Joseph Ramelli's  Instablog

China Wind Systems(CHWY) recently completed a reverse stock split, which was the final step in preparing for a near term move to the Nasdaq.  When we first invested in the company I think that some people questioned whether a company with its roots in the garment dying equipment business could successfully transform itself into a leading manufacturer of windmill components.  Well as the saying goes it is hard to argue with success.  The company's wind divisions sales grew 118% in Q2-09 to $3.64mm.  They look poised to continue on their successful trajectory buoyed by recent large contract wins and continually increasing growth targets for Wind Power by the Chinese government.

China has doubled their wind power capacity in each of the last four years and earlier in the year the Chinese government dramatically increased their 2020 target for wind power from 30 gigawatts to 150 gigawatts (talk about having the wind at your back!).  The Chinese government is also requiring that 70+% of the wind turbine components be manufactured in China.  Traditionally a lot of the components such as shafts, rings used for gearboxes, and flanges have been imported.

The company will be attending the 2009 China Wind Power Conference in Beijing this week and we think that they could potentially win some new big orders (like the $14mm GE deal that was struck back on July 31st).  All of this further leads us to believe that China Wind Systems will be operating at full capacity by year-end 2010.  At full capacity we estimate their fully diluted run rate eps will be $0.95.  Given that this would be a huge growth trajectory for earnings, we think that the stock could trade at 15 times this run rate.  To be conservative we are discounting this by 25% to give us a target of $10.68.

The FDA's clinicaltrials.gov website has some really interesting information on the European Phase III trial of Emisphere’s(EMIS) Oral Salmon Calcitonin for Osteoarthritis that is being run by Nordic Bioscience for Emisphere’s partner Novartis(NVS).  Here is a link:

clinicaltrials.gov/ct2/show/NCT00486434

One of the Primary Outcome Measures is Joint Space Width in the knee (along with Pain and Functional Disability).  For the Secondary Outcome they are measuring “changes in biochemical markers of bone and cartilage metabolism.”  Novartis is, in my opinion looking to prove that Oral Salmon Calcitonin is a disease modifying treatment for Osteoarthritis, that is why they are looking at joint space width and cartilage metabolism rather than just pain and functional disability.  Dr. Claus Christiansen, a legend in the industry and the Founder and Chairman of Nordic Bioscience, was the co-author of a study that showed that "Calcitonin treatment may counter the acceleration of cartilage degradation and the related rise of surface erosions," according to the study's lead author, Bodil-Cecilie Sondergaard.  Of course this was a study on rats but it does give us a glimpse into the progression of the research that Novartis and Nordic Bioscience have been doing.  When we finally see some journal publications on the Phase II trial of Oral Salmon Calcitonin for OA that was completed almost a year and a half ago, I think we will see more proof that we have a disease modifying drug.  Novartis and Nordic Bioscience have chosen to keep the Phase II results private while continuing to spend years and hundreds of millions of dollars researching Calcitonin. I am convinced that they would not have invested so heavily in this if they thought Calcitonin was just addressing the symptoms of OA.

The other interesting fact from the clinicaltrials.gov link above is that it shows August 2009 as the estimated "Final data collection date for primary outcome measure."  A friend recently had Novartis positively verify this date at a UBS conference.  This means that Novartis will get a futility look within the next several weeks that will give them a very good indication of whether or not they successfully reached their primary endpoint.  If the data is good, the multi-million dollar trials will go on.  What this means to Emisphere shareholders is that if this Phase III trial is not canceled within the next several weeks the probability of success has gone up dramatically (probably even into the 90%+ range given the total lack of toxicity and the safety profile of this drug).  The value of the Emisphere's double digit royalty stream for Oral Salmon Calcitonin will then increase substantially.  

So if we are really closing in on commercialization of a  disease modifying treatment of Osteoarthritis just how big could this be?  Well according to the CDC (www.cdc.gov/arthritis/osteoarthritis.htm) 26.9 million Americans suffer from Osteoarthritis.  If we assume a fairly conservative cost for the Oral Salmon Calcitonin of $4/day or $1460/year (conservative given that the CDC estimates the direct, out of pocket costs are ~$2600 per person per year just for treating symptoms) we have a market potential in the U.S. alone of just over $39 Billion.  I estimate that the U.S. market is about 40% of the world market, we get to a worldwide potential of just over $98 Billion.  Assuming roughly 10% penetration can rapidly be achieved in just the first few years, we have a $10 Billion drug.  Emisphere has over 10% royalty on gross sales (nearly all of which will flow to the bottom line). 

EMIS currently has 68 million fully diluted shares outstanding and a market cap of a only $50 million.  With close to $1 Billion in pretax income potential only a few years away, this stock is grossly undervalued.

Of course as an analyst my job is to look at all the facts when evaluating a company and not simply sweep the ones under the rug that contradict my opinion.  So I would not be doing my job if I did not point out that the recent capital raise was far from ideal.  There was way too much dilution for the common shareholders.  I believe that there are other options available to avoid similar dilution in the future and that between now and approval of Calcitonin further dilution should be minimal.  For instance, I believe the Calcitonin Osteoporosis, this close to commercialization, could easily fetch in excess of $10 million for each 1% royalty sold to a royalty shop. 

Therefore investors should load up now at these absurdly low levels (thank the recent offering for depressing the price) and then double down after the end of the month when Novartis completes their futility look and we can assume all is clear.

There has been a huge positive development in the Emisphere story that hasn’t really filtered out yet. A friend stumbled upon a patent application filed by Novartis entitled “Use of Calcitonin for the Treatment of Rheumatoid Arthritis.” The patent application can be viewed here:

We recently finished buying a position in Emisphere.  We have done a ton of due diligence and networked with some of the smartest biotech minds on the street and think that the stock should be trading at $5 now and that it will be well above $50 within a couple years.  

 A couple weeks ago, news came out that Emisphere had been granted provisional GRAS(Generally Regarded as Safe) approval for their SNAC carrier to use with vitamins, supplements and minerals.  They will get the full approval this summer when the the two articles are published in medical journals.  This eliminates the need for any approval from the FDA for putting vitamins, minerals and supplements into the Eligen oral formulation and opens up big opportunities for Emisphere to commercialize Eligen very soon.  The first product that they are working on is B12.  They have already proven that B12 delivered via Eligen in pill form has much higher absorption rates than standard B12 vitamins.  They are working on a low dose B12 for the retail channel and a high dose B12 to replace B12 shots.  The low dose will be ready when they get the full GRAS approval this summer and Emisphere is in talks with companies to find a partner to market the product.  The high dose product is going to go through a very short clinical trial to prove the absorption rates.  The B12 Eligen is very well understood by Emisphere and we are confident that they will prove great absorption rates when they finish the trial sometime later this year. They will probably also market this product through a partner.  Recently Par Pharmaceutical paid $54.5mm to buy a nasal B12 spray from QOL Medical.  Sales of the product were only $8mm last year, but the opportunity is huge given that there were 44 mm B12 injections prescribed in the U.S. alone in 2008.  Emisphere has some interesting info on their website about B12 here:  www.emisphere.com/oral_vit...; We feel that an oral delivery is far superior to a nasal spray(I don't think anybody would argue with me on this) and because of this the market potential is probably 5 times the size compared to the nasal spray.  We think that Emisphere is worth more than the current market capitalization of the company just based on the B12 given the price of Par Pharmaceuticals acquisition of what we think is an inferior product.  Emisphere's CEO said on the conference call that he has been contacted by many companies, both large and small, about opportunities for partnering with Emisphere for B12 and other vitamin, mineral and supplements.  Iron, polyphenols and glucosamine are a few that come to mind that are difficult for the body to absorb and would work well in Eligen formulation.