Allergy Therapeutics — Update 30 March 2016

AGY is building on its existing strengths, notably in view of the breadth and advanced status of its core portfolio and in the light of the rationalisation of the European allergy immunotherapy market. The company reported 12% constant currency (CER) sales growth in H116 to £31.5m from £28.2m in H115 (3% reported growth to £29m), continuing the trend seen in FY15 (11% CER sales growth to £46.6m from £42m in FY14; 3% reported growth to £43.2m) whereby AGY took market share in all of its main markets in the face of flat or low growth European allergy markets. At 30 June 2015, AGY held a 10.1% share of the EU market (vs 8.7% two years ago). The H116 period was the first half year where Alerpharma made a contribution (the acquisition completed in June 2015) which was c3% of reported sales growth.

AGY continues to demonstrate that it is delivering on all three aspects of its stated growth strategy: building on its existing franchise via organic means, M&A, and by seeking regulatory approval for new and existing products. This is particularly notable in terms of the transformational US opportunity for its PQ allergy vaccines. The US opportunity for a PQ range of ultra-short-course allergy immunotherapy shots is on track for approval/launch in 2019.

The core product portfolio consists of 10 allergy immunotherapy products. The key product, PQ, has been available on a named patient, or unlicensed basis in Europe since 1999, treating c 250,000 patients to date, and accounted for 49% of FY15 gross sales. However, the company is also seeking to maximise the core portfolio's growth potential by growing sales of smaller products and optimising potential in regions where it has low market share relative to market size.

Exhibit 1 illustrates the core product portfolio and proportion of sales in FY14/15, showing that the PQ range drives revenues and there is further scope to drive growth of the smaller products. The company seeks to maximise growth potential, pushing out the smaller products through its existing salesforce. For example, it is looking to roll out its Acarovac Plus house dust mite vaccine and its probiotics food intolerance product range Pollagen, Kallergen and ATI-Prob, through its existing channels in European regions. PQ is well established in its core European markets, notably in Germany, which accounted for 63% of gross revenue in FY15. However, it also seeks to grow market share in other regions over time, notably in Southern Europe, Spain and Italy (Exhibits 2 and 3 overleaf).

AGY’s acquisition of the Spanish immunotherapy company Alerpharma in June 2015 positions the company to grow its market share in the region, particularly in view of its low 3% market share in context of the relatively large size of the AIT market. There are cross-selling opportunities and cost synergies with AGY’s existing Spanish operations and the integration has completed. We estimate that Alerpharma will become earnings accretive in FY17 based on our £3m Alerpharma revenue forecast, with potential for cost savings in the second full year of the acquisition.

European allergy treatment markets are being affected by a shift in market dynamics from unlicensed or named-patient treatments towards approved therapies. Market rationalisation is a result of the implementation of EU directive 2001/83/EC, which requires that all new allergy products are fully-registered pharmaceutical products with proven clinical efficacy. The requirement means that named-patient products will either have to meet these new regulatory standards (with Marketing Authorisation Applications [MAA] filings seeking the grant of marketing authorisations) or will be phased out. There is no definitive timetable for this to occur but current expectations are for the process to take up to 10 years to be fully implemented.

AGY has so far filed 10 such applications, prioritising fulfilling the requirements of the German Therapeutic Allergen Regulations (Therapieallergene-Verordnung, or TAV). The rationalisation process means that AGY is positioned to see sustained growth ahead of the market growth rates as a result of its portfolio strategy compared with its European peers. Approximately 2 million patients per year seek treatment via immunotherapy for allergic rhinitis in Europe, although growth in approved therapies is likely to significantly expand this market. AGY is aiming to grow its European market share to 20% by 2020 from its current position of 10% (excluding France where Stallergenes dominates).

AGY announced the completion of enrolment of 364 patients (target was 350) into its PQBirch204 Phase II study in November. This is a double-blind, placebo-controlled dose selection (six doses) trial for the Pollinex Quattro Birch (PQB). The active phase of the study is complete, and headline results are expected in H216.

The endpoint of the trial is the change in total rhinoconjunctival system score over baseline, compared to placebo. The dose established as most efficacious, safe and tolerable will be selected and studied in the PQBirch Phase III study, expected to start in Q117. Successful completion of the pivotal trial would be sufficient to file for approval with the European Biologics Agency, and could result in marketing authorisation for PQBirch in 2019.

The company is also leveraging its existing portfolio and its vaccines technology platform to boost the in-house pipeline while it is also exploring alternative opportunities to commercialise the MCT vaccine platform. MCT is significant in that it is non-aluminium-based adjuvant and PQ Grass is one of the only marketed aluminium-free vaccines; aluminium is the most commonly-used vaccine adjuvant and the long-term risks are still being assessed, leading many physicians preferring to prescribe aluminium-free vaccines. AGY is developing Acarovac Quattro, an ultra-short course version of the house dust mite (HDM) vaccine Acarovac Plus, based on the patented MATA-MPL technology. The product is currently at the preclinical stage of testing. The emphasis will be on reducing the AIT course and increasing efficacy. The ultimate target is to move Acarovac Quattro into clinical development as an investigational new drug (IND), although a timeline has not yet been confirmed.

AGY is investigating alternative applications of its MCT (microcrystalline tyrosine) vaccine depot technology. Vaccine depots enable the slow and sustained release of antigens to boost the efficacy of AIT. MCT is a naturally occurring amino acid and AGY has developed a suspension formula for MCT. It has patented the process to 2032 in the UK and has filed a European patent for the same period. The technology is used in conjunction with the company’s subcutaneous vaccines including its PQ range. MCT has a range of properties that could distinguish it from other vaccine depots including superior adsorption versus aluminium adjuvants.1

As part of the profile-raising process, AGY presented data illustrating the applications of MCT for use in non-allergy vaccines in influenza and malaria, areas in which disease antigens have proven difficult to adsorb to aluminium, at the recent World Vaccine Congress (9-11 November 2015). The data arise from research collaborations between the University of Oxford, the Jenner Institute and Public Health England, led by Dr Matthew Heath.

These findings and potential applications appear attractive although it is perhaps too early to include any forecasts in our model; we would look to reassess the applications of MCT as a vaccine depot once AGY defines the specific indications and the timeline for taking MCT into clinical studies. By way of example, the Agenus QS-21 Stimulon adjuvant is used in the first approved malaria vaccine Mosquirix (GSK); Agenus earned an undisclosed milestone payment on approval and will receive low single-digit royalties on potential commercial sales.

PQ Grass, referred to as GrassMATAMPL (GMM) in the US, has the potential to be the first licensed seasonal subcutaneous AIT treatment to reach the US market, where historically physicians have favoured SCIT (subcutaneous immunotherapy) treatments. It is perhaps too early to attribute a precise value to the allergenic rhinitis (AR) market as it is still evolving; however, market research estimates2 show that the AR immunotherapy market could be valued at over $2bn by 2019.

AGY is focused on taking the PQ range into the US, and recently began a 250-patient Phase II chamber study (G204) with GMM for grass allergic rhinitis, following successful completion of the GMM102 (G102) safety study, which demonstrated safety of two new doses of GMM. The first 10 US patients in G204 were recruited in December and AGY expects headline results in H216. The study is a double-blind, placebo-controlled cumulative dose selection trial, and is the first to use multiple mobile Environmental Exposure Chambers providing constant pollen exposure to allergic patients, which is ideal for dose selection studies. The chambers are located in Cincinnati and New Jersey where 250 patients in total will be studied before and after treatment.

Successful completion of the G204 study would allow a pivotal Phase III trial to commence in H216, leading to a potential filing by end-2018, and filing and US FDA approval by end-2019 (Exhibit 4).

Currently the US AIT market consists of long-course, unlicensed homebrew treatments. Typically these require 50-100 injections before the season, are not registered products and have no clinical evidence. In 2013/14 Stallergenes and ALK Abello launched sublingual treatments in US and Europe, although sales have not yet taken off strongly, potentially because of a preference for subcutaneous treatments. PQ has a range of potential benefits over unlicensed homebrew treatments and could result in higher patient compliance given the familiarity of SCIT treatments and the much greater convenience of the four-shot PQ course. US registration studies are fully funded by AGY’s £20m net fund-raising in March 2015.

If approved, GrassMATAMPL would potentially be the first licensed short-course seasonal subcutaneous immunotherapy (SCIT) allergy vaccine to market in the US, where the prevalence of allergic rhinitis (AR) is c 25%.3 Around three million patients per year seek SCIT treatment for AR in the US and the market is currently valued at up to $2bn. The next most prevalent allergens include tree and ragweed – c 26% and 30% of the AR patient pool4 of the c three million patients seeking SCIT in the US at present.

In addition to organic growth, AGY has been active in seeking new opportunities in the specific immunotherapy market, to enhance its portfolio and leverage its existing commercial infrastructure. One such example is the recent licensing of the VLP technology from Saiba Biotech, to be used in the treatment of peanut allergy.

The approach of using VLP in vaccines has been validated through its use in GlaxoSmithKline’s approved and widely distributed HPV vaccine Cervarix, used globally as a prophylactic vaccine to help prevent cervical cancer. However, using VLP for an allergy vaccine is still novel and the combination with AGY’s technology offers the prospect of protective immunity against food allergens, which could be a game-changer in this field. Although still some way from the clinic, the long-term objective is to develop a short-course injectable treatment regimen that offers sustained and prolonged tolerance to allergens, such as found in peanuts. This would be a major advance over the current patch or oral formulations in advanced clinical studies (Viaskin patch by DBV Technologies; CODIT oral with Aimmune Therapeutics) that may require long-term, daily treatment and therefore suffer sub-optimal tolerance if adherence is not properly maintained.

AGY intends to use the VLP licence in the development of Polyvac Peanut, with approximately
£2-3m invested from the November 2015 £11.5m equity raise to advance the programme through to Phase I studies within two to three years. Polyvac Peanut represents AGY’s first move into products to treat food allergies. In the US alone, there are approximately three million people with a peanut allergy, resulting in >125,000 emergency room visits per year and 100-150 attributable deaths. As such, this is a sizeable market opportunity and we note that we had previously ascribed a peak sales forecast for DBV’s Viaskin Peanut in the US of $1.4bn by 2025.

Aside from Polyvac Peanut, the November financing will also support the development of Acarovac Quattro, an ultra-short course therapy for perennial house dust mite allergy, through Phase I clinical trials, and to launch in Spain on a named patient basis targeted for 2017. This is also expected to require a £2-3m investment. House dust mite is the world's most common cause of allergy and is estimated to affect over 90 million people in Europe, North America and Japan alone, with a global addressable market of $3-4bn (both AGY estimates). Acarovac Quattro is a strategically important product which will diversify AGY’s current predominantly season AIT product offering further into the perennial segment.

The core European portfolio generated 3% reported net revenue growth in the six months to 31 December 2015 to £29m vs £28.2m in H115. Negative FX impact from a weaker euro eroded headline gains, so H116 sales growth at constant currency was 12% to £34.1m, driven by sales of PQ in European markets. This sales growth trend was consistent with growth seen in FY15, where revenues also increased 3% in the 12 months to 30 June 2015 to £43.2m from £42m in FY14 (11% sales growth at constant currency to £46.6m). In both periods, revenue growth of core allergy products was ahead of market growth rates against overall flat allergy products markets. Our FY16 sales estimate is £47.9m including approximately £1.5m from the Alerpharma acquisition, rising to £53.0m in FY17. Our financial model, summarised in Exhibit 6, has now been extended to 2018, with forecast revenues of £56.9m in FY18.

AGY increased its gross margin from 71.5% to 71.8% in FY15 and to 74.7% in H116, by virtue of its tight control of manufacturing costs despite inflationary pressures and currency impact. Operating expenses increased in line with further investment into US regulatory processes from £10.9m in FY14 to £13.4m in FY15, while reported operating profit fell from £1.2m to £0.7m, taking reported EPS from 0.16p to 0.02p per share. At H116, operating expenses increased further to £10.4m, translating into an operating profit of £1.4m and EPS of 0.19p.

Management have guided to higher than consensus R&D spend for FY16 and FY17 as the US trials are proving to be more expensive than initially expected as a consequence of the phasing of the trials having been challenging, and the November fund raise means that AGY is investing more in its pipeline; hence we increase our R&D spending assumptions to £15.5m and £17.5m respectively. Consequently, we now forecast that AGY will report an operating loss of £12.2m in FY16 and £11.9m in FY17 as it takes PQ through pivotal US trials.

Net cash flow generation from operations was £19.4m in FY15, with cash and equivalents of £21.2m at the end of June 2015 after AGY’s March £20.8m gross placing of 94.1m new shares at 22.1p (net proceeds of £20m). The sale in November 2015 of 41m new shares at 28p per share, raising to gross proceeds of £11.5m (£11m net), strengthened the balance sheet further, with cash and equivalents at end-December 2015 of £33.2m. We estimate FY16 gross cash of £19.6m (at 30 June 2016).

AGY’s £4m convertible loan with Abbott Laboratories converted into 41.7m new shares in April 2015. AGY held a £1.4m earn-out shown as short-term borrowings at end-FY15, in relation to the Alerpharma acquisition. The earn-out payment is based on certain 2016 sales performance criteria (undisclosed), payable to Alerpharma in 2017.

Our DCF valuation of AGY has increased to £274m (previously £260m) using a WACC of 12.5% on the development pipeline and 10% for the core European operations, and a terminal growth rate of 2%. We have made no fundamental changes to our valuation, but we have updated our model for latest results (including higher R&D spend for 2016 and 2017), rolled the valuation forward by half a year, added end-FY15 £19.5m net cash and updated the £/$ FX rate to 1.4 (previously £/$1.5). These changes have offset the impact of dilution (41m new shares in issue) such that our per share valuation remains broadly similar, 47p vs 48p previously. We maintain that AGY’s current market capitalisation of £153m does not yet fully reflect its prospects in the US market in particular. Furthermore, we do not yet include Acarovac Quattro or Polyvac Peanut in our valuation model.

Exhibit 5 illustrates the US valuation parameters for PQ in each indication. As mentioned in our previous report, the company has not confirmed which commercialisation pathway it will take in the US and our current default assumption is for a 25% royalty rate. AGY may agree to a profit share leading to an estimated effective royalty rate closer to 35%, or potentially seek to self-commercialises PQ in the US, resulting in a potential 45% operating margin. Either of these scenarios would likely increase our valuation beyond the current base-case assumption of a 25% royalty, to £354m or 60p per share or £434m or 74p per share respectively.

We anticipate a number of potential catalysts over the next 12 months that could prompt further upgrades, including: