving a surprising vote of confidence on March 29 by the FDA Office of Cellular, Tissue, and Gene Therapies Advisory Committee. The Advisory committee voted 17-0 in favor of the safety of Provenge and 13-4 in favor that there was substantial evidence that Provenge works in the intended population. The retracement in the stock price from $25 to $15 follows skepticism that Provenge will get FDA approval on May 15.

In fact, on April 10, I wrote an article detailing my skepticism that Provenge would receive FDA approval in May. At the time, it seemed investors were focused on the 17-0 and 13-4 results from the Advisory Committee instead of taking a closer look at the study and how the committee came to support Provenge. Provenge had fail to meet its primary endpoint for efficacy and the post hoc analysis of a prolonged survival of 4.5 months in the first trial was not replicated in the second trial. The second trial showed the drug did extend overall survival by 3.3 months, however this was not statistically signficant.

In addition, when asked by the Committee for clarification on the efficacy question, the FDA gave a lenient interpretation when compared to the original question. Given the results of the study, I felt the FDA would take a prudent approach in May toward Provenge and offer an approvable letter requiring additional data before making a definitive ruling. However, after further study into the situation, admittedly, I have begun to realize that my original conclusion that the FDA would not grant a definitive approval of Provenge on May 15 may not have been as clear cut as I had previously concluded.

There are conflicting viewpoints on how to interpret the FDA's history of granting approvals. Typically, the FDA follows the recommendation of the Advisory Committee. However, the FDA also has a history of rejecting drugs that do not meet its primary endpoints in the trials. The FDA's approach to the approval process has been lengthy and conservative, choosing to be more cautious and avoiding a recall scenario like Vioxx. It was from this prudent approach that I originally concluded the FDA would do the same regarding Provenge.

With that said, the FDA's conservative approach typically stems from protecting the public from safety issues related to using a drug. In this case, Provenge has no safety concerns whatsoever as demonstrated by the 17-0 vote by the committee. There is a lack of available treatments for prostate cancer that have no safety issues. The next step is to revisit the rewording of the efficacy question for the Advisory Committee members. I can not disregard the possibility that the FDA knowingly gave a more lenient interpretation of the efficacy question to demonstate a shift in policy to a more lenient approach to the approval process. If the trials of Provenge had demonstrated there were any safety concerns, I do not think the FDA interprets the efficacy question as they did.

Lastly, the letter by Dr. Howard Scher in the Cancer Letter dated April 13 has been of much discussion in the past week. Dr. Scher was one of the four committee members who voted against the efficacy question. As would be expected, Dr. Scher quite convincingly outlines his arguments for why Provenge should not be approved in May. The market reacted to this letter sending the stock price of DNDN down a few points to its current levels. While the market reaction is understandable, I would like to direct anyone of interest to the rebuttal of Dr. Scher's letter in the article dated April 16, "Clarifying the Issues Surrounding Dendreon's Provenge". The author was quite knowledgeable and his/her arguments were examined in detail and very well thought out.

From a Trading Aspect:

In my article on April 10, I stated the risk/reward scenario of DNDN at $25 was not favorable to investors. At the time, I believed Dendreon would not receive approval from the FDA on May 15 and that an approvable letter would be issued instead. The $25 stock price suggested investors had more or less assumed a definitive approval in May. An article in Biotech Stock Research suggested DNDN would be bought out at $30 after receiving approval in May. While I did not fully agree with the assumption of approval in this article, needless to say, a $5 upside was not worth the potential risk if the company did not receive approval of Provenge.

With that said, the risk/reward scenario at $15 is quite different. While I originally concluded there was very little chance the FDA would definitively approve Provenge in May, after more careful thought, I believe the decision could go either way. Addressing the downside first, over the last two weeks with articles in Forbes and Dr. Scher's letter, there has been a shift in investor sentiment. It seems investors have begun to accept the likelihood that DNDN will receive an approvable letter as evidenced by the 10 point drop in the stock price. In general, approvable letters are often viewed by investors as a delay in the approval process and subsequently, the stock prices tend to sell off.

I mentioned POZEN (POZN) and Inspire Pharmaceuticals (ISPH) as examples of this in the article dated April 10. POZN traded down from ~$15 to ~$5 after the FDA issued the company an approvable letter in June 06 for Trexima. ISPH went from $7.50 to $5 in December 05 for Prolacria's approvable letter. However, investors of POZN and ISPH were expecting approval of Trexima and Prolacria and were disappointed by delay. That is not the case with DNDN at this time. Most of the sell off anticipated from the issuance of an approvable letter may have already occured. While there could be further downside (perhaps down to $12-$13), I believe this to be quite minimal given the current levels. In addition, any immediate selling pressure would most likely be muted given the large short interest. There were 26mm shares short in March. Expect significant short covering before and after the May 15 announcement.

The key going forward is to define the upside given the current scenarios. JPM Securities LLC believes Provenge has a 50% probability of approval in May. If DNDN receives full approval, the impact on the stock price would be tremendous. Needless to say, in such a situation, the stock price would most likely trade well above the $25 high, perhaps in the $30-$35 range. At current levels, with a 50% chance of approval, there is $2-$3 downside vs $15-$20 upside. A 1:5 risk/reward is clearly in the investors' favor. Furthermore, with the approval of Provenge, there could be further upside with DNDN's ability to explore partnerships with major pharmaceutical companies or possibly a sale of the company.

Moreover, in the event the FDA decision swings the other way and the company receives an approvable letter, in the long term, the stock price may still experience significant appreciation . In many instances, a buying opportunity has presented itself after a sell off from an approvable letter. After ISPH was issued an approvable letter for Prolacria, the stock price stabalized around $5 and then rose as high as $8. After POZN received its approvable letter, the company continued to work with the FDA through the approval process. As further studies were released, the stock price rebounded and traded higher than the $15 level it had orginally fallen from. POZN recently submitted its amended response for Trexima to the FDA for review. While this would be a lengthy process, DNDN could see similar price appreciation as data from the third trial is released.

In conclusion, the risk/reward scenario has flipped from two weeks ago. Investor sentiment has flipped from expecting an approval to expecting an approvable letter. Subsequently, the stock price has decreased 40% from its highs. To begin with, there is very little risk, if any at all, that the FDA outright rejects Provenge in May. This should eliminate any fears that the stock price will return to $5. Most investors believe the FDA will issue an approvable letter. While it is difficult to predict which way the FDA will rule in May, with the lack of safe prostate cancer treatments available, there is a real possibility that a more lenient FDA could grant approval for Provenge. The current stock price is not reflecting this possibility. If one assumes the probability of approval is about the same as the probability of an approvable letter, the stock price should trade up to the $21-$24 range before the May 15th decision. Expect investors to identify the inefficient behavior of the current stock price and take advantage of the risk/reward scenario present.

Disclosure: Author is long DNDN

DNDN 1-yr chart

Comments

[Wall Diver:]

While many on Wall Street still believe that the FDA won't approve Provenge on the current dataset, don't forget the recent survey of positive overall committee votes and subsequent FDA approvals. The positive panel votes were reaffirmed by the FDA approximately 97% of the time in that survey, although the survey didn't include ODAC, VRBAC, or CTGTAC, the latter being the committee that voted on Provenge. I would imagine that the percentage would stay close to 97% or even improve on that figure if these committees were included.

Also, don't forget that the CTGTAC chairman Dr. Mule was the one who asked for clarification on the efficacy question, and the head of CBER (the division which decides on whether or not to approve therapeutic and prophylactic vaccines) and the head of the Office of CTGT were the two people who changed the efficacy question to make it conform with the FDA's own guidelines for drug approvals.

2007 Apr 23 06:04 AM

[H S:]

Just my 2 cents:

JMP's target price is $24 assuming 50% approval.
Adam Feuerenstein's target is "in the 40's"

Assuming an approval, $1 bln revenues (2-3 years down the road) and a 10x sales multiple (as in today's MEDI's deal) as a future takeover value for Dendreon -- that's $125/share. Throw in 10% dilution and another 30% discount (2-3 years) and the expected bidding war (Roche, Novartis, Pfizer) could end at $60-$80 before the end of THIS year.

So -- the risk reward ratio is even better that described above -- can anyone name a better risk/reward play in the market?

2007 Apr 23 06:53 AM

[dennisslosser:]

Still a believer that dndn should bi in 50-70 range come end of may

2007 Apr 23 12:49 PM

[The Kennel:]

We rec'ced Dendreon back on 10 Jan 07 (stock closed at $4.01) and have held ever since. We believe the odds of full FDA approval by 15 May or shortly thereafter - probably with the condition that 9902B be fully enrolled and completed - are better than the odds that Provenge really works...and the FDA biostat guy set those latter odds as 39-out-of-40. We believe the FDA want to approve Provenge and open the door to immuno therapies. (We also believe that not approving it here would be wrong, considering that thousands of prostate cancer victims who might be helped by Provenge will certainly die between now and 2010 without it.)

Having said that, I am constrained to admit that, in the unlikely event we should get an approvable letter dependent on positive results of 9902B, then I expect the stock will go MUCH lower than $15. It will be 2010 before those results are known. By then Dendreon will have been forced to dilute to raise cash to survive, the competition will have three years to catch up, and there remains that risk that Provenge actually doesn't work. We would be lucky to stay north of $2, imo.

But then we don't expect to be testing that theory in this dimensional universe.


Brad Hessel (personally long DNDN common and LEAPs)
Manager, The Kennel

2007 Apr 23 03:09 PM

[sangell3:]

Indeed, we are talking a acne, toenail fungus or in the case of ISPH a 'dry eye' treament here. Therefore any concerns over 'efficacy' are mitigated. For the FDA to delay Provenge puts them in much the same bind as that Virginia Tech president got in by failing to issue a campus 'lockdown' after the first murders. In the event Provenge is ultimately approved the delay will have caused many thousands of deaths!

The public will want someone's head on a platter for stalling the release of a treatment that was known to be safe yet, because it was not made available dear old Dad died! The bureaucratic instinct is to play it safe, the medical need is compelling and there are thousands of AIPC patients will nothing to lose. Tell me
how the FDA is going to issue an 'approvable letter' again?

2007 Apr 23 04:57 PM