TLSR: Hugh, you are in the small- and micro-cap space, and you invest in both public and private equity. Generally speaking, what advice can you give the retail investor who wants to access the high-growth potential of small life sciences companies? What are the top three things these investors should focus on?
HC: The first rule for the small investor is don’t risk capital you can’t afford to lose. We’re in a very good biotech market right now, and I expect that will continue for quite some time. But the volatility in individual names can be quite spectacular, and can catch investors in the wrong direction. If you’re planning on buying a new house within a year or two, I certainly would not suggest you put that money into the biotech market.
The second rule is to be disciplined about taking capital off the table. If you have a 100% gainer, it might be appropriate to set a rule that you will sell half of your position at that point. Different investors have higher or lower risk thresholds, so you should develop your own rules and stick to them.
“If the biotech space gets as heated as we think it will, Bellus Health Inc. could very well trade above $10/share.” — Hugh Cleland
I was looking at the performance of some of the stocks I mentioned in our June 27, 2013 interview, and the volatility we’ve seen certainly reinforces that idea. Some stocks have continued in nice uptrends, but others have had downward moves. One, in fact, was up over 100%, but now is down 90%. If you didn’t take any money off the table in that initial good move, you were not very happy when the study results came out and blew up the stock.
TLSR: You are talking about iCo Therapeutics (ICOTF), right?
HC: Exactly. Tekmira Pharmaceuticals (TKMR) is another one; we first discussed the company when the stock was below $5. It ran as high as $30, but then collapsed back below $10. Now it is back at about $20. It’s stunning volatility, but if you are disciplined about taking capital off the table, you can take advantage of that volatility and not be hurt by it.
TLSR: Even with the volatility, you would still have had a quadruple on Tekmira over the last 52 weeks.
HC: Yes. That’s if you bought it and forgot about it. But you might have done even better if, at some point, you took some money off the table and reinvested it during one of the dramatic pullbacks. Either way, you can’t beat yourself up for taking money off the table. No one ever went broke by taking a profit.
“Bellus Health Inc.’s confirmatory Phase 3 study has a very good probability of showing positive results.” — Stephen Ireland
The third rule is that every investor must do due diligence. A really important part of that diligence, for the retail investor, is finding sources you trust. This is more important in biotech than in any other sector. Try to find sources who can really dig into data, who know what the U.S. Food and Drug Administration (FDA) looks for, and who know what pharma partners look for. That’s why we invited Stephen Ireland to become a partner in Roadmap Capital. We needed his deep domain expertise internally. Retail investors, of course, can’t build their own teams, so they need to find sources that can be trusted. They also need to, as much as possible, use common sense and the smell test. They can do these things even if they don’t have a scientific or research background themselves.
TLSR: Hugh, your second rule, about discipline, implies that if you have a large gain in a biotech stock, an investor might be advised to sell on the run-up and not wait for the catalyst to hit. Is that part of your approach?
HC: Absolutely. That often gives you the best opportunity to manage your risk in a position. Of course, binary events — I’m talking about important share-moving events that act as catalysts — can give you huge gaps up and down. It’s always easy to be an armchair quarterback after the fact and say, “Dang, I can’t believe I sold some of that position before it went up another 200%.”
TLSR: You must be thinking about names where you have big gains right now.
HC: Tekmira wasn’t the only one. Bellus Health (BLUSF) is one where we have a large position, with an average cost of around CA$0.50/share, but we still haven’t sold any even though we have about a triple, with Bellus at about CA$1.50 today. The binary events at Bellus are still almost two years out, so that is our risk point. Its fully diluted market cap is still under CA$100M million (CA$100M), so we think there’s still an enormous valuation gap between Bellus and comparables (comps) in the orphan drug space. There definitely will be a point where we take our invested capital off the table, but we’re not there yet.
TLSR: What do the comps to Bellus look like?
HC: Comparable orphan drug companies (meaning companies at a similar stage of development, with similar peak sales estimates) trade between $500M and more than $1 billion ($1B). In the case of Bellus, with the binary event about two years out, there is still plenty of time to fill that gap. If Bellus fills the valuation gap, as we think it will, it will end up trading somewhere in the $4-8/share range. If the biotech space gets as heated as we think it will, Bellus could very well trade above $10/share.
TLSR: Stephen, I’d like to get your perspective, as an analyst who has worked in both small biotech and big pharma for a quarter century, on the question of due diligence. How does a retail investor get a handle on the science and technology platforms of small- and micro-cap companies?
Stephen Ireland: In the absence of specific expertise, it’s a challenge. The depth and breadth of technologies and therapeutic approaches being pursued by small-cap biotech companies are tremendous. Even experts working in a specific area — and I’m not talking about just experts with a science background, but experts in a particular molecular mechanism that companies are pursuing — aren’t always able to keep up with all the advances at any given time.
I think investors need to pick a therapeutic area in which they have a personal interest, which will give them the motivation to do the digging that’s required. Pick areas that are more mainstream, less esoteric — therapies about which they can easily find review articles in mainstream journals.
“Partnerships can add credibility to the story.” –Stephen Ireland
Hugh’s point about finding somebody whom you can trust — a friend or colleague either in the industry or who has knowledge of that industry — is extremely important. To just check out what a company puts on its website is not sufficient due diligence. I don’t pretend we understand fully all of the detail we look at, but we have a team that’s dedicated to doing this.
TLSR: Stephen, a due diligence technique that small investors have relied on is to look for who a company’s partners are. The headline number on a partnership deal may have been $500M or more, but the pharma’s upfront investment may have been as little as $10M, with milestones and royalties paid as development proceeds. If you’re looking at a small-cap company that is partnered with a Pfizer (PFE) or a Merck & Co. (MRK), is that validation an investor can rely on? Does it bring the kind of credibility you like to see?
SI: Partnerships can add credibility to the story, for sure. Large pharma companies don’t invest money without a reason. It just depends on the motivation. A large pharma can invest in a biotech organization at an early stage with low upfront payments for the purpose of exploring a particular mechanism of action, not necessarily with the thought that the lead candidate is going to be a drug in 10 years. Again, I think investors need to see if they can divine the purpose behind big pharma’s investment.
TLSR: I might go to Las Vegas and bet $100 on long odds of a team winning the Super Bowl in February. Maybe I’ll get 1,000:1 odds. Losing that bet won’t hurt a lot, but the payback could be phenomenal. Do you see big pharmas going long odds, where they bet $10–20M as an upfront payment to license a molecule or a platform?
SI: No. I don’t think that’s the case in today’s environment. I don’t think it’s ever been the case. Big pharma works zero-sum games with internal budgets. If it pays to acquire something on the outside, it has to cut funding for internal programs. Scientists inside big pharma don’t like losing internal programs.
I think, if anything, what pharma pays for on the outside goes through as much, if not more, scrutiny than their internal programs. Pharma puts money down for real intelligence-gathering purposes about new molecular mechanisms, or because the smaller company has a platform technology that’s enabling internal research, or because pharma thinks the asset has the legs to make it through development and to market. I don’t think any pharma ever says, “We can afford to throw away $20M on this if it doesn’t work.”
TLSR: Hugh, go ahead and mention a name you’d like to talk about.
HC: Let’s go back to Bellus, which was one of 10 companies on the healthcare side that presented to our advisory board in May 2013. The company has really come out on top. Stephen did three months of due diligence on the name before he felt comfortable pounding the table for it and having it added to the portfolio.
Bellus is also interesting because we never felt the need to see management changes. We feel very comfortable with both the management and the board, and we think the Bellus team has done a great job of designing the company’s clinical trials this time around.
The company is in a fully funded Phase 3 program in an orphan drug indication called AA amyloidosis, which is a lethal disease affecting 50,000 people in the U.S., Europe and Japan. The drug candidate is Kiacta (eprodisate disodium), and peak sales could reach close to $1B if the drug makes it through to market. As I said, there are no binary events for 18–24 months.
TLSR: Stephen, Bellus’ partner in Kiacta is Auven Therapeutics, which is funding this confirmatory Phase 3 trial in AA amyloidosis. The company had previously done a Phase 2/3 (Phase 2b) trial, where the results were reportedly mixed. The FDA asked for this current 230-patient, double-blind and randomized Phase 3 trial, correct?
SI: I wouldn’t say the results of that first pivotal trial were mixed. It was that the results didn’t reach the level of statistical significance that would have allowed the FDA to use that single study for approval. The agency usually requires two pivotal studies — it’s actually unusual for the FDA to allow a single study for approval. I think the only reason that a single study was even considered was because this is an orphan indication.
“No one ever went broke by taking a profit.” –Hugh Cleland
Having looked at the results myself, I think the data were positive. There were clear trends toward improvement in the Kiacta-treated patients. Also, in the open-label, follow-up study, there was a significant reduction in time to end-stage renal failure or dialysis. This, to me, is the hard endpoint that you want for a drug like this. If you can treat a patient whose kidney function would otherwise deteriorate to the point where he or she would require a transplant — or would die — and delay the time it takes to get to that event, that’s a robust measure of efficacy.
I think the data were robust, and Bellus has made adjustments in its current confirmatory Phase 3 study to increase the chance of being successful. In conjunction with the FDA, the company has designed a protocol with endpoints the agency has agreed to, focusing on functional kidney deterioration. It’s a composite endpoint, so there are a number of things in it, including glomerular filtration rate measured by kidney biomarkers, creatinine clearance and serum creatinine, end-stage renal disease and dialysis. The primary endpoint is tied to events of kidney function deterioration, and the time to those events is measured. This study will run until the company gets 120 events in the 230 patients enrolled. Based on the Phase 2/3 study, I think the confirmatory Phase 3 study has a very good probability of showing positive results.
TLSR: Stephen, the final data collection date for this Phase 3 trial is September 2016, but could events cause data to be reported earlier?
SI: Based on what the company has said publicly, it is on track for the study to be complete sometime in the May–June 2016 time frame. It will take three or four months to unlock the database and have the data ready for presentation. I anticipate the data will read out sometime late in Q3/16.
TLSR: Hugh, you employ a venture capital model that you apply to both private and public equity. I understand there is a private company you want to talk about. Would you tell me about it?
HC: It’s KLOX Technologies Inc. We’ve made a private investment in this company, and we expect it will become public in Q1/15. I’ve rarely seen a company so well received by my advisory board, including Dr. Harlan Waksal and Dr. Tony Holler, each of whom cofounded multibillion-dollar biotech success stories. Stephen is excited about it too.
TLSR: Go ahead, Stephen. I know it’s still private, but does KLOX have a ticker assigned as yet?
SI: No ticker yet. KLOX is an innovative therapeutic company in the dermatological tissue repair and dental health space. Its fundamental technology utilizes light combined with proprietary topical gels that contain chromophores [parts of a molecule that absorb light] and other proprietary agents to achieve therapeutic effects — healing effects — in various indications. The light source is a multi-LED light with the ability to penetrate to different depths in tissue to achieve the desired effect.
“Retail investors need to pick a therapeutic area in which they have a personal interest.” — Stephen Ireland
A lot of people ask if this is photodynamic therapy. It isn’t for a couple of key reasons. First, the compounds in the gel don’t require incubation periods, and don’t need to be internalized to be effective. And the gel components don’t cause any photosensitivity. Unlike photodynamic therapy, which is based on killing cells, KLOX’s technology actually results in cell healing, not damage.
TLSR: What indications are in the pipeline?
SI: Right now, the platform has dermatological applications — one in the cosmetic space for skin rejuvenation and blemish removal, and the other in acne vulgaris, where it has generated some remarkable data. The company already has marketed products in both acne and tissue rejuvenation. On the tissue repair side, the company is focused on wound healing initially. In the dental health space, KLOX is looking at periodontal disease. Those are the four major areas.
The company recently announced an alliance and joint venture deal with LEO Pharma A/S (private) out of Denmark for all dermatological applications of KLOX’s product line. It’s a global deal ex-Canada. You asked earlier about validation from partners. Well, I see this LEO Pharma deal as tremendous validation of KLOX’s technology. It is a strategic alliance for sales and marketing, but it’s also a joint venture deal for new product development. In Canada, the dermatological products have been licensed to Sandoz (a unit of Novartis AG [NVS]).
TLSR: Stephen, one of the things dermatologists would rather not do, if they can help it, is put patients on long-term antibiotic regimens for acne. This could be an effective alternative, couldn’t it?
SI: You’re spot on. I’ve seen the data in acne vulgaris, and it is spectacular. The treatment doesn’t come with the side effects associated with antibiotics or retinoic acids, a product that’s contraindicated in females who want to have children.
TLSR: I understand the KLOX system is approved in Canada and the United Kingdom, but what will the regulatory pathway be in the U.S.? Would it be a premarket approval application, which is like a new drug application, or would it be a 510(k) premarket notification, a much shorter route to the market?
SI: LEO Pharma will be advancing the acne trial in the U.S., and is planning to meet with the FDA in the coming months to discuss the regulatory route and to initiate the trial in the first half of 2015.
TLSR: Hugh, what else did you want to talk about?
TLSR: These two companies are closely tied together. What is the ownership stake of Neptune in Acasti?
HC: I believe it stands at about 49%. It was upward of 60% before, but Acasti did a financing at $1.25/share, which diluted Neptune’s position.
TLSR: There have been some changes at Neptune and Acasti. Tell me about that.
HC: Yes. There were challenges to the prior board, but with the recent complete overhaul of the board, I’m optimistic that the long, hard road that these stocks have been on is changing for the better. George Haywood and Perceptive Advisors LLC are the two largest shareholders in Neptune. The last time Haywood and Perceptive executed a board overhaul like the one just orchestrated at Neptune, it was at Sarepta Therapeutics (SRPT). That stock, on a trough-to-peak basis, was a tenbagger, and still stands about four to five times above where it was at the time its board change was executed.
TLSR: Neptune is a krill oil-based company. How will the valuation be driven from here? What will drive these shares?
HC: There are three catalysts for Neptune, two fundamental and one that’s more market-oriented. Some background on the first catalyst is required: Neptune’s plant blew up back in November 2012, resulting in a tragic loss of life and the inability to produce new krill oil for quite some time. The first catalyst is that commercial production is expected to resume in the very near term. The three-month ramp-up period to get back to commercial production was announced July 15, meaning that Neptune should resume commercial shipments no later than the end of October. That should be a significant catalyst, as investors will once again have visibility on a ramp in revenue and a resumption of good margins for the company.
Also, for Neptune, I think Acasti’s Phase 2 TRIFECTA trial results for CaPre (a purified extract from krill oil) in patients with hypertriglyceridemia should be a positive catalyst. This is a 387-patient, double-blind, placebo-controlled trial, and the results are due out at the end of September. I think both stocks — Neptune and Acasti — should respond favorably to Acasti’s results with CaPre if they are anything like what I’m expecting, and anything like results from the earlier, open-label, Phase 2 COLT trial results. The stuffing has really been kicked out of both of these stocks, and that type of fundamental catalyst should have some significant potential for upside.
“If you are disciplined about taking capital off the table, you can take advantage of volatility and not be hurt by it.” — Hugh Cleland
The final catalyst for Neptune and Acasti would be simply getting back on the road. Management has been very quiet outside of the quarterly conference calls, and has not been out actively meeting investors since that accident in November 2012. As the company gets out and tells its story, and the new board makes its mark, I think investors can start reestablishing positions in these two companies with a reasonable risk/reward proposition.
TLSR: There are other drugs available for treating high triglycerides. This is now a multibillion-dollar market each year. What would be the selling point or value proposition for CaPre versus the others? Is it safety?
HC: I think safety is fairly comparable across Vascepa (icosapent ethyl; Amarin (AMRN), Lovaza (omega-3-acid ethyl esters; GlaxoSmithKline (GSK) and CaPre, although Lovaza was shown to increase bad cholesterol — low-density lipoprotein (LDL). The value proposition for CaPre is that it could reduce triglycerides, increase good cholesterol and decrease LDL — this is the TRIFECTA for which the trial is named.
TLSR: Hugh and Stephen, thank you very much.
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Hugh Cleland, BA, CFA, is cofounder, CEO, president, CIO and principal portfolio manager of the Roadmap Innovation Fund I and the Roadmap Trust. He is also portfolio manager, through a subadvisory contract between Roadmap Capital and BluMont Capital, of the BluMont Innovation PE Strategy Fund. Cleland earned a bachelor’s degree with honors from Harvard University, and his CFA designation in 2001. After graduating from Harvard, Cleland worked in the research department at Midland Walwyn Capital (subsequently Merrill Lynch Canada) as research associate to the senior telecommunications services analyst. From March 1998 to March 2001, Cleland worked at Interward Capital Corp., first as an analyst, and later as associate portfolio manager, specializing in technology equities. He was founding portfolio manager at Northern Rivers Capital Management, where he worked from May 2001 until Northern Rivers was acquired by BluMont Capital in February 2010. Together with Riadh Zine, he cofounded Roadmap Capital Inc. in August 2013.
Stephen Ireland, healthcare specialist and a principal with Roadmap Capital Inc., has been involved in the pharmaceutical, specialty pharmaceutical and biotech industries for more than 25 years. He was the former senior vice-president of business development at TransTech Pharma. Ireland managed transactions in 2006 and 2010 with Pfizer and Forest Laboratories, respectively, valued in excess of $2B. Ireland received his bachelor’s degree in biological sciences with honors from Brock University, Ontario, Canada.
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