By Jason Napodano, CFA
On August 7, 2013, Depomed (DEPO) reported financial results for the second quarter ended June 30, 2013. Total revenues in the quarter were $30.0 million, up 112% from the second quarter 2012, but roughly $0.5 million shy of our forecast. We discuss each revenue line-item below. We point investors to our article last week for a discussion of the Lazanda acquisition.
…Gralise…
Gralise reported sales in the second quarter 2013 were $8.6 million. This was shy of our $9.1 million estimated by $0.5 million. We have been tracking the Gralise weekly total prescriptions, so our miss-calculation on the sales number is most likely the result of slightly over-estimating the average captured AWP for the product given the recent price increase that took place on April 1, 2013 of 9% or greater than expected discounts associated with the company’s recently initiated eVoucher program designed to help capture patients that might turn down a prescription for Gralise at the pharmacy due to high co-pay that also took effect in April 2013.
Some important data points with respect to the launch:
Total prescriptions in the second quarter were just shy of 58,000, up roughly 16% from the 50,000 prescriptions reported in the first quarter 2013. We note the company raised the price of Gralise by 9% on April 1, 2013. The company raised the price by 12% in December 2012. Gralise now cost $2.52 per pill, or $7.56 per day.
The company continues to increase its promotional effort on pain specialists, having added some 5,000 plus new details to the call mix thanks to the sales force realignment that took place in the first quarter 2013. Pain specialists now make up nearly half of the total Gralise market.
To date, over 12,000 physicians have written prescriptions for Gralise, with the majority coming from pain specialists (~46%), primary-care physicians (~24% of the total), and neurologists (~15% of the total). Roughly 19% of the Gralise scripts are coming from users switching from generic gabapentin TID, Cymbalta, Lyrica, and Lidoderm rounding out the bulk of the rest of patient switches. Roughly two-thirds of prescriptions are re-orders.
Management has taken several new actions to help drive growth of Gralise in the coming quarters.
The first is the initiation of an eVoucher program for Gralise designed to help capture patients that might turn down a prescription for Gralise at the pharmacy due to high co-pay. This program was rolled out to 41,000 participating pharmacies late April 2013, and replaced the previous $75 co-pay assistance card with an automatic discounting eVoucher.
The second initiative is a new program designed to facilitate prescription up-take in patients that require prior authorization called “Cover My Meds”. This program started in mid-April 2013. The emphasis here is on pain centers where Gralise share of mind is growing nicely, but potentially limited in prescription growth by prior authorization requests and step-edits.
The third, and potentially most significant initiative is a newly hired managed care team at the company focused on Medicare Part-D. We remind investors that the company won a key formulary listing for Medicare Part-D at CVS Caremark to start 2013. This listing facilitates uptake of Gralise to Caremark’s 6+ million Medicare lives. That’s around 20% of the entire Medicare Part-D market. Considering the average Gralise patient is around 61 years old, Medicare Part-D is a big part of the equation. For example, the prescription fill rate for Gralise is around 85%, but for Medicare Part-D the rate was only around 50% in 2012.
We suspect this was because of the lack of Medicare Part-D coverage and the fact that co-pay cards of eVoucher programs cannot be used with Medicare. The listing of Gralise as Tier-2 with CVS’ 6+ million lives opens up a meaningful opportunity for management. Following this win, the company felt it wise to hire an in-house managed care team to focus on additional Medicare Part-D wins in 2013 for January 1, 2014 listing. This team replaces the company’s previous reliance on vendors for managed care access system. We note there are still some 24 million lives covered under Medicare Part-D that are disadvantaged to Gralise due to lack of coverage.
Management has sent new CMS package plans to new formularies for potential listing in 2014. Decisions are expected around late August / early September 2013. Management noted that once coverage is secured for a January 1, 2014 listing, the company can then go back and negotiate early entry. This is definitely something to watch closely for in the next few weeks.
Below is a representation of the Gralise prescriptions and our forecasts for 2013 and 2014. For the week ending July 26, 2013, Gralise total prescriptions were 4,781 – an all-time high, but flat for the last three weeks. This equates to roughly 0.55% of the entire gabapentin market, with an annualized run-rate of around $38 million. 
For the full year 2013, we are modeling sales of Gralise at $36.2 million. Note the volatility seen at the end of the year around the holiday season and the recent slow-down and leveling off of prescriptions over the past several weeks. The eVoucher, Cover My Meds, and new Medicare Part-D focus should help return prescriptions back to our forecast line (in red) above. The recent price increases should help sales continue to grow even if prescriptions remain sluggish. We expect Gralise sales to grow to $63.4 million in 2014.
With respect to Gralise exclusivity, we remind investors of the company nine U.S. FDA Orange Book-listed patents protecting the product out to 2024. The company has active litigation against the three remaining Gralise generic (ANDA) filers. A Markman claims construction hearing took place in June 2013. Management reported on the second quarter call being “pleased” with how this went. We believe Actavis is the first-to-file of the paragraph IV challengers. A decision is expected near the end of the third quarter.
The company is still seeking seven year exclusivity from the FDA based on the agency awarding Orphan Drug Status last year. We remind investors that the company filed suit against the FDA in the District Court in the District of Columbia in September 2012. Oral arguments are schedule to take place at the end of the month. We are expecting a decision for the court early in the fourth quarter 2013.
…Zipsor…
Zipsor sales in the second quarter 2013 totaled only $5.6 million, just ahead of our $5.0 million estimate. Sales rebounded nicely from the week $3.6 million number in the first quarter resulting from a combination of inventory destocking and an increase an increase in product reserve accounting due to the 40% price increase instituted on April 1, 2013. With respect to the massive price increase, it does not look like it has had any negative impact on the prescription growth. On the second quarter call management noted that prescriptions hit an all-time high since Depomed acquired the product the week ending July 26, 2013. Some key points on Zipsor:
Zipsor is now being promoted in the second position behind Gralise. The sales force optimization that took place earlier this year should lead to increased sales in the coming quarters.
The size of the prescription has increased meaningfully over the past year, both on number of tablets and months of supply. For example, when Depomed acquired the product last summer there were 79 capsules per script. In April, the number is up to 85 capsules per script.
Some physicians writing prescriptions for a two month supply of Zipsor to patients because the co-pay for many patients in the same. Bigger scripts and more capsules per script, along with the massive 40% price increase, should help drive the sales number in the coming quarters.
We continue to believe that Zipsor has $30 to $40 million peak potential.
…Glumetza…
Glumetza contributed $14.2 million in royalties in the second quarter 2013 on of sales at Santarus (SNTS) of $44.4 million. Santarus recently took a price increase on Glumetza and increase the number of reps promoting the product. This resulted in the solid 39% increase in sales year-over-year, whereas Glumetza prescriptions only grew by 13% year-over-year. Total Glumetza royalties in 2012 were $42.7 million. Depomed received 29.5% royalty on sales of Glumetza at Santarus. We note the royalty rate jumped up in 2013 to 32%, and will jump again to 34.5% in 2015. For 2013, Depomed management believes it will receive over $53 million in royalties from Santarus on Glumetza.
We expect the first generic Glumetza tablets will start to show up in early 2016. Glumetza is a nice cash-cow for Depomed. It lowers the quarterly burn and provides meaningful growth to the top-line. At $14.2 million in royalties, it is still the largest and most significant contributor to the top- and bottom-line at Depomed. That said, Glumetza is no longer a core-asset and its life is coming to an end (generics expected in 2016). It might behoove management to monetize Glumetza; this would bring in potentially as much as $100 million in cash and allow for substantially increased in-licensing of marketed pain / neurology products or expanded R&D to develop the next wave of Acuform-based products.
…Acuform / Licensing Deals…
Revenues from licensing and collaborative payments totaled $0.7 million in the second quarter 2013. The company has numerous technology and licensing agreements with other pharmaceutical companies, some of which pay milestones and royalties to the company. The company has existing relationships with Merck, Janssen (J&J), Boehringer Ingelheim, Mallinckrodt, and Ironwood.
Depomed receives a low-single digit royalty on sales of Merck’s Janumet-XR and J&J’s Nucynta-ER products. Those combined royalty payments were $0.9 million in the second quarter 2013. We are expecting the royalty suite to grow in the coming years. In late March 2013, J&J received FDA approval of its first-in-class SGLT2 inhibitor, Invokana (canagliflozin), for type-2 diabetes. Depomed tells us that J&J is developing a once-daily combination of this compound and metformin, which Depomed formulated using its Acuform technology. Depomed is entitled to a milestone and royalties on net sales of the once-daily combination product.
Finally, Mallinckrodt (MNK) has been working to develop acetaminophen / opioid analgesic combination products utilizing Depomed's Acuform gastric retentive drug delivery technology. In late July 2013, Mallinckrodt announced that its first candidate under this collaboration, MNK-795, had been granted priority review. MNK-795 is a controlled-release oxycodone and acetaminophen combination medication that has immediate and extended release components.
The NDA acceptance and priority review triggered a $5 million milestone payment to Depomed under a license agreement between Depomed and Mallinckrodt. Depomed is also entitled to an additional $10 million milestone payment upon approval of the NDA (estimated in December 2013) and high single digit royalties on net sales of MNK-795, if approved. We note that Mallinckrodt is also working on a second acetaminophen / opioid analgesic combination, MNK-155, which we believe to be hydrocodone and acetaminophen, currently in phase 3 studies with a NDA planned for 2014. Depomed can earn an additional milestone once Covidien files that NDA and the FDA accepts this candidate. We model the same $5 million as above for MNK-795 on NDA acceptance, plus another $10 million for approval and high single digit royalties on net sales.
Between MNK-795 and MNK-155 we believe that Mallinckrodt should be able to generate $300 to $500 million in sales, which could provide $24 to $40 million in peak royalties to Depomed. This will be a nice counter to the potential loss in royalties from Santarus on Glumetza starting in 2016.
Finally, on January 29, 2013, Depomed filed a complaint in the United States District Court for the District of New Jersey against Purdue Pharma L.P. for infringement of U.S. Patent Nos. 6,340,475; 6,635,280; and 6,723,340 (collectively, the “Depomed Patents”). The complaint alleges infringement of the Depomed Patents arising from Purdue’s commercialization of OxyContin (oxycodone hydrochloride controlled-release) in the U.S. The Depomed Patents relate to Depomed’s Acuform drug delivery technology. U.S. Patent Nos. 6,340,475 and 6,635,280 will expire in 2016, and U.S. Patent No. 6,723,340 will expire in 2021. In April 2013, we learned that Depomed filed a patent infringement lawsuit against Endo Pharmaceuticals related to its Opana-ER (oxymorphone hydrochloride extended-release) product. Depomed believes Endo has breached these same patents noted above.
We note that the polymer formulation patients that expire in 2021 are the same patents that Depomed licensed non-exclusively to J&J’s for Nucynta-ER. J&J obviously saw an issue and believed it made more sense to settle with Depomed than battle them in court. We will be watching this closely over the next few months. Purdue’s OxyContin does around $1.3 billion in sales worldwide. Just 1% royalty could provide $13 million in cash to Depomed per year, and that doesn’t include a potential back-pay for damages. This could be a $50 million settlement at the high-end. The decision could also impact the lawsuit against Endo and Opana-ER. Opana-ER is an estimated $230 million product in 2013.
…Breakeven Operations…
Depomed’s second quarter results were a major leap forward for the company because operations achieved profitability for the first time since the first quarter of 2011 (and that was based on a one-time milestone payment). Net income in the quarter totaled $0.5 million. This was roughly $2.0 million better than expected. Above we noted that revenues of $30.0 million were just shy of our $30.5 million estimate, so the beat on the bottom-line was attributable to lower-than-expected operating costs. Specifically, SG&A was $0.5 million and R&D was $2.0 million lower-than-expected. R&D expense in the quarter totaled only $1.4 million, the lowest reported number on record for Depomed. Currently, the company has no active R&D clinical programs.
Management guidance for 2013 includes total revenues of approximately $125 to $135 million (unchanged from the previous quarterly guidance), which includes approximately $6 million in anticipated milestones under the company’s collaborative arrangements. We expect the company to recognize the full $5 million from Mallinckrodt in the third quarter 2013. We are expecting a decision from the FDA on MNK-795 in December 2013, which if positive would result in an additional $10 million milestone payment to the company, but have yet to factor this revenue into our model given the limited visibility into the decision and lack of management guidance on the subject. Nevertheless, we model revenues toward the higher-end of guidance, at $131.2 million.
Guidance includes operating expenses of approximately $118 to $125 million, which includes approximately $4 million of intangible amortization related to the acquisition of Zipsor. This is an improvement from the previous guidance of $120 to $130 million. We have also factored in around $0.4 million in intangible amortization related to the acquisition of Lazanda. For the full-year 2013, we model net income at $2.9 million, or $0.05 per share. Depomed exited the second quarter with $74.2 million in cash and investments. Management believes it will exit the year with cash and investments between $70 and $80 million, which seems easily achievable baring another deal. In fact, if we factor in the potential $10 million milestone from Mallinckrodt for MNK-795 approval, the company could exit 2013 with near $90 million in cash.
Conclusion
Depomed is currently trading with a market capitalization of $380 million, or roughly 2.85x our projected 2013 revenues of $131.2 million. That’s cheap! Based on our 2014 revenues of roughly $181 million, the company is trading at only 2.1x 2014 revenues. With multiple of 2.5x for 2014, the stock is worth $7.80 per share (+18% return). We think the company can do near $1.00 in EPS in 2015. A simple 10x multiple on 2015 EPS puts the stock at $10 18-24 months from now. That’s nearly 50% upside return. These are low multiples, as comparables show the company could trade at 3-4x sales and 12-15x earnings.
Wildcard events on the horizon include: 1) a decision by the U.S. District Court of New Jersey on the company’s lawsuit filed against Actavis Elizabeth for infringement of Gralise listed patents, 2) a decision by the Federal Court for the District of Columbia against the U.S. FDA on Gralise Orphan Drug exclusivity, 3) a decision or settlement on the complaints filed earlier this year for infringement of patents arising from Purdue’s commercialization of OxyContin or Endo’s commercialization of Opana-ER, 4) potential Medicare Part-D wins to be announced in the next several weeks, 5) approval of MNK-795 resulting in a $10 million milestone payment from Mallinckrodt to Depomed, and 6) new potential licensing agreements similar to the Merck or J&J transactions of 2011 and 2012 that provided upfront payments and royalties on sales of licensed products
We remain optimistic on shares of Depomed. We like the Lazanda acquisition and believe the company has now made two solid base-hits with Zipsor and Lazanda to back-up Gralise. Our concerns are that the company is too slow in building out its commercial base, and needs to complete acquisitions like Zipsor and Lazanda at a greater rate than one per year. Yes, the company achieved profitability in the second quarter 2013, but the largest contributor to the top- and bottom-line remains royalties on Glumetza, and they are set to dramatically fall starting in early 2016. Depomed has little to no meaningful R&D. Therefore, all future growth must come from the three approved commercial products, Gralise, Zipsor, and Lazanda, royalties from partners such as Merck, J&J, and Mallinckrodt, and the acquisition of new products. The acquisition of new products could have the most meaningful impact. That being said, the cash balance of $74.6 million certainly provides for opportunity in this area.
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