Expert Financial Analysis and Reporting

Investment Thinking

Cytokinetics could announce the decision on whether it will advance tirasemtiv into a pivotal phase 3 trial by the end of 2014. In my opinion, management will only make this decision if the FDA agrees under a Special Protocol Assessment that a new primary endpoint of slow vital capacity, SVC, can be used. Without this agreement, I think that tirasemtiv will be abandoned. Tirasemtiv failed to reach the primary endpoint of ALSFRS-r in the phase 2b BENEFIT-ALS trial whose disappointing results were announced in April, 2014. Given this, there will be a good deal of investor cynicism if tirasemtiv is advanced into a phase 3 trial. Naysayers will suggest that management just won’t face the reality that this drug is dead and that they would be wasting shareholders money on a phase 3 trial that is doomed to fail.

After initial caution, I think that as investors address the potential for a new phase 3 trial of tirasemtiv with SVC as a primary endpoint, enthusiasm could build and the stock might begin a gradual, sustained rise. In the BENEFIT-ALS trial, results in 388 randomized patients showed that tirasemtiv demonstrated a statistically significant improvement in SVC versus placebo with a p value 0.0006 over the 12 week period of the trial. It showed statistically significant improvement of the same magnitude at 4 and 8 week time periods and in almost all sub-groups. This is a very powerful signal of activity and I think that most investors will feel that the chances are quite good for replicating these results in a phase 3 trial and gaining approval.

There was a strong expectation that the BENEFIT-ALS trial would be positive and based on this factor, the stock traded up to $12.99 or a market capitalization of $475 million in April 2014 before the results were released. The disappointment then led to a plunge in the stock over the next few days to $4.50 and it has traded down to the recent price of $3.69 and a market capitalization of $134 million. This suggests that the market attributed great commercial potential to tirasemtiv if it were to be approved for ALS. I am not saying that investors having been burned once will bid the stock back to $12.99 if a new phase 3 trial is begun, but only a small retracement could lead to a meaningful upward move.

The other important component of the Cytokinetics investment story is omecamtiv mecarbil which could be a major advance in the treatment of congestive heart failure. I refer to omecamtiv as forgotten, but not gone. It started clinical development in 2005 and the final phase 2 trial that could lead to the pivotal phase 3 trial will be completed by 2Q, 2015. This will result in a go, no go decision on the part of Cytokinetics and its partner Amgen on going forward into phase 3. If the decision is go, given that Amgen is involved, investors will view this as a major value creating event. Omecamtiv mecarbil addresses a great unmet medical need and could have enormous sales potential if approved.

Cytokinetics has a third molecule that just went into human trials; this is CK-107 which is partnered with Astellas. This product increases skeletal muscle contractility like tirasemtiv. The partnering agreement calls for studying this drug in non-neurological indications so that it does not compete in current neurological indications like ALS that are the focus of tirasemtiv. There have been five phase 1 trials completed with CK-107 and it appears to be well tolerated with pharmacokinetics that should allow once or twice a day dosing. Phase 2 trials in specific disease states should start in 2015. In the event that tirasemtiv is abandoned, I would expect Cytokinetics and Astellas to study CK-107 in ALS.

In my opinion, both tirasemtiv and the omecamtiv would be viewed with much greater investor excitement if there had not been the phase 2b failure for tirasemtiv and the long, long development process for omecamtiv. The clinical and commercial potential for either drug could be the basis a market capitalization of $500 million or more that is often assessed to companies with important and novel new drugs in phase 3. Investor caution and indifference has resulted in a current market capitalization at $134 million. It seems to me that if one year from now, if one or both drugs are in phase 3 development that there is an opportunity for the current market capitalization to be substantially greater than the current level.

Cytokinetics is not providing guidance on the potential clinical trial design for phase 3 trials of tirasemtiv and omecamtiv mecarbil. My judgment is that both phase 3 trials could start in mid-2015 or shortly thereafter. I think that topline data on tirasemtiv might be available in 2H, 2017 and topline data on omecamtiv mecarbil could be available in 2018. Hence, there is a considerable period of time over the 2015 to 2017 time period when there will not be meaningful clinical data on these products.

Turning to the financials, Cytokinetics has $82 million of cash on its balance sheet. It has the option with Amgen on omecamtiv to assume a good portion (around 50%) of the development costs on omecamtiv mecarbil in return for about the same percentage of eventual economics on the product. On the other hand, it can conserve its cash and allow Amgen to pick up most of the costs of development in which case its economics will be reduced. In regard to tirasemtiv, the current cash balance will not carry the product through phase 3 development while supporting other areas of the Company even if Amgen picks up all the development costs on omecamtiv mecarbil. This makes it almost a certainty that Cytokinetics will have to find a partner for tirasemtiv development or raise more capital or both.

Even though there is little expectation that tirasemtiv will begin a phase 3 trial, if Cytokinetics decides not to go through with a phase 3 trial, there may be a correction in the stock back to the $3.00 -$3.50 range. A decision not to go forward with omecamtiv would have a dramatically negative effect on the stock. These are the key near term risk factors.

Technology and Product Overview

Cytokinetics has a strong leadership position in the development of drugs that improve contractility of both skeletal and non-skeletal muscle. It has three compounds in human clinical trials and the next nine months should have some important news catalysts on these three drugs. It has partnerships with Amgen and Astellas. A brief overview of the three drugs is as follows:

Omecamtiv mecarbil increases contractility of heart muscle and is being studied in the treatment of congestive heart failure; it is in phase 2b development preparatory to initiating a phase 3 trial. Tirasemtiv increases skeletal muscle contractility and we are awaiting word from the Company on whether it will be advanced to a phase 3 development in ALS. Omecamtiv is partnered with Amgen and Cytokinetics retains worldwide rights to tirasemtiv. The third compound, CK-107, increases skeletal muscle contractility like tirasemtiv. It is partnered with Astellas for potential use in non-neurological conditions while tirasemtiv addresses neurological diseases like ALS. CK-107 has completed a broad round of phase 1 trials and is beginning a phase 2 program.

Will Cytokinetics Advance Tirasemtiv into Phase 3 Development?

Rationale for Using SVC as Primary Endpoint in New Phase 3 Trial

Tirasemtiv failed to reach the primary endpoint of improvement in the ALSFRS-r scale in the phase 2b BENEFIT-ALS trial which was a major disappointment. ALSFRS-r has been the FDA accepted primary endpoint for all recent ALS trials. However, results in the proscribed and extremely important secondary endpoint of slow vital capacity or SVC were dramatically positive in BENEFIT-ALS. Based on this, the company is discussing with regulatory agencies as to whether this could be an acceptable primary endpoint for a phase 3 trial.

Slow vital capacity is a measure of the strength of the skeletal muscles responsible for breathing; most ALS patients die as a result of respiratory complications. SVC has been shown to be an important predictor of disease progression and survival in prior trials of patients with ALS. SVC is measured by inserting a tube into the patient’s mouth and having them take a deep breath and exhale normally. A spirometer determines the amount of air exhaled (in liters) and compares it to the amount that would be expected from a normal person with comparable physical characteristics. As is shown in the following table, there was strong statistically significant improvement in SVC at all measured time points in the trial.

According to management, the decline in SVC for tirasemtiv versus placebo was observed consistently across almost subgroups of patients. The effect was the same regardless of age, sex, riluzole use, site of ALS onset; and baseline pulmonary function, baseline weight and baseline body mass index. There were three sub-groups in which there was not a statistically significant improvement. These were patients enrolled in Europe, those with bulbar disease onset, and those with the percent predicted SVC less than the median at baseline.

As early on as April when the results of BENEFIT-ALS were announced, CYTK management strongly indicated that it did not believe that the trial results signaled the death of tirasemtiv. They said that they believe that SVC trumps all other measures. Respiratory failure is the primary cause of death in ALS and SVC is the most widely used and relied upon measure of breathing function. ALS patients know their SVC scores like most people know their social security numbers. Survival of ALS patients is closely correlated with SVC and it is used for decision making on whether to put a patient on ventilatory assistance, to surgically intervene or to decide to put a patient in hospice.

What Key Opinion Leaders Think

Cytokinetics has consulted extensively with experts in neurology and pulmonology on data from BENEFIT-ALS. Their feedback provides support for management’s position that the effects of tirasemtiv on pulmonary function observed in BENEFIT-ALS are robust and potentially clinically meaningful. Management says that there is unanimous support from their consultants that SVC could be the primary endpoint for a phase 3 trial. However, this is a surrogate endpoint and not a hard clinical measure of outcome which could give regulatory agencies pause.

The support from key opinion leaders is very encouraging, but the regulatory agency decision makers have not yet spoken. Cytokinetics is engaged in discussions with them as to whether they will accept SVC as a primary endpoint in a pivotal phase 3 study. This requires a mind reset on part of regulatory agencies as they have been very comfortable with ALSFRS-r. However, management has been engaged in conversation with regulatory agencies for several months and has consistently stated that it is trying to get SVC accepted as a primary endpoint. This suggests to me that there is a dialogue and the FDA has not dismissed SVC as a primary endpoint out of hand.

Regulatory Agency Approval of SVC as Primary Endpoint is Critical

The Company has not given precise guidance, but my reading is that there could be a decision from the regulatory agencies by the end of the year. I think that Cytokinetics will only go forward with a phase 3 trial if they receive a Special Protocol Assessment. With an SPA, the FDA agrees that the design and analysis of a phase 3 clinical trial adequately addresses the requirements for a regulatory submission. The FDA does not enter into binding contracts, but this is about as close as a company can come. I think that if CYTK reaches an SPA agreement with the FDA in which SVC is recognized as an acceptable primary endpoint, the Company will begin a phase 3 trial. If no agreement is reached, I think that tirasemtiv will be abandoned for ALS and probably all other neurological indications.

Omecamtiv Mecarbil, Forgotten but Not Gone

Excruciatingly Long Clinical Development Program

The first human was dosed in 2005 with omecamtiv mecarbil. The phase 1 and phase 2 trials have been conducted extremely carefully and have stretched over nine long years. This has been one of the longest phase 1 and phase 2 trial programs that I have ever seen. This has caused many investors to lose track of the development status and commercial potential of omecamtiv; hence, my reference to omecamtiv mecarbil as being forgotten but not gone.

Cytokinetics is now involved in the COSMIC-HF (Chronic Oral Study of Myosin Activation to Increase Contractility in Heart Failure). This will be the final phase 2 trial and the determinant for a go or no-go decision on beginning a phase 3 trial. COSMIC-HF was designed in two phases. The first phase of COSMIC-HF was completed in 2013 and was intended to select one of three dosage forms to advance into the second or expanded part of the trial.

The expansion phase will enroll 450 patients who will be randomized 1:1:1 to receive placebo, 25 mg, or 50 mg twice daily of omecamtiv mecarbil. Dosage starts at 25 mg twice daily and can be escalated to the 50 mg twice daily; this is determined by measuring the plasma concentration of omecamtiv mecarbil following 2 weeks of dosing with 25 mg twice daily.

The company announced in late October, 2014 that the expansion phase of COSMIC-HF has enrolled over 275 patients out of a planned enrolment goal of 450. Approximately 70 patients have completed the planned 20 weeks of dosing. An interim analysis has been completed and the Data Monitoring Committee recommended that the trial continue without any changes to the protocol. Patient enrollment in COSMIC-HF is expected to conclude by the end of 2014. Topline data could be available in 2Q, 2015

The primary objective of the expansion phase of COSMIC-HF is not to address clinical endpoints but to characterize safety, tolerability, and pharmacokinetics. However, secondary endpoints will include indicators of clinical outcomes from baseline. These include systolic ejection time, stroke volume, left ventricular end-systolic diameter, heart rate and N-terminal pro-brain natriuretic peptide (a biomarker associated with the severity of heart failure).

Investors are more accustomed to seeing clinical measures as being the primary endpoints for an important phase 2 trial like this. However, the primary endpoints that will be used in the phase 3 trial will take much longer than 20 weeks to determine and hence are not addressed in the phase 2 trial. These could be some measures related to re-hospitalization or possibly survival.

Overview of Congestive Heart Failure and the Potential Role of Omecamtiv Mecarbil

I thought that it might be useful to review the rationale for developing omecamtiv mecarbil, which in my opinion could be a major advance in the treatment of congestive heart failure. Congestive heart failure, CHF, is a life threatening condition that can result from heart attacks or prolonged hypertension. While simplistic, it is useful to compare the cardiovascular system to a pump (the heart) and the pipes (blood vessels). CHF is a condition in which the heart is not pumping enough blood because it has been damaged and the pipes or blood vessels are clogged up making it harder to pump blood through them. Blood can pool in the body causing shortness of breath, swelling in the limbs and exercise intolerance. An already damaged heart muscle is asked to pump harder. This causes the heart to enlarge and become flabby and increasingly less functional. This downward spiral in heart function eventually leads to death.

Congestive heart failure has a very profound health effect on individuals and a concomitant effect on national healthcare spending. It occurs in 2.4% of the US population (primarily older patients) and because of the aging baby boomer population this percentage will increase. It is a chronic disease that patients may live with for some years but short term exacerbations often lead to acute hospital stays. It is the most frequent cause of hospitalization for people over 65 and there are about 1 million hospitalizations and discharges from the hospital in which CHF is determined to be the primary cause. There are an additional 1 million hospitalizations in which CHF is listed as a secondary cause.

The cost to the health care system for a hospital visit of a Medicare patient is constrained by that program’s cost containment regulations to $10,000. Non-Medicare patients can cost up to $30,000 to treat. About 18% of CHF discharges are readmitted in 30 days and it is estimated that this costs Medicare $15 billion each year. It is estimated that if effective drug therapy could prevent readmissions, Medicare could save $12 billion per year. Readmission within 30 days can be a major problem for hospitals as Medicare will not pay more fees beyond those for the original admission. A hospital can be on the hook for $10,000 or more of additional costs. (There is a discussion about extending this period to 60 days.) If omecamtiv in its clinical trials can establish that it can meaningfully reduce hospital readmissions, it should quickly gain formulary acceptance.

Any drug that can help patients stay alive and remain out of the hospital and reduce length of stay and costs of hospitalization would be deemed a significant breakthrough. The morbidity and mortality associated with congestive heart failure dwarfs that of most cancers. If a patient is discharged today after hospitalization, there is a 28% chance of dying within six months and they have a 30% to 40% chance of being readmitted to a hospital within six months. There is the opportunity to do better with safer and more effective medicines.

Patients entering the hospital are choked with the blood pooling in the extremities and organs and are short of breath. Acute therapy in the hospital is aimed at reducing the amount of fluids with diuretics which cause the patient to excrete more water in the urine. A variety of well-known anti-hypertensive agents are used to help dilate the blood vessels. This is effective therapy in both the hospital and outpatient setting.

Mode of Action of Omecamtiv Mecarbil

The missing element in the current treatment regimen is a drug that can make the heart safely pump more blood. Digitalis is a naturally occurring substance found in the Foxglove plant that has been used to treat the symptoms of CHF by increasing the contractility of heart muscle. More recently a class of drugs called phosphodiesterase inhibitors, the best of which is milrinone, has been introduced to therapy that does the same thing. The mechanism of action of digitalis and milrinone causes the heart to contract with more force. In an already badly damaged heart, this increase in oxygen consumption and increase in calcium can cause life-threatening irregular heart rhythms. Even though these drugs probably lead to decreased time of survivial, many patients and physicians are willing to take the risk because their quality of life improves so dramatically with their use.

Pharmaceutical companies have spent many years trying to develop a drug that increases the amount of blood that the heart pumps with each beat without dangerous side effects. The mode of action of omecamtiv is that it can increase the stroke volume (amount of blood pumped) and ejection fraction (amount of blood ejected from the left ventricle) without increasing the oxygen consumption (measure of how hard the heart is working) and ejection fraction with each beat. It is hoped that this will avoid the life threatening side effects of digitalis and milrinone. Essentially, omecamtiv causes the heart to contract longer and without the violent contractions that are the mechanism of action of digitalis and milrinone. If omecamtiv is found to be effective without limiting side effects, it can have a profoundly positive effect on CHF outcomes and lead to a major reduction in healthcare spending.