Is Affymax A Knife Worth Catching?

| About: Affymax, Inc. (AFFY)

The scoop

Biotech investors who were long Affymax (NASDAQ: AFFY) are still reeling from the damage that shares took after the company decided to recall its flagship product OMONTYS (peginesatide), although Affymax's partner Takeda (OTCPK:TKPHF) seems mostly unaffected from the incident. Omontys is a new chemical entity that was developed for the treatment of anemia, specifically for patients with chronic kidney disease and adult patients on dialysis and received FDA approval in March of 2012. Omontys is also a erythropoiesis-stimulating agent. The only competing drug that targets this indication with the same mechanism of action is Epogen (epoetin alfa), which will be discussed later.

This recall, as you may already know, was based on reports of extreme hypersensitivity in patients that took the drug, which resulted in five deaths. According to the FDA, the 19 reported cases of severe allergic reactions to the drug occurred within 30 minutes of dosage, which make it obvious that Omontys was to blame.

Although it is indeed alarming that there were deaths associated with the drug, these cases represented a very small minority of the total pool of patients that took Omontys. According to the company's recent press release:

"Since launch, more than 25,000 patients have received Omontys in the postmarketing setting. The rate of overall hypersensitivity reactions reported is approximately 0.2%"

I think the rarity of these allergic reactions to Omontys may explain why we didn't see adverse events of this magnitude in clinical trials (assuming that peginesatide is causing this). Patients generally only got diarrhea, vomiting, and modest jumps in high blood pressure, which is why Omontys carries a risk of adverse cardiovascular reactions on its CDK indication label. However, these hypersensitivity reactions are very unusual.

AFFY, From Wall Street's Perspective

Drug recalls are terrifying for any pharmaceutical company, and virtually nothing can caused more fear from Wall Street. It is a rational fear, since drug recalls put terrible PR on any drug and may lead to FDA withdrawals for approvals. In addition, any patient deaths caused by drugs generally results in terribly expensive lawsuits.

Following its IPO in late 2006, Affymax was trading north of $33/share. The stock trended down, then up again until the company released results from a phase III trial that failed to demonstrate non-inferiority for Omontys versus darbepoetin alfa, which is the synthetic form of erythropoietin and is marketed by Amgen under the trade name Aranesp.

Since Aranesp is virtually the same thing as Epogen, we can infer that the real battle was (and is) between synthetic erythropoietin and the erythropoiesis-stimulating agent known as peginesatide. Both work through the same physiological pathway for the same anemia indication.

Anyway, Affymax recovered from its big fall and received FDA approval a year ago. The stock was doing quite well up until the Omontys recall, which pounded away ~85% of AFFY's market cap right after the recall was announced. AFFY moved to an all-time low of $2.26/share.

Still, there seems to be a lot of debate over the Omontys recall and the fate of the drug. A number of dip buyers seem to think that the company might be able to turn the situation around, which explains why AFFY is actually up about 35% since the big drop. This was probably also a result of short covering for the ~3 million shares that were short AFFY before the news hit.

Should Investors Buy Amgen?

Amgen (NASDAQ: AMGN) is the king of erythropoiesis-stimulating agents (among other things). Affymax was supposed to be the disruptor in this space with Omontys, but with the possibility that this recall will shut the drug down permanently some investors have been led to purchase shares of AMGN.

Since news of the recall, shares of AMGN are trading up about 9%.

The investment implications of the Omontys recall on Amgen were analyzed heavily in a recent article published on Seeking Alpha, which I agree with since I came to the same conclusions. Analysts are expecting marginal gains in EPS for Amgen as a result of the demise of Omontys, which is just one of Amgen's many drugs.

Consider that Amgen is a company now worth $70 billion, then compare it to the $64 billion valuation that was on AMGN prior to news of the Omontys recall. Is the news really worth $6 billion?

In my opinion, no. AMGN is not a buy on this news, and has actually become a bit less attractive from an investment standpoint.

Should Investors Buy Affymax?

This is the question that can't be answered given our lack of information about the nature of the hypersensitivity that was seen in the 19 patients that caused the recall to happen. However, there are a few things we can consider.

Right now, Affymax has a valuation of $122 million. Embeded into this valuation is Affymax's development program for Omontys/peginesatide, which may expand its anemia indication to include patients with pure red cell aplasia (PRCA). This isn't a huge target indication, although it could be very profitable and the FDA may look upon it favorably due to the unmet demand for peginesatide.

The real question is whether or not Omontys is actually dead. If Omontys is truly finished, AFFY has plenty of room to fall - even from here. If, on the other hand, Affymax and the FDA determine what is at the root of the hypersensitivity in patients that caused such severe adverse reactions, the drug may be saved.

Judging by the current valuation of AFFY, it seems that the market seems to think that there's a 20% chance that Omontys will come out of this recall and return to its former state. This implies that anyone giving Omontys higher than a 20% chance of survival would want to buy AFFY as a long term holding given its current valuation.

It's a very risky play for bulls. The odds are stacked heavily against AFFY, but if the dip buyers are right they will make an absolute killing on this stock. This is especially true for those who are willing to buy call options on AFFY, which aren't too expensive given how large the upside on AFFY could be.

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.

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