In the next several weeks, Keryx Biopharmaceuticals (KERX) will release results from 4 key Phase III trials for its primary drug candidate, Zerenex. The drug is being developed as a phosphate binding agent for patients undergoing dialysis, and is expected to enter a global market worth roughly $1.5 billion in annual sales and growing. However, because the top-selling treatments in the category, Renagel and Renvela, are anticipated to go generic in 2014 in the U.S., the Zerenex opportunity is largely underappreciated by the market. Despite late-stage clinical data that has already shown the novel phosphate binder works, I believe there are three items that the market is missing, hence the discounted valuation for KERX.
1) There is a high need for additional phosphate binders given that most patients switch therapies each year due to safety, tolerability, and compliance issues. 2) KERX’s Phase III trials could show that Zerenex has differentiated benefits in terms of safety, tolerability, fewer pills per day, and the possibility to treat anemia associated with dialysis and CKD patients; and 3) The majority of phosphate binder sales come from markets outside the U.S., significantly tempering the impact of generic Renagel in the U.S.
The visibility of generic Renagel is a key reason investors are underappreciating the opportunity for Zerenex, ignoring that as much as 40% of patients discontinue Renagel treatment each year due to the high pill burden and side effects. Phase III results simply confirming that Zerenex lowers serum phosphate levels with better safety and tolerability means that the company has a competitive product, based on the opinions of leading nephrologists. As a result, any benefit for treating anemia is upside. Importantly, a larger ex-U.S. opportunity is often overlooked by U.S. biotech investors, and as a result, at its current valuation, KERX is pricing in only a fraction of what Zerenex could be worth if the Phase III results are positive. The body of prior clinical data generated for Zerenex gives me confidence in the drug’s ability to meet its Phase III endpoints, and in this article I review in detail what the market is missing and the various scenarios for upside. Most importantly, if upcoming clinical trial data for Zerenex confirm results seen in two prior Phase III trials, a relatively low risk event, there is strong upside to be gained. Long term results that show Zerenex has additional benefits in dialysis patients and perhaps pre-dialysis patients would be a home run, with potential for the shares to rise multi-fold. The bottom line is, before the Phase III trials begin to report out, investors have an opportunity to own the stock before substantial value is recognized.
KERX could more than double on a base case scenario.
Already, two Zerenex Phase III trials have reported out with highly favorable results (see PropThink’s initial story), and these results indicate a relatively low risk for subsequent Phase III trials to achieve their primary efficacy endpoints. The main difference between prior studies and the Phase III trials that are still to report out, is that upcoming results are for longer-term trials vs. the prior shorter-term data. While the clinical risk is somewhat low, investors believe that Zerenex needs to show more than just the ability to lower serum phosphate to be highly competitive given that generic Renagel is expected to enter the U.S market in 2014. And this is where the misunderstanding begins.
While the major upside scenario for Zerenex is to demonstrate an ability to reduce the need for expensive and sometimes dangerous IV iron and erythropoietin stimulating agent (ESA) treatments (scenarios covered below), just showing robust phosphate lowering results, as the drug has demonstrated in earlier studies, will still result in an attractive product and major upside to the stock. And here’s why. First, Zerenex has demonstrated very strong product attributes in prior trials, and has potential to compete in the phosphate binder category on important characteristics like better safety and tolerability, as well as fewer pills per day vs. Renagel and potentially PhosLo. To illustrate the compliance advantage, patients need to take between 10-12 pills of Renagel per day, and depending on the Phase III trial results, it is anticipated that patients will be able to take about 25% fewer Zerenex tablets. If KERX is successful in developing its 1.3g tablet (vs. the current 1.0g tab), the reduction in pill burden vs. Renagel could be as much as 40%. Note that PhosLo is typically dosed using 3 pills at mealtime (9 pills/day). Zerenex is also expected to be competitive vs. PhosLo, especially the 1.3g tablet.
Competitive Profile of Zerenex vs. Currently Marketed Phosphate Binders
Source: Keryx Corporate Information
Second, it is important to note that roughly 60% of phosphate binder sales come from non-U.S. markets, with about 22% of the market coming from Japan and 30% from the EU. The remaining minority market share comes from emerging nations, so growth of this portion of the market is anticipated to expand rapidly as those countries build out infrastructure for dialysis facilities. Because Renagel will not begin losing exclusivity in major foreign markets until late 2015 (and not all countries at once), Zerenex has a much longer runway to gain market share in significant overseas territories. Also worth mentioning is that patients often switch among the various phosphate binder therapies due to safety and tolerability issues. For example, Fosrenol, the third-line therapy (in a category of 3 leading products) sold by Shire (SHPG) has significant side effects and potential safety issues, yet the product still does approximately $340 million in annual sales, globally, as patients often rotate to other phosphate binding agents. With patients constantly rotating among all of the phosphate binders due to safety concerns and compliance issues (heavy pill burden), it is estimated that roughly 40% of patients on market-leading Renagel switch to new treatments within a year. We note that if Zerenex only achieves success on lowering serum phosphate (the primary endpoint in key pivotal trials), and doesn’t show any benefit in treating the symptoms of anemia associated with dialysis, the drug should still be able to achieve $120M or more in annual sales in the U.S. and EU. We arrive at this sales estimate based on the assumptions below, with Zerenex only achieving a 20% share of leading branded products. Note that our Zerenex sales estimates factor in a discount for the product similar to generic pricing in the U.S. and EU. Additionally, the company will be entitled to royalties on sales in Japan (partner is JT Torii), if approved.
Zerenex Sales Estimates With No Anemia Benefits
Taking an estimated $120M in peak sales of Zerenex in the U.S. and the EU, plus $11M in royalties on peak sales in Japan (13% peak royalty rate), we arrive at a total $131M for Zerenex revenue to KERX under a base case scenario that should be easy to achieve based on prior clinical results. Applying a 3x multiple to those sales, which is conservative for a drug that has patent protection out to 2023, this base case scenario would value KERX at ~$408M, or ~$5.67 a share. Note that our intellectual property assessment includes patent-term extensions; however, new patents could issue and extend patent protection of the drug to 2029. Importantly, this valuation exercise shows that there is significant upside to the current share price of KERX, under a scenario in which investors take on relatively low risk. In other words, at its current price, KERX offers a very favorable risk-reward proposition.
Upside scenario from Zerenex’s potential to treat anemia and reduce treatment costs.
We now focus on the Phase III results that investors would like to see to ensure that Zerenex will be a strong competitor, and those that will render this phosphate binder a top choice by physicians and dialysis centers despite generic Renagel competition. While short-term Phase III data has been released, the long-term studies need to report out to see the true impact that Zerenex may have on anemia associated with dialysis, in addition to its ability to bind and reduce serum phosphate. Why is this important? Because dialysis centers are reimbursed a specific amount per dialysis patient per year (reimbursement at the “Medicare Bundle” rate), and the ability to save money by reducing use of expensive anemia treatments (IV iron and/or ESA treatments) can enable Zerenex to gain significant market share. A reduction in the need for IV iron and/or ESA treatments may also enable better pricing for Zerenex. The strength of Zerenex’s market penetration and pricing will depend on how robust the data from the Phase III trials are with regard to anemia-related benefits, if any. For now, I believe the company is prepared to price Zerenex similar to generics on the assumption that switching among phosphate binders will result in a base case level of sales, as detailed above. Strong anemia benefits from the long-term Phase III trials, however, would drive market share and pricing estimates higher, hence additional upside.
What to look for from the Phase III trials in terms of potential anemia benefits.
Key parameters for evaluating Zerenex’s potential benefits in anemia are: iron saturation (TSAT and ferritin levels), hemoglobin levels, IV iron use, and ESA use. Of these parameters, we note that Zerenex likely needs to demonstrate that it can improve iron saturation levels (TSAT and ferritin levels) to get doctors to consider the phosphate binder’s anemia benefits in practice. Baseline levels for dialysis patients are around 30% and 500ng/mL for TSAT and ferritin, respectively, and should improve by a minimum of 5%-10% to be considered clinically meaningful according to leading nephrologists. After clinically meaningful iron saturation is demonstrated, any one of the other parameters changing in a favorable manner would confirm the anemia benefits of Zerenex. While an improvement in hemoglobin (Hb) levels by 5% or more would be very impressive to physicians, we note that major dialysis providers like Fresenius (NYSE:FMS) and DaVita (NYSE:DVA) would love to see at least a 6-10% decline in either IV iron use and/or ESA use so they can reduce the costs of using these expensive anemia treatments in their centers. With the IV iron and ESA markets tracking at ~$560 million and ~$2 billion annually in the U.S., respectively, according to Nephrology News, one can see how 6%-10% reductions in the use of these treatments would be important in lowering the overall cost of care for U.S. dialysis patients. Based on our research, favorable iron saturation results and rising Hb levels in the Phase III trials for Zerenex-treated patients would be very positive news for KERX shares. The ability to lower IV iron and/or ESA use would be upside.
Potential anemia benefits for Zerenex could result in $250M or more in peak annual sales.
Should we see results that demonstrate favorable anemia benefits with Zerenex, KERX shares could trade to nearly $14 per share. We arrive at this estimate by the sales assumptions below, and note upside if Zerenex can demonstrate at least a 6-7% reduction in ESA use, and at least a 10% reduction in IV iron use, in which the product should take a minimum 35% market share. Note that the Zerenex pricing estimate is slightly higher in the table below vs. pricing for Zerenex’s phosphate binding benefits alone (above).
Zerenex Sales Estimates With Anemia Benefits
We apply a 4x multiple to the Zerenex peak sales estimates above to arrive at a valuation of just under $1 billion ($248M x 4 = $991.5M), or $13.77 per share. Note that our assumption is for peak sales with the low end of anemia benefits. If Zerenex substantially reduces IV iron and/or ESA use in the long-term Phase III studies, peak sales estimates are likely to go even higher. Recall that annual sales for market leader Renagel are currently ~$800M worldwide. We use a 4x multiple on peak sales with the anemia benefit instead of the 3x that we used for the phosphate-only sales because the anemia benefits, if demonstrated, could result in new intellectual property that would protect the franchise for a longer period of time.
If Phase III results are positive in pre-dialysis patients (CKD), Zerenex sales could be 4x higher than in dialysis.
KERX recently initiated a Phase II trial evaluating Zerenex in CKD patients that are not yet on dialysis. Importantly, the number of U.S. patients seeking treatment in this segment that are anemic is estimated at 1.6 million, according to IV iron manufacturer, AMAG Pharmaceuticals. This means that the CKD opportunity for Zerenex is roughly 4x larger than the dialysis market. Patients in this setting typically take oral iron supplements to combat anemia, however, CKD patients are known to have trouble absorbing iron through the intestine in addition to experiencing gastrointestinal side effects commonly associated with oral iron therapy. In fact, studies have shown that only 31% of CKD patients are able to achieve target Hb levels (>11g/dL) when taking oral iron. IV iron is used in the CKD pre-dialysis setting, however, the percentage of patients receiving intravenous iron is low due to the need for IV administration at an infusion center, the high cost of therapy, and serious potential safety issues with IV iron treatment. Based on a study conducted by Avani D. Joshi et al., use of IV iron is as low as 8% in CKD patients. As a result, if Zerenex shows positive results in CKD pre-dialysis patients, another major market opportunity opens up for the product.
Pre-dialysis results anticipated before year-end.
While the company’s CKD trial has just begun, Japanese partner, JT Torii will report out results from its pre-dialysis CKD study later this year. These results and results from KERX’s long-term dialysis studies, if positive, could instill confidence that Zerenex has a high probability for accessing the large and lucrative pre-dialysis CKD setting. Not only will shares of KERX begin to reflect the economics of a potential CKD indication if the data are positive, but also, investors are likely to speculate that a new range of potential suitors could pursue an acquisition of the company. Companies that I believe are most likely to consider buying KERX on positive phosphate binding results include Amgen (AMGN), Takeda (TKPHF.PK), Fresenius (FMS), Davita (DVA), AMAG (AMAG), and Affymax (AFFY), however, with positive CKD results, many of the major pharmaceutical companies could take a look at KERX as well. As a result, under several scenarios, a take-out thesis could emerge for KERX, which could cause the shares to trade at levels beyond the valuation ranges calculated above.
Overall, I believe KERX has a very favorable risk-reward profile, and given the upcoming catalysts for significant Phase III trial results, now is the time to decide whether this one is going to be under your Christmas tree.
In connection with KERX, PropThink has taken a Long position.