Brief Thoughts on Emotions, Civility, and the Irrelevance of Past Performance
Before I delve into the thesis surrounding VIVUS, I would like to first spend some time discussing the presence of the myriad of emotions surrounding VIVUS and Arena. As most readers of Seeking Alpha or TheStreet are likely to know, few debates are more vitriolic than the debate between Arena and VIVUS investors. Each side regularly attacks the other for a myriad of reasons, ranging from distorting clinical efficacy and safety data, to manipulating the stock for hedge fund “friends.” Arena’s investors accuse VIVUS supporters of conspiring with a cabal of hedge funds and sell-side analysts to pump and dump VIVUS shares while holding Arena’s shares down. And VIVUS investors accuse Arena’s supporters of touting a worthless drug and being little more than retail lemmings (SEC filings do show that Arena has a relatively high percentage of retail investor ownership relative to broader market averages) piling into a doomed stock. I for one have never understood why such vitriol is necessary. Investing is not meant to be easy; it takes a great deal of work to be able to generate profits in today’s markets. But that does not mean that it needs to be stressful. Having your blood boil whenever someone articulates a bullish thesis for “the other side” is not the proper way to invest, in my view. Investing decisions need to be based on facts, not emotions, and whenever a VIVUS investor criticizes Arena, there is no need to accuse them of being a “hedgie,” almost as if it were a vile swear word. And there is no need for VIVUS investors to accuse Arena’s investors of being mindless retail lemmings (frankly, the simplest solution to all of this is just to buy shares of both companies, removing the need to criticize either side). I have frequently seen both VIVUS and Arena investors tout the past performance of their respective stocks as evidence of their side’s superiority. In my view, this data is largely irrelevant. Someone can easily pick an arbitrary time frame and show that one stock did better than the other. And I am going to do exactly that below (returns are accurate as of the close of trading on November 23, 2012).
VIVUS vs. Arena Historical Returns
Since Arena’s IPO (August 2000)
As the table above shows, there is no clear pattern. In 2012, Arena’s investors have doubled their money several times over, while VIVUS’ investors are not even up 20%. But, since Arena’s IPO in August 2000 (VIVUS went public in 1994), its investors have lost well over half of their investment (since its own IPO, VIVUS has gained just over 46%). VIVUS’ investors, on the other hand, have more than doubled their money. These returns are not based on the fundamental performance of either Qsymia or Belviq, but rather investor expectations of future performance. Over the past few months, VIVUS shares have fallen steeply as the company rolls out Qsymia and attempts to mitigate the restrictions and difficulties placed on the drug. Clearly Arena has been the better investment so far in 2012. But, over the past 12 years, it was VIVUS that was the better choice.
In this article, I will outline the bullish thesis for VIVUS, just as I outlined the bullish thesis for Arena in a prior piece, and I will attempt to do so without criticizing Arena, its investors, or Belviq, for above all else, my most important investing rule is that there must not be any emotion, only informed opinions based on facts and financial data. For the record, unless otherwise noted, financial data and management commentary used in this article will be sourced from one of two places: VIVUS’s Q3 2012 conference call, or its latest 10-Q filing.
Reviewing Q3 2012 Results & the Qsymia Launch
VIVUS posted its Q3 2012 results on November 6, 2012, and the third quarter included 10 business days of Qsymia sales. For the quarter, VIVUS had $41,000 in product revenue, and gross margins of 90.24%, a solid level for a pharmaceutical company. The company’s net loss widened to $0.40 per share, as the company invested in its sales force and the commercialization of Qsymia. Since the drug’s launch, VIVUS has reached out to 25,000 different physicians across the United States, and has reported that interest in Qsymia is high amongst the physician community. In the 4 weeks of October, 3,504 unique patients took Qsymia, and a total of 5,560 total Qsymia prescriptions have been written. On average, the retail pricing for a 30-day dose of Qsymia is $160, with 20% of prescriptions being covered by third-party insurance (more on that a bit later). The average copay is $62. Qsymia was approved by the FDA, but with several restrictions that are serving to restrain the drug’s potential distribution. VIVUS has identified several key areas that need to be addressed, and spoke at length on its call about what it is doing to rectify them.
- REMS Modification & Retail Sales: Qsymia was approved in the summer of 2012, and it included a REMS (Risk Evaluation and Mitigations Strategy), due to the effects that the drug can have on pregnant women. Specifically, pregnant women who take Qsymia have increased risk of congenital malformation, specifically orofacial clefts if they take the drug during the first trimester. Because the FDA saw a need to educate women and physicians of this risk, the company restricted the distribution of Qsymia to mail order pharmacies. Under the current prescribing process, a physician must write a prescription for Qsymia, fax or send it to a pharmacy, and the patient must wait 5-7 days until it is filled. VIVUS has filed a request with the FDA to modify its REMS agreement so that Qsymia can be sold through traditional, retail pharmacies, and the FDA has indicated that a decision will be made by April 17, 2013. If the REMS agreement is indeed modified, it could serve to speed up the distribution of Qsymia to more channels, thereby providing VIVUS with an acceleration in revenues and prescriptions.
- Physician Feedback & Network Expansion: The majority of the physicians targeted by VIVUS have already received calls or visits from VIVUS’s sales force since Qsymia launched, and so far, most of the prescriptions written for Qsymia have been done on a trial basis. But, VIVUS CCO Michael Miller has stated that the company is already seeing refills and repeat prescriptions, and that as more physicians begin to prescribe Qsymia, and discuss it within the medical community, the drug’s sales will accelerate.
- Insurance Coverage: Insurance coverage is perhaps the most critical component of what is holding back Qsymia from wider adoption. The company has Tier 3 status at most insurance companies, and it is seeing that about a fifth of existing prescriptions are being covered. At this point in time, Qsymia is being reviewed by most insurers, and their polices for covering drugs in the review process vary by insurer. Some refuse to cover drugs until they have completed the review process, while others choose to cover drugs on a temporary basis until they have completed the review process. The lack of coverage is the primary driver of Qsymia’s 30% abandonment rate. VIVUS calculates this rate as the percentage of patients who “walk away” from their prescriptions when they see the out of pocket cost they will have to pay, either due to the true price or their specific co-pay. On its conference call, VIVUS stated that the 3,504 patients to whom Qsymia has been prescribed already account for that 30%, and that demand for Qsymia was around 4,600 patients. While all drugs have some sort of abandonment rate (exceptions could include drugs that treat extraordinarily rare diseases, such as Soliris), a 30% abandonment rate is high, and VIVUS has said that it takes the lack of coverage “very seriously.” But, there are some encouraging signs on this front. Aetna has stated that it views Qsymia as “medically necessary,” and that it plans to cover the drug. Aetna said that the medical benefits of a reduction in weight are more than enough to offset the risks of taking Qsymia (and perhaps by extension other obesity drugs). As more insurers join Aetna in covering Qsymia, its abandonment rate is likely to decline.
On its call, VIVUS stated that through the week of October 26, 2,614 different physicians had prescribed Qsymia, and the company had good things to say regarding physician interest in Qsymia, noting that its sales calls with physicians are lasting longer than expected. Merrill Lynch also notes in its latest research note on VIVUS that the company’s educational dinners for physicians are consistently overbooked, as physicians are eager to learn about the potential benefits that Qsymia can have for their patients. Given that this is the most important access point for Qsymia, it is crucial to expand the Qsymia “network” to more and more physicians. Even if insurance companies all cover Qsymia, it will be irrelevant if doctors do not prescribe the drug to their patients.
Regulatory & Partnership Updates
Qsymia was rejected by the CHMP (the European Union’s equivalent of the FDA) due to concerns regarding adverse cardiovascular and central nervous system effects, as well as the use of Qsymia by patients for whom it is not intended. The CHMP did not reject Qsymia due to newly discovered safety concerns. VIVUS is appealing the decision, and estimates that the process will take around 6 months (a decision is expected in the first half of 2013), due to the structure of the drug approval process within the European Union. VIVUS will be assigned a new rapporteur and co-rapporteur. While there is no guarantee that Qsymia will receive approval in the European Union, it is still possible for VIVUS to explain away the CHMP’s concerns. In the United States, VIVUS is preparing its CVOT (cardiovascular outcomes) study to determine what kind of effects the use of Qsymia has on a patient’s cardiovascular system. VIVUS is enrolling 15,000 patients and will monitor them over the course of 5 years. The company declined to provide an exact timeline for initiation, noting only that it is awaiting final clearance from the FDA and plans to “initiate the study in the near term.” There will likely be more color regarding the CVOT study when the company reports its fourth quarter and full-year 2012 results in late January/early February 2013.
Perhaps the biggest different between VIVUS and Arena is the way in which the two companies market and distribute their respective drugs. Arena has chosen the easy (but not incorrect) way. It has shifted the burden of marketing and selling Belviq to Eisai, thereby leaving both profit and costs on the table. While it is true that Arena will recognize only a minority of Belviq’s total profit, it will also bear only a minority of the costs, a tradeoff that the company is more than willing to make. VIVUS, on the other hand, has decided to go it alone, at least for the time being. The company is selling and marketing Qsymia on its own, with a sales force of 150 representatives. For VIVUS, there are both increased risk and increased potential profit in going it alone. But, the company has indicated that it is open to partnering with a larger company in the future to expand the market for Qsymia. On the company’s Q3 call, CCO Michael Miller said,
Well, I think, what I've always stated publicly is that we would look to a partner certainly after the initial launch of the drug. So that is something that we would consider, is the expansion of a footprint. But keep in mind that this is -- we're building a category. So I think hitting this with 1,500 reps day one would not have been the right tact. I think a focused category build as we are doing now with the later expansion as coverage improves, as access improves, things of that nature are very good levers.
CEO Leland Wilson also added that in his view, there is no need for a large-scale sales force at this point in time. VIVUS’ present focus is on reaching “high-prescribing physicians,” primarily those who are endocrinologists and weight loss specialists. The relatively small initial target market eliminates the need for a large sales force. Most analyst models for Qsymia’s peak sales make the assumption that in the long run, VIVUS will find a partner for Qsymia. Merrill Lynch, for example (which has a $30 price target on shares of VIVUS), explicitly states in its research that its $3 billion peak sales estimates for Qsymia are based on their belief that the company will find a larger pharmaceutical company as a partner for Qsymia.
Pipelines & Other Drugs: Less Diverse than Arena’s, But Farther Along
In addition to Qsymia, VIVUS has another FDA-approved drug, Stendra, which is designed for the treatment of erectile dysfunction. Interestingly, VIVUS has chosen to hold off on launching Stendra on its own. Instead, it is looking to find partners in both the United States and other markets before it commercializes the drug. The likely reason behind this shift in strategy relative to Qsymia is because the market for erectile dysfunction is well-established, and in order to break through, VIVUS will need the backing of a larger pharmaceutical company. While VIVUS did not offer much details on these discussions, CFO Tim Morris did note that the company has made “good progress” in its negotiations over the summer, and that VIVUS will pursue agreements for Stendra on a continental basis, with separate agreements for the United States, Europe, and other countries based on the specific nuances of those markets.
VIVUS’ pipeline contains just two product candidates. The company is testing the effects of Qsymia in sleep apnea and diabetes. While this does give VIVUS a less diverse pipeline than Arena, which has 4 different compounds in testing, VIVUS is much farther along in its development of new products and indications. The two trials for Qsymia in sleep apnea and diabetes are both in Phase II, whereas Arena’s compounds are still in either Phase I or the preclinical stage. Given the launch of Qsymia and the implications for VIVUS, neither the company nor the analysts that participated on the company’s Q3 2012 conference call discussed the pipeline. I expect more color on these trials on either the company’s Q4 2012 call, or its Q1 2013 call, when the success of Qsymia will become clearer.
Financials & Analyst Estimates
VIVUS ended Q3 2012 with $274.478 million in cash & investments, with no interest-bearing debt on its balance sheet. Over the first 9 months of 2012, VIVUS burned through $73.412 million ($839,000 of that total is for discontinued operations) in operating cash flow. At that rate, VIVUS has enough cash for 11 quarters, or almost 3 years. Based on the consensus projections for Qsymia sales and VIVUS’ profitability, the company appears to be in decent financial shape. While the Reuters consensus forecast for VIVUS calls for the company to post a loss of 85 cents per share in 2013, the analysts that cover VIVUS all point to 2014 as the year the company reaches profitability.
Credit Suisse, for example, sees VIVUS posting EPS of $0.86 in 2014, while Merrill Lynch sees EPS at $1.51 in 2014. If VIVUS can indeed become profitable in 2014, then its present balance of cash & investments should be enough to sustain the company until it becomes profitable. And in any case, VIVUS is likely to become cash flow positive before it reaches GAAP profitability, as its GAAP income statements will reflect several non-cash charges, such as stock-based compensation or depreciation & amortization. Furthermore, VIVUS could reduce the strain on its balance sheet in the quarters to come if and when it finds a marketing & distribution partner for Qsymia (as well as Stendra). VIVUS could create a leaner cost structure if it ceded control of Qsymia’s marketing and distribution to a partner, as it would no longer have to expand its sales force, invest in distribution, or pay for post-approval studies (as is the case with Arena).
VIVUS, like Arena Pharmaceuticals, has both an avid base of support, as well as a vocal group of critics. In my view, the truth lies somewhere in between. There is no need for the present level of vitriol in the VIVUS/Arena debate, and investors could avoid much of the issue by simply investing in both of these companies. Arena has ceded control of Belviq to Eisai, freeing itself to resume work on its other drug candidates, which were suspended as the company tried to get Belviq approved. But, Arena’s pipeline is in very early stages, and if Belviq does not succeed, the company faces a much longer gap than VIVUS until it has something new to sell. VIVUS is, at this point in time, going it alone with Qsymia, but the potential exists for it to follow Arena’s example. And, VIVUS has another FDA-approved product, and its pipeline is more mature than Arena’s. Both VIVUS and Arena have something to offer investors. The obesity market is undergoing a transformation that has been years in the making, and only time will tell who is truly successful. But, both VIVUS and Arena have a chance to succeed, albeit for differing reasons. In my view, the best prescription for investors is to not pick and choose, but to invest in both VIVUS and Arena Pharmaceuticals. While It is true that such an approach can dilute potential returns, it does cut down on the potential risk as well. Every investor’s risk tolerance and needs are unique, and such an approach may not be suitable for everyone; this is a tradeoff I would be willing to make.