By Jason Napodano, CFA & Aafia Chaudhry, MD
This article was originally published on PropThink. To read it there, please visit:
http://propthink.com/bear-thesis-on-trius-therapeutics-seems-flawed/4315
Shares of Trius Therapeutics (TSRX:NASDAQ) have been under pressure over the past three months, down nearly 30% from the highs in mid-September 2012. We decided to delve into why the shares are down over this period by putting on our bear-caps and coming up with reasons to sell the stock. We came up with several reasons, although none seems truly a concern validated by existing fundamentals or valuation. In fact, the single best reason we found seems to be a short-term event that, in our opinion, has created a unique buying opportunity. Below we discuss each reason and then provide the counterpoint bullish argument.
Reason # 1: Narrow Label
Trius' existing phase 3 program with tedizolid is testing the drug only in acute bacterial skin and skin structure infections (ABSSSI). ABSSSI accounts for around 30% of all Staphylococcus aureus infections. When Trius files the new drug application in 2013, the label will include a use indication for only ABSSSI. This would place the drug at a disadvantage against generic vancomycin and Pfizer's (PFE:NYSE) Zyvox (linezolid), also approved for use in lung infections, and Cubist's (CBST:NASDAQ) Cubicin (daptomycin), also approved for use in bacteremia. Lung infections account for another 22% of Staph infections, whereas bacteremia accounts for 25% (source).
But we really do not see this as an issue for uptake of the drug. Pfizer (at the time Pharmacia) gained approval for Zyvox in April 2000 with a very narrow label for vancomycin-resistant Enterococci (VRE). Subsequent approvals came in December 2002 for skin and nosocomial (hospital-acquired) pneumonia. The label now includes use in community-acquired pneumonia as well. Since its first approval over a decade ago, Pfizer has turned Zyvox into a $1.5 billion blockbuster drug worldwide. Even today, about 30% of Zyvox use is off-label in bacteremia and osteomyelitis.
The story with Cubicin follows a similar path. Cubicin was first approved in September 2003 for complicated skin and skin structure infections. The company signed a commercialization deal with Chiron Corp in October 2003 for territories outside the U.S. and began shipping product to U.S. hospitals in November 2003.
In June 2005, Cubist reported positive results from an endocarditis / bacteremia study. The company later received approval for this indication in 2006. Yet, prior to approval, Cubicin was already seeing significant off-label use in bacteremia and VRE. We note that Cubist failed a phase 3 lung study with Cubicin because the drug is inhibited by pulmonary surfactant. However, we estimate that 10-15% of all Cubicin use today is off-label, mostly in osteomyelitis.
Trius plans to conduct a phase 3 study in lung infections in 2013. The preliminary data to date in lung infections has been encouraging (ASM Paper). Trius plans to conduct yet another phase 3 trial in bacteremia in 2014. The company has done extensive work to show strong bioavailability and pharmacokinetics of the drug in intravenous and oral formulations.
We suspect that by the time Trius gains its first FDA approval for tedizolid in 2014, data from the phase 3 lung study will be in hand. Data from the bacteremia study will be available in 2015. Similar to Zyvox and Cubicin, we expect meaningful off-label use of tedizolid, especially in Zyvox (linezolid) indications, or in suspected linezolid-resistant strains. Thus, we do not see the initial narrow label as a problem.
Reason # 2: A Big Equity Financing
Trius exited the third quarter ended September 30, 2012 with approximately $70.9 million in cash and investments (Form 10Q). During the first nine months of the year, Trius burned approximately $46.7 million in cash from operating and investing activities. The company has offset this burn by raising proceeds totaling $48.9 million through financing activities. Burn is high, and management is issuing shares to maintain a solid cash balance.
Accordingly, on August 31, 2012, the company entered into a common stock purchase agreement (CSPA) with Terrapin Opportunity, L.P., pursuant to which Trius may, from time to time, sell Terrapin up to $25 million in registered shares of common stock over a 24-month period.
Investors are clearly concerned with dilution through the CSPA. We spoke briefly with CFO, John Schmid, after the CSPA was put into place. Mr. Schmid expressed comfort with the company's existing cash balance and noted that CSPA provided Trius with added flexibility to keep tedizolid development on path, as well as move Gyrase-B, the company's preclinical asset, into the clinic. Similarly, on August 31, 2012, CEO, Jeff Stein, tweeted, likening the CSPA to a home equity line, saying, "You set them up when you don't need them." A fair point, as money is always cheaper when you have plenty of it around.
However, whether they needed it or not, on October 10, 2012, Trius sold 612,133 shares of common stock under the CSPA to raise net proceeds of $3.4 million. The stock on October 10th was $5.50 per share. Today its a $1 lower. We think this clearly has spooked investors. Yet, on December 13, 2012, Trius sold another 1,122,218 shares to Terrapin for net proceeds of $4.9 million. So as of today, some $16.5 million on the CSPA remains.
Taking this into account, and factoring in operating burn in the fourth quarter 2012 of around $14 million, we now see cash at the end of the year of $65 million. With data from the ESTABLISH-2 study expected in early 2013, we do not expect management to enter into a new equity financing prior to the release of the data. The $65 million expected to be in hand at year-end is enough to fund operations into 2014. Motivation for the CSPA is that it allows management to keep over a year of cash on hand. This avoids "going concern" language in the upcoming 10K filing and lets potential European partners for tedizolid know that Trius is well capitalized and not desperate for a deal. Yes, management may raise the remaining $16.5 million through the CSPA with Terrapin at some point, but we think fears of a big dilutive public offering are overblown.
Reason # 3: Market Competition
In August 2010, the FDA issued draft guidance for the design of clinical trials for ABSSSI. Inclusion criteria for ABSSSI studies were modified to include patients with severe skin infections such as cellulitis / erysipelas, wound infections, major cutaneous abscesses, and burn infections. These infections should have a predefined minimum surface area of redness, edema, and / or induration accompanied by systemic symptoms such as fever of 38°C or higher, or lymph node enlargement.
For registration purposes, at least two adequate and well-controlled trials that establish safety and efficacy should be conducted for treatment of ABSSSI designed as either noninferiority or superiority trials. The FDA recommended primary end points examine clinical response or clinical failure at 48-72 hours after initiating therapy. Clinical response is defined as the cessation or reduction in the spread of the lesion and resolution of fever after 48-72 hours of antibiotic treatment. Clinical failure is defined as death, continued fever, increase in the lesion size or administration of rescue antibacterial therapy before the primary efficacy endpoint assessment.
In November 2010, the Infectious Disease Society of America (IDSA) voiced concerns about the guidance document for ABSSSI citing the new early response end points as not being sensitive or particularly indicative of a clinically meaningful assessment of efficacy. The IDSA also raised issues with the FDA’s estimate of treatment effect and non-inferiority margins, which were deemed excessively conservative.
Most clinicians follow the IDSA guidelines for the treatment of bacterial infections including ABSSSI and a variety of agents are currently approved and recommended for the treatment of methicillin-resistant staphylococcal aureus (MRSA) including vancomycin (IV BID dosing), linezolid (IV or oral BID dosing), clindamycin (IV or oral TID dosing), daptomycin (IV QD dosing), doxyclycline / minocycline (oral BID dosing), and trimethoprim-sulphamethoxalone (oral BID dosing).
While vancomycin is typically used as the empiric “workhorse” for MRSA infections, the emergence of VRE and other resistant pathogens has meant that physicians are increasingly turning to linezolid and daptomycin in the first-line therapeutic setting. Antibiotic selection is however, largely dependent on pathogenic susceptibility, hospital formularies and local prescribing restrictions. MRSA treatment can be particularly challenging leading to increased patient morbidity, long recovery times, and protacted in-patient hospital stays. Clinicians therefore welcome therapies that can shorten total days admitted and reduce associated healthcare costs. Early hospital discharge not only reduces costs but also diminish the likelihood of transmission or colonization of a patient with a nosocomial pathogen. With increased pressure to reduce inpatient days, oral antibiotics can facilitate early patient discharge allowing those who improve to complete a course of treatment in the outpatient setting.
Pfizer's Zyvox (linezolid) is particularly appealing as it is perceived to be highly efficacious and treatment can be initiated with IV therapy and then “stepped down” to oral administration for outpatient treatment. However, therapy with linezolid for >2 weeks is associated with myelosuppression, and serious adverse events also include serotonin syndrome, peripheral neuropathy and poor gastrointestinal (GI) tolerability. Newer therapies are needed to address the increasing rates of pathogenic resistance and to provide physicians alternate means of safely and effectively treating serious infections in a cost-effective manner. We believe tedizolid meets this unmet medical need.
Trius has successfully completed a Phase 3 trial (ESTABLISH-1) of oral tedizolid for the treatment of ABSSSIs and a second pivotal Phase III study is set to report shortly. Both of these trials have been conducted with Special Protocol Assessment (SPA) agreements in place with the FDA. The first pivotal, double-blind, active-controlled, non-inferiority study enrolled 667 patients and compared the safety and efficacy of a six-day course of once-daily oral tedizolid (200 mg) versus a ten-day course of twice-daily oral linezolid (600mg). Trius announced positive results from this study and noted that oral tedizolid met the primary objective of non-inferiority compared with oral linezolid for both primary and secondary outcome measures with a lower incidence of adverse events.
Tedizolid is well-differentiated from linezolid in having in vivo bacteriocidal activity, greater potency against MRSA pathogenic organisms, a shorter course of therapy (6 days vs. 10-14 days), once daily oral dosing, and a superior tolerability profile. Unlike with linezolid, treatment is not associated with myelosuppression (although physicians may not fully believe this to be the case: myelosuppression is thought to be an oxazolidinone class effect, and with only 6 days of therapy, any myelosuppressive signal may actually be muted as opposed to absent). Furthermore, toxicology studies demonstrate no monoamine oxidase mediated interactions. Based on the clinical profile and successful initial phase 3 trial, we believe the second study (ESTABLISH-2) will be positive facilitating an ABSSSI NDA filing per the company’s guidance during the second half of 2013.
A number of companies are also actively developing novel agents for the treatment of ABSSSI. We review some key compounds that are likely to compete with tedizolid.
Durata Therapeutics (DRTX:NASDAQ) is developing dalbavancin, a glycopeptide class intravenous antibiotic under investigation for the treatment of ABSSSI. This drug has a once-weekly IV dosing regimen which may facilitate the treatment of patients with ABSSSI in both the in-patient and out-patient settings, potentially reducing the length of a patient’s hospital stay / avoiding hospital admission, hence conferring cost reductions.
Durata very recently announced top-line results of the phase 3 DISCOVER-1 study which was conducted pursuant to a SPA with the FDA based on the FDA’s ABSSSI guidance. Patients were randomized to IV dalbavancin on day 1 and 8 or to IV vancomycin with an optional switch to oral linezolid after 3 days of IV therapy. Preliminary top-line data show that dalbavancin achieved its primary endpoint of non-inferiority (10% non-inferiority margin) at 48-72 hours after initiation of therapy, as determined by the cessation of spread of the lesion, as well as the resolution of fever. The adverse event rates were reported as similar between the two groups. The company is set to report results of a second study DISCOVER-2 (we project in February 2013) which if positive, would facilitate an NDA filing in the first half of 2013. While in theory, the weekly dosing regimen is designed to reduce length of in-patient hospitalizations, we believe the lack of real-world health economic data to support that patients treated with dalbavancin can safely be cared for at home, may be an impediment to uptake at launch, especially with the availability of oral agents. In addition, physicians may have reservations about the long-half life and require more data prior to dosing in patients with renal or hepatic insufficiency.
The Medicines Company (MDCO:NASDAQ) is developing oritavancin, also a glycopeptide class IV antibiotic for the treatment of ABSSSI through two phase 3 trials (SOLO-I and SOLO-II) which were initiated in December 2010. We expect the company to release top-line results for SOLO-I very soon. While the efficacy profile may exhibit greater potency compared with vancomycin, we believe the daily IV dosing regimen makes this product unlikely to compete for significant market share with tedizolid. Furthermore, SOLO-II is not projected to complete until June 2013, so we do not anticipate a regulatory filing until Q4 13/1H 2014.
Rib-X Pharmaceuticals (Private) is developing the broad-spectrum, anti-MRSA fluoroquinolone delafloxacin in both IV and oral formulations for the treatment of ABSSSI. In September 2012, the FDA designated delafloxacin as a qualified infectious disease product (QIDP), providing Rib-X with a number of benefits outlined in the GAIN Act (Generating Antibiotics Initiative Now Act). Benefits included of this designation include 5-year exclusivity and eligibility for the FDA’s Fast Track designation. While Rib-X has completed a number of successful phase 2 studies, the first phase 3 study is not set to commence until 1H 2013. In addition, a second pivotal study will be required for registration. We believe the early stage of clinical development and IV BID dosing regimen make this product an unlikely threat to tedizolid market share.
Furiex Pharmaceuticals (FURX:NASDAQ) is developing the IV and oral fluoroquinolone JNJ-Q2 for the treatment of cSSSI and CABP. This drug candidate is thought to be a best-in-class fluoroquinolone with potent activity against a broad spectrum of pathogens including gram positive, gram negative and atypical bacteria, and it thought to be associated with a lower propensity for the development of fluoroquinolone resistance. In a randomized phase 2 study employing FDA ABSSSI guidance end points, JNJ-Q2 (dosed BID) met non-inferiority criteria compared with linezolid with both agents exhibiting similar safety profiles. According to the company, JNJ-Q2 is phase III-ready and the company has retained an advisory firm to assist in identifying a partner to help further the clinical development program. Furiex’s ability to bring JNJ-Q2 to the market is contingent on its ability to secure an outside party to either partner with or out license JNJ-Q2 in order to fund the necessary trials. At this time, we do not believe this agent poses a significant threat to tedizolid upon launch.
Austria-based Nabriva Therapeutics is developing the IV and oral semisynthetic pleuromutilin BC-3781, which has activity against gram-positive (including MRSA), atypical, and some gram-negative pathogens, under a partnership agreement with Forest Laboratories. Under the terms of the agreement, Forest will pay $25 million upfront and assist in BC-3781 development activities for the next 12 months (to June 2013). Forest also retains the exclusive rights to acquire Nabriva and BC-3781during this time. In a phase 2 randomized controlled multicenter study, 2 doses of IV BC-3781 BID were compared with IV vancomycin BID. The results demonstrated non-inferiority to vancomycin with an excellent safety and tolerability profile. The companies expect to initiate pivotal phase 3 studies in 2013, however, Nabriva has indicated that future development of BC-3781, would be contingent on securing additional capital and commitment from Forest Labs or a new partner. We acknowledge that pleuromutilins provide a new and novel mechanism of action to treat MRSA infections, as this class has not been used extensively in humans, and initial rates of MRSA resistance are likely to be low. However, the companies will need to conduct pivotal studies with the oral formulation in order to significantly impact tedizolid market share.
Accordingly, although significant market competition exists, we believe that tedizolid is currently the most attractive all-around candidate for ABSSI and MRSA.
Reason # 4: Generics
With the patent expiry of linezolid
looming large in 2015 in the U.S. and 2016 in Europe, the MRSA market will
certainly experience a major paradigm change. While most key opinion leaders believe that linezolid is a
superior drug to vancomycin, it is not currently the empiric drug of first
choice in ABSSSI due to its high cost.
This could change radically with the availability of generics. If in the
future generic linezolid becomes the new backbone of empiric therapy, this
would support in principal tedizolid as the new second-line agent of choice - meaning, if
a patient has not responded to generic linezolid, it is very unlikely they
would be treated with vancomycin second-line. The question remains, would a physician move to tedizolid second-line following failure of linezolid first-line?
We believe
that branded Zyvox sales are likely to diminish significantly, upon generic
availability. However the overall selection of tedizolid as an alternative to
linezolid is more likely to be driven by adoption in local hospital
formularies, and inclusion in future updates to the IDSA guidelines. Sales of branded Zyvox and Cubicin are up significantly over the past few years despite the presence of generic vancomycin. We believe that generic linezolid will replace generic vancomycin as the first-line drug of choice, and thus allow for new branded medications to carve out market share based on superior and differentiated profiles.
Reason # 5: Partner vs. Go-Alone Strategy
Investors familiar with Trius may recall the company previously signed an agreement with Bayer Pharma AG in July 2011 that out-licenses the development and commercialization rights to tedizolid to Bayer for the Asia/Pacific and emerging markets (Africa, Middle East, and Latin America). Trius retained full development and commercialization rights outside the Bayer territory, which includes unencumbered rights in the U.S., Canada, and Europe.
Under terms of the agreement, Bayer paid Trius a $25 million upfront payment and will support approximately 25% of the future development costs of tedizolid required for global approval in ABSSSI and pneumonia. In addition, Trius is eligible to receive up to $69 million in certain development, regulatory, and commercial milestones, along with double digit royalties (we model 15%) on sales. We note around 50% of these milestones are pre-commercialization, of which Trius has already received $5 million for the successful completion of the first phase 3 trial, ESTABLISH-1.
Bayer is an outstanding commercial partner, with expertise in anti-infectants including Cipro and Avalox. Bayer has the financial strength and experience to launch tedizolid in Asia, including China, and potential emerging markets across the Africa and the Middle East. But particularly exciting about the deal is that Bayer reimburses Trius for approximately 25% of global development costs, including 100% in China and Japan. This is great news for Trius, considering Bayer is going to pay 25% of the cost to develop the drug in territories for which it does not hold rights.
Trius has also stated, on many occasions, that the company is in talks to partner tedizolid for European commercialization. We believe the above deal with Bayer is just a taste of what could come in terms of a European deal. We are not expecting a deal prior to the release of the ESTABLISH-2 top-line data in early 2013. However, following successful release of this data, we expect management to move swiftly toward regulatory filings in the U.S. and EU. We suspect that any prospective EU partner for tedizolid will want to have input into the European MAA filing. Therefore, we think Trius could secure a deal for Europe by the middle of 2013.
At the very least, if Trius can duplicate the Bayer deal in Europe, the company will secure another $25 million in cash and have another 25% of development costs picked up by its partner. However, Trius partnered for Asia/China and the Middle East before the positive data from ESTABLISH-1. At the time of the deal, ESTABLISH-1 was only 65% enrolled. An asset with two positive phase 3 trials is clearly worth more than an asset only phase 2 data. As such, we think Trius should be able to eclipse the Bayer deal, potentially pulling in as much as $50 million upfront.
Recently shares of Amarin Pharmaceuticals (AMRN:NASDAQ) came under heavy selling pressure when the company announced a $100 million financing and the hiring of a sales force to promote Vascepa (icosapent ethyl), an ultra pure omega-3 fatty acid product for the treatment of high triglycerides. Investors in Amarin were hoping for a buy-out from a larger pharmaceutical company, like Pfizer or AstraZeneca (AZN:NYSE). Amarin's decision to market the product on its own in the U.S. creates risk, and shareholders looking for a quick buck have exited.
Many have speculated that Pfizer is an ideal candidate to acquire Trius. However, we get the sense that Trius, much like Amarin, would like to remain independent. We don't see this as a problem. The marketing an antibiotic product like tedizolid does not seem to present the challenge that a marketing Vascepa does. Although the initial indication for Vascepa is a narrow, ultimately the drug will require a full-scale promotion with hundreds of representatives into the primary care market. Marketing tedizolid requires only a hospital-based specialty sales force of maybe 100 representatives. With a staff of 100 full-time reps, we believe Trius can target over 75% of the 2,000+ hospitals in the U.S.
It's a model that has been validated by both Cubist and Optimer Pharmaceuticals (OPTR:NASDAQ). Optimer launched its C. difficile treatment, Dificid, with around 100 representatives, including support from Cubist. Cubist has around 200 representatives promoting Cubicin and Dificid right now. Cubist has turned Cubicin into an $800 million product in the U.S. alone, but when first approved in 2003, Cubist launched with only 75 representatives. We think Trius management has the experience to pull off a similar launch with tedizolid.
Reason # 6: Diamondback & Kingsbrook liquidation
On December 6, 2012, Diamondback Capital Management LLC notified investors that it would liquidate all holdings, shut down the fund, and return capital to investors. As of September 30, 2012, Diamondback owned 203,200 shares of Trius common stock. As far as we can see, Diamondback was not a shareholder as of June 30, 2012, meaning the fund acquired the 203,200 shares on the open market between July 1, 2012 and September 30, 2012.
Trius average daily volume is around 180,000 shares. Diamondback liquidating 203,200 shares puts a decent amount of selling pressure on the stock. We note the average daily volume so far in December is 247,000 shares, with a high of 378,170 shares traded on the day after Diamondback made the announcement to close-up shop.
This is not the first time that Trius stock has been hit by hedge fund liquidations. In September 2012, Kingsbrook Partners announced it was closing its Kingsbrook Opportunities fund and returning over $100 million in investment to investors. At the end of June 30, 2012, Kingsbrook owned 650,000 shares of Trius stock. We note that Trius shares peaked at $6.46 on September 18, 2012 and have been in a down-trend ever since.
At some point, and it may have already happened, hedge funds like Diamondback and Kingsbrook will fully exit their positions and the selling pressure will ease. In our opinion, these liquidations have created a unique buying opportunity for new and existing shareholders of Trius to take advantage of a depressed stock price.
Valuation & Recommendation
We forecast a significant commercial potential for tedizolid in the U.S. If the second phase 3 trial, ESTABLISH-2, goes as we expect, the drug has peak sales in the $350 million to $400 million range in North America. The current market is dominated by vancomycin and linezolid. The therapeutic window on both is closing. Key for Trius is to gain the cleanest and widest label possible. Expanding the indications into pneumonia and bacteremia provide meaningful upside to our forecast.
This is clearly a large market. U.S. sales for Zyvox, Cubicin, Tygacil, and generic vancomycin eclipsed $1.7 billion in 2011. Vancomycin prescriptions grew by 6% CAGR between 2005 and 2010. Yet, despite the presence of generic vancomycin, branded sales of Zyvox, Cubicin, and Pfizer's Tygacil grew by 20% CAGR. The market is shifting to more effective drugs, and price is becoming less of a factor. Prescribing habits are changing thanks to growing MRSA resistance to vancomycin. Use of Cubicin and Zyvox is up 40-50% over the past twelve months versus a near 50% decrease in use for generic vancomycin.
Initial market research conducted by management on formulary acceptance shows that with a non-inferior profile to Zyvox, tedizolid will see broad (~90%) Tier-2 coverage at parity pricing per course of treatment (Zyvox cost around $225 per day for 10 to 14 days). This includes a range of indications, including skin and skin structure, HAP/VAP, bacteremia, and osteomyelitis. Cubicin cost around $200 per day for skin infections, and $300 per day for bacteremia. We estimate 1% market share of the U.S. hospital market is $50 million in sales, and 1% of the outpatient market is $25 million in sales.
Trius held an R&D day in early December 2011 that offered perspective from two leading physicians with significant experience in treating patients with MRSA: Dr. Ralph Corey, Profession or Medicine and Infectious disease at Duke University and Dr. Jeff Kingsley, CEO of the Southeast Regional Research Group. Both doctors concluded that despite the availability of generic vancomycin and expensive branded products such as Zyvox, Cubicin, and Tygacil, a void remained in the market for a highly effective drug that met all the requirements for success.
It is clear to us that this is a large and growing market, and tedizolid has enough differentiation and advantages to gain meaningful market share.
As we noted above, the therapeutic window for vancomycin is clearly closing. Use is down nearly 50% over the past year and use of branded medications are picking the sizable share. Based on the superior usability and tolerability of tedizolid, along with non-inferior efficacy, we think tedizolid can capture at least 5% of the U.S. hospital day share, with potentially up to 10% if Trius can expand the label to include HAP/VAP and bacteremia. This seems reasonable considering currently Zyvox holds around 16% share and Cubicin holds around 12% share.
At 5% share of the U.S. in-hospital market, Trius is an estimated $250 million drug. Double the share and double the sales. Plus, because tedizolid is available in an oral tablet, it is likely the drug will capture another 5% to 10% of the out-patient market. The opportunity outside the U.S., mainly in Europe and Asia/China, is equally as large, albeit at potentially a lower price level. That being said, on a global basis, we suspect that tedizolid is a $750 million drug with a full and clean label.
With an estimated $400 million in U.S. sales, and royalties and milestones on another $300 to $350 million in sales outside the U.S., we see Trius worth $12 per share based on discounted cash flow modeling. That's over 150% upside from today. Accordingly, we think the bear thesis on this stock is wrong, and now is the time to establish a position and ride it into the ESTABLISH-2 data coming early 2013.
Please visit http://BioNapCFA.com to subscribe or donate to my blog!
