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Expert Financial Analysis and Reporting

Initiating Coverage With A Buy (DNDN, $34.98)

I am recommending puchase of Dendreon. The investment thesis is almost entirely dependent on the success of Provenge.


Summary and Overview

Dendreon began the marketing of Provenge, its cancer vaccine for prostate cancer in May of 2010. Enthusiasm following approval drove the price of Dendreon to $56 on May 3, 2010. Subsequently, concerns arose that caused the stock to settle back into the mid to high $30s. In this note we go through some of the issues that worry investors.


The company has announced that Provenge achieved sales of $25 million in 4Q, 2010 bringing full year sales to $48 million. The second half of 2011 and particularly 4Q, 2011 will be the moment of truth for Dendreon. The company is providing guidance for 2011 sales of $350 to $400 million with half of sales occurring in the fourth quarter. This stems from a ten fold increase in capacity expected to be completed by the third quarter of 2011. This will allow Dendreon to begin aggressive marketing and it has recently expanded its US sales force to 100 reps that will target 450 treatment centers by the end of 2011. Possible quarterly sales trends in 2011 are as follows: 1Q, $28 million, 2Q, $60 million, 3Q, $99 million and 4Q, $188 million.


The hockey stick sales forecast does cause me some anxiety. Dendreon is going through a huge manufacturing scale up and there is significant potential for glitches to occur that could lead to product shortages. Because of its manufacturing constraints, Dendreon has been very passive so far in its marketing of Provenge. Because of limited sales input, management may be underestimating the difficulty in enrolling nearly 4,000 to 4,500 patients in therapy in 2011 needed to reach its sales guidance.


In mid-January, Dendreon completed a $600 million convertible debt deal. This brought the cash balance to about $725 million and should be sufficient to fund the company’s manufacturing expansion in the US and Europe and see the company through to profitability. There do not appear to be any financings on the horizon.


Provenge in the US is indicated for approximately 35,000 new prostate cancer patients each year who have failed hormone therapies but are not yet ready for chemotherapy. At Provenge’s price, this is an addressable annual market in the US of $3.3 billion. The clean side effect profile of Provenge and its efficacy will encourage many prostate cancer patients to try Provenge before chemotherapy. If Provenge achieves just one-third of this market, it could be a $1 billion drug in the US. Many Street analysts are projecting a two-thirds market share which could lead to $2 billion of peak sales potential. The consensus Street estimate for Provenge sales in the US in 2012 is about $830 million. If Provenge achieves Dendreon’s guidance, the annualized run rate in the fourth quarter of 2011 would be $700 to $800 million


Provenge will initially have this market to itself but in 2012 or 2013, Johnson & Johnson’s abiraterone will almost certainly gain approval for this pre-chemotherapy segment of the prostate cancer market. Abiraterone produced stunning results in a phase III trial in the post-chemotherapy setting. It has also completed enrollment in a phase III trial in the same pre-chemotherapy setting that Provenge operates in. This trial is event driven and Johnson & Johnson won’t predict when the trial will complete. We estimate approval for abiraterone in the pre-chemotherapy setting in 2012 or 2013. At that time, we think that it will significantly slow the US sales momentum of Provenge for a period of time. However, in many cases the drugs will be used sequentially with Provenge first and abiraterone second. (Please refer to the detailed discussion of Provenge versus abiraterone later in this note for more detail.) As I have had an opportunity to speak with more physicians about abiraterone, my enthusiasm for Dendreon has meaningfully diminished, but I am still positive on the stock.


Dendreon has given guidance that it believes that trials that it has completed in the US will be sufficient for Provenge approval in Europe. This leads the company to project approval in 1H, 2013. The company has retained worldwide rights for Provenge and will market Provenge with its own sales force in Europe and will manufacture at a plant in Germany. The number of eligible patients in Europe is believed to be about twice that of the US, but lower reimbursement is expected so that the addressable market in Europe may be about the same as the US or $3.3 billion. The rest of the world potential beyond the US and Europe could be about one-third of that in the US or $1 .0 billion dollars based on sales results seen for other biologics in that broad area.


Ultimately, I believe that the best role for Provenge might be in earlier stage prostate cancer before hormone therapy has been started and potentially before radical prostatectomy is considered. Because of the slowly progressing nature of prostate cancer, these trials may take many years to conduct so that usage in milder forms of prostate cancer is a long way off.


The Key Issue: Just Where Do Provenge and Abiraterone Fit In Prostate Cancer Therapy

Prostate cancer is the most common cancer in males generally occurring later in life. It is a slow growing cancer and early detection can result in a surgical cure if the cancer is confined to the prostate gland. Surgical treatment involves complete removal of the prostate in a procedure called radical prostatectectomy.


If the cancer has spread beyond the prostate gland, surgery is not an option and patients are put on hormonal therapy, a chemical castration which blocks most of the production of testosterone. The hormone testosterone spurs the growth of both normal and cancerous prostate cells. By sharply ablating the level of testosterone, hormonal therapy can generally control the disease for something like five years. After hormonal therapy fails, the next and last course of action has been chemotherapy treatment. Taxoterre is the only approved drug for this stage of the disease; it is a difficult drug to tolerate. Provenge was approved in May of 2010 for use after hormonal therapy has failed and before chemotherapy s started creating an opportunity for patients to obtain a therapeutic benefit before chemotherapy is started.


Provenge is the first cancer vaccine to be approved and constitutes an entirely new approach to therapy through boosting the immune system’s response to cancer. A problem with Provenge is that the physician and patient can’t easily assess clinical benefit. There is generally no shrinkage in tumor size that can be detected with CT scans and usually there is no change in PSA levels. It is hard to persuade a patient that Provenge is having benefit when there is no effect on measurable disease even though this is what was demonstrated in the clinical trials. Prostate cancer patients are particularly attentive to changes in their PSA levels. They want and expect PSA levels to drop after therapy begins. One physician told us that about 20% of the eligible patients in his practice decided not to go with Provenge. Most of these patients have had the disease for 10 years and were highly knowledgeable about therapy.


Abiraterone is a very promising new drug under development by Johnson & Johnson, Its mechanism of action allows it to continue to block testosterone production even when hormonal therapies can no longer do so. Abiraterone has not yet been approved, but it produced very positive data in a phase III trial conducted in patients who had failed chemotherapy. It extended life by 3.9 months. This is about the same as shown by Provenge, but it was achieved in a much sicker patient population than the one in which Provenge was tested. The abiraterone results were stunning. It will probably gain approval for this indication in late 2011 or 2012.


Johnson & Johnson has just completed enrollment in a phase III trial of abiraterone in pre-chemotherapy patients. This is an events driven trial and it is not clear when final data will be available. Investors are anticipating stunning results in the pre-chemotherapy trial comparable to those in post-chemotherapy. When, not if, abiraterone is approved in the pre-chemotherapy setting there is a solid argument that doctors may prefer it to Provenge. It acts in the way that doctors and patients have been trained to expect; it reduces tumor burden, PSA levels and pain and does so more effectively than the long used and trusted older hormonal agents.


Importantly, Provenge and abiraterone should not be viewed as an either/or choice. Patients are very likely to be given both during the course of their disease, but never together because abiraterone must be used in combination with steroids that depress the immune system and blunt the therapeutic effect of Provenge. This means that they must be used sequentially. The consensus view among physicians with whom we have conferred is that Provenge should be used first if the patient is showing few or any symptoms. This would provide a therapeutic benefit and then abiraterone could be given later to extend the benefit. However, it the patient is more symptomatic after hormone therapy, they will most likely be given abiraterone and will never receive Provenge.


The timing of approval of abiraterone in the pre-chemotherapy setting is not clear. It could be 2012 or 2013. Our contacts tell us that payors have become very sensitive to off-label usage of expensive cancer drugs and will not pay or use abiraterone in pre-chemotherapy patients until that indication appears on the label. Until then, Provenge has this market segment to itself.


Abiraterone will also be expensive. We have heard that it may cost about $4,000 per month or $48,000 per year. However it may be taken for several years so that the cost for two years would be $96,000 and for three years $144,000 and so on. Provenge is only given once at a cost of $93,000.


Provenge versus abiraterone decisions could be influenced by financial concerns. Doctors don’t get paid for prescribing a pill like abiraterone. With Provenge which must be infused, Medicare pays for the ASP plus 6% so that the doctor is making about $1,560 for each infusion and also gets paid for his time so that he can make over $5,000 for a course of Provenge therapy. For an urologist, this is the same economic return as doing three radical prostatectomies. For the average urologist who is working harder every day and making less money; this is a powerful economic incentive.


Reimbursement Issues Now Slow All Biotechnology Launches

There was a slower than expected sales ramp for Provenge following its approval in May 2010. This is becoming the norm for biotechnology drug launches. Ever more complicated and lengthy reimbursement procedures for both private and public payers have been put in place over the years. This requires significant effort to gain reimbursement approval before a product can be sold. There was a time when all that pharmaceutical companies had to do was persuade a doctor that a product would help their patient, they would prescribe it and reimbursement was almost automatic. Those days are long gone as pharmacy and therapeutics committees have to first pass judgment that the product is needed and cost effective. We think that this is a fundamental industry issue rather than being Dendreon specific.


There has been concern that Provenge is over-priced at $93,000 for the three doses that comprise a complete course of therapy. Some point to this as a reason for the slow sales ramp. The Provenge price while high is not unprecedented. A course of therapy of Avastin for colon cancer can cost up to $100,000 per year; Revlimid for multiple myeloma $90,000 and Herceptin for breast cancer $63,000. We would also point out that more than one course of these drugs might be used over several years while Provenge is only given once. When viewed this way, Provenge does not appear so expensive. As another point of comparison, stem cell transplants can cost as much as $250,000.


Our field checks indicate that initially the reimbursement process was creating delays in payment, but this appears to be easing. One doctor reported that he had treated eleven patients with Provenge and has received payment for nine. Roughly half of the payments were from Medicare and roughly half by private health insurance. Some 75% of the costs of Provenge will likely be reimbursed by Medicare as prostate cancer is a disease of older men. Initially our source experienced delays with Medicare, but now payments are coming quickly. Dendreon now has all 15 Medicare contractors on board following the recent agreement of the last contractor. Our physician contact’s Medicare region pays $26,000 per infusion, which compares to the listed price of $31,000 per infusion. On the private side, he noted that Blue Cross is usually a lousy payor, but he was surprised at how quickly and easily they paid for Provenge.


Waiting List of Patients for Dendreon is Source of Concern

Several analysts in doing field checks with physicians have found that many do not have a long waiting list of patients for Provenge as might be expected. We have found much the same thing and it is an issue that we are tracking. However, Dendreon has not been actively marketing the drug. Doctors have not been detailed and there has been no direct to the consumer advertising that might alert potential patients that Provenge is available. I believe along with many of my sources that Dendreon was purposely not marketing the drug to doctors and patients because Provenge has been supply constrained and the company doesn’t want patients clamoring for the drug when they can’t supply enough of it.


The Center for Medicare and Medicaid Services (CMS) Review of Provenge Does Not Appear To Be An Issue

Investors were concerned by an announcement from CMS after the Provenge launch that they were going to review Provenge coverage in a meeting this past November 17, 2010. This led to speculation that CMS might not reimburse the product or attempt to limit its usage. Uncertainty going into the CMS meeting as to what its advisory panel might recommend may have had an effect on Provenge’s uptake in the second half of 2010.


During the CMS review, some panel members felt that Provenge showed only moderate efficacy citing the four months median survival benefit and also noted that it has a limited effect on measurable disease. Concern was expressed about using such a costly drug for what some saw as a modest benefit. However, in the end the CMS advisory panel voted that the evidence supported Provenge use and reimbursement. There was firm guidance to use the drug only for labeled indications. The draft of the final coverage decision is expected in late March or early April.

Disclosure: The author of this article owns shares of Dendreon at the time this note was written. This should be taken into account as it may introduce bias into the conclusions and interpretations that are made. In reading this note, you acknowledge that you have not used it as the sole basis of your decision making and that all investment decisions are based on your own analysis. An investment in Dendreon carries substantial risk and investors could potentially lose much of their investment. The reader acknowledges that he/she has carefully read the Investment Approach, Terms/Conditions and Disclosures sections in the About Us section of the website. The reader acknowledges that he/she will not hold SmithOnStocks accountable for any investment loss that may be incurred if a decision is made to invest in Dendreon.


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