Friday was not a good day for EnteroMedics (ETRM) shareholders. Although it would be a stretch to say that there was a real expectation that this company had a high-potential weight loss solution in its hands (the market cap was about $125 million prior to Friday's news), there were definitely some analysts and investors who thought that the company's VBLOC therapy and Maestro system had potential in treating morbidly obese individuals.
While the company's ReCharge study was a technical failure, there was evidence of efficacy from the device and the safety profile was pretty clean. Even so, convincing the FDA to approve this system may not even be the biggest issue for the company. The bigger issue is whether the company can sell physicians, insurance companies, and ultimately patients on the device.
Good, But Not Good Enough
The good news for EnteroMedics, such as it is, is that the ReCharge pivotal study showed that intermittent blocking of the vagus nerve (VBLOC) with the Maestro system did produce statistically significant weight loss benefits relative to a sham/placebo group that were implanted with inactive devices. The device/system was also shown to be pretty safe, with only a 3% adverse event rate.
Some of the takeaways look positive as well. Overall, patients in the therapy group saw an average of 24.4% excess weight loss (EWL), a metric commonly used in evaluating surgical obesity interventions like gastric bypass and gastric banding. By comparison, the sham group saw a 15.9% reduction. While the data curves presented by the company showed the efficacy plateauing at a certain point, more than one-quarter of the patients saw a 35% or greater EWL by the end of the study.
Unfortunately, while this trial met statistical superiority over the sham group (suggesting that the therapy has some effect), it did not be the criterion that the company agreed to with the FDA - namely "super-superiority" of 10% relative to the sham group. So, close (8.5% improvement), but no cigar.
It May Not Be Over Yet
While the failure to hit the primary endpoint makes this trial a technical failure, the company said it intends to go ahead with the pre-market approval application (PMA). At the risk of sounding overtly cynical, why not? This is really the only asset of value that the company has, and the incremental cost of filing the PMA is relatively trivial.
What's more, investors shouldn't automatically assume that the FDA will reject the device. People talk about the FDA as a monolith, but the reality is that there are substantial differences between the drug and device operations at the agency, and even significant differences within different parts of the device operations. As companies ranging from Cyberonics (NASDAQ:CYBX) to MELA Sciences (MELA) to even large names like Johnson & Johnson (NYSE:JNJ) and Boston Scientific (NYSE:BSX) have proven, less-than-perfect PMA submissions for devices can sometimes still get approved, particularly when the safety data is clean.
But There Are Bigger Problems
Lest investors think I'm trying to make the case that EnteroMedics is being mistreated in the market, let me make the case that there are still some serious issues with this therapy - issues which could make FDA approval largely a moot point.
For starters, the excess weight loss endpoint is a squishy one. The calculation of EWL varies with the definition of ideal body weight and the preoperative weight of the patient. That is why the reported efficacy of Roux-en-Y gastric bypass procedures and gastric banding (like Allergan's (NYSE:AGN) Lap-Band) can vary by almost 15-20% from study to study.
Compare this result, for instance, to the clinical trial results reported by Arena (NASDAQ:ARNA), Vivus (NASDAQ:VVUS), Orexigen (NASDAQ:OREX) and Novo Nordisk (NYSE:NVO) in their obesity trials, and you won't see the same easily-understood "percentage of body weight" calculations. I think that will ultimately make it harder to sell patients on this device - once they realize that the device doesn't deliver 25% weight loss (say, from 240lbs to 180lbs), but rather just 25% of the excess weight, they may walk away disappointed.
I also have my doubts about whether the efficacy here is good enough. Most gastric banding studies have shown EWLs in the high 30%'s to low 40%'s - well above the average seen in this study. In fact, only about one-quarter of the VBLOC/Maestro patients got into the same zone as gastric banding (30% to 50%+ EWL). While it certainly is true that the implantation of the Maestro is simpler than a gastric bypass (EWL of 65% to 80%+), as it is basically a pacemaker-like device) and has fewer potential side-effects than banding (including malabsorption and nausea/vomiting), it also delivers much less efficacy.
And then there are economic concerns. Even with those efficacy numbers, Allergan has basically given up on the Lap-Band and put it up for sale, as revenues have fallen from a peak near $300 million to about $160 million. How much will insurance companies (or out-of-pocket patients) pay for Maestro, and where will it fit in the treatment continuum? At a minimum, I would think that patients would give the drugs from Arena/Vivus/et al a try first, and I have serious doubts as to whether the incremental safety benefits to VBLOC/Maestro are enough to attract patients from gastric banding.
Why Isn't There More Competition?
More often than not, good ideas have multiple sponsors - there are four companies with (or developing) transcatheter heart valves, and a half-dozen developing renal denervation systems. But while Cyberonics, Medtronic (NYSE:MDT), Boston Scientific, and St. Jude Medical (NYSE:STJ) have all tried (or reportedly explored) various neurostimulation approaches to obesity (including addressing the vagus nerve), none of them have really gone anywhere. While I'll grant that EnteroMedics may have a truly differentiated approach, I'd also offer the following rebuttal - big companies like Medtronic, Boston Scientific, and St. Jude don't often mess around with therapies that offer only marginal benefits.
The Bottom Line
Even if EnteroMedics can get FDA approval (and I'd say it's a possibility, but definitely no certainty), I don't know that this therapy or stock ever quite live up to the bulls' hopes. If EnteroMedics can get two-thirds of the business that Lap-Band currently has, I'd still be prepared for the market not valuing these shares at much more than $5. Admittedly, that's a huge gain from today's level, but given that I'd put the odds of approval at about 1-in-3, it seems like the stock isn't quite so compelling on a risk-adjusted basis.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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.