Dan Grundig's  Instablog

Breakthrough developments by MedTech (Medical Device) companies present investment opportunities for those who understand which events to monitor.  Filing a Premarket Approval (PMA) application is a major milestone for any MedTech company, much like the filing of a New Drug Application (NDA) for a drug company.  The FDA requires PMA pathway clearance for devices designated as Class 3, which ‘support or sustain human life’ or are of ‘substantial importance in preventing impairment of human health.’  Class 3 devices are therefore generally higher value than Class 1/2 devices, which are used in less critical situations, or are essentially replicas of other approved devices, and undergo the less intensive 510(k) approval pathway.

Although most companies announce PMA filings, few investors track the PMA pipeline. This is likely due in part to the fact that the approval timeline is less transparent than for NDAs, for which PDUFA (approval decision) dates are made public. Some MedTech firms provide PMA clearance guidance for their pending devices, usually no more precise than to a specific quarter.  In the absence, of these disclosures, PMA clearance timeframes can be estimated with fair accuracy based on historic review periods, which range on average from 8 – 14 months, but can be longer, especially in cases where the FDA requests additional clinical trials data. To estimate the approval impact on a company’s stock price, it is helpful to know the market size and competitive landscape which a device would participate once approved. Also, intuitively, PMA approvals will likely have greater impacts on smaller companies.

Two Recent PMA Clearances:

Two Potential High-Impact Upcoming PMA Decisions

Disclosure:  No Positions

Before diving into the valuation process, here is a quick recap of recent Provenge history, and what to expect in the near future.

Provenge, developed by Dendreon Corporation (DNDN), is an active cellular immunotherapy (i.e. vaccine) for treatment of metastatic, androgen independent prostate cancer (AIPC).  On 11/13/2006, Dendreon filed the final portion of its Provenge Biologics License Application (BLA) with the FDA.  The primary basis for the BLA was Phase III study DEN-9901, which showed median survival of 25.9 months vs. 21.4 months for placebo, and a 41% risk of death reduction.  Shortly thereafter, on 1/16/2007, the FDA granted Priority Review for Provenge, which allowed for an accelerated review process reserved for therapies that address unmet medical needs.  In late March 2007, an FDA Advisory Committee voted 17-0 supporting Provenge’s safety profile and 13-4 backing its efficacy.  Then, in May 2007, Dendreon received an FDA Approvable Letter. 

Much discussion ensued on reports of conflicts of interest of several Committee members, due apparent ties to firms with drugs with which Provenge would compete, and suspicion that the FDA’s decision had been influenced.  Afterward, Dendreon received confirmation from the FDA that positive survival data from its in progress IMPACT study (D9902B) would support Provenge approval. 

On 4/14/2009, Dendreon announced that primary IMPACT study endpoints had been met, which means data demonstrates at least a 22% reduction in risk of death. The company will present detailed study results at the American Urological Association’s Annual Meeting on 4/28/2009.  Dendreon has said it plans to resubmit a Provenge BLA application in Q4 2009. It is likely that the Provenge application will once again receive priority review; this means if Dendreon submits the new BLA in early Q4, an approval decision could very well come as soon as December 2009, and almost surely no later than March 2010.

To approximate the value of Dendreon, I will use two methods.  First, if Provenge is approved, it will compete directly with Sanofi’s Taxotere (Docetaxel), which generated about $2.8 Billion in 2008 sales.  Although Taxotere is indicated for other cancer indications in addition to Androgen Independent Prostate Cancer (AIPC), it is safe to assume more than 50% of its annual sales are due to AIPC, based on the difference sales of the drug after it gained FDA approval for AIPC in 2004.  It is also worth noting that because of the serious side effects of Taxotere, somewhere between 25%-50% of the potential prostate cancer patients refused Taxotere treatment.  Taken together, the estimated market for AIPC should be at least $1.8-$2.8 Billion.  Because Provenge has been shown to be much more effective, with few serious side effects, it is reasonable to expect that it will gain greater than 50% of the market share after approval, leading to peak sales estimates between $900 Million to $2.8 Billion a year.  Current Price/Sales ratios for cancer-focused biotech with at least one approved product range 4-8 times, and therefore, if Provenge is approved, Dendreon should be valued at $3.6-$7.2 Billion (based on the low end $900 Million sales figure).  As of March 5, 2009, Dendreon has 98 million shares outstanding, leading to a price per share of $36-$73. Finally, there is always a chance that Provenge won’t get approved, and so the expected Dendreon share price using a 70% chance of approval will be around $25-$51 ( [0.7*$36]+[0.3*$0] and [0.7*$73+0.3*0], assuming Dendreon is worth $0 per share if Provenge is not approved). 

The second method is based on premiums paid in 2008 M&A deals involving cancer-focused biotechs.  Three deals stand out as being appropriate for comparison: Eli Lilly’s (LLY) acquisition of Imclone, Takeda’s (TKPHF) acquisition of Millennium Pharmaceuticals, and Celgene’s (CELG) acquisition of Pharmion.  In each of these deals, a cancer-focused biotech with one potential blockbuster cancer drug was acquired; the drugs being Erbitux, Velcade, and Vidaza belonging to Imclone, Millennium, and Pharmion, respectively.  In all three deals, the premiums paid were around 50%. Therefore, using this method, the current acquisition price tag for Dendreon shares based Thursday’s (4/16/2009) closing price would be around $25.50.

I made quite a few assumptions here to arrive at these estimates, but I believe they are reasonable, factual, and conservative enough to serve as an initial valuation attempt for Dendreon.   

Disclosure: Long DNDN

While debates will continue as to the motives for and future effects of the healthcare IT initiatives in the American Recovery and Reinvestment Act of 2009 stimulus bill signed by President Obama in February, the essential cannot be denied: the widespread transition to Electronic Health Records (EHRs) is imminent.

Wal-mart’s (WMT) Sam’s Club and eClinicalWorks’ recently announced partnership to provide EHR systems to independent physician practices is a sign that the EHR revolution is quickly gaining momentum.  Perhaps just as important as the financial incentives the government is offering to providers who make the switch prior to 2015 are the penalties that will begin to accrue for physicians who have not made the full transition by 2015. GroupOne healthsource sums it up well in its recent post The Stimulus Bill, the EHR, and the Physician - Frequently Asked Questions:

Beginning in 2015, physicians not demonstrating meaningful use of an EHR will face penalties in the form of    reductions to their Medicare fees schedule reimbursement rates.  The penalty will equal 1% in 2015, 2% in 2016, and 3% in 2017 and each subsequent year.  Under the bill, the Secretary can increase the penalty to 5% if fewer than 75% of eligible physicians are not utilizing an EHR by 2018.  

Recent Seeking Alpha posts and the 3/24/2009 Wall Street Journal article Stimulus Funds for E-Records Augur Big Windfall for Small Health Firms have discussed a number of publicly-traded firm in the EHR business, including: ATHN, CERN, CPSI, GE, MCK, MDRX, and QSII.  Most of these firms either already have or are likely to gain strong footholds in the EHR market, but there are several additional players in the game that have yet to be mentioned: 

EHR Software Providers

Eclipsys Corporation (Nasdaq: ECLP) [535M MC]

Eclipsys Corporation is a provider of advanced integrated clinical, revenue cycle and performance management software, and professional services that help healthcare organizations improve clinical, financial, and operational outcomes. It has developed and licensed software and content that is designed for use in connection with many of the key clinical, financial and operational functions that healthcare organizations require. It also provides professional services related to its software. These services include software implementation and maintenance, outsourcing, remote hosting of its software, as well as third-party healthcare information technology applications, technical and user training and consulting. It markets its software to healthcare providers of many different sizes and specialties, including community hospitals, large multi-entity healthcare systems, academic medical centers and physician practices. In January 2009, the Company acquired Premise Corporation. [Source: ECLP’s business description]

Note: CERN names ECLP as a ‘Key EHR Competitor’.

Streamline Health Solutions Inc. (Nasdaq: STRM) [14M MC]

Streamline Health Solutions, Inc. (Streamline Health) is a healthcare information technology company focused on developing and licensing software solutions that improve document-centric information flows and complement and enhance existing transaction-centric hospital healthcare information systems. The Company's workflow and document management solutions bridge the gap between paper-based processes and transaction-based healthcare information systems by electronically capturing document-centric information from disparate sources, electronically directing that information through vital business processes, and providing access to the information to authenticated users (such as physicians, nurses, administrative and financial personnel and payers) across the continuum of care. [Source: STRM’s business description]

IT Consulting Companies

Investors looking to take another EHR angle should consider not only EHR software providers, but also IT consulting companies with significant healthcare IT offerings. 

One company which stands out is Perot Systems Corporation (NYSE: PER) [MC 1.64B]. Perot counted 47% of its 2008 revenues from its Heathcare IT division, which offers EHR deployment services for physicians, and a wide range of other healthcare IT services.

Computer Sciences Corporation (NYSE: CSC) [MC 5.88B] has integrated the operations of First Consulting Group, a healthcare/life science IT consulting firm which CSC acquired in 2008. CSC’s Health Services division deploys EHR systems from major vendors, and offers an array of healthcare and life science IT services to health plans, government, and other clients.

Investment Considerations

Now that investors are confident good times are ahead for EHR designers and consultants, how can they decide which companies have the greatest chance of winning contracts? Just a couple of the factors that are worth considering before placing any bets:

In which target market(s) does a firm compete: Independent physician practice, small-midsize hospital, or large hospital/health system? Once this has been determined, what type and size EHR provider has this customer segment historically favored? Also, it may be smart to try to understand which providers are likely to make the transition earliest, on average.

Since the transition to electronic systems is a major undertaking, and many healthcare  providers will make the switch reluctantly, it follows that they will choose suppliers who offer superior consulting, training, and ongoing support services.  

Disclosure: No Positions