The bulls are sharpening their horns in sweet anticipation of Vanda Pharmaceuticals' (NASDAQ:VNDA) upcoming Advisory Committee Meeting with the FDA for tasimelteon's New Drug Application (NDA). Tasimelteon is a circadian regulator in development as an indication for Non-24Hr disorder in the totally blind.
Last December, Vanda reported positive Phase III data for tasimelteon, causing the stock to surge 166% year-to-date. Adding fuel to the fire, the FDA recently agreed to bestow upon tasimelteon a highly coveted "Priority Review". The drug is thus set for an Advisory Committee hullabaloo on November 14th, with a target PDUFA date of January 31, 2014. With peak sales projected to top $500 M per year for a company with a sub $300 M market cap, an approval of tasimelteon presents a juicy valuation proposition to speculative biotech investors.
Sounds good, right? Investing in Vanda pre-approval will make me rich, correct?
The problem with stories that sound too good to be true is that they are, in fact, too good to be true.
Tasimelteon's story probably ain't what most investors believe it to be. By contrast, retail investors have created yet another biotech bubble ready to burst, whereby crushing their caviar dreams in the process (see Amarin's (NASDAQ:AMRN) story for another painful example).
If you want to make money on Vanda, do what the Pros are doing: short this catalyst without mercy. More on this issue later…First we need to address boring FDA nomenclature that has created overconfidence in the market about tasimelteon's prospects for approval.
But didn't the FDA give tasimelteon Priority Review? Assuring a positive vote?
The FDA did indeed give tasimelteon a Priority Review, which has only created more confusion among retail investors. As we saw yesterday with Amarin's "rock-solid" SPA, a Priority Review is most likely not what general biotech speculators think it is. To be upfront, a Priority Review in no way guarantees approval, unless of course it's a review involving a new cancer drug developed by a Big Pharma - or so it seems.
Okay, so what is a Priority Review and how does it pertain to tasimelteon?
The FDA has a two-tiered review process, standard and priority. Priority Reviews are for drugs that offer major advances in treatment, or provide a treatment where no adequate therapy exists. Pay attention to that second clause. Currently there is no FDA-approved therapy for Non-24Hr disorder, which is where tasimelteon comes into play. And this is why tasimelteon probably got the designation in the first place. Or perhaps the FDA's hefty fee for a Priority Review had something to do with it?
Sorry if that sounds cynical, but we should all come to grips with the reality that the FDA is essentially a commercial entity. How else could they keep operating in the face of a government shutdown after all? The answer is through fees, fees, and more fees!
Okay, getting back to tasimelteon…With the well-documented problems with tasimelteon's clinical trial endpoints, I am skeptical that the agency gave the designation based on the "major advance in treatment" criteria. It's much more likely that the designation was given because the disease is rare, there is no approved therapy, and the FDA got paid handsomely to do so.
Most importantly, investors should keep in mind that this designation does not lower the standards of safety and efficacy required by the FDA for approval. In short, it only means the drug gets reviewed 4 months early.
Will tasimelteon get approved?
Who knows? The FDA does whatever it wants in my experience, so I wouldn't be surprised either way. Even so, Adam Feuerstein laid out a pretty convincing argument that tasimelteon's NDA is in deep trouble (see hyperlink above). Better yet, a succinct summary of the pertinent issues can be found in a pending lawsuit against Vanda:
"The Complaint alleges that throughout the Class Period, Defendants made false and/or misleading statements, as well as failed to disclose material adverse facts about the results of the clinical trial for tasimelteon. Specifically, Defendants made false and/or misleading statements and/or failed to disclose that: (1) the Company was forced to unilaterally change the primary endpoint in the middle of the Phase III studies as it was already in possession of data suggesting that the original primary endpoint was not going to be met; (2) the Company eliminated nighttime total sleep as the primary endpoint in its studies as there was no discernible difference in efficacy and safety in nighttime total sleep between those patients deemed to have Non-24 and those patients with a normal circadian rhythm; (3) the replacement primary endpoint installed to assess tasimelteon's efficacy and safety was created ex ante by the Company and has never been used before in sleep-drug clinical trials, nor was it endorsed by the FDA; and (4) as a result of the foregoing, the Company's statements were materially false and misleading at all relevant times."
This isn't meant to throw mud at the company. I honestly have no opinion on the drug's chances for success. And in fact, my short thesis works regardless of how the drug fares, and that's the beauty of it.
Why Vanda shares are going down regardless of the FDA's decision
If the FDA sinks Vanda's hopes for tasimelteon come next January or the Advisory Committee returns a negative vote next month, it's safe to say that the stock will more than likely revisit the $3 range, where it was trading before the hype machine kicked into high gear. In that case, shorting the stock would rake in a monstrous return somewhere in the area of 70%. And based on the clinical trial issues, that might not be a bad bet.
The best part of shorting Vanda here is that it doesn't really matter if the drug gets approved or not. And here's why.
Vanda's financials can't support a launch
With Vanda's recent shelf offering and cash reserves, I estimate the company to have around $150 M available for a projected launch of tasimelteon, if approved. The problem is that this is nowhere near enough money to both pay Bristol-Myers Squibb's licensing fees and launch the drug. Specifically, Vanda Pharmaceuticals is already on the hook for $3 M for the FDA even accepting tasimelteon's NDA, and would have to pay another $8 M if the drug is approved. The FDA approval of tasimelteon, with all FDA and licensing fees, should cost the company upwards of $16 M, putting a serious dent in their already precarious financial status.
The real problem, however, comes when Vanda tries to market the drug. As we've seen recently, new drugs for small-cap biotechs can wreck havoc on their financials. Raising a sales force from basically scratch and transitioning into a commercial operation can easily run over $100 M in the first year. Check out Amarin and Horizon's (NASDAQ:HZNP) financial situations if you don't believe me.
And because the companies lack experience marketing drugs, it can take years for the drugs to begin to make headway in terms of being significant revenue generators. Tasimelteon is particularly problematic in this regard because the majority of sales are expected to come off-label for general sleep disorders. That isn't going to happen overnight, especially for a biopharma wet behind the ears in terms of marketing a drug.
Simply put, Vanda does not have enough money - not even close. So to launch tasimelteon and continue their other operations, the company is going to have to raise at least another $100 M through a secondary offering.
I conservatively estimate that an approval for tasimelteon is worth at least a 30% return from current levels on the short-side based on these financial issues, with almost no downside risk. Essentially, I am expecting the stock to fall to around 2X its cash/share where the stock should have support based on sector trends, which is approximately 30% from current levels. Of course, the stock could fall further based on the rapid cash burn needed to launch the drug, but this estimate is in line with the fall of other biotechs post-approval.
The only risk is a short-term upside swing due to enthusiasm over tasimelteon approval. Realty, however, will soon burst this bubble in a manner similar to Horizon after the approval of RAYOS last year.
So approval or not simply doesn't matter in this case. Vanda is an outstanding short candidate, which explains why short interest has quadrupled since tasimelteon's NDA filing. The best part is that the broader market hasn't picked up on these issues because of the unfounded belief that a Priority Review equates to approval. Nothing could be further from the truth, and sophisticated short sellers have already figured this out.
Disclosure: I am short VNDA. 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.
Additional disclosure: I am using March Put Options to "go short" on VNDA.