Orexigen Therapeutics — Contrave continues rebound

Headquartered in La Jolla, California, Orexigen is a biopharmaceutical company focused on the treatment of obesity. In October 2014 it launched Contrave in the US as an addition to a reduced-calorie diet and increased exercise in overweight (with comorbidity factors) and obese adults. Orexigen owns the commercialization rights to Contrave in the US and is currently marketing it with a 160-person salesforce. Known as Mysimba in international markets, the product is partnered in 44 countries outside the US and has launched in 14 of them. NASDAQ-listed, Orexigen was founded in 2002 and went public in April 2007. An additional $510m in capital has been raised since then. Orexigen currently employs 132 people full-time and employs a contract sales force.

We are adjusting our valuation from $193m ($12.70/share) to $194m ($12.76/share). This change is due to an increase in our US Orexigen sales estimates and is mitigated by a more conservative launch trajectory for product sales outside of the US (though peak sales are largely the same) and higher SG&A spending estimates. Our fair value is based on an NPV analysis of the FCF from Contrave/Mysimba and the company’s ongoing costs for R&D and SG&A, to which we apply a 10% discount rate, appropriate for a biotechnology company with an approved and marketed product. Our analysis is highly sensitive to Orexigen’s ability to penetrate the vast obesity market, with a large swing factor in fair value on small changes in penetration.

Sales of Contrave in the US were $14.8m in Q117, up 12% compared to Q116. They also booked $4.3m in sales of Contrave to international partners. Due to an aggressive consumer-focused campaign (which helped increase Contrave prescriptions by 39% in Q117 compared to Q416), operating expenses were $66.8m in the quarter, including $55.2m in SG&A. These expenses are expected to decline over the course of the year. The company is currently guiding for $180-200m in cash operating expenses for 2017. It is important to note that in 2016, the company had guided for $160-180m in cash operating expenses but spent $146m, 9-19% lower than guidance. The company had $126.6m in cash, restricted cash and marketable securities at the end of Q117 and is guiding for a cash balance of $40-50m at the end of 2017. Our estimated financing requirement is now $90m through 2020 (not including the $245m in convertible debt due in that year) and we continue to expect profitability in 2021. Also, our per share valuation does not include any potential equity dilution.

Orexigen is subject to the execution risks associated with a pharmaceutical company in the midst of a commercial launch. Additionally, due to under-reimbursement for medical therapies for obesity, out-of-pocket costs for Contrave are relatively high ($90 per month for those without insurance coverage for Contrave if they have a savings card) making it a tougher sell. Their main competitor, which holds over 80% on the market, is phentermine, part of the amphetamine class and currently generic. While it does have serious side effects normally associated with amphetamines, euphoria and other “feel good” effects of the drug makes it unlikely that it will lose its market leading position without regulatory action. There are also intellectual property concerns as Contrave is a combination of two generic substances, naltrexone and bupropion though it does have 11 FDA orange book listed patents that expire between 2024 and 2032. Orexigen is currently involved in Paragraph IV litigation with Actavis over their filing for approval of a generic version of Contrave. While we expect the patents to hold up, the bench trial is scheduled to begin in June 2017 and if Actavis emerges victorious, a generic Contrave could be available after Contrave’s exclusivity period expires in September 2017.

Orexigen offers a pure-play investment in the treatment of obesity, a rapidly growing yet relatively underserved market. It had initially been partnered in the US with Takeda who had ~900 reps detailing Contrave. Although it became the #1 branded obesity treatment thanks to its efficacy and clean safety profile, prescriptions plateaued and Orexigen announced it was re-acquiring Contrave rights in the US in March of 2016 (the acquisition was completed in August 2016). Since launching a patient-focused campaign at the beginning of 2017, prescriptions for Contrave quickly rebounded and surpassed the levels attained by Takeda, which was strictly focused on marketing to physicians. Contrave, which is known as Mysimba in most international markets, has now launched in 14 countries, including South Korea, Spain and Poland and is partnered in an additional 30.

Contrave aims to target the behavioral mechanisms of craving and reward that can lead to overeating. The extended-release (ER) tablets combine bupropion HCI ER and naltrexone HCI ER, regulating appetite and energy expenditure through central nervous system (CNS) activity. The individual compounds work on two separate, complementary areas of the brain: the hypothalamus and the dopamine reward system (the fact that it works on two areas of the brain is at the center of their patient-focused campaign). The hypothalamus plays an important role in the regulation of the body’s appetite, satiety and metabolism (energy expenditure) receiving various chemical and hormonal stimuli including glucose, insulin, leptin and peptides secreted by the gut processing food. The dopamine reward system regulates control eating behavior and cravings.

First approved in 1985, bupropion has been widely used for treating depression under the brand Wellbutrin (typically at 400mg/day), particularly in overweight people. Although efficacy in depression looks to be comparable to the commonly prescribed SSRIs, the drug has not been associated with their weight gain (or lack of sex drive) and in fact one of the side effects of bupropion reported in clinical trials in depression was modest weight loss. Bupropion was also FDA approved for smoking cessation in 1997 under the brand Zyban. A norepinephrine dopamine reuptake inhibitor (NDRI), the compound has been shown in studies to activate the pro-opiomelanocortin (POMC) area in the hypothalamus, which looks to cause a reduction in appetite and increase in energy expenditure. The firing of POMC neurons (brought on by bupropion) appears to lead to the production of a natural opioid, beta-endorphin that can slow the POMC system equally, moderating potential weight loss. Naltrexone counters this impact by blocking opioid receptors in the brain and limiting the impact of beta-endorphin on the POMC system. Thus, when administered together in a single pill, the increase in activity of the POMC neurons is sustained over an extended period. In a separate mechanism, both bupropion and naltrexone are approved for addiction disorders through the regulation of dopamine and naturally occurring opioids and therefore, when taken together, it is expected they may also impair food craving. Naltrexone is marketed in generic fast-release form as its hydrochloride salt, naltrexone hydrochloride, under the brands ReVia and Depade and Vivitrol (1x monthly ER injectable). In the US, naltrexone was approved for opioid addiction in 1984 and in 1994 for alcoholism. Orexigen’s proprietary ER oral formulation of naltrexone alleviates the common side effect of nausea in its original immediate release form.

Contrave was approved in September 2014 in the US and in March 2015 in the EU on the back of a large Phase III pivotal trial program, COR, evaluating the drug in 4,536 patients in four studies across three doses of naltrexone ER (16mg, 32mg and 48mg) with bupropion ER (360mg). All studies were 56-week, randomized double-blind and placebo controlled, with one focusing on the evaluation of patients with type 2 diabetes (COR-Diabetes) and another on intensive behavior modification (COR-BMOD). Co-primary endpoints for all trials were those typically used in anti-obesity studies: the proportion of patients achieving at least 5% weight loss and percentage change in body weight vs placebo. Endpoints were analyzed using a modified intent-to-treat (ITT), last observation carried forward (LOCF) on treatment. All trials met their endpoints with efficacy broadly in line with the other currently marketed anti-obesity treatments, although data suggest that Vivus’s Qsymia (phentermine/topiramate) has an edge on efficacy.

Overall, the program discontinuation rates of 42-51% for those on Contrave were similar to placebo (41-50%) with 19-29% due to adverse events (mainly moderate and transient nausea, headache, dizziness and vomiting) vs 10-15% on placebo.

Obesity is currently recognized by the larger medical community worldwide as a serious health condition, growing in prevalence globally with decreased life expectancy and related comorbidities including type 2 diabetes, heart disease, obstructive sleep apnoea (OSA), liver and pulmonary disease and certain types of cancer. Additional comorbidities include anxiety, depression, chronic pain and substance abuse. According to the Centers for Disease Control (CDC), in the US 37.7% of adults and 17.2% of youth (~100m people) are considered obese (body mass index or BMI ≥30) and these percentages continue to grow (see Exhibit 4). If you include the overweight (body mass index or BMI ≥25), between 60-70% of US adults are in need of losing weight.1

This comes at an enormous cost to the US healthcare system, with obesity and related comorbidity expenses in the US estimated at over $147bn.2 Worldwide, 2.1bn people are considered overweight or obese3 with a global economic impact of $2trn annually according to the McKinsey Global Institute.

Due to the sheer size of the potential multi-billion dollar market for obesity, there is capacity for multiple market contenders. Although a large and growing market, the development of anti-obesity agents has been fraught with safety issues historically (see Exhibit 5).

Despite numerous scandals and disappointments in the segment, the landscape for obesity compounds has changed with some relatively recent approvals by the FDA. This newer generation of drugs looks to be comparatively safe based on data from their respective large Phase III clinical programs.

The cause of obesity is considered to be a combination of genetic, behavioral and environmental influences and it is therefore not surprising that multi-faceted weight management programs, which consist of medication, together with diet, exercise and behavior modification, have been shown to work best – not only in weight loss but, importantly, in the ability to keep weight off. The human body uses many chemicals and hormones to protect its stores of fat – a defense mechanism likely useful to our ancestors when food was scarce – and a complete circumvention of this natural protection of stored fat must therefore be multi-faceted and complex. Hence, new solutions in the treatment of obesity rely more and more on combination drugs targeting multiple pathways. As such, current obesity drugs on the market take differing approaches to enhance behavior modification through various mechanisms, some with combination-complementary approaches, and are showing reasonably good success.

The brain acts as a regulator to functions controlling weight including decisions about how much, when and what we eat. In the obese, the brain becomes desensitized to signals to stop eating. However, the brain is sensitive to any losses in weight, at which time metabolism slows and hunger signals are communicated. Weight loss treatments therefore need to target the propensity for the body to crave food and gain weight once pounds are shed. Current and potential anti-obesity drugs may operate through various mechanisms, including appetite suppression (such as phentermine and other amphetamine-based drugs and anti-depressants), the increase of metabolism or the interference in the body’s ability to absorb certain components of food (such as orlistat or OTC fiber supplements like glucomannan and guar gum). It is generally thought that the non-CNS approach, which can initially induce weight loss, is susceptible to a weight loss plateau after several months or a year of therapy, in the absence of treating the underlying behavioral mechanisms in the body.

The main obesity treatments currently marketed in order of launch are as follows:

We do not expect the competitive landscape to change markedly in the next few years as there appears to be only one active Phase III program in obesity following the discontinuation of Zafgen’s novel MetAP2 inhibitor, beloranib, due to an increased risk of thromboembolic events. The program belongs to a private company called Gelesis (it attempted to IPO in 2015 but withdrew the S-1, likely due to lack of investor interest). Its product, Gelesis100, consists of an oral capsule that contains thousands of hydrogel particles that expand to 100 times their usual size once in the stomach. When taken with food the idea is that this will give patients the feeling of fullness (by physically filling the stomach) so that people eat less. Data so far has been relatively lackluster. In its three-month FLOW study of 128 patients, the 2.25g dose achieved 2% placebo-adjusted weight loss and the 3.75g dose achieved only 0.4% placebo-adjusted weight loss. The company is currently running the six-month 460-patient GLOW study which has co-primary endpoints of 3% placebo-adjusted weight loss as well as 5% weight loss in at least 35% of patients (43% lost 5% of their weight in the 2.25g arm in the FLOW study). We view this study as high risk as success requires a higher placebo-adjusted weight loss than seen previously.

Contrave was approved in the US on 9 September and launched in October 2014 as an adjunct to a reduced-calorie diet and increased physical activity in adults with a BMI of 30kg/m2 or greater (obese) or 27kg/m2 or greater (overweight), with one weight-related comorbid condition. As of June 2015, Contrave became the most widely prescribed weight loss treatment in the US. Unlike lorcaserin, Contrave is not a controlled substance, although packaging does include a black box warning owing to the class-wide risk of anti-depressants increasing risk of suicidal thoughts and behaviors in adolescents, as well as bupropion’s association with serious neuropsychiatric events when used for smoking cessation. In the US, Orexigen is commercializing Contrave on its own after re-acquiring the rights from Takeda and re-launched with its own sales force in August 2016. Since, re-launching, Orexigen has changed the marketing strategy from one exclusively focused on physician-focused marketing and detailing to one with a significant consumer component (especially since the beginning of 2017), although with continued detailing of high prescribing physicians (see Exhibit 6).

The thinking behind the change in strategy is that with physicians typically not spending that much time with patients (see Exhibit 7), they are likely to note the patient’s weight and potentially mention they should lose some, but not spend the time discussing obesity medication.

However, if the patient comes in asking about Contrave, the physician is more likely to spend the time to discuss the patient’s obesity and potentially prescribe medication. In a survey of physicians sponsored by Orexigen, physicians said that when a patient asks for a prescription for Contrave, they grant that request 73% of the time. Based on prescription data from Symphony Health, this strategy has been particularly effective, increasing Contrave’s market share from just under 40% to 50% in the branded obesity market (8% of the total market, which includes phentermine) since the consumer campaign started at the beginning of 2017 (see Exhibit 8).

When viewed through the lens of total prescriptions, the growth is even more pronounced; the weekly prescription rate is now c 80% higher than it was at the start of the year (see Exhibit 9).

One thing that remains a work in progress is the reimbursement environment. Historically, obesity medication has not been a covered indication by most insurers due to the perception that it is a “lifestyle” issue. Things have been improving however, with national coverage rates up to 73% in Q117 from just 22% at the beginning in 2015. However, besides having a health plan offer obesity drug coverage, employers also have to opt-in to that coverage, which is a factor in keeping end user coverage rates low. Currently, a little over 20% of Contrave prescriptions are covered by commercial payers.

For the most part, patients need to pay cash for their prescriptions ($90 per month with a Contrave savings card). This relatively high price for a prescription is hurting demand for the product and also is reducing the net realized price that the company collects as they need to deeply discount the product for cash pay patients. As more patients have commercial coverage for Contrave, we expect the average revenue per prescription to increase (which coupled with increasing prescriptions could cause revenue growth to accelerate). Currently, average net revenue per unit sold (including discounts and any sampling) is $89, up 22% compared to Q116 and up 15% compared to the $77 average for all of 2016.

In addition to the typical consumer ad-campaign and detailing of physicians, Orexigen is also pursuing a telemedicine strategy where a patient could have a consultation with a physician on-line instead of having to physically attend a doctor’s office (there were around 1.2m virtual doctor visits in the US in 2016 according to the American Telemedicine Association). There are several advantages to this:

For Orexigen, a focus on telemedicine has another advantage; phentermine, Qsymia and Belviq are all controlled substances so they cannot be prescribed through telemedicine. Therefore, a patient calling to treat their obesity can only be offered Contrave and the infamously patient unfriendly Xenical. Orexigen expects to have its telemedicine pilot operational in 47 states by the end of May 2017. While we do not expect significant near-term revenues from this channel, it could become a significant driver in the future as telemedicine itself becomes more popular.

Orexigen’s strategy for Contrave, which is known as Mysimba in most international markets, is to partner the drug region by region. Currently, Orexigen is partnered in a total of 44 countries outside of the US with Contrave/Mysimba launched in 14 of them, including South Korea, Spain and Poland. Launches in the UK and Ireland are expected in Q217. Also, due to a recently signed commercial and distribution agreement with Navamedic ASA, a launch in four Nordic countries (Denmark, Finland, Norway and Sweden) is expected in Q417 (as well as another three launches through other partners. The company hopes to sign partners in a further 10-15 countries over the remainder of 2017. There is little visibility into these markets and Orexigen does not disclose sales by country but as a whole, OUS sales in Q117 were $4.3m, up 139% sequentially as compared to the $1.8m in OUS sales in Q416. Much of this was the sale of product to partners to support the launch and may not be indicative of actual demand.

Orexigen is subject to the execution risks associated with a pharmaceutical company in the midst of a commercial launch. In addition, due to under-reimbursement for medical therapies for obesity, out-of-pocket costs for Contrave are relatively high ($90 per month for those without insurance coverage for Contrave if they have a savings card) making it a tougher sell. Their main competitor, which holds over 80% on the market, is phentermine, part of the amphetamine class and currently generic. While it does have serious side effects normally associated with amphetamines, euphoria and other ‘feel good’ effects of the drug mean it is unlikely to lose its market leading position without regulatory action.

There are also intellectual property concerns as Contrave is a combination of two generic substances, naltrexone and bupropion. Currently, Contrave is protected by 11 patents listed in the FDA Orange Book, each of which would need to be invalidated, uninfringed or deemed unenforceable for a generic to hit the market (see Exhibit 11).

Orexigen is currently involved in Paragraph IV litigation with Actavis over their filing for approval of a generic version of Contrave. In April 2015, notice of a Paragraph IV certification regarding an abbreviated new drug application (ANDA), the type of application needed to get a generic approved, was received. In June 2016, following a May 2016 claim construction hearing, the court adopted the company’s proposed constructions with regard to the majority of the disputed claim terms in a Markman ruling. While not a definitive victory, adopting one side’s claim terms over the other’s is an indicator of potential success at trial, which is currently scheduled to begin in June 2017. If Actavis emerges victorious, a generic Contrave could be available after Contrave’s exclusivity period expires in September 2017.

We currently assume a 2030 generic entry, as patent 9,248,123 only covers a subset of obesity patients. Our NPV value for the company would decrease if a generic enters the scene prior to that date. If only the 7,375,111 and 7,462,626 patents (known as the Weber/Cowley patents) hold, our valuation per share would fall to $2.07 per share. If the Weber/Cowley patents and some of the patents that expire in 2027 hold, then our NPV per share becomes $6.51 (which is almost 50% lower than our current valuation but still higher than the current share price). On the other hand, as there are Contrave patents currently pending, their issuance could potentially increase the NPV for the company if their expiration dates are after 2030.

We are adjusting our valuation from $193m ($12.70/share) to $194m ($12.76/share). This change is due to an increase in our US Orexigen sales estimates (peak sales increased from $329m to $342m) following robust prescription growth and is mitigated by a more conservative launch trajectory for product sales outside of the US (though peak sales are largely the same) and higher SG&A spending estimates ($5.8m higher in 2017 and $5.9m higher in 2018).

Our fair value is based on a NPV analysis of the FCF from Contrave/Mysimba and the company’s ongoing costs for R&D and SG&A, to which we apply a 10% discount rate, appropriate for a biotechnology company with an approved and marketed product. Our analysis is highly sensitive to Orexigen’s ability to penetrate the vast obesity market, with a large swing factor in fair value on small changes in penetration.

In the US, we currently assume $342m in peak sales, which equates to a 0.29% penetration rate among the obesity population and assumes an eventual normalization of obesity coverage as compared to treatments for other diseases (increasing the net revenue per patient). We assume $175m in peak sales for the rest of the world. This peak sales number is lower than in the US mainly because of reduced penetration assumptions and lower expected net revenue per patient.

Sales of Contrave in the US were $14.8m in Q117, up 12% compared to Q116. They also booked $4.3m in sales of Contrave to international partners. Due to an aggressive consumer-focused campaign (which helped increase Contrave prescriptions by 39% in Q117 compared to Q416), operating expenses were $66.8m in the quarter, including $55.2m in SG&A. These expenses are expected to decline over the course of the year. The company is currently guiding for $180-200m in cash operating expenses for 2017. It is important to note that in 2016, the company had guided for $160-180m in cash operating expenses but spent $146m, 9-19% lower than guidance. Due to the recent results, we have increased our revenue estimates in 2017 and 2018. Coupled with increased SG&A estimates, our operating loss estimate is higher for 2017 but lower for 2018. The company had $126.6m in cash, restricted cash and marketable securities at the end of Q117 and is guiding for a cash balance of $40-50m at the end of 2017. Our estimated financing requirement is now $90m through 2020 (not including the $245m in convertible debt principal due in that year) and we continue to expect profitability in 2021. Note that while Orexigen currently lists $177m on its balance sheet, it actually owes $245m in principal value on these notes which will need to be paid in 2020 ($165m by 1 July 2020 and the rest on 1 December). The difference is due to rules related to the fair value accounting of convertible notes with liability and equity components.