Written March 30th, 2015 by

Three distinct drugs or drug classes are in late stage development for treatment of lipid abnormalities: PCSK9’s (AMGN, SNY, REGN), CETP’s (MRK, LLY), and ETC-1002 (ESPR). This raises the question of which drugs fit where if all or most are approved

Using population-based data (NHANES*) data which includes the lipid levels (LDL-C, HDL-C, triglycerides) and risk factors needed to establish appropriate therapy, we estimate the numbers of US patients eligible for each of the three drugs or drug classes

Assuming all 3 classes are approved, and that physicians target an aggressive LDL-C goal (40 mg/dl), we find that 12.9M patients are eligible for PCSK9’s, 10.8M are eligible for CETP’s, and 160k for ETC-1002. Notably 9.9M patients are eligible to simultaneously use both PCSK9 and CETP therapy. The point here is that PCSK9’s and CETP’s overlap far more often than they compete

As long as physicians treat LDL-C aggressively (pursue 40 mg/dl rather than 70 mg/dl), whether CETP’s are approved (yielding 12.9M PCSK9 eligible patients) or not (yielding 13.8M PCSK9 eligible patients) has little bearing on demand for PCSK9’s

Conversely, whether CETP’s are or are not approved has an enormous impact on the number of patients eligible for ETC-1002 – 160k if CETP’s are approved, v. 650k if CETP’s are not approved

Whether PCSK9’s or ETC-1002 are approved has little bearing on patient eligibility for CETP’s – all that matters is the level at which LDL-C and HDL-C goals are set

Given the relative sizes of the eligible patient populations and the relative amounts of remaining approval risks faced by PCSK9’s and CETP’s, all else equal (i.e. no CETP-specific risk discount) we would expect CETP consensus to be about one-half PCSK9 consensus. In reality, CETP consensus is about one-fifth PCSK9 consensus. We think PCSK9 consensus is far too low (please see last week’s note), and our preliminary reaction is that CETP consensus – even accounting for class risks – also is too low

*(National Health and Nutritional Examination Survey)


For our full research notes, please visit our published research site

Relative Price & Value of pre-Phase III Pipelines for the 22 Largest Drug & Biotech Companies – Updated View

Written March 18th, 2015 by

Using patent data we estimate the amount and quality of innovation in companies’ pre-phase III (aka ‘hidden’ pipelines), and then determine whether companies’ share prices accurately reflect what’s in these hidden pipelines.  Since inception (November 2012), companies that screen as >= 20% undervalued have outperformed their peers by 1.5x (cap wtd) to 1.7x (equally wtd)

We believe that the duration and consistency of our performance validates our approach – the odds against achieving this level of performance through random selection of candidate stocks are roughly 44,000:1

Because of large misvaluations in hidden pipelines, shares of VRTX, BMY, SNY, and ROCHE all appear at least 20 percent undervalued. Conversely shares of ALXN, BIIB, CELG, GILD, NVO, REGN, and SHPG all appear at least 20 percent overvalued

For more information on our pipeline valuation methods, and for related R&D productivity metrics covering the 23 largest publicly-traded companies (by R&D spending) please visit

For our full research notes, please visit our published research site

AMGN, REGN, SNY: Bull Case for PCSK9’s; COGS a Major Advantage for SNY/REGN

Written March 17th, 2015 by

We see peak US sales potential for PCSK9’s in the $5.5B to $8.5B range before outcomes data, and in the $9.6B to $15B range after outcomes data are available. By comparison, consensus expects combined 5th year global sales (our estimates are US-only) for the two products of just $4.2B

We suspect our US forecast calls for much higher patient volumes at much lower average net prices (we expect net US pricing of only $252 – $340 per month). Our conservative pricing estimate has much to do with formulary managers’ considerable leverage over the class: there will be no outcomes data at launch; the patient population can be finely segmented by risks and LDL-C’s, enabling restrictions; the PCSK9’s are likely to be on specialty tiers with higher co-pays; and, a large percentage (+/- 51%) of treatment candidates are on Medicare or Medicaid (where co-pay cards cannot be used, and average rebates run much higher)

Because the PCSK9’s are monoclonals their COGS will be relatively high, especially for chronic use products in our predicted net pricing range. Most patients on SNY/REGN’s alirocumab have reached their LDL-C goal on 75mg every 2 weeks (1,950mg annually); all patients on AMGN’s evolocumab require at least 140mg every 2 weeks (3,640mg annually) and those using the 420mg monthly dose will consume 5,460mg annually

At the lowest COGS we know of for a monoclonal (Erbitux, $0.30/mg), annual COGS for the lower alirocumab dose would be $576 and for the higher dose $1,161; annual COGS for the lower evolocumab dose would be $1,075 and for the higher dose $1,612. At our assumed net pricing, this would equal a COGS/sales ratio ranging from 14% to 38% for alirocumab, and from 26% to 53% for evolocumab

This affords SNY/REGN a distinct advantage. Because most patients will reach goal on the starter 75mg every 2 week regimen, SNY/REGN’s ‘workhorse’ dose is the one with the lower ($576 rough estimate) COGS. By comparison, AMGN’s starting dose – 140mg every 2 weeks – presumably has nearly twice the COGS ($1,075 rough estimate). SNY/REGN can sell their starting dose for $500/year ($42/month) less than AMGN’s, and still earn the same gross profits as AMGN

For our full research notes, please visit our published research site

ABBV/PCYC: Imbruvica’s US Pricing Has Room to Grow

Written March 12th, 2015 by

Imbruvica’s only dosage form is a 140mg capsule, with a US price of $101.88. Most indications for which Imbruvica is currently approved are dosed with 3 capsules daily (420mg), for an annual treatment cost of $111,559

The average price for single-source treatments for acute life-threatening conditions approved in the US since 2003 is $154,472. And, the annual cost for the closest alternative (Rituxan/Zydelig) to Imbruvica in its largest approved indication (refractory CLL) is $144,808

Imbruvica is under development for a broad range of leukemia / lymphoma indications, and has potential in solid tumors and auto-immune conditions also. Many of the indications in development use Imbruvica at a dose of 4 capsules daily (560mg), for an annual cost of $148,745

$145,000 annually is a feasible price point for Imbruvica in both its approved and pending indications; however with only a single dosage form Imbruvica must either be underpriced in its 3 capsule / day indications (as we believe it presently is) to be fairly priced in its 4 capsule / day indications, or fairly priced in the former and over-priced in the latter

We have no immediate means of knowing whether Imbruvica can be manufactured in a more concentrated form, so to be conservative we assume the only way to produce a higher milligram dose is to use a larger capsule. The current 140mg dose uses the standard size ‘0’ capsule which is already quite large – 22mm or 7/8” in length. The largest feasible capsule size is the next higher (‘00’), which has 1.4x the volume of the size ‘0’, making a 196mg dose (140mg x 1.4) feasible. Any smaller dose is of course also feasible

Imbruvica’s pricing can be optimized ($145,000 for both the 3 and 4 capsule per day regimens) by raising the price of the current 140mg capsule from $101.88 to $132, and launching either a smaller 112mg capsule at $79, or a larger 187mg capsule at $132. The 420mg per day indications would continue to use 3 of the 140mg capsules; and the 560mg per day indications could use either 5 of the 112mg capsules, or 3 of the 187mg capsules

For our full research notes, please visit our published research site

March 9, 2015 – AAPL: High Priced, Cause it Feels So Nice

Written March 9th, 2015 by

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The fashion focused Apple Watch will launch 4/24 with high prices and predictable functionality, yielding limited volumes, but reasonable revenues and excellent profits during the first year. The $349-$399 entry point is too high for most users, most of whom enjoyed carrier subsidies when buying their iPhones. The use case is hazy. So far, most of the apps simply save the user from pulling their phone out of their pocket – nice, but hardly killer. Still, the product is cool, and the 18k gold versions selling for up to $17K will find a hungry market amongst the celebrities and plutocrats that can afford them. We believe that fewer than 12M units will sell in the first year, but that the ASP could be $800 or more, yielding as much as $10B in revenues, with contribution margins above 50%. Still, with nearly $70B in EBITDA, even a $5B incremental boost doesn’t move the needle very much. We believe that the replacement rate on the Apple Watch will be long, so growth will depend on finding a killer app to drive a 2nd and 3rd wave of user adoption.

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Industrial Gas Pricing – Talking a Good Game

Written March 3rd, 2015 by

Our recent thoughts on Industrial Gas companies have focused on their ability to pull pricing and cost levers to grow top and bottom lines. We have been particularly focused on APD and what it will need to deliver to justify further share price appreciation from here. Today, Air Products announced another round of price increases in the merchant business, as they have done in the past, but we think that the focus on achieving increases this time will be greater. The company is increasing prices for its North American merchant gas customers effective March 15, 2015 or as contracts expire. Monthly service charges will also be impacted.

As we wrote in the past, we believe that if Air Products is to beat its ambitious targets for 2017, the company will have to place an emphasis on cost and price that it has not in the past. So far, both imperatives have been given their due with the company announcing 500 job cuts in its most recent update. Still, we suspect that even if some 2500 more jobs are cut in the next 1 ½ to 2 years, expectations for APD may be difficult to manage.

With APD now pushing another round of price hikes, we expect that competitors will likely follow suit rather than use this as an opportunity to gain share.  These price increases come on the back of similar increases announced six months ago and more modest increases pushed by Praxair at the end of 2014. APD states that this round of hikes is to pass through higher metals costs for bulk tanks, using similar reasoning to PX in its December announcement. We believe that the more likely motivation is margin expansion given our understanding of recent iron and steel price moves. In either case, the question is still how far can pricing be pushed before customers defect.  Lack of volume growth in the business generally increases the focus on price as a way to grow top and bottom lines.
If the industry moves pricing more meaningfully than in recent years, then the optimistic top line estimates for APD shown below may be attainable.  At the same time the estimates for PX and others will likely be too low. The valuation opportunity is in PX in the US, and possibly Air Liquide in Europe.

Industrial Gases Blog

WBA, CVS, RAD: There Are Simply Too Many Pharmacies & Now it Starts to Matter

Written February 25th, 2015 by

Retail prescription margin growth has outpaced CPI since 1990, drug pricing since at least 2001, and any other major US retail setting’s gross margin growth since at least 2004

It’s not because we lack enough pharmacies, it’s because traditional drug benefit plans (which cover 92% of Rx’s) mean customers face the same Rx costs no matter which store they choose. Under narrow (or preferred) networks this all changes – pharmacies willing to dispense at lower margins can, for the first time, gain traffic

Now that retail dispensing margins are real money, engineering drug benefits to reduce dispensing margins makes great sense. We believe narrow retail networks can save +/-7% over all-inclusive networks. If this doesn’t sound like a lot, bear in mind that all the effort PBMs and HMOs put into managing formularies and negotiating drug rebates yields an average savings of about 8%

Using the federal standards for pharmacy proximity (90% of beneficiaries within 2 miles of a pharmacy for urban, within 5 miles for suburban, and within 15 miles for rural), we estimate that 34% of US retail pharmacies could be closed before these proximity standards are no longer met

As retail networks narrow, chains (WBA, CVS, RAD) can profitably dispense at lower margins than independents, so the long trend of independent closures is likely to continue. However mass merchants and supermarkets presumably are willing to dispense at even lower margins than the chains. Chains get 63-69% of sales from prescriptions, mass merchants and supermarkets get only 6-10% – meaning mass merchants and supermarkets can cut dispensing costs and make it up on front store traffic, but the pharmacy chains cannot

The average distance from a WBA pharmacy to a mass merchant or supermarket with a licensed pharmacy is only 1.3 miles; for CVS it’s 1.9 miles, and for RAD 2.5 miles. Within the applicable minimum proximity radius (2 mi urban, 5 mi suburban, 15 mi rural) the average WBA and/or CVS pharmacy will find 9.2 mass merchants and/or supermarkets with pharmacies; the average RAD pharmacy will find 7.9

RAD’s earnings are most reactive to falling dispensing margins; a 1 percent change in pharmacy gross margin percentage would, all else equal, have lowered RAD’s 2014 OPEX by 24.1%. For WBA the fall in OPEX would have been 11.5%, for CVS 5.3%

Consensus expectations for near term (2015/16) gross margins fell in the wake of late-summer warnings by WBA and RAD about the effects of generic acquisition costs and narrowing networks. However consensus now expects gross margins to be stable over the mid- to longer-term, which fails to account for the likelihood that narrow retail pharmacy networks will gather more beneficiaries with each passing year, creating a steady source of mounting gross margin pressure

For our full research notes, please visit our published research site

February 23, 2015 – TMT Model Portfolio Update: Escaping the Death Watch

Written February 23rd, 2015 by

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We assessed the valuations of 187 US traded large cap TMT stocks, separating their EV into near-term and long-term components and graphing them on these axes. In the framework, the names fall into quadrants that have interesting implications for trading. This quarter, we are looking more closely at the “Death Watch” – i.e. stocks with below average 5-yr cash flow growth expectations and where the implicit 5th year terminal value represents less than 75% of the total EV. Amongst these 47 names are a motley crew of old IT suppliers and fallen internet stars who’s best days are likely behind them, but also several post-peak cyclicals, industry vertical suppliers, and a few surprises. We see particular opportunity in MSFT, QCOM, STX and WDC, where we feel management has navigated past obvious dangers and where their positions for the future are poorly appreciated. We also note that AAPL has fallen from the skepticism quadrant into the death watch – its recent cash flow performance has been so strong, that analysts and investors no longer project significant growth, perhaps also discounting its overseas cash assets as well. We are sympathetic to this perspective, although we are keeping AAPL in our Large Cap Model portfolio, which outperformed its benchmark in the quarter by 40bp, up 950bp. We are swapping STX for WDC, and PAY for AMZN. Our Small Cap Model Portfolio underperformed dramatically, up just 110bp, on very poor performance from OPWR, MRIN, RKUS and WWWW. We are removing JDSU, WWWW and MRIN, along with CNVR, which was acquired. We are adding HUBS, RENT, QLYS and SMCI in their place.

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SSR Health New Product Approval Portfolios & Supporting Data Update

Written February 17th, 2015 by

Drug, biotech, and research-based spec pharma stocks tend to outperform their peers in the year or so before and after regulatory actions (‘PDUFA’ dates) on major new products, with a large portion of total risks being concentrated in the days immediately preceding and following the PDUFA date

Since November of 2011 we’ve run model portfolios consisting solely of names with pending (i.e. ‘pre-PDUFA’) or recent (i.e. ‘post-PDUFA) major-product regulatory actions, respectively. Within each broader ‘pre-‘ and ‘post-PDUFA’ portfolio are three sub-portfolios that differ only in terms of how large the new product is as a percentage of the company’s total sales forecast. E.g. the ‘1% pre-PDUFA’ portfolio consists of all names with pending regulatory decisions on products that account for at least 1% of the company’s total sales forecast, and so on for the ‘5%’ and ‘20%’ pre- and post-PDUFA portfolios. To moderate risks, all portfolios follow rules to limit long positions in the days immediately before and after regulatory actions

Since inception the 1% pre-PDUFA portfolio has produced greater annualized returns (75% v. 37%) with comparable standard deviation of annual returns (17% v. 15%) to an ‘innovator index’ of nearly the entire universe of biopharmaceutical stocks. The 5% and 20% pre-PDUFA portfolios have outperformed by even greater margins as compared to the innovator index (98% and 119% v. 37%), though at higher s.d. of returns (34% and 53% v. 15%)

We expect US real pricing power for pharmaceuticals to fade, increasing the importance of new product flow to relative performance. Thus screening for names with attractively priced new product flow is an appropriate first step to stock selection across the drug, biotech, and spec pharma sub-sectors. We offer two related tools, the first being these portfolios of names with major pending or recent regulatory actions (published monthly); the second being our Hidden Pipeline series of reports that identify undervalued phase 2 and earlier pipelines (published quarterly)

For our full research notes, please visit our published research site

Net Neutrality: Reining in the Dumb Pipe Oligopoly

Written February 10th, 2015 by

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The Title II reclassification of broadband reflects a sea change in policy and is a substantial threat to the long term growth and profitability assumptions at the core of cable and telco valuations. The overwhelming public support for restraints on wireline and wireless carriers trumps the aggressive industry political spending, and even without explicit price controls, the proposed action would create an empowered FCC clearly aligned to act on the interests of consumers. We do not expect legal or legislative challenges to bear fruit, given the firm FCC mandate in law, the weight of public opinion, and the growing ability of the internet community to drive political action. We also believe that the perspective reflected by this proposal makes it unlikely that the FCC will approve the pending CMCSA/TWC merger.

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