PharmaMar — Update 15 November 2015

PharmaMar is a Madrid-based company with two business divisions: biopharmaceuticals (based in the Madrid region) and consumer chemicals (based in Galicia). The head company, PharmaMar, is primarily focused on the development and commercialisation of marine-derived oncology drugs, including the marketed anti-cancer drug Yondelis. In addition, it has four wholly owned independent operating subsidiaries (Exhibit 1), with non-core operations in consumer chemicals, molecular diagnostics and RNAi technology. The company has just restructured via a reverse merger, whereby PharmaMar, which was previously a subsidiary, absorbed the holding company Zeltia. Shareholders in Zeltia were issued PharmaMar shares on a one-for-one basis. PharmaMar shares commenced trading on the Madrid Stock Exchange on 2 November.

Our valuation of €1.07bn, or €4.82/share, is based on a sum-of-the-parts DCF to 2028. We use an rNPV method to discount future cash flows for the biopharma business (12.5% WACC) and have applied a standard DCF model for the chemicals division (7.5% WACC). Cash flows are taxed at a 25% corporate tax rate from 2020, tapering up from a lower rate to reflect accumulated tax losses.

PharmaMar’s biopharma division is subject to typical sensitivities including potential clinical/regulatory failure/delay, manufacturing and commercialisation risks and reliance on partners. The chemical business is predominantly exposed to economic factors. Specific sensitivities for the core oncology business relate to Yondelis (sales trajectory and ovarian cancer trial outcome), clinical data and deal progress (for Aplidin and PM1183). PharmaMar’s sample library, technology platforms and discovery capabilities could represent unappreciated upside.

The Yondelis approval milestones that boosted income in 2015 will not be repeated next year. However, they should be replaced by recurring royalties from 2016 onwards following the recent approval of Yondelis in the US and Japan. R&D spend is largely in the biopharma business (€47m in FY14 net of capitalised R&D), and will increase to c €58m (net) in FY15 with investment in pivotal trials (Aplidin and PM1183) and the Sylentis glaucoma study and dry eye Phase II studies. Due to the combined effect of lower milestone payments and increased R&D expenditure we expect earnings in FY15 and FY16 to be below FY14 levels, followed by a sharp rise in FY17; we forecast EBITDA to fall from €25.7m in FY14 to €22.1m in FY15, €23.4m in FY16 before rising to €55.0m in FY17. Increased operating cash flow should reduce net debt from €54.9m in FY14 to €35.2m in FY16.

We expect PharmaMar’s profitability to accelerate from 2017 onwards, driven by its world-leading, marine-derived oncology therapeutics business. Since the first EMA approval of its marketed drug Yondelis, in 2007, PharmaMar has been a fully integrated speciality pharmaceutical company. It uses the sea as a source of first-in-class cancer drugs and has a diverse library of 160k marine samples. It has active discovery and preclinical programmes (with the aim of regularly advancing a new product to the clinic), a prioritised clinical development programme of three marine-derived synthetic compounds targeting multiple cancer indications, and a European sales infrastructure for Yondelis.

The recent regulatory approvals for Yondelis for soft tissue sarcoma (STS) in Japan (partnered with Taiho Pharmaceuticals) in September and in the US (partnered with Janssen) in October will significantly boost PharmaMar’s revenue through royalty receipts and sales of raw material to partners. The approvals will have triggered approval milestones totalling ~$20m from Janssen and Taiho in H215. Additionally, Yondelis approval by the FDA may have positive knock-on effects on European sales1 in STS.

Newsflow from the two most advanced pipeline programmes, including Aplidin and PM1183, a second-generation product related to Yondelis, represents further important inflection points over the next two years. Exhibit 2 summarises these upcoming catalysts.

The readout of two key trials – the Phase III study of Aplidin in multiple myeloma and the Phase III relapsed/refractory ovarian cancer trial of PM1183 – are also major near-term value drivers that could catalyse lucrative licensing deals or development/commercialisation partnerships for non-European territories. Assuming both drugs reach the market, PharmaMar intends to sell these through its existing European sales infrastructure, in the regions where it retains rights (Aplidin is licensed to Chugai for eight EU territories), with only modest future expansion.

PharmaMar licensed Aplidin marketing rights for Taiwan to TTY Biopharm in July, and Australasian rights to Specialised Therapeutics Australia. Each of those deals included an upfront payment of €0.4m.

Yondelis (trabectedin) is a synthetic, marine-derived, intravenous anti-tumour drug originally isolated from the colonial tunicate Ecteinascidia turbinate. It has a novel mechanism of action, binding to the minor groove of DNA and interfering with cell division, gene transcription and DNA repair mechanisms causing apoptosis. It is approved in more than 80 countries for advanced soft tissue sarcoma (STS) after failure of first-line treatment or in patients who are unsuitable for the indicated first-line regimen (doxorubicin or ifosfamide), and for relapsed platinum-sensitive ovarian cancer (OC) in combination with pegylated liposomal doxorubicin2 (PLD, Doxil [US]/Caelyx [Europe], Janssen). Its first approval in the EU was for STS in 2007, with EMA approval in OC following in 2009, and the US and Japan for STS in 2015.

The US FDA approval of Yondelis is limited to the two most common forms of STS, liposarcoma and leiomyosarcoma, which were included in the pivotal clinical trial. However, we expect the drug to be used in all forms of STS given the limited alternative treatments.

Yondelis is sold by PharmaMar in Europe3 and is subject to partnerships with Janssen and Taiho Pharmaceuticals in the US/ROW and Japan respectively (deal structures are outlined in Exhibit 3).

The final data from the 577-patient trial Phase III trial, which supported the FDA approval of Yondelis in STS, were presented by Janssen at ASCO in June 2015 (PFS) and at the ESMO European Cancer Congress in September 2015 (final overall survival (OS) data). We note that the US approval application was submitted before the OS data were mature.

Exhibit 4 shows that treatment with Yondelis reduced the risk of disease progression or death (PFS) by 45% compared to dacarbazine (hazard ratio (HR) 0.55, p<0.0001). Median progression-free survival (PFS) was 4.2 months for Yondelis-treated patients vs 1.5 months for dacarbazine.

There was a non-significant numerical trend in median overall survival that favoured Yondelis by two weeks (13.7 months for Yondelis vs 13.1 months for dacarbazine, HR=0.93, p=0.49). The investigators noted that about 70% of patients received subsequent therapies in each group, and that the subsequent therapies were started significantly later in the Yondelis group (6.8 months vs 3.5 months for dacarbazine; HR=0.53; p<0.0001). The earlier use of post-study therapies with anti-cancer activity in the dacarbazine arm may have offset the benefit of Yondelis therapy and confounded the OS analysis.

The pending launches of Yondelis in the US and Japan will be key drivers of earnings growth. We forecast peak sales in Japan of €130m in STS and assume a 15% royalty rate. In the US we forecast peak sales of $130m STS and assume an 11% royalty on initial sales, rising to 15% in 2020. PharmaMar will also earn a margin on sales of Yondelis raw material to Janssen.

We assume premium pricing in Japan (US$37,500, 40% higher than Europe) and in the US (US$41,250, 50% higher). In both these markets, Yondelis will enjoy orphan drug market exclusivity post-launch (for seven years in the US and 10 years in Japan).

Janssen is conducting an ongoing pivotal Phase III clinical trial of Yondelis in relapsed platinum-sensitive ovarian cancer. The 670-patient study is an event-driven trial (the final OS analysis will occur after 514 deaths) and is not expected to render final results until late 2018, although an interim analysis for futility/efficacy is planned (after 308 deaths). This trial will form the basis of potential marketing applications in the US and other countries where Yondelis is not yet approved for ovarian cancer. We forecast peak US sales of $150m for Yondelis in ovarian cancer if it eventually receives approval – we assume a 65% likelihood of approval.

Recruitment is also ongoing in a number of Phase II trials of Yondelis in combination with other anti-cancer therapies in both STS and ovarian cancer, as well other observational and post-authorisation trials that could support increased utilisation of the drug.

Phase II trials are also underway in meningioma and mesothelioma, which are potential new indications for Yondelis.

The clinical pipeline includes three additional drugs that have been prioritised for development (Exhibits 5, 6 and 7). Final data from the Phase III Aplidin multiple myeloma study in Q116, and further updates from ongoing trials of PM1183, are major near-term value drivers that may catalyse a partnership for non-European territories.

Recruitment in the 255-patient Phase III ADMYRE trial of Aplidin in relapsed/refractory multiple myeloma was completed in June. The trial is comparing the effectiveness of the combination of Aplidin plus dexamethasone vs dexamethasone alone. PFS is the primary endpoint (estimated average of five months); an interim analysis in December 2012 reported that at that stage Aplidin was on track to meet the efficacy target of a 60% improvement in PFS. OS (estimated average of nine months) will also be assessed as a secondary endpoint. Results are expected in Q116; if the results are positive, PharmaMar plans to file for marketing approval in Europe in 2016.

A Phase I trial of Aplidin in combination with bortezomib (Velcade) and dexamethasone is expected to conclude before the end of the year. It will be followed by a Phase II trial in patients refractory to both bortezomib and lenalidomide (double-refractory). This trial is expected to recruit 64 patients over a two-year period.

Recruitment is also ongoing in the mass balance trial that will characterise the drug’s metabolism and elimination humans, which is a requirement for regulatory approval.

PharmaMar licensed Aplidin marketing rights in certain EU countries (France, Germany, the UK, Benelux, Ireland, Austria) to Chugai in July 2014; Taiwan rights to TTY Biopharm in July 2015; and Australia and New Zealand rights to Specialised Therapeutics Australia in August 2015. PharmaMar retains commercialisation rights in several key European territories, including Spain, Italy and Northern Europe, where we assume it will market Aplidin using its existing sales force. PharmaMar also retains production rights and will supply Aplidin to its partners for sale in the licensed regions. We expect PharmaMar to also seek a partner in the US, where the initial approval may be for the ultra-orphan indication immunoblastic T-cell lymphoma (which accounts for 2% of non-Hodgkin’s lymphomas).

There is potential for further licensing newsflow with Aplidin as the regulatory dossier for European approval will be valid for more than 40 additional ex-EU countries.

PM1183 is effectively a second-generation compound of Yondelis, with activity in similar (ovarian cancer) and new indications (SCLC, NSCLC, breast cancer). The compound has been optimised to improve the pharmacokinetic profile, such that PM1183 can be given at 4x the tolerated dose level of Yondelis and offers administration advantages. PM1183 can be administered in a one-hour infusion using a peripheral intravenous catheter, compared to a 24-hour infusion with Yondelis via a central catheter.

PharmaMar initiated a Phase III trial in June of PM1183 as a monotherapy in platinum-resistant ovarian cancer, compared to a control arm with topotecan or liposomal doxorubicin. The randomised open-label trial will enrol 420 women with unresectable platinum-resistant ovarian cancer, and will assess whether PM1183 can improve PFS as the primary endpoint. Recruitment is expected to complete around the end of 2016.This pivotal study follows encouraging PFS and OS rates in a Phase IIb trial.

The company is currently finalising the design of a pivotal Phase III study in SCLC after positive data from a Phase Ib study. The proposed Phase III will be a head-to-head study comparing the combination of PM1183 and doxorubicin against topotecan, in relapsed (second-line) SCLC patients. Preliminary results from the Phase Ib study showed that 67% of SCLC patients responded to PM1183 plus doxorubicin, compared to response rates of 20-25% typically seen with standard-of-care drug topotecan.

A Phase II “Basket” trial of PM1183 was initiated in September in patients with advanced solid tumours. This trial will include patients that have SCLC, head and neck cancer, neuroendocrine tumours (NETs), biliary tract tumours, endometrial cancer, BRCA 1/2-associated breast cancer, germ cell tumours and Ewing’s family of tumours, as well as other tumours of unknown primary site.

Preparations for a Phase II trial in advanced breast cancer (HR positive, HER2 negative subgroup) are well advanced, with the protocols submitted to institutional review boards for ethics approval. The trial will be conducted in Spain, Belgium and France. A second Phase II trial in patients with advanced colorectal cancer is planned to be conducted in Spain, Canada and the US. Recruitment is ongoing in a Phase I trial of PM060184 in combination with gemcitabine.

Exploring the biodiversity of the sea as a source of potential new anti-tumour compounds with differentiated mechanisms means PharmaMar’s drug discovery process is unique. Through annual diving expeditions around the globe, the company has built an extensive library of c 160,000 marine samples that form the basis of its cancer research activities. Exhibit 8 outlines the key activities in the discovery process; once a lead candidate is selected, it enters standard preclinical and clinical development. PharmaMar’s synthetic chemistry capabilities have three major benefits: ensuring drug supply does not rely on natural sources; potential for discovery and synthesis of more potent derivatives; and a strong IP position and barriers to entry, particularly as the underlying molecules are complex (eg Yondelis has an 18-step manufacturing process).

The sample library and IP estate (more than 1,200 granted patents and 600 pending patents in 100 families) represents a significant barrier to entry. Patents cover composition of matter (including of analogues), use, formulation and manufacturing, with the company also benefiting from significant know-how and marketing exclusivities. We also note the significant potential value in the sample library outside oncology as it is likely to contain novel compounds with utility in other disease areas (eg anti-infectives) that could be exploited through potential future IP licensing deals.

PharmaMar’s wholly owned operating subsidiaries are independently managed, allowing each management team to concentrate on its line of activity. Zenova and Xylazel (consumer chemicals) are leaders in their market segments and are, like molecular diagnostics company Genomica, self-sustaining profitable businesses requiring little external investment. Historically, the rationale for the holding company structure was that the cash-generative consumer chemicals division provided funding for the biopharmaceuticals business and access to debt. However, consumer chemicals could now be considered non-core legacy businesses, and there may be future potential for the sale or spin-off of this division to create a pure-play biopharma company.

The remaining biopharmaceuticals subsidiaries have both complementary (Genomica) and distinct (Sylentis) activities to marine oncology. Genomica develops and commercialises in vitro diagnostic kits with its CLART platform (launched in 2006) and performs DNA identification analysis. The company is diversifying strategically into cancer molecular diagnostics with the launch of a new line of products (CLART CMA) based on the detection of genetic DNA mutations in cancer genes.

PharmaMar has funded Phase II glaucoma and dry eye studies, with the expectation that positive data would be sufficient to secure a near-term licensing/M&A deal for this project/subsidiary. Bamosiran failed to achieve the primary endpoint of demonstrating non-inferiority to Timolol in the first of these trials, but the Phase II trial of SYL1001 for treating dry eye discomfort is ongoing. Dry eye represents a significant market opportunity, with an estimated 25 million people in the US affected by chronic dry eye. For example, earlier this month Allergan in-licensed the Phase III dry eye drug Tavilermide in a deal that included a $50m upfront payment, and undisclosed milestone payments and royalties on sales. Exhibit 9 summarises the Sylentis pipeline.

Our sum-of-the-parts DCF model (project-based rNPV for the biopharma business; FCF for the chemicals division to 2025) increases modestly to €1.07bn (vs €1.03bn) or €4.82/share (vs €4.65/share) (Exhibit 10), with the increases in valuation due to the approvals for Yondelis in the US and Japan partially offset by lower near-term sales forecast for Yondelis in Europe and lower Sylentis valuation.

Notable changes include:

With regard to PM1183 and Aplidin, we have maintained our previous base case assumptions that these products will be commercialised with a partner, resulting in a 25% royalty on net sales. However, we acknowledge that with the new corporate structure, US IPO plans and resulting opportunity to establish a US commercial business, these products could be self-commercialised in the US. This would offer upside potential to our base case royalty assumption; for example, applying a 50-60% pre-G&A margin (after 10-15% COGS + 30-35% S&M costs) to PM1183 in the US for currently targeted indications would raise the rNPV of the product to approximately €595m vs €382m in our current model.

PharmaMar is subject to various sensitivities common to speciality pharmaceutical companies, including potential clinical or regulatory failure or delay, manufacturing and commercialisation risks (launch, uptake, pricing, reimbursement and competition), and reliance on partners for ex-Europe markets. The chemical business is predominantly exposed to economic factors, although raw material costs, environmental/regulatory requirements and external weather conditions may also affect sales or margins.

Key stock-specific sensitivities for the core oncology business include, but are not limited to:

PharmaMar’s net revenues of €126.8m were up 8% on the previous corresponding period (pcp) in 2014 (€116.9m), with the 14% growth in biopharmaceuticals (FY15 year to date €69.7m vs €61.2m in pcp) much stronger than Consumer Chemicals (up 2% to €56.3m). Year to date net sales of Yondelis (mainly in Europe, reported in biopharma) rose 14% to €65.2m, including €5.5m from the sale of raw materials to Janssen; commercial sales of Yondelis (excluding raw materials) rose by 4% €59.7m. Gross margin in H115 was 71.3% (vs 71.9% pcp). Other revenues of €22.1m were 4% lower than pcp (€23.0m), reflecting slightly lower milestone payments. Yondelis approval in the US will have triggered a further $10m (~€9m) milestone payment from Janssen in Q415.

R&D spending for the first nine months of 2015, which is predominantly focused on the oncology business, rose 23% to €45.7m (€37.1m pcp). The increase in R&D spending was mainly due to the pivotal registration trial of PM1183 in platinum-resistant ovarian cancer. We forecast gross R&D spending will total €61m in FY15 and €54m in FY16. Note that a proportion of this R&D is capitalised (we now assume c 6% in line with FY15 ytd vs the previous assumption of 10%). Total SG&A expenses were €51.6m in FY15 ytd (vs €45.6m in pcp). EBITDA for the group in FY15 ytd was €16.6m, 35% below the €25.6m reported in the corresponding period in 2014, reflecting the lower Yondelis milestones and higher R&D expense in the current period. We forecast EBITDA to be €22.1 in FY15, 14% below FY14.

Reductions to forecast earnings reflect lower near-term sales of Yondelis in Europe and lower capitalisation of R&D expenditure. We lower our EBITDA forecasts for FY15-17 by 18%, 51% and 35%, respectively to €22.1m, €23.4m and €55.0m (Exhibit 11).