Wachovia analyst: Not all is lost for OSI Pharmaceuticals' drug prospect

By Ronda Fears

Nashville, Tenn., Aug. 22 - While OSI Pharmaceuticals Inc. is impacted by AstraZeneca's drug failure earlier this week, the market's reaction was overdone and there could even be a positive angle for OSI, according to a report Thursday by convertible analyst Yaroslav Motuzenko at Wachovia Securities, Inc.

On Monday, AstraZeneca announced its anti-cancer drug candidate Iressa does not improve the survival rate when added to standard chemotherapy in the treatment of front-line non-small cell lung cancer, based on preliminary results of trials. The company said it would continue to pursue the approval of the monotherapy Iressa indication in relapsing cancer.

The news cast a cloud on prospects of similar drugs being developed by ImClone Systems Inc. and OSI Pharmaceuticals Inc. Iressa works through the same mechanism as ImClone's injectible Erbitux and OSI's Tarceva pill, both in late-stage human clinical trials in combination with other drugs for treatment of a wide range of tumor types.

"We believe the disappointing announcement significantly increased the uncertainty of the outcome of the development program of OSIP's Tarceva, an anti-cancer treatment similar to Iressa, with a greater possibility of delay in filing and approval and limited usage," Motuzenko said in the report.

"However, we think the fall of OSIP's stock price in response to the news was somewhat exaggerated, and there are factors that should be considered in Tarceva's favor."

Iressa and Tarceva are orally administered small-molecule EGFR (epidermal growth factor receptor) tyrosine kinase inhibitors that work by blocking the division of cells with overexpressed EGFR. However, they are not exactly the same and have a different chemical structure, formulation and pharmacokinetics.

Two ongoing Phase III trials of Tarceva, as first-line non-small cell lung cancer treatment in combination with standard chemotherapy, have a similar general design to the trials conducted by AstraZeneca. However, it is speculated that patient population and trial protocols are somewhat different for Tarceva's and Iressa's trials.

In addition, there is a third Phase III trial of Tarceva in non-small cell lung cancer as a monotherapy treatment, Motuzenko noted. Its design is based on the favorable results of the preceding Phase II trials, he said, and a positive outcome is highly possible. This trial may be a backup for the NDA filing if the combination trials fail.

OSIP also conducts the Phase III trial for Tarceva in combination with chemotherapy in pancreatic cancer. The trial is enrolling patients, and the results are expected to be announced at the beginning of 2004. If successful, he said, the trial may be the basis for another Tarceva indication.

"As Iressa experienced a development setback, we now think Tarceva has a higher chance to be the first on the market and/or to grab a higher market share," Motuzenko said.

As of June 30, OSI had $510.5 million in cash and cash equivalents and $200 million in convertible debt.

Wachovia estimates the company will burn $100 million to $120 million in 2002.

In 2003, OSIP may burn more than $150 million, as it will pass through the R&D spending peak finishing four Phase III trials, Motuzenko said. But the analyst said OSI probably would be able to significantly trim down R&D expenses, the main cash burn driver, depending on its financial situation.

OSI develops Tarceva in alliance with Roche and Genentech, which fund 66% of the R&D cost and pay certain milestones in exchange for drug distribution rights.

"We believe [Roche] and [Genentech] may support OSIP in the case of unexpected financial difficulty," Motuzenko said.

"Also, there is the possibility of an OSIP acquisition by [Roche/Genentech] after Tarceva is successfully launched."

Assuming Tarceva's NDA filing and an approval in line with its guidance in 2004 as a first-line non-small cell lung cancer combination treatment, Wachovia expects OSI to become profitable in 2005-2006. With the current pipeline development plan on track, Motuzenko said it appears the company has enough cash to fund operations until profitability.

If, however, Tarceva shows no efficacy as a first-line non-small cell lung cancer treatment, the drug may face delayed filing and approval, and a smaller market size. In this case, Wachovia pushes profitability back to 2007-2008, and believes OSI may require additional financing.

"The third scenario is that Tarceva is not approved," Motuzenko said.

"In this case, OSI, being essentially a one-drug company, would face remote profitability and would need additional finances to maintain operations. We consider ... the third scenario is much less likely."

With success and approval of Tarceva, Wachovia would put the credit spread for OSI at 900 basis points over Treasuries. With limited success for Tarceva and approval delay, the spread would be put at 1,300 basis points. With failure, the spread would be put at 1,900 basis points.

"Taking into account the scenarios' possibilities, we speculate the converts should be valued using a credit spread of 1,100 bps," Motuzenko said.

"Assuming a credit spread of 1,100 bps and volatility of 55%, the converts appear to be 7.9% cheap. Year-to-date, they have traded between the theoretical fare value and a 5% discount to the theoretical fare value. We speculate that the excessive cheapness may continue until Iressa's FDA review date."

OSI stock is trading at a net enterprise value of $303 million, only above such names from the sector as Curagen, Cell Therapeutics and Cubist.

"We believe the OSI equity story is more sound than that at these other companies, even taking into account the worsened Tarceva outlook," Motuzenko said.

"However, we do not expect OSIP's stock price to improve or deteriorate significantly until the situation with the Iressa approval becomes clearer."

OSI is expected to announce the preliminary results of the Phase III Tarceva trials, both as monotherapy and as a combination in the U.S., around mid-2003.

OSI Pharmaceuticals 4.0% due 2009

Price: 63

Stock price: $17.14

Current yield: 6.35%

Yield-to-maturity: 12.55%

Breakeven: 7.18 years

Premium: 28.72%

Ratio: 20.00

Issue size: $200 million

Credit rating: NR

© 2015 Prospect News.
All content on this website is protected by copyright law in the U.S. and elsewhere. For the use of the person downloading only.
Redistribution and copying are prohibited by law without written permission in advance from Prospect News.
Redistribution or copying includes e-mailing, printing multiple copies or any other form of reproduction.