ARENA PHARMACEUTICALS

RESEARCH REPORT

Nasdaq: ARNA

Nine-month Price Target: $12

 

DISCLAIMER: This paper was not put together by professional financial analysts. The authors have written this report as a personal project to share their research with others. This paper is NOT a professional opinion, and is NOT an investment advice or medical advice. Do your own research, and seek professional advice from a certified financial professional. 


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ARENA PHARMACEUTICALS

RESEARCH REPORT

Nasdaq: ARNA

Nine-month Price Target: $12

 

by

 

Arena Investor Group

 

Version 1.4

DISCLAIMER: This paper was not put together by professional financial analysts. The authors have written this report as a personal project to share their research with others. This paper is NOT a professional opinion, and is NOT an investment advice or medical advice. Do your own research, and seek professional advice from a certified financial professional. 

19 May 2017


TABLE OF CONTENTS

Biotech Investing.................................................................. 3

The ARNA Story.................................................................... 3

ABOUT ARENA (Nasdaq: ARNA)............................................. 4

ARNA PAST & PRESENT......................................................... 4

The Evolution of ARENA Over the Last 11 Months................................................................................ 4

CLINICAL TRIAL UPDATES...................................................... 6

Ralinepag........................................................................................................................................... 6

Etrasimod.......................................................................................................................................... 8

APD371.............................................................................................................................................. 9

PARTNERED PROGRAMS...................................................... 11

Nelotanserin.................................................................................................................................... 11

Belviq (lorcaserin)............................................................................................................................ 12

VALUATION........................................................................ 14

Upcoming Timeline of Events............................................................................................................ 15

ANALYST COVERAGE / INSTITUTIONAL HOLDINGS................ 16

CONCLUSIONS................................................................... 17

APPENDIX: DRUG DEVELOPMENT PRIMER............................ 17

 


 

Biotech Investing

 

We like to invest in the biotechnology space because if you do the homework then the potential exists to identify a deeply undervalued company from which the stock price gains can be significant.  We believe Arena (ARNA) fits the profile of a highly overlooked and undervalued company that could be on the verge of a breakout.  ARNA has utilized proprietary science and a highly skilled workforce to ferret out a portfolio of potential best in class drugs that offer exciting potential.  Within the past year a new management team has completely restructured the company, focused on developing the existing pipeline, put the finances in order and are executing according to plan. With positive data on multiple phase 2 trials in the coming months, we believe that a price target of $12 completely possible by the end of the year (2017).

The ARNA Story

 

Piper Jaffray analyst Ted Tenthoff called Arena Pharmaceuticals the "Turn Around Story of the Year: 3 Phase II Readouts in 2017".    Tenthoff was ranked the No. 2 stock picker in biotechnology by the 2012 Wall Street Journal "Best on the Street" survey and was ranked the No. 1 stock picker for the life science tools and services sector in the 2006 Starmine Analyst Awards.

FBR & Co.’s Chris James (M.D., Managing Director of Equity Research-Biotechnology) initiated ARNA coverage with a buy rating and a price target of $6.00 on Nov 6, 2016.  Recently another analyst at FBR (Rahul Jasuja) in a report issued on March 16, 2017, reiterated their outperform rating and $6 price target on shares of Arena Pharmaceuticals, Inc.   

Below we explain our logic for believing that FBR’s target price estimate is low.

 

DISCLAIMER: The following material was put together as a collaborative effort between Joseph Dinchuk, PhD, and Reza Ganjavi, MBA.  Its purpose is to share why we believe that Nasdaq: ARNA currently presents a great investment opportunity.  The following is not medical advice, and does not constitute investment advice.  We are not sponsored by nor affiliated with Arena, except for being investors in the company.  We encourage potential investors to take the time to explore the ARNA website  www.arenapharm.com  and undertake additional research before making their own personal stock purchase decisions.  Much of the general summary information presented below was derived directly from an Arena Pharma Presentation at the Needham Medical Research Conference, April 4, 2017 (New York City) by ARNA CEO Amit Munshi.


 

ABOUT ARENA (Nasdaq: ARNA)

 

Arena discovers and develops medicines for serious diseases with a philosophy of developing highly specific drugs targeting high-impact and underserved areas of medical need.  The core and novel GPCR drug discovery engine developed by Arena scientists allows for highly selective targeting of GPCRs and these efforts have produced numerous compounds with potential “best in class” characteristics.

G-Protein Coupled Receptors (GPCRs) are the most important family of receptors researched by the drug industry with some 40% of all modern medicines targeting GPCRs.

ARENA has a proprietary approach to targeting GPCRs along with the synthesis and selection/fine-tuning of highly selective GPCR modulators.  Selectivity means that ARNA’s drugs avoid closely related receptors thus avoiding unwanted off-target effects.  Avoiding activity against other receptors can result in a huge benefit in terms of minimizing side effect profiles in patients.   ARNA maintains a strong patent portfolio on their compounds.

So, exquisite specificity and safety in design are some of Arena’s key competitive advantages in the area of GPCR drug discovery and development.  Keep in mind that sometimes it is useful to activate (agonize) instead of inhibit a particular drug target.  ARNA’s drug discovery engine (now with private spin-off company Beacon Discovery) is just as capable of developing GPCR activators (i.e. agonists) as inhibitors (antagonists and inverse agonists) as the science dictates in order to address the therapeutic goals of the disease target involved. 

ARNA PAST & PRESENT

 

Arena’s proprietary technology has produced five potentially “best in class” compounds that are currently in mid-stage clinical trials (Etrasimod, Ralinepag, Nelotanserin, APD371) or already on the market (Belviq).

  • Class leading specificity and safety means extending utility (and profit) beyond what is possible for competitor compounds in the same categories.      

The Evolution of ARENA Over the Last 11 Months

  • Prior to May 2016, Arena spent a long time and lots of money developing a best-in-class obesity and T2DM medicine lorcaserin (Belviq) which has a very clean safety profile.   Although safe and effective, sales have been sluggish.  Although Belviq may yet become a blockbuster (see below), the rest of the Arena’s pipeline languished.   Historically, ARNA suffered from a number of bad management decisions along with slow uptake of Belviq by the obesity community.   In 2016 ARNA’s CEO Jack Lief was finally asked to step down and a major remodeling of management ensued.
  • Beginning in May 2016 a new CEO (Amit Munshi) was hired and since then the Management Team has been dramatically re-engineered and refocused on fully extracting the tremendous value present in ARNA’s mid-stage pipeline.  The company has been:
    • Right-sized with enough cash to carry the company into mid- to late-2018 (multiple phase 2 programs on 3 wholly owned assets report results prior to that time and one or more partner deals is expected before then.)
    • Rebuilt with significantly expanded clinical development functions
    • Restructured in non-core areas
      • Spun-off the costly Discovery unit into the private “Beacon Discovery” organization while retaining key intellectual property rights on current assets
      • Restructured their partnership with Eisai to offload all future costs of Belviq development and marketing while retaining a healthy tiered royalty (13.5% - 18.5%) on all future Belviq sales
    • New focus in on clinical development of 3 wholly owned assets:
      • Etrasimod- a potential best in class and wholly owned SIP1 receptor modulator to treat a wide range and rapidly expanding range of inflammatory conditions.
        • Celgene recently paid 7.2 billion dollars for a similar compound with unwanted side effects that Etrasimod does not have.
      • Ralinepag- a potential best in class and wholly owned prostacyclin agonist (with Orphan Drug status!) for the treatment of a potentially fatal condition (Pulmonary Arterial Hypertension).  Notably, ralinepag also represents the first oral PAH medication with intravenous-like dosing qualities.
        • Potential sales are currently estimated at 1.5 billion a year for J & J’s Uptravi (selexipag), (which appears to be an inferior competitor compound than Ralinepag based upon currently available phase I safety and specificity data)
        • Drugs with an Orphan Drug Status have higher approval rates than those that do not.
      •  APD371 – a potential best in class and wholly owned novel cannabinoid CB2 full agonist (almost all competitor compounds are only partial agonists with significant off-target activity).    Why is full agonist activity vs. the CB2 receptor important?
        • Full agonist activity against CB2 appears to be necessary for effective pain relief (full agonism prevents receptor silencing or tachyphylaxis).
        • APD371 also has activity that could make it an effective anti-inflammatory!

CLINICAL TRIAL UPDATES

Ralinepag

 

Ralinepag – is now in a fully enrolled Phase 2 trial for the treatment Pulmonary Arterial Hypertension (PAH) note: If left untreated, PAH is a fatal disease.   The data readout is in mid-July 2017.   Ralinepag was granted Orphan Drug status by the FDA in 2014.

  • A next generation oral highly selective prostacyclin pathway receptor agonist with intravenous like therapeutic characteristics
    • The prostacyclin pathway remains the cornerstone of PAH management
    • Currently, intravenous formulations of prostacyclin pathway agonists remain the “gold standard” for PAH treatment.   Of course, i.v. treatment is very inconvenient and thus the availability of an oral medication with intravenous like properties is eagerly anticipated by the PAH community (improved efficacy, potency and tolerability vs. other oral medications)
  • Phase 2 data is expected mid-year 2017 (July 2017 -- enrollment was completed on Dec 7, 2016  (22 week treatment period, ready for data collection and analysis by second half of May 2017 and public release of data in July 2017)
  • The oral prostacyclins continue to be the dominant class of drugs used to treat PAH
    • The PAH market is expected to reach 7-8 billion dollars by 2025 with the greatest portion of that coming from the oral prostacyclin agonists.
  • Ralinepag competitor selexipag, the current cornerstone compound in the oral prostacyclin class, was recently purchased from Actelion by Johnson and Johnson (this was a $30 billion deal with selexipag (Uptravi)  playing a major role in the purchase price).
    • Uptravi (Selexipag) is a weak partial agonist and yet is expected to garner a yearly revenue in the 1-2 billion dollar range.
    • So, how does Ralinepag compare to Selexipag?
      • Ralinepag is a strong partial agonist vs. the weak partial agonism of Selexipag
        • Ralinepag is 6.5x to 10x more active than Selexipag in prostacyclin pathway readouts
        • Ralinepag is more efficacious than Selexipag in assays of small pulmonary artery relaxation (vasodilation) and in the inhibition of smooth muscle cell proliferation and platelet aggregation (by these criteria.   Thus, Ralinepag is more likely to offer more therapeutic relief and inhibit pathological progression of PAH better than Selexipag.
          • In measure of smooth muscle cell proliferation (one of the pathological hallmarks of PAH) Ralinepag is roughly 10x more efficacious than selexipag.  Note: these assays were conducted in blood vessels taken from PAH patients!
          • In measures of inhibition of platelet aggregation, Ralinepag is roughly 6.5 x more efficacious than selexipag
      • Ralinepag has vastly superior and continuous intravenous like infusion pharmacokinetics (how the drug gets into and stays within therapeutic range after dosing) than selexipag
      • If all the above isn’t impressive enough, note that a once a day formulation (vs. the current twice a day formulation) of Ralinepag (Ralinepag-XR) is about to enter clinical trials as well!   Results expected this year so that phase 3 trials should be able to be run with the once-a-day compound!
  • PAH is a life-threatening condition and many drug companies are racing to develop more effective and more convenient therapies.   Recent failures of competitor compounds (see below) highlights the recognized need for better therapies to treat PAH and we believe with its excellent specificity and safety profile that Ralinepag has the best shot yet to improve the lives of patients suffering from this debilitating and deadly condition
  • The PAH market is currently around $5 billion a year and there is a crying need for an improvement over the current standard of care. Ralinepag has orphan status with all the benefits that entails.
  • The competition: http://www.nasdaq.com/article/gilead-says-phase-2-study-of-gs4997-in-pah-did-not-achieve-primary-endpoint-20161020-00796

 

Etrasimod

 

Etrasimod – an oral, next generation S1P1 receptor modulator is currently being evaluated for multiple autoimmune conditions

  • First generation compounds (unlike estrasimod) tended to be pan S1P receptor (S1P1, S1P2, S1P3, S1P4, S1P5) modulators that target either all or additional problematic S1P receptors
    • Celgene’s Ozanimod (purchased from Receptos for about 7.2 billion dollars) although a next-generation compound, has troubling off-target activity against S1P2 which could be problematic for some patients.
    • Etrasimod shows strong specificity for S1P1 (present on T cells) but also some additional and wanted specificity for S1P4 (present on dendritic cells) and S1P5 (present on multiple cell types with immune activity) but no relevant activity against side-effect causing S1P2 and S1P3 activities.  The additional activity that Etrasimod has against S1P4 and S1P5 is considered favorable
  • Etrasimod is currently in a phase 2 clinical trials for:
    • Ulcerative Colitis is the primary study with data readout expect in late 2017
    • Extra-intestinal manifestations of inflammatory bowel disease (IBD) including Crohn’s disease  (S1P4 activity relevant here)
    • Pyoderma gangrenosum, an inflammation-based skin condition
      • Etrasimod’s activity against dendritic cells (S1P4) and keratinocytes appears relevant to expectations for a successful outcome in these PG trials….readout expected late 2017
    • Primary biliary cholangitis (PBC) trial is expected to start later this year
  • Etrasimod has already demonstrated robust and reversible lymphocyte reduction in Phase 1 clinical trials.   Lymphocyte reduction can be considered a leading indicator of clinical efficacy
  • In contrast to Ozanimod and other competitor compounds, Etrasimod demonstrates no first dose cardiac side effects and does not need to be carefully titrated in patients.    Also importantly, Etrasimod use is not associated with any changes in liver, lung or eye function (macular edema)
  • Based upon all of the above, Etrasimod appears to be emerging as a potential best in class S1P1 modulator
  • If you investigate the science and the trial results of Celgene's Ozanimod you will realize that the drop in serum lymphocyte counts observed in early trials of that drug were a strong surrogate for proof of concept.  In phase 1 trials Etrasimod has already demonstrated similar drops in blood lymphocyte counts that have spelled success for Ozanimod (and with fewer side effects!).   Celgene expects Ozanimod sales to be in the range of 2.5 to 6 billion dollars per year.   APD 334 is only 8 months away from further confirmation of its lymphocyte lowering capabilities and safety profile (as observed in its phase 1 trials) and should will earn a significant share of that market after approval if efficacy is demonstrated as expected.

 

APD371

 

APD371 – A highly specific and potential best in class full agonist of the cannabinoid 2 receptor (CB2) currently in a phase 2 trial to treat visceral pain associated with Crohn’s disease (readout expected before the end of 2017).   Although not often discussed, approximately 20% of all inflammatory bowel disease patients have persistent symptoms and pain associated with their condition that results in 1 of 6 patients requiring treatment with opioids for pain relief.   Obviously, opiates, as well as other pain relief products on the market, have a range of undesirable side effects.

  • Current competitor compounds that have failed or are in development in the cannabinoid area appear to lack the specificity (i.e. they may be considered to be pan-cannabinoid agonists) and the full CB2 agonism of APD371 and thus these other compounds are expected to have only marginal efficacy against pain.
    • APD371 has 10,000-fold specificity for CB2 vs. CB1
  • Unlike other competitor compounds, APD371 is peripherally restricted (i.e. no entrance into the CNS) and thus APD371 is not expected to have any psychotropic effects in patients (certainly these were not evident in completed phase 1 clinical studies with APD371)
  • In preclinical trials, APD371 showed morphine-like efficacy with no psychotropic or addictive side effects
  • CB2 receptors are expressed throughout the GI tract in tissues and in visceral nerves known to be conductors of pain sensations.   CB2 receptors are expressed throughout the enteric nervous system (the mass (size) of the entire enteric nervous system is quite large and is often spoken of as “our second brain”)
  • CB2 receptors are over expressed in inflammatory conditions in the gut
  • There is a very strong scientific rationale for CB2 involvement in gut pain with both inflammatory and non-inflammatory components
  • ARENAs pre-clinical research has already shown that the visceral endocannabinoid (EC) system is very important in the regulation of intestinal pain and that CB2 activation can alleviate abdominal pain.  Additional facts to consider:
    • The endocannabinoid system is highly dysregulated in Crohn’s disease
    • In preclinical studies, APD371 is as effective against pain in rodents as opioids!
  • In summary, the combination of a strong biologic rationale and preclinical investigations suggest that ARNA is heading down the right path with APD371
  • Future plans for APD371 include a range of other visceral conditions which may include irritable bowel syndrome (pain associated with IBS), endometriosis, cholecystitis, chronic prostatitis and others
  • The potential market size for APD371 and visceral pain is obviously quite large
  • A main problem with most CB2 drugs is they also have activity against the CB1 receptor, resulting in unwanted side-effects. Discussions with a former research scientist from MRK who specialized in this area and reviewed several drugs for potential partnering, indicated that if the CB2/CB1 ratio was 10:1 or better that would be a definite plus for the compound.  ARNA’s data so far shows that APD371 has a 1000 to 1 targeting specificity for CB2 over CB1!

Although very impressive, the above represents only part of ARNA’s future potential…this is because ARNA already has two other compounds (Belviq and Nelotanserin) worth mentioning.  ARNA, through its private partner Beacon Discovery, also has significant interests and rights in a research partnership with Boehringer Ingelheim  (http://www.prnewswire.com/news-releases/boehringer-ingelheim-and-arena-pharmaceuticals-collaborate-to-advance-research-in-schizophrenia-300203151.html).

 

PARTNERED PROGRAMS

 

Nelotanserin

 

Nelotanserin – is a potential best in class 5HT2A inverse agonist that was licensed to Axovant (AXON) contingent upon a 15% downstream royalty to ARNA.   The fact that Nelotanserin is a key component of AXON’s recent price climb (doubled to over $24 in the last 6 months, market cap now over $2.2 billion with Nelotanserin making up half its portfolio).  It seems that Axovant's profile fit with what new Axon CEO David Hung was looking for (and he conducted extensive due diligence on both intepirdine and nelotanserin).  Jeffries analyst Biren Amin writes “the new CEO believes both products, in aggregate, offer five opportunities for value creation”.  CEO Amin believes Axovant shares could trade to $80-$90 with strong improvement on the Alzheimer's disease assessment scale, or ADS-cog, of 1.5 point at 24 weeks and positive ADCS-adl, or Alzheimer's disease cooperative study. With a more moderate outcome (where ADS-cog ranges between 0.7 and 1.3 point improvement and ADCS-adl does not achieve statistical significance) the analyst believes the shares could still range higher to $45-$50 [https://thefly.com/landingPageNews.php?id=2534396]. This observation alone should alert investors to positive downstream effects for ARNA (which has no developmental costs associated with this licensing agreement).   It is our contention that any add-in benefit of Nelotanserin has not yet been factored into ARNA’s share price.

From the AXON website: Nelotanserin is an investigational drug candidate that has the potential to be a best-in-class, once-daily, orally-administered, potent and highly selective inverse agonist of the 5HT2A receptor. The 5HT2A receptor has been linked to neuropsychiatric disturbances including visual hallucinations – a common occurrence in people living with Lewy body dementia.   Axovant intends to develop nelotanserin to address multiple aspects of Lewy body dementia.   In a release of preliminary phase 2 results with Nelotanserin in Lewy Body Dementia (LBD) AXON noted the following: The mean change from baseline in the UPDRS Parts II + III (this includes motor skills!!) exhibited statistically significant improvements (p-value < 0.05) for Nelotanserin relative to placebo. This result is consistent across least squares and observed mean changes.   In addition to results from more comprehensive phase 2 studies with Nelotanserin, a phase 3 clinical trial with Nelotanserin is expected to start before the end of this year. 

Nelotanserin is a potential best in class compound (again) competing with recently approved antipsychotic medicine Pimavanserin (Nuplazid, ACAD).   Nelotanserin is potential “best in class” in modulating the 5HT2a receptor (Nuplazid has side effects because it also hits the 5HT2c receptor).  Nuplazid is the only drug in the pipeline of ACAD.  Nelotanserin now being targeted by AXON for the same indications as Nuplazid.  The market potential is again quite large. 

To learn more about how Nelotanserin works watch this short video:

http://axovant.com/wp-content/uploads/video/AxovantNelotanserinV8.mp4

Nuplazid is the only drug in the pipeline of ACAD and ACAD's valuation is almost $ 5 billion. The latest Nelotanserin results were excellent (p < 0.05 achieved for primary endpoint despite very small sample size) and we anticipate the full results will even be better. Bring Nelotanserin down to Arena's royalty level and downgrade it to Phase 2 and Arena's valuation on just Nelotanserin should be around $750 million (currently assessed at zero).  Nelotanserin phase 2 results later this year could add around $3 a share. So with no other results at all,  Nelotanserin has the potential to put ARNA’s share price at $4.50.

 

Belviq (lorcaserin)

 

Belviq – is an already approved (2012) best in class 5HT2C agonist (partnered with Eisai).  A once a day formulation was approved in mid-2016. Belviq is approved in the USA, Brazil, Mexico, South Korea, Israel, and pending in other locations throughout the World

Belviq sales have been hamstrung by slow market uptake, and minimal sales efforts by partner Eisai.  To save cash Eisai cut its Belviq sales force from ~400 (in 2013) to 75 in 2016 (what the heck?).   Excellent marketing and sales efforts by Eisai are apparently waiting on the outcome of required post-marketing long-term studies (6 years) on an FDA-mandated cardiovascular outcomes trial (CVOT) (Camelia is a 12,000 patient CVOT which is slated to complete in 2018).   It is expected that a weight loss drug that has proven benefits in diabetes prevention and cardiovascular health has multi-blockbuster potential. Note the following:

·      Belviq has patent protection through 2035, a once-a day formulation (Belviq XR) was approved in 2016 in the U.S.

·      No more Belviq-associated study costs for ARNA. A deal was cut with Eisai earlier this year to alter the license agreement with Eisai and save ARNA potentially 80+ million dollars in potential downstream costs of development.  Now:

o   ARNA can now focus all its efforts on its wholly owned pipeline going forward.

o   Tiered royalties on Belviq sales to ARNA are 9.5% to 18.5% depending upon sales (more sales = higher royalties). The royalty rates range from 9.5% on annual global net sales less than or equal to $175 million, 13.5% on annual global net sales greater than $175 million but less than or equal to $500 million and 18.5% on annual global net sales greater than $500 million.

·      Despite waiting on Camelia results, Eisai recently announced that it is expanding sales force in selected obesity markets in the U.S. as it awaits the results of the Camellia study in 2018. 

Some physicians have been reluctant to prescribe Belviq because of lingering concerns about cardiac issues associated with older, less specific drugs like fenfluramine (which was taken off the market in 2012).  On a bright note, Dr. Steven Vig (https://belviqsuccess.wordpress.com/tag/dr-steven-vig/) has prescribed Belviq over a thousand times and states that “Belviq is a very safe and effective drug”.  What Dr. Vig is apparently well aware of and what has not been widely appreciated by the public and medical community yet is that lorcaserin (Belviq) was carefully designed/modeled to avoid the receptor (5HT2B) which is known to be responsible for heart related issues like valvulopathy that were associated with the use of fenfluramine. 

Instead, Belviq’s activity was targeted very specifically against the 5HT2C receptor which is known to play a prominent role in overeating and drug addiction behavior.   Even though preliminary Camelia data shows no adverse effects on heart function with the use of Belviq, Eisai, being  a very conservative organization, prefers to wait for complete phase IV safety study results (2018) before aggressively promoting Belviq for weight loss, cardiac health and diabetes prevention.  What is likely to come out of this phase IV analysis in 2018?

·      No risk for valvular damage (available interim analyses already suggests this)

·      Benefit in prevention of type II diabetes (available interim analyses, such as a reduction in the levels of glycosylated hemoglobin seen in patients taking Belviq, already suggests this)

·      Benefit in prevention of heart attack

·      Sales after heart studies (if positive) can easily surpass a billion dollars in sales a year.  Over the longer term, sales are likely to be even higher because Eisai, along with various academic institutions and the National Institute of Drug Abuse (NIDA) are currently pursuing other high impact indications for Belviq such as smoking cessation and opioid and cocaine drug dependence.

Links describing clinical trials underway to study the use of lorcaserin (Belviq) in glycemic control in diabetes, opioid addiction, cocaine addiction, nicotine addiction (smoking), behavioral disorders (preclinical):

·      https://www.ncbi.nlm.nih.gov/pubmed/28345809

·      http://www.upi.com/Health_News/2017/03/24/Prescription-weight-loss-drug-may-help-with-opioid-addiction/6301490373701/

·      https://www.ncbi.nlm.nih.gov/pubmed/28371396

·      https://www.ncbi.nlm.nih.gov/pubmed/28365033

·      https://www.ncbi.nlm.nih.gov/pubmed/28294132

VALUATION

 

ARENA’S VALUE ON POSITIVE PHASE 2 and 3 DATA could be in the range of $80 to over $100 PER SHARE.  Positive Phase 2 data (3-5 trials report this year) should provide a meaningful boost to the current remarkably low share price.  Recently, the chief medical officer of OREX (Preston Klassen, MD, MPH) joined the ARNA team as their CMO.

So what is ARNA worth now with the first phase 2 results only months away? Certainly not a measly $1.30 a share.  If we look at what other companies’ similar and even inferior compounds are sold for, and compare them with those of ARNA’s, the results border on the absurd, laughably so:

Celgene snapped up Ozanimod (Etrasimod’s competitor) two years ago for 7.2 billion dollars. For the sake of argument, call the two drugs equivalent and that puts ARNA at $29 per share.

Ralinepag’s competitor compound Uptravi (now owned by Johnson and Johnson)  has lesser targeting specificity and inferior PK parameters to Ralinepag.  Selexipag was a key part of a Johnson and Johnson acquisition of Actelion in 2017 for 30 billion dollars.   Let’s be reasonable and say that at least 8 billion of that price was due to the perceived value of Selexipag (Uptravi).    In Arena’s terms that’s $32/share.  Since Uptravi is an inferior compound to Ralinepag let’s be conservative and say the Ralinepag is worth perhaps 8 billion dollars as well. 

APD371, if it works as expected, could easily fetch a price of 5-10 billion dollars ($20-$40/share). 

If Belviq is shown to work in prevention of diabetes and heart attack (results known in 2018), then that part of the franchise could be worth at least 3 billion dollars on sale, even more if smoking cessation and drug abuse avenues are approved  ($12/share).  

So, let’s add this potential up:  8 billion (Ralinepag) + 7 billion (Etrasimod) + 3 billion (Belviq) + 7.5 billion (APD371) adds up to somewhere around 25 billion dollars ($81/share) if all upcoming phase 2 and phase 3 trial results are positive, as we hope.   Discount the above about 40% (i.e. x .6) for risk of failure (since ARNA is running multiple phase 2 trials for Etrasimod) and another 25% for being later to the market place for Etrasimod and Ralinepag, so we estimate the current risk adjusted value for ARNA after phase 3 results at about 25 x .6 (40% discounted) x .75 (25% discounted) or a bit over 11 billion dollars.  So, let’s be extra conservative and put the risk-adjusted value of ARNA at around 5.5 billion dollars (i.e. pre-phase 3 results).  

The current market cap of ARNA is ~ 0.4 billion dollars adjusted for new shares recently added in April.   With the current share price of ARNA being $1.30, this represents a conservative share value of around 14 times the current share price after phase 2 results are announced and positive (i.e. about 18 dollars per share) and much more (an additional >5x) with positive phase 3 results down the road.   Still, we don’t expect ARNA to go it alone – any partnership deal for one of its compounds will bring certainty to the future and cash to push the remaining compounds through phase 3 results and approval.  Oops, we forgot to add in another few billions for our partnership with AXON if Nelotanserin continues to yield positive trial results.

Research has shown that positive phase 2 results often correlates with a significant increase in share price in emerging biotech companies (Couch et al. 2015).  So, with 2-3 months before the first phase 2 readout, and the rest of Arena’s wholly owned programs announcing results before year-end 2017, it’s obvious why we think Arena is a great buy at these very low prices.

Upcoming Timeline of Events

·      Just initiated a Phase II study for APD371 in Crohn’s Disease associated Pain (April-May 2017)

·      Report Phase II Ralinepag Proof of Concept (POC) data in pulmonary arterial hypertension trial (mid 2017)

·      Report Phase I PK/PD once daily Ralinepag formulation data in healthy volunteers (mid-2017)

·      Axovant to report Phase II nelotanserin data in DLB and RBD (mid-2017)

·      Initiate Phase II POC study for Etrasimod in primary biliary cirrhosis (PBC) (1H 2017)

·      Report Phase II Etrasimod study results in ulcerative colitis (4Q, 2017)

·      Report Phase II APD371 study results in Crohn’s disease associated pain (4Q, 2017)

·      Axovant to initiate Phase II trial of nelotanserin in DPB and RBD (4Q 2017)

·      Report Phase II POC study of Etrasimod in dermatologic extra-intestinal manifestations of disease (EIMs)

·      Report Phase II POC study results for Etrasimod in pyoderma gangrenosum (PG)

·      Report Phase II POC study results for Etrasimod in PBC


 

ANALYST COVERAGE / INSTITUTIONAL HOLDINGS

 

The current institutional ownership of ARNA stock is 58.6 % with the top 6 holders being the following.

1.     Great Point Partners, LLC                                  30,000,000 shares

2.     Wellington Management Group                     23,035,452 shares

3.     Vanguard Group                                     18,994,955 shares

4.     Blackrock Fund Advisors                                   11,227,729 shares

5.     Renaissance Technologies                  7,522,255 shares

6.     Blackrock Institutional Trust N.A.                   6,238,891 shares     

The latest secondary offering (April 2017), was immediately fully allocated (including “greenshoe” allotment), is now in “strong hands” (according to the one of the bookrunners), i.e., institutions who are as optimistic as we are about prospects for strong data releases later this year.  On April 18, 2017 Great Point Partners, LLC (www.gppfunds.com) filed form 13G disclosing their acquisition of 30,000,000 shares representing 9.75% of outstanding shares. They have indicated their optimism in Arena and admiring Amit Munshi’s achievements to date.

Leerink initiated coverage on ARNA on 19 May 2017 with a $5 price target and Outperform rating. Mr. Joseph Schwartz is a star analyst. He was named #1 Stock Picker for Pharmaceuticals by FT/StarMine Analyst Awards. He was ranked as #1 analyst by Wall Street Journal for biotech stock picking.

Analyst Joseph Schwartz said following the strategic reorganization they see multiple opportunities for the company to generate significant shareholder value.
Schwartz notes the company has greatly improved its exposure to its legacy Belviq franchise by renegotiating its agreement with Eisa. It is also developing differentiated specialty medicines, which they could commercialize on its own or garner outside interest in. To wit: "Considering JNJ’s [OP] recent acquisition of ATLN for ~$30B, much of which was motivated by Uptravi (selexipag; for pulmonary arterial hypertension/PAH), we believe Phase 2 ralinepag data in 2Q17 has the potential to generate significant investor enthusiasm. Likewise, CELG’s [MP] acquisition of RCPT for ~$7B highlights the value that could be created by etrasimod (for moderate-to-severe ulcerative colitis/UC, among others) if Phase 2 data in multiple indications over the next 12-18 months are positive."
Schwartz said a robust string of catalysts offers multiple opportunities for upside upon potential proof of concept.

The current analysts who are covering ARNA are as follows:

 

Firm                                        Analyst

JMP Securities                                    Jason Butler

JP Morgan                               Jessica Fye

Leerink Partners                     Joseph Schwartz

Needham & Company            Alan Carr

Piper Jaffray                           Ted Tenthoff

WallachBeth Capital               Caroline Palomeque

Wells Fargo                            Jim Birchenough

CONCLUSIONS

 

By our own estimates, we believe ARNA is a STRONG BUY with a potential nine month price target of $12. This kind of price movement is not at all unusual in biotech. The key assumption is that the upcoming trial results are positive, that management executes to plan, continues to apply belt-tightening, brings on board a seasoned IR/marketing/promotion executive who can transform the demand channel (which was damaged by the previous management team), independent of data. 

The risks to our model are lack of good data from trials, and pitfalls from any residue of status quo inherited from past management team, including how relationships with investor community are handled, quality of communications, etc.

APPENDIX: DRUG DEVELOPMENT PRIMER

 

Preclinical studies:  performed in cell culture systems along with direct testing in living animals (typically rodents and other small mammals).  Drug candidates are tested for animal safety and efficacy along with drug metabolism and distribution throughout the body.  As a final step in preclinical testing, primates are often tested prior to moving the drug candidates into human testing.  The drugs that make it through this testing cycle are patent protected as New Chemical Entities (NCEs) and they must be chemically unique from already existing NCEs.  The best NCEs can move forward into human clinical studies (phase 1, phase 2, phase 3, phase 4) in a very orchestrated manner.

Phase 1 Human Clinical Trials:  testing for drug distribution, metabolism and safety at a variety of doses in healthy volunteers.   It makes sense to test healthy volunteers first since they don’t bring a lot of other “noise” along (such as being on other drugs or having medical conditions that are not appropriate for the drugs being tested).

Phase 2 Human Clinical Trials:  testing appropriate drug dose ranges identified in the Phase 1 trial for the proper balance of safety and efficacy in patients having the disease conditions relevant to the drug in question.   These early studies contain enough patients to provide a good readout on efficacy and safety but typically not enough numbers to allow for filing a New Drug Application (NDA).   In some cases (especially with Orphan Drugs), the phase 2 studies may be “powered” to a high enough level to allow filing of an NDA upon completion of these studies.

Phase 3 Human Clinical Trials:  The trials that contain larger numbers of patients than earlier trials to allow strong statistically relevant information on safety and efficacy (typically versus a standard of care therapy for serious conditions) to be developed.   Drugs that provide good evidence of efficacy with minimal safety issues in phase 3 trials are generally approved.

Phase 4 Human Clinical Trials:  These trials (called post-marketing studies) are sometimes required after drug approval to address questions about the longer term consequences of the newly approved drug.  In the case of weight loss drugs (e.g. Belviq and Contrave), the FDA is looking for long-term consequences of drug use in terms of safety and efficacy that may benefit by further study.  In the case of Belviq, the 12,000 patient phase 4 Camelia trial was designed to rule out any negative effects on heart function while providing enough data to establish if there are statistically significant improvements in heart function, prevention of heart attacks and decrease in transition to type 2 diabetes.   The Camelia trial began in 2014 and is expected to wrap up in 2018.  A demonstrated benefit of Belviq in prevention of heart attacks and/or diabetes could easily elevate Belviq to blockbuster status.

Following are the Clinical Trial approximate approval rates during the various phases of drug development:  Phase 1 to Phase 2 (63%), Phase 2 to Phase 3 (31%), Phase 3 to NDA accepted by the FDA (60%), NDA approval rate (85%).   The overall approval rate is thus ~12% for non-oncology drugs.   Phase 2 is obviously the point where most failures occur and thus it is easy to see why Phase 2 results are often the most critical for any drug development organization.  Orphan drugs tend to have higher success rates at each stage of development.    

(see for more detail: https://www.bio.org/sites/default/files/Clinical%20Development%20Success%20Rates%202006-2015%20-%20BIO,%20Biomedtracker,%20Amplion%202016.pdf )

 

 





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