BioDelivery Sciences Remains Undervalued

| About: BioDelivery Sciences (BDSI)

Summary

Not much has gone the right way for BDSI over the last 12 months.

Bunavail’s growth came to a halt, but there are some catalysts that could push prescription rates higher in 2017 and beyond.

Belbuca is off to a slow start; Endo is struggling to increase prescriptions in a very unfriendly opioid market.

Despite the setbacks, BDSI is trading significantly below fair value of Bunavail and Belbuca alone.

Not much has gone the right way for BioDelivery Sciences (NASDAQ:BDSI) over the last 12 months. I was really optimistic last year after seeing a strong uptick in demand for Bunavail and expected a lot more from Endo's (NASDAQ:ENDP) commercial launch of Belbuca. In the meantime, Bunavail's growth came to a halt and Belbuca's prescription growth has been painfully slow, but Belbuca is at least growing. But all is not lost. BDSI was able to partner Onsolis in the U.S. again and things are finally looking up for Bunavail. Belbuca is fine - it is just growing slower than I expected. BDSI's market cap is really low considering the growth potential of these products and the company is taking steps to improve its cost structure, which should bring it closer to cash flow breakeven sometime in 2018. I am reiterating my bullish view on BDSI and think the stock is worth between $6 and $7 per share.

A quick recap of my thesis and the things that transpired since my last article

Back in November 2015, I thought the market would stop neglecting BDSI in 2016. I will provide a few quick points of my previous thesis and add what has happened in the meantime:

  1. Bunavail prescriptions have ramped up significantly in the May-October time frame and I expected that trend to continue in 2016 and beyond. This did not happen. Granted, some of the growth catalysts have not kicked in yet (more on that later) and there were some unexpected headwinds, but that's not an excuse.
  2. Belbuca launch. Endo did launch Belbuca earlier this year, but prescription growth has so far been underwhelming. Endo has a leverage problem and this may have constrained the growth of Belbuca in recent months (though I believe this has not been a major drag on performance) and the opioid market itself is going through a rough patch, which was not expected back in late 2015, as the market was showing healthy growth at the time.
  3. Onsolis partnership. The company did partner Onsolis, but the partner is a company with no prior commercial history - Collegium (NASDAQ:COLL). The upfront payment was minor and I did not expect much from Onsolis back then, and I still don't expect much from this product.
  4. Clonidine gel trial results. Nothing has happened here yet. The company should report phase 2b trial results near the end of Q4 2016 (which is actually ahead of schedule).
  5. I argued that the stock was undervalued relative to the growth prospects of its products and this has not changed since then, but I need to lower my expectations for Bunavail and Belbuca.

I would say that Bunavail and Belbuca are mostly responsible for BDSI's poor performance over the last 12 months. The biotech bear market did not help either, but the sector has recovered over the last few months and BDSI didn't, so I think this is not a real justification. This article will shed more light on the issues the company has and the upside/downside potential for the stock.

What to expect from Bunavail going forward?

Bunavail has been a major disappointment. Weekly prescriptions are roughly flat over the last twelve months. But there is more than meets the eye. The company decided to overhaul the sales force and to move the top-performing sales reps from Quintiles in-house. The move has effectively reduced the number of sales reps earlier this year and has impacted prescription growth over the last few months. However, it seems that sales rep productivity has increased considering the fact that scripts remained roughly flat - so, there are more scripts per sales rep and that's encouraging.

As a part of the above-mentioned sales-team restructuring, BDSI is also looking to cut the overall sales and marketing costs, as well as production costs and increase profitability per script. The efforts have yielded results. Net revenue per script has increased from $72 in Q1 to $74 in Q2 and up from the low to mid 60's in 2015 and the company expects that trend to continue. Cost of goods sold has decreased by 30% in Q2 and is expected to decrease by almost 30% more by the end of the year. BDSI also expects to save $20 million in sales and marketing costs through the end of 2017, or slightly above $3 million per quarter. Management expects to bring Bunavail to profitability by the end of 2017 and says 4,300 scripts a week are enough to do that. The average scripts per week were roughly 2,300 in recent months, which means that the company is 2,000 scripts a week short of that goal. And considering the recent positive changes, I think that the goal is achievable.

As a reminder, in June 2016, BDSI presented data which showed that prescriptions of Suboxone in Tennessee decreased from a weekly consistent peak of more than 1,600 prescriptions to less than 200 within one month of the switch to Bunavail, while BUNAVAIL prescriptions increased from a low of 19 to approximately 600. This represents a 63% reduction in overall buprenorphine/naloxone prescriptions in the plan and they remained at these levels throughout the measurement period, which resulted in savings of approximately $14 million for the state budget. This significant decline in buprenorphine-naloxone prescriptions is largely attributed to diversion. BDSI will likely use the data as a strong selling point in negotiations with payors.

There are also three important growth catalysts for Bunavail in the following quarters:

  1. Increased access is the first important growth catalyst for Bunavail in 2017. BDSI announced several contracts that should boost Bunavail scripts in the territories covered by those contracts. One of the important selling points for future contracting is the above-mentioned success in Tennessee. BDSI seems to have a clear value proposition over competing products (Bunavail contains the least amount of buprenorphine per dose, thus making diversion less likely), which should help with the state and commercial contracts going forward.
  2. The Department of Health and Human Services (or HHS) has recently announced that it will allow physicians to treat up to 275 patients with buprenorphine for opioid dependence instead of the previously allowed 100-patient limit. The change took effect in early August and HHS believes this measure will increase the number of treated patients by around 90,000 and the number of annual scripts by half a million in the first twelve months. It is important to note that providers will need to affirm that they have a diversion control plan in place to minimize the risk of misuse and diversion. This could be really favorable for Bunavail since it contains the least amount of buprenorphine per dose and is, therefore, less likely to be diverted. The full impact of the increased patient cap should be realized during 2017.
  3. BDSI is looking to improve patient awareness through a direct-to-patient initiative. The company launched a digital ad campaign earlier this year and it is "encouraged by early signs demonstrating that the program is driving meaningful interest in Bunavail, as evidenced by the more than sevenfold increase in visits to bunavail.com in test markets." It is yet unknown how much this awareness campaign will help with prescription growth, but I am sure there will be at least a minor effect in targeted territories in the following quarters.

The efforts BDSI is making sound encouraging, and the breakeven goal by the end of 2017 sounds achievable. The company took full control of the product earlier this year, it is making significant headway in gaining better access and the success in Tennessee that resulted in significant savings for the state is a very good selling point for future negotiations. The increased patient cap should also go a long way in existing and new markets in 2017 and beyond.

However, I was seemingly too optimistic last year about Bunavail's peak sales. Now, I think that the company doesn't have the necessary resources to get Bunavail sales to $130-200 million (though the product itself does have the potential in the hands of a financially stronger company). BDSI has since reduced its sales force and overall spending and I am reducing my peak sales estimates (in 2020) to a range of $50-70 million. Annualized sales are around $8-9 million at the moment and could reach $15-20 million in 2017 based on the company's plans. And since around 4,300 scripts a week are needed for the product to break even, this means that the total annual costs for Bunavail are around $18-20 million. Anything above that should flow through to the bottom line and I assume a modest spending ramp to drive higher sales once the product hits the breakeven point. Based on $50-70 million in peak sales by 2020, Bunavail's net present value is $2.7 per share (based on the mid-point of the range). This means that BDSI is undervalued based on Bunavail alone. Please note that my calculation assumes that the profits are fully-taxed which is really conservative as I believe the company will not pay taxes anytime soon considering the accumulated losses in previous years.

Low estimate Mid-range High estimate
Bunavail 2020 sales 50 60 70
Net income 15 19.5 24.5
Multiple 15 15 15
Future value 225 292.5 367.5
Diluted shares outstanding 57 57 57
Future EPS 0.26 0.34 0.43
Discount factor 0.533 0.533 0.533
Present value 119.96 155.95 195.94
Price target 2.10 2.74 3.44
Click to enlarge

Source: author's estimates and calculations

Belbuca - slow progress and a highly indebted partner

I expected more from Endo and Belbuca last year. The launch is progressing slowly and Belbuca's weekly scripts have reached 1,600 in late September. Based on Belbuca's list price, this translates into approximately $25 million in annual gross sales and probably to around $15-17 million in net sales, assuming a gross to net discount in the 30-40% range. This run rate translates into roughly $2.5 to $3 million in annual royalties for BDSI. Endo has its own problems as its revenue growth has stalled over the last few quarters, causing its share price to plummet and making the debt really burdensome.

Another problem is the opioid market itself, which was growing at a healthy rate in 2015 but has actually declined around 4-5% Y/Y in 1H 2016 due to the rising awareness about the opioid epidemic.

However, Endo remains optimistic about Belbuca and said it will actually increase spending to accelerate prescription growth going forward. Access is always an issue with new drug launches and Endo has done a good job. Roughly 85% of commercial lives are now covered and about 70% of those lives are without any restrictions beyond the label. Government reimbursement is still not in place, but Endo believes that it has a "pharmacoeconomic and public health argument for why a Schedule III product like Belbuca is preferable to other opioids such as Schedule II products in terms where it is introduced in the treatment algorithm." Endo intends to spend a lot of time and effort to improve access as it believes that buprenorphine is a safe and effective alternative in the opioid space, "both from a payer as well as from a physician standpoint." Endo also said on the Q2 call that we should really look at 2017 as the first year of meaningful revenue contribution for Belbuca.

So, we should see a meaningful uptick in demand for Belbuca in 2017 based on increased awareness and better coverage. Piper Jaffray expects Belbuca to bring $117 million in net sales for Endo in 2017, which translates into close to $20 million in royalties for BDSI (if we assume a 15-16% royalty rate) and the firm expects Belbuca's annual sales to peak at $300-400 million. I still think Belbuca can eventually reach $500 million in annual sales, but, as with Bunavail, I am going to temper my expectations. For modeling purposes, I assume $250-300 million in annual sales in 2020 and a 17% royalty rate (the agreement states mid to upper teen royalty rates), which yields a net present value of Belbuca of $4.3 at mid-point of the range. As with Bunavail, the model assumes royalties are fully-taxed, which is very conservative considering the accumulated losses over the last few years.

Low estimate Mid-range High estimate
Belbuca 2020 royalties 42.5 46.75 51
Net income 27.6 30.4 33.2
Multiple 15 15 15
Future value 414.375 455.8125 497.25
Diluted shares outstanding 57 57 57
Future EPS 0.48 0.53 0.58
Discount factor 0.533 0.533 0.533
Present value 220.93 243.02 265.12
Price target 3.88 4.26 4.65
Click to enlarge

Source: author's estimates and calculations

The combined base case net present value for Bunavail and Belbuca is $7 per share. The conservative case is $6 per share and the bullish case is $8 per share.

Not expecting much from Onsolis

BDSI partnered Onsolis with Collegium. There is not much to gain from Onsolis, as much of the economics are shared with Meda and the contribution should be small, to begin with. Anything that comes from Onsolis should be welcomed, but I am not assigning any value to this product. In a best case scenario, this is a $0.50 to $1.00 asset for BDSI.

Clonidine gel could create some shareholder value

We should have more clarity on Clonidine gel later this year. BDSI should report phase 2b trial results in late 2016 and this could significantly de-risk this candidate. Unlike Onsolis, Clonidine gel could become a very valuable asset for BDSI. The company thinks that the peak sales potential for Clonidine Gel is around $300 million. If phase 2b results are positive, this could become an attractive asset to potential partners and BDSI could sign a partnership deal similar to the one it got with Endo for Belbuca. I am not assigning any value to Clonidine gel at this point, but think that successful trial results could add $1.50 to $2.00 per share to BDSI's NPV later this year.

A look at the financials

BDSI had $57.4 million in cash and equivalents at the end of Q2. The company said this is enough to last through Q3 2017 and that it does not have immediate capital-raising plans. Cash expenses in Q2 were around $16 million and the company guided for a $3 million a quarter reduction in costs going forward, so I think it is safe to assume that cash expenses will be in the $14-15 million range a quarter in 2H 2016 and likely in 2017.

On the revenue side, the best case scenario for 2017 is for Bunavail to generate $15-20 million in net sales and Belbuca royalties to be $15-20 million as well. This translates into cash shortfall of $15-25 million in 2017, while the 2H 2016 cash burn should be in the $20-25 million range. This means BDSI will likely be strapped for cash by mid-2017. However, if all goes well with Belbuca and Bunavail in 2017, BDSI could be really close to cash flow breakeven by mid-2018. I think BDSI will need to raise capital at some point in 2017, but am not sure what route the company will take. I think BDSI will need between $20 million and $30 million to bridge the gap to cash flow breakeven in 2018. Assuming the share price remains depressed, this translates to 10-15% dilution (or slightly more). Dilution is not included into my model above since it is uncertain at this point and the base case price target goes down from $7 to around $6 in such a case. A debt raise is one alternative and successful trial results for Clonidine gel could attract partners willing to pay $20-30 million upfront for the worldwide or ex-U.S. rights.

Risks

BDSI failing to drive Bunavail prescriptions higher in the following quarters and Endo failing to drive Belbuca sales towards $250-300 million over the next few years are the main risks to the thesis. Both Bunavail and Belbuca are fighting for a piece of a highly competitive market and both might fail to live up to (now lower) expectations. The opioid market is shrinking and physicians and patients may not appreciate Belbuca's advantages over competing products.

Funding/dilution is also a concern and was mentioned in the financial overview. This could especially pose a problem if Bunavail and Belbuca don't deliver what is expected of them.

Onsolis is not a concern of mine since I am not expecting much from it and neither is Clonidine gel as both I and the market (as it seems considering the company's market cap) are not assigning any value to this asset.

Conclusion

I believe BDSI is undervalued at current levels. 2016 did not turn out to be a breakout year for the company, but things are looking up and Bunavail and Belbuca should do much better in 2017 and beyond considering the better coverage and a potentially smarter and more aggressive push by both BDSI and Endo. I think BDSI is conservatively worth $6 per share and that it could eventually fetch $8-10 per share based on:

  • Bunavail and Belbuca hitting the high end of my estimates.
  • Including Clonidine gel's value based on positive phase 2b trial results later this year.
  • Adding $0.50 to $1.00 to the NPV for Onsolis, though I think this is least likely to happen.
  • The company has a phase 1-ready asset - a 30-day sustained release buprenorphine injection for pain and addiction. It's still too early to put any value this asset, but it could also add $0.50 to $1.00 per share on positive phase 2 results in a few years.

BDSI's fully diluted market cap is around $140 million as of this writing and a lot of the negativity seems already priced in. I think the value of the assets exceeds the current market cap by at least 50% in a fire-sale scenario and that BDSI is worth at least $6 when looking at just Bunavail and Belbuca.

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I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.