BONESUPPORT — Turnaround story on the way

Bonesupport’s three main marketed products are CERAMENT BVF, CERAMENT G and CERAMENT V. The products are very profitable, with gross margin of c 85% on a company level, and total sales have grown rapidly over the past few years (Q114–Q218 CAGR of 38%). In Europe, the company either sells directly or uses distributors. In the US, exclusive distributor Zimmer Biomet experienced internal supply problems in the second half of 2017, which also affected CERAMENT sales (H118 sales in US declined by 32% y-o-y; Exhibit 1). Bonesupport decided to reshape its business model in this key market and has now switched to a potentially more economically beneficial independent distributor network, after Zimmer Biomet’s exclusivity ended on 21 October 2018.

In total, 25 distributors in the US have been secured, which is ahead of the previously communicated deadline (18 by end-2018). US-based employee count is expected to grow from 12 in 2017 to 21 by end-2018. According to Bonesupport, Zimmer Biomet sold CERAMENT with its hardware and covered around one-third of the total accessible synthetic BVF market in the US (c 210k procedures a year; US + top EU5 is c 650k procedures a year), while competitors (Stryker, DePuy, etc) and independent distributors covered the rest. Using independent distributors, Bonesupport expects to access a wider market opportunity. According to the company’s estimates, the distributors that are currently engaged will cover c 85% of the target market (more will be added in the future).

No specific revenue guidance has been provided for the US market, but we believe that there could be a certain level of retention of existing customers, as surgeons who work with CERAMENT tend to be loyal to the product, according to Bonesupport. Zimmer Biomet is currently destocking CERAMENT BVF; therefore, we do not expect any material sales in the US in Q318. Given that the distributor network appears to be set, initial indications of the US sales rebound may be seen as early as Q418. Going forward, Bonesupport expects annual growth rate resuming to c 40% after 2019 on a whole company level (growth in 2019 vs 2018 could be even higher than that). In addition, distribution deal economics should be more favourable now than those with Zimmer Biomet; therefore, the company expects higher profit margins. Changes in accounting mean that Bonesupport will book 100% of revenues (previously 50%) and higher promotion expenses.

Bonesupport has also been revising its commercial operations in Europe, where the company’s products are sold in eight countries via local distributors, and five countries (UK, Germany, Switzerland, Sweden and Denmark) via direct presence. In addition to optimising its own sales processes, key changes include significant expansion of salesforce and a clear indication priority list. The number of representatives should increase from 14 to c 27 by end-2018, with the aim of having a direct presence in all geographical areas where large trauma/orthopaedic centres exit.

In Europe, where Bonesupport is marketing all three CERAMENT products, the antibiotic-eluting CERAMENT G/V are most lucrative because of higher pricing, unique value proposition and a less crowded antibiotic-eluting BVF market. Looking to boost sales growth, Bonesupport identified complex trauma as a key priority indication going forward, mainly due to the much larger market opportunity (c 10 times) than that of chronic osteomyelitis, which so far was the primary indication for CERAMENT G/V. Many other strategic initiatives are aimed at taking market share from synthetic BVFs, and ultimately from autografts and allografts (more details below).

Below we detail some of the key takeaways from the recent capital markets day, mainly focusing on the long term strategic vision from the company’s management. Our overview of the products and background information on the application areas and markets has been already provided in detail in our recent initiation report.

The addressable market in the US and top EU5 for Bonesupport is c 650k procedures annually in indications such as trauma, osteomyelitis, revision arthroplasty, foot and ankle, and oncology. In terms of volume, synthetic BVFs constitute roughly one-third of the addressable bone graft market in the US and top five EU countries (Exhibit 2). The remainder is still dominated by autografts and allografts in Europe, while the demineralised bone matrix (DBM) is more favoured in the US at the expense of autografts and allografts. Autografting usually means taking a patient’s own bone from the iliac crest, which basically entails a second surgical intervention and can supply only a limited amount of bone tissue. Allografting from other individuals bears foreign tissue risks, and can have disease transmission risk and higher failure rates. DBM is human bone that has had its calcium removed. It potentially has osteoinductive property and scaffolding function, but weak to no support.

One of the main reasons autograft is still considered the gold standard, besides the fact that it is using the patient’s own tissue, is that it also has osteoconductive (scaffold function), osteoinductive (turning undifferentiated cells into osteoblasts) and osteogenic (new bone tissue production by osteoblasts) properties. The prevailing opinion about synthetic BVFs (or ceramics) is that they mainly provide support and act as scaffold. Bonesupport mentioned that during its preclinical studies with animal models, some findings would suggest that CERAMENT products may have properties transcending just support or scaffold function.

Historically, calcium sulphate was one of the first materials used for synthetic BVF, with the first versions mentioned in the 1890s, which were found to resorb too fast. Later on, calcium phosphate was found to resorb too slowly and block the growth of new bone. Many other synthetic BVFs have been developed (bioglass, degradable and non-degradable polymers and other biomaterials) with little to no supporting prospective, randomised clinical data and the field has become commoditised, ie many products with no well-conducted, randomised trial to prove the competitive edge. For example, EvaluatePharma lists a total of 522 BVF brands on the market in the US and 311 in Europe, which are marketed by a total of 67 companies in the US and 50 companies in Europe (although that involves materials and indications where Bonesupport does not compete at the moment, such as spinal surgery).

In later years, combinations of calcium sulphate and calcium phosphate have appeared, which seem to offer the ‘best of both worlds’. CERAMENT is 60% calcium sulphate and 40% hydroxyapatite (a form of calcium phosphate). Bonesupport has shown a clinically balanced resorption rate (see CERAMENT BVF section below) that matches the formation of new bone tissue, allowing time for bone remodelling. While several products with similar properties exist, CERAMENT appears to be one of the best documented synthetic BVFs. Currently, there are more than 130 publications in peer-reviewed journals related to CERAMENT products. But the hallmark data will come from the two randomised clinical trials that Bonesupport is conducting: CERTiFy and FORTIFY.

Against this background, Bonesupport’s management summarised its intention to grow CERAMENT’s market share in four strategic steps:

CERAMENT G and V are both high-growth products in Europe, but not available in the US. Bonesupport has established an R&D programme and could bring CERAMENT G to the US market in 2021, substantially expanding its potential. This means that Bonesupport’s initial focus in Europe will be efforts to increase the share in the complex trauma market following success in osteomyelitis.

In 2017, CERAMENT G/V made up 30% of total Bonesupport sales, but 75% of sales in Europe, where the pricing is higher than CERAMENT BVF. This pricing differential should also be present in the US. Given the successful marketing in Europe, we see expect that the high-growth story in Europe can be reproduced in the US, if CERAMENT G is approved.

Antibiotic-impregnated PMMA beads are the gold standard in the treatment of infection in trauma and osteomyelitis, and represent the more traditional method of treating infection where the surgeon adds the beads then removes them at a later date during a second procedure once the infection is eradicated. Chips and cement products are also used, but also must be removed later. This need for a second surgery is a significant limitation. Antibiotic BVFs/bone grafts such as CERAMENT G offer a significant advantage over traditional alternatives for treating infections, according to several recent scientific reviews,1, 2, 3 mainly because they are biocompatible and able to degrade/resorb over time, thus eliminating the requirement for a second surgery. A one-stage procedure is more beneficial for both the patient and hospital with limited resources.

Compared to the market for BVFs, the selection of antibiotic-eluting BVFs is much more limited, to our knowledge. While CERAMENT products have been clinically documented by multiple investigators, there is still a lack of meta-analysis studies that would compare antibiotic-eluting synthetic BVFs. One relatively recent paper published by Ferguson et al (2010) compared clinical trials with several antibiotic-eluting BVFs and CERAMENT G/V appear to compare well with the rest when looking at infection recurrence rates, bone healing (fracture) and wound leakage (Exhibit 3).

Bonesupport indicated that, as with autografts, there is some conservatism or resistance to switch to new solutions from PMMA, because this method has become entrenched in surgical practice for a long time. However, the upcoming readout (expected in 2020) from Bonesupport’s FORTIFY trial, with patients with open tibial fractures (primary end point: reduction of infections) will provide the most advanced, prospective, randomised data so far in a one-step, infection-preventive setting in complex trauma.

Complex trauma or open fractures are associated with skin perforation and contamination. These cases carry a higher risk of infection to the patient. There are c 196,000 complex trauma procedures carried out annually in the US and EU5 together, and the opportunity is around 10 times larger than for osteomyelitis. The infection rate in these patients ranges within 5–27%.4 Infection prophylaxis in complex trauma is mainly managed by giving prophylactic antibiotics. To our knowledge, PMMA beads are not routinely used for prophylaxis, probably due to the unnecessary risk of a second surgery in patients that might not become infected. Bonesupport aims to position the product to allow prophylactic local antibiotic administration in addition to systematic, without the need for second surgery to remove the antibiotic carrier.

Bonesupport has two strategies to expand its product portfolio: through strategic collaborations and developing innovative solutions via in-house R&D. Bonesupport is seeking to gain access to third-party products that are complementary to CERAMENT with osteoinductive/osteoconductive properties. These bundled offerings would improve the company’s competitive position as a ‘one-stop-shop’ for buyers.

The plan over the next two years is to add products that have osteoinductive and osteogenic properties complementing CERAMENT products. Recent examples include strategic partnerships with Collagen Matrix (synthetic graft that delivers autologous stem cells) and MTF Biologics (DBM). Within the next 2–4 years, Bonesupport aims to launch tailor-made procedural kits with CERAMENT products and potentially launch novel products from their internal R&D programme. The latter includes CERAMENT in combination with bisphosphonates or bone morphogenic protein, or a triple combination of these. Another potential innovation is CERAMENT with biological agents, such as stem cells or bone marrow aspirate. We have reviewed the unmet need in each of these applications in our initiation report.

We have already reflected in detail in our initiation report the shift to independent distributor marketing in the US and make no changes to our estimates (FY18 sales of SEK39.1m), as Bonesupport has been delivering on its strategy so far. As mentioned above, the next operational milestone in the US will be sales recovery, initial signs of which we believe may be seen as early as in Q418 (following the first almost-full quarter of its own promotion), but Q1–Q219 will be more relevant to gauge the success of the strategy.

When it comes to Europe, following the Q318 results we slightly lowered our FY18 sales estimate in this region from SEK74.7m to SEK64.7m. While reported Q318 sales of SEK14.2m in Europe and RoW represent a substantial 29% growth y-o-y, Bonesupport indicated that this was achieved with several major areas still underrepresented. The expansion of the commercial organisation in Europe should have an additional growth effect; we therefore increased our mid- to long-term sales forecast in European markets, which in turn was balanced somewhat with increased S&M costs. This resulted in a modest negative net effect on our short-term estimates (Exhibit 4), but a moderate positive effect on our longer-term EBIT margin, increasing from 30% to 37% in 2027 on the company level. Our model implies break-even on free cash flow reachable by 2021, with existing cash of SEK313.2m (end-Q318), in line with management’s indications.

Given that Bonesupport’s investment case is in a turnaround phase, our estimates are subject to revision once more performance data points are in. Also, the new products are not yet included in our estimates, as financial and commercial details of those deals are still lacking at this early stage, but we will reconsider once more visibility on the potential of the products is present.

A moderate positive impact on our long-term EBIT margin forecast was the main reason for our DCF-based valuation upgrade to SEK1.49bn or SEK29.0/share, versus SEK1.16bn or SEK22.8 per share previously. Our recent initiation report provides detailed assumptions for our valuation. Key near-term catalysts include: