Cashing In On Diabetes: The Race To The Artificial Pancreas

by: Jessica King Holden

Since the development of urine glucose test strips in 1956, the market for medical devices for testing and treating diabetes has grown substantially. Research for and commercialization of diabetes diagnostic tests and treatment devices have certainly been growth areas in the past and there is no ceiling in sight. Diabetes currently affects some 275 million individuals worldwide and is expected to affect 439 million by 2030. Diabetes, globalization/industrialization and medical research and technology seem to be on a collision course of growth. The estimated $10 billion a year diabetes testing market will increase in revenue as monitoring technology becomes more tied to innovative treatments. Some projections put the diabetes market at $115 billion by 2016. How can the investor cash in while supporting business interests working on the disease?

Juvenile Diabetes Research Foundation's Support of CMG

Nearly 26 million Americans have some form of diabetes. While only 5% of all cases are Type 1, this segment is often least responsible and most affected by the condition, not to mention the youthful diagnosis which often pulls at the heart strings (and purse strings) of individuals and organizations alike. The Juvenile Diabetes Research Foundation (JDRF), formed in 1970, funds clinical research, support and awareness for the disease with its ultimate sights set on a cure. Annually, the company raises $100 million and funds research in over 20 different countries.

A lion's share (90%) of the market in diabetic diagnostics goes to Johnson & Johnson (NYSE:JNJ), Abbott Labs (NYSE:ABT), Roche (OTCQX:RHHBY) and Bayer Healthcare (OTCPK:BAYZF). That's approximately $9 billion a year split between these companies in diabetes alone. As technology advances, however, some groups are making a name for themselves. Abbott, Medtronic, Inc. (NYSE:MDT) and DexCom, Inc. (NASDAQ:DXCM), have been given the nod from the JDRF for their FDA approved continuous glucose monitoring (CGM) devices. Clinical trials sponsored by JDRF have shown significant improvement in blood glucose control for Type 1 diabetics with the use of these CGM products, which provide as close to "real time" monitoring as currently technologically possible. This technology is also a key step leading to the ultimate goal of a self monitoring pump system also known as the "artificial pancreas." While two of the names are bigger players in the healthcare field, one offers the smaller cap risk/reward profile that could have a larger upside.

Abbott offers its FreeStyle glucose monitor line including the FreeStyle Navigator, a wireless technology that updates glucose readings every minute. Abbott's device also provides the ability to predict glucose trajectory and in doing so has the ability to offer advanced blood glucose warnings (both high and low) to the wearer, though the performance of the projected alarms, according to its website, has not been established. The device can be worn continuously for up to 5 days.

Abbott's position as a major healthcare player offers it the stability and cash to develop, acquire and market additional diabetes products such as its therapeutic nutrition line, including Glucerna ® and Nepro ®. It is in fact the largest nutritional support company in the world and the second largest diagnostic device provider. The company brings in over $5 billion in revenue from nutritional products and over $3 billion from medical devices. When Abbott splits into two companies, as planned at the end of 2012, the medical device and therapeutic nutrition lines will stay intact under the Abbott name, retaining that $22 billion side of its operations. The drug development company, as yet to be named, will focus on building upon the success of drugs like Humira but could offer a potential takeover target. The soon to be ABT medical device company will shed the risk and cash burn associated with drug development and may see more valuation.

Medtronic provides a smaller cap company devoted to diabetic diagnostics. Its MiniMed Paradigm Real-Time Revel System® offers a pump which is CGM capable using its Guardian System® monitoring. The Guardian System, similar to Abbott's Freestyle Navigator, offers advanced warnings of blood glucose shifts. This combination system is currently only available commercially outside the United States. Clinical studies through MDT's ASPIRE trials released positive data February 29 towards developing a more automated pump/monitor system, potentially building a bridge towards the "artificial pancreas" sought after by diabetic medical device makers and patients alike. According to Medtronic, advanced warnings improve hypoglycemia detection by 36%. Medtronic is unique in its all in one, capable of insulin pump and CGM combined, which is approved internationally but not yet in the U.S. Further, Medtronic's profile offers a more child-friendly product line that includes FDA approved CGM for children and an overnight remote monitoring device for parents called MySentry®.

Both these bigger players in the CGM market are financially stable choices. The $40 billion market cap Medtronic offers a 2.6% yield dividend compared to the $89 billion market cap Abbott's 3.6%. Medtronic's dividend growth rate exceeds Abbott's at 18.1% compared to 10.3% though Abbott's revenue growth is nearly 5 times that of Medtronic. Either offers an interesting dividend play in the field of diabetics. Purists will lead toward Medtronic's devoted technology and potential but Abbott's restructuring could provide increased valuation of its medical device operations. Near its 52 week low, it may be time to give Abbott a look.

DexCom, Inc. (DXCM) is the smaller cap company which is recognized for its advances in sensor technology. It provides CGM through its wireless DexCom Seven PLUS® product. Its technology offers reading updates every 5 minutes, compared to some competitors' faster speeds, but offers increased sensor accuracy in readings. DexCom's product can be worn continuously for up to 7 days and is currently the only company providing a sensor that is FDA approved for wear for longer than 5 days. The company also provides data monitoring software and mobile apps related to support diabetic health through the use of its products.

Artificial Pancreas, Real Time Revenue for Smaller DexCom?

JDRF's largest undertaking is the Artificial Pancreas Project. The organization plans to endow a total of $8 million to support the project until 2013. The ultimate goal of the project is an FDA approved automated pump/implanted monitoring device combination for Type 1 diabetics. The project, begun in 2006, provides JDRF funding to academic and business pursuits working toward the goal. Animas, a Johnson and Johnson subsidiary, focuses on insulin delivery and glucose management. It is a primary business sector entity on the project. DexCom has partnered with Animas to provide its CGM technology, a major nod considering its lower profile in the market. Roche's Accu-Chek ® Spirit Combo insulin pump, which utilizes Bluetooth® technology is also being used in research on the project. In late 2011, the FDA released guidance for the project with a bit more flexibility than anticipated leading up to the announcement. It appears that attention and powerful backing from government interests has perhaps worked to propel the project over potential hurdles.

With a market cap of $693 million and current negative cash flow yet great potential, DexCom has the risk/reward profile more typical of this sector. Its revenue has increased consistently, though it recently missed estimates on FY 2011 earnings. With ties to the Artificial Pancreas Project, this stock is expected to grow revenue by double digit margins moving into 2013. The company is awaiting approval of its Gen4 and Gen5 sensors in the pipeline, which look to be available for commercialization in 2013 and 2014 respectively. Brean Murray upgraded the stock to Buy in mid-January after some volatility. The company raised its target price on the stock to $13.50 in late February after DXCM announced plans to acquire Portland based SweetSpot Diabetes Care Inc. SweetSpot offers DXCM diabetes data management capabilities to further its CGM technologies.

Further positives for the company include recent pivotal trial progress with the company's Gen4 Senor. These sensors, when FDA approved as is expected later in 2012, will be utilized in Animas and Insulet Corp's (NASDAQ:PODD) OmniPod products. Gen5 sensors are scheduled for use in Roche products in 2014. Roche Diagnostic's Accu-Chek ® will come with DexCom CGM technology. Further, Roche Diabetes Care division will distribute DXCM technologies, expanding its market share moving into the coming years.

Artificial Pancreas, Real Competition

It appears that the Artificial Pancreas Project has spurred even more competition amongst medical device makers to develop improving technology. The FDA's supportive guidance on the matter thus far has offered hope for an easier road to approval in the US for products functioning like an all-in-one monitor/pump system. MDT and Pancreum are working on their own versions of the project. MDT released positive data for its MiniMed Paradigm insulin system this week. As recent as March 5, microcap PositiveID Corp. (NASDAQ:PSID) announced completion of a first-in-class glucose sensing system for its implanted GlucoChip device, potential keystone player in an artificial pancreas system. While at 0.12 a share and years away from any commercialization, this company holds promise in technology it more so serves to show the upstarts vying for a piece of this pie.

Who Will Win?

The realization of such a system with approval could render current pump systems second class technology or obsolete in some markets, opening and creating market share for newer, albeit likely high cost, more efficient technology in the artificial pancreas. Chances are many players will be in the game come time. Who is most likely to benefit from this race? DexCom's ubiquitous nature in partnerships makes me believe they will only grow in this field in the future. Medtronic's has the financial backing to support its drive to be first in the field. A diverse portfolio with DexCom's potential and Medtronic's stability, dividend and focus could reap rewards.

Disclosure: I have no positions in any stocks mentioned, but may initiate a long position in DXCM, MDT over the next 72 hours.