Is Navidea Biopharmaceuticals Overbought?

By Nessan Bermingham, Patricia Evans and Richard Daifuku

We believe that Navidea Biopharmaceuticals (NYSEMKT:NAVB) has been overbought in the marketplace and that the company valuation may be nearing a plateau, even should their lead program, Lymphoseek, gain approval in September (PDUFA date Sept 10, 2012). Our thesis is driven by 1) current true valuation and revenue opportunity, 2) the probability of approval and, if approved, the product label compared to standard of care, 3) reimbursement and physician uptake, 4) liquidity and finally 5) a lack of additional near-term stock catalysts beyond Lymphoseek.

Company Primer

NAVB (formerly NeoProbe) is a biotech company focused on the development of radiopharmaceuticals for diagnostic use. Their lead program, Lymphoseek, is a diagnostic for lymphatic mapping for use in the care of cancer patients. Lymphoseek combines the radioisotope Technetium-99m (99m Tc) with a targeting agent composed of mannose sugars that is designed to bind to the mannose receptors located in the lymph nodes. It is thought that this approach provides a more accurate and faster map of the lymph nodes and, ultimately, may be an appropriate diagnostic modality for sentinel lymph node (SNL) mapping. The company has completed two Phase III clinical trials comparing Lymphoseek to vital blue dye (VBD) (see below). These data, along with a safety database of over 500 patients, have been submitted to the FDA for approval. A PDUFA date has been set for Sept 10, 2012, following a 90 day delay from the prior PDUFDA date due to an FDA request for additional CMC data.

The company has two additional programs (see chart 1) and is currently evaluating a third program, Altropane, for which they have an option to license that expires July 31, 2012.

Target Market

Navidea is seeking approval for Lymphoseek, a radiopharmaceutical for lymphatic mapping, in the treatment and care of cancer patients. The initial indications sought are breast cancer and metastatic melanoma.

What is lymphatic mapping and why is it important? When a cancer metastasizes to other tissues, malignant cells travel via the lymph system and can be found in the first node they enter (i.e., the sentinel lymph node (SLN)). In evaluating the stage of cancer, a physician needs to biopsy the node(s) to determine whether any malignant cells are present. A negative SLN biopsy enables the patient to avoid a more extensive axillary lymph node dissection and the associated risk of lymphedema, sensory disturbances and chronic pain.

In the United States, the current approach to map the lymphatic system and thereby identify the sentinel node is to use vital blue dye (VBD) and 99m Tc sulfur colloid (or derivative) injection (SCI). These tracers, when injected at the site of the tumor, enter the lymphatic system and are subsequently traced either visually, in the case of VBD, or using a gamma detector (handheld detector or camera), in the case of SCI or Lymphoseek.

SNL detection is a significant market opportunity. The incidence of breast cancer is estimated at 230,000 in the US, of which ~80% will have some form of lymphectomy requiring mapping of the lymphatic system, while the incidence of metastatic melanoma is estimated at ~30,000.

Current Standard of Care

Previously, lymphatic mapping was carried out using VBD that passively moves through the lymphatic system staining the lymph nodes blue. VBD is cheap but has a number of limitations, one of which is the requirement for the physician to physically visualize the location of the dye, another being allergic reactions which occur in 1-3% of patients. In July 2011(following initiation of Lymphoseek's Phase III clinical trials), the FDA approved SCI (Pharmaleucence) for lymphatic mapping in breast cancer. SCI is a radiopharmaceutical that acts as a tracer for identification of lymph nodes. The primary difference between SCI and Lymphoseek is the presence of mannose in Lymphoseek designed to bind the mannose receptors located in the lymph nodes. Standard of care today involves the use of VBD and a radiocolloid in combination for optimal lymphatic mapping.

Our Thesis Rationale

We believe NAVB is overbought in the market and that its current valuation is not supported by the company fundamentals for 5 key reasons:

1. True valuation and revenue opportunity

At time of writing, NAVB is trading above $4.20 per share. On an shares outstanding basis (~95M) the company's market cap is circa $400M, however the company has a series of preferred shares (B and C) that can convert into over 35M common shares, in addition to over 17M warrants of which over 95% are priced in the range of $0.32-0.97 (see Table 1). Given the warrant exercise price and current PPS, we believe that warrant and preferred holders are motivated to exercise (at a cost of ~$10M) diluting the existing common share holders by over 50% (company has disclosed a fully diluted share number of 151M shares based on conversion of preferred shares, and exercise of options and warrants). Based on current PPS, this would give the company a market cap in excess of $630M, which we believe is unsupportable. In addition as investors exercise and liquidate, trading volumes are set to increase, driving the PPS down.

Table 1: Sample of outstanding warrants & preferred shares

Admittedly in a situation where there is a very significant revenue opportunity, this increased dilution may be less concerning. However, we believe that the revenue opportunity for NAVB may be lower than currently envisaged. Under the assumptions outlined in Table 2, we estimate the market size (both US and EU) to be around $245M, assuming a 70% penetration into breast and melanoma markets and a 20% penetration into all other solid tumors. According to the company, they will receive a 53% royalty rate on revenues from Cardinal Health, their exclusive distribution partner. Assuming a 70% peak penetration in year five from launch (aggressive assumption), NAVB will realize peak annual revenues of circa $135M (53% of total revenues). On an NPV basis at a 7% discount, this equates to $1.98 per share on outstanding shares, $1.27 fully diluted. This assumes no impediments to reimbursement, which as noted below is a risk.

Table 2: NAVB NPV Assumptions & Calculation

2. Probability of approval and, if approved, the product label compared to standard of care

In support of their FDA filing, NAVB submitted data from two Phase III clinical trials: NEO3-05 and NEO3-09. A total of 289 patients were enrolled and targeted to receive both VBD and Lymphoseek. In both studies, Lymphoseek met its primary and secondary endpoints. Concordance in SLN identification between VBD and Lymphoseek was 98-100%. In addition, a safety database of over 500 patients was submitted to the FDA. While there are no publicly available data on CMC or detailed safety data, the company has stated that no SAEs attributed to study drug were observed.

It is our view that there is a greater than 50% probability that Lymphoseek will be approved. However, to date, no head-to-head studies have been completed comparing Lymphoseek to SCI alone or SCI in combination with VBD (current standard of care), thereby making a superiority argument for Lymphoseek vs the standard of care difficult. Of note, NAVB did perform a meta-analysis comparing SCI plus VBD to Lymphoseek and found Lymphoseek to be superior to SCI/VBD (99% vs 94% localization rate per patient). However, given potential differences in physician practice, patient characteristics, etc, such historical comparisons are nearly meaningless.

Since Lymphoseek was tested in both breast cancer and melanoma, NAVB may get a label for both indications, while the SCI label is currently limited to breast cancer. The advantage of a dual label is difficult to ascertain given that SCI is routinely used off label. NAVB is running an additional study in head and neck cancer with the focus on exploring Lymphoseek's role in SNL identification. However, one cannot readily extrapolate success in the breast and melanoma studies to head and neck cancer, given the complexity of the lymphatic system in the latter disease. Data from this trial are expected in late 2012.

3. Reimbursement and physician uptake

Regarding reimbursement, it is not clear if Lymphoseek will fall into the same coding category as SCI or will receive a separate code. If treated like SCI, the code depends on which gamma detector device is used (handheld or camera) and whether the procedure is inpatient or outpatient. More importantly, the reimbursement for Lymphoseek is likely to be included in the bundled reimbursement for the procedure if performed in a hospital outpatient setting or during a hospital inpatient stay (no separate payment, similar to SCI where reimbursement is currently under CPT codes 38792 and 78195). If this is the case, our expectations of the pricing received for Lymphoseek and the related potential revenue may be significantly diminished.

It is possible that Lymphoseek could get a separate unique code (currently there are two catchall CPT codes for this - A4641 and A4642 - whereby the reimbursement rate is unset and must be negotiated on a product by product basis). In this case, it is usually reimbursed at ASP +6% but NAVB would need to justify its price. Should NAVB get a new drug add-on to the APC, Medicare will create an HCPCS code to identify Lymphoseek and allow for billing/payment. However, these codes can be difficult to get and typically only last 2-3 years, following which a new APC assignment is made or the payment for the APC is adjusted.

In our view, Lymphoseek will not command a premium price or be quickly taken up by physicians. The average wholesale price of sulfur colloid is only $53.20/treatment, so estimates of $400/treatment for Lymphoseek are unrealistic (our model assumes a $200 reimbursement rate) without a label or clinical data supporting a clear benefit for Lymphoseek versus SCI/VBD in a head-to-head study. Compounding reimbursement challenges, physicians' extensive experience with SCI will make market penetration of Lymphoseek slow.

Interestingly, the FDA did approve another diagnostic for SLNs named Genesearch (marketed by Veridex, a J&J unit). However , Genesearch was withdrawn from the market in 2010 due to low market penetration; physicians were satisfied with the current standard of care and were unwilling to pay a premium for Genesearch.

4. Liquidity

At the end of Q1 2012, the company had approximately $22M in cash, with total liabilities of ~$10M (~$5M of which are current). The current burn rate is approximately $2M per month. Historically the company has utilized convertible notes with warrants to access additional capital. Recently the company has negotiated two credit lines, the first with Hercules ($7M of which the company drew on Dec 29, 2011, with access to the remaining $3M being dependent on approval of Lymphoseek). This week a $50M credit facility with Platinum-Montaur Life Sciences (Montaur) was announced, of which $15M can be drawn immediately (10% coupon), and $20M can be drawn upon approval of Lymphoseek with an additional $15M available under terms that need to be negotiated. It is interesting to note the timing of this on the heels of the Hercules deal. In our view, this credit line is akin to the overused term of kicking the can down the street as this debt will require repayment that is unlikely to be covered by revenues from Lymphoseek or any milestone payments from the sale of GDS (gamma device systems) (NAVB is also eligible for (1) $20M in additional royalties from their sale of the gamma device business to Devicor in 2011, to be paid in the event Devicor achieves revenue from GDS products above $21M during any fiscal year for up to five years, and (2) a milestone payment of $3M and royalties on revenues from Cardinal Health).

We believe NAVB will be forced to tap the capital markets to raise capital in the near to mid term. In our view, the company is already preparing for such an event following their filing of a shelf registration in Apr 2012 to sell up to 12.5M shares. We perceive a risk of additional near-term dilution should NAVB draws on this shelf to meet their capital needs.

5. Paucity of additional near-term stock catalysts beyond Lymphoseek

While NAVB has multiple programs in development beyond Lymphoseek (see Table 3), it is our contention that no near-term stock catalysts will materialize from these programs. Key near-term catalysts include the FDA PDUFA date on Sept 10, 2012 and potential EU approval in 2013 (an MAA filing is expected by year end 2012). Should Lymphoseek approval be delayed or significant revenues fail to materialize, we expect long holders will wait some time before seeing any additional positive stock catalysts.

Table 3: NAVB Pipeline

In summary, while we believe NAVB was an attractive buy below $3/share, we now believe the stock has been overbought.

Disclaimer: For disclaimers, please see Bio.

Disclosure: We are currently long NAVB; however, we are unlikely to hold long term.

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