Expert Financial Analysis and Reporting

Investment Overview and Opinion

In the first half of 2013, InSite Vision (INSV.OB) will release significant topline data from two phase III trials involving three new products: BromSite, AzaSite Plus and DexaSite. Topline data for the first of two phase III trials of BromSite to treat pain and inflammations following cataract surgery likely will be reported in 1Q, 2013. Similar types of results for the DOUBle trial evaluating AzaSite Plus, DexaSite and the currently marketed AzaSite for the treatment of blepharitis likely will be reported in 2Q, 2013. This is a short update report which outlines the potential impact on the stock. For a detailed analysis of these products and the company as a whole, please refer to my basic report of June 19, 2012: InSite Vision: Initiation of Coverage on Promising Late Stage Ophthalmology Company.

This report focuses more on BromSite as it should report clinical results first. I have a high level of confidence that the trial will be successful as will be explained later in this report. While my confidence in regulatory approval and commercialization of BromSite is quite high, I see two widely different possibilities for potential sales. The active pharmaceutical ingredient in BromSite is the NSAID, bromfenac. Bausch & Lomb currently markets BromDay; a product that is also based on bromfenac and is used for the same indication. In a pharmacokinetic study, BromSite using lower amounts of drug produced higher tissue concentration in the eye than BromDay; this was due to superiority of the DuraSite delivery system. In the opinion of key opinion leader consultants, this would cause much of the market to shift to BromSite.

The story does not end there, however, as Bausch & Lomb will be introducing a new and lower dose formulation of bromfenac called Prolenza that also is intended to produce better tissue concentration levels in the eye. In early 2015, InSite will do another pharmacokinetic study to determine how BromSite stacks up against Prolenza. If it shows little or no improvement in tissue penetration against Prolenza, it will be a “me-too” product in a $100+ million market and probably would have sales potential of about $25 million five years after launch. However, if it is pharmacologically superior it could have $100 million of potential sales in that time frame.

I think that success of the BromSite trial should have a positive, but restrained effect on the stock price of InSite. I think that most investors will conclude that if the first phase III trial is successful, the second that will start shortly thereafter will also succeed and that the product could be approved and marketed in late 2014 or early 2015. If BromSite is subsequently shown to have superior pharmacokinetics to Prolenza, its estimated $100 million of peak sales potential justifies owning the stock at the current price of $0.34 per share. However, we probably won’t know if this is the case until 2H, 2014.

AzaSite Plus and DexaSite could be the first products ever approved for blepharitis. Steroids are currently used off label for short term treatment, but side effect concerns limit their use to two weeks or less. DexaSite is based on the steroid dexamethasone and would be the first steroid based product studied in a phase III trial and given the history with steroid usage in blepharitis, DexaSite is likely to be successful in the DOUBle trial. The theory behind AzaSite Plus is that its dexamethasone steroid component (which is DexaSite) will produce a short term effect and that the azithromycin antibiotic component a long term effect. This would provide a long term option for treatment of blepharitis that is not currently available for this chronic condition.

I view AzaSite Plus as a homerun product for InSite Vision and view DexaSite as a more modest opportunity. If the DOUBle trial is successful, I believe that the FDA will require a second confirmatory trial before granting approval. Assuming success in this second trial, I project that both products could be approved in the US in 2016. I see AzaSite Plus as having sales of over $200 million five years after launch and DexaSite as $25 million.

In the upcoming DOUBle trial, I have a high level of confidence that DexaSite will be shown to be effective given the successful history of steroid use in short term treatment of blepharitis. I am less confident on AzaSite Plus as InSite did not conduct a phase II trial to validate the concept of combining an antibiotic with a steroid to increase the time between disease recurrences. There are sound hypotheses as to why AzaSite Plus may be successful, but no strong clinical data.

My view is that after the reporting of the first phase III BromSite trial and the DOUBle trial that investors will conclude that there is a very high probability that these BromSite and DexaSite will be approved. If AzaSite Plus is unsuccessful, I think that there would be a short term negative impact on the stock price, but investors would see BromSite (even as a me-too product) and DexaSite as having enough potential to justify something close to the current stock price of $0.34. Hence investors have good downside protection in the event of AzaSite Plus failure and have a valuable and essentially free call on the stock if the AzaSite Plus results are successful. Assuming successful development of AzaSite Plus, DexaSite and BromSite, I put together a model in the previously cited initiation report that projects a price target of $1.75 to $2.50 in 2018.

Let me close with just a final word on the DOUBle trial. Patient outcomes are being based on recurrences or exacerbations of blepharitis as measured at 30 days periods over a six month time frame. There have been fewer reoccurrence or exacerbations than expected when the trial was designed and as a result the company is now looking for topline data in 2Q, 2013 as opposed to an original expectation for 1Q, 2013. A logical explanation is that this is because AzaSite Plus is effective at preventing reoccurrence or exacerbations. While this is one explanation, it is not the only possibility so that we will have to await the unblinding of the trial to know for sure.

BromSite Clinical Trial Progress

On November 29, InSite announced that patient enrollment had been completed for the first of two phase III trials of BromSite that are designed to show reduction of pain and inflammation after cataract surgery. BromSite combines a low dose of the non-steroidal anti-inflammatory drug bromfenac with InSite’s DuraSite ocular drug delivery technology. This study enrolled more than 240 patients undergoing cataract surgery in a two-arm trial designed to evaluate the efficacy and safety of BromSite against the DuraSite vehicle alone.

This trial required that patients be treated for 14 days after cataract surgery which is the most frequently performed ocular surgery in the US. This was a very fast trial that started on July 31, 2012 and completed enrollment on November 29, a span of just four months. The company thinks that it will be able to release topline results in January or February of 2013. I think that the chances for success with this trial are high. A 169 patient, phase I/ II trial conducted using the same trial design demonstrated that once-a-day BromSite was superior to the DuraSite delivery vehicle (53.3% versus 19.0%, p-value = 0.0016) in reducing pain and inflammation. This obviously bodes well for success in this phase III trial.

If this first phase III is successful, a second phase III trial will be started in the March-April, 2013 time period. Assuming the same timelines as in the first trial, topline results should be available in August or September, 2013. The goal of the company is to file an NDA on BromSite by the end of 2013, but the filing could stretch until early in 2014. The expected review time by the FDA would be about nine months pointing to a launch in late 2014 or early 2015. These trials should be sufficient to gain European approval as well.

Rationale For Developing BromSite

Cataract surgery is the most frequently performed ocular surgery in the United States with more than three million procedures annually. Both before and after surgery, anti-inflammatory eye drops are prescribed to reduce pain and inflammation. The current market leader is Bausch & Lomb’s BromDay (obtained through the acquisition of ISTA Pharmaceuticals), whose active ingredient is also bromfenac, an NSAID that was originally introduced by Wyeth in 1997 for the short term relief of pain. Following reports of liver failure in some patients, it was withdrawn from the market in 1998. However, the rapid absorption and high degree of tissue penetration in ocular tissue and lower amount of drug needed for efficacy made bromfenac an excellent candidate for treating ocular inflammation and pain.

ISTA first marketed a twice a day formulation of bromfenac called Xibrom that was in-licensed from a Japanese company. The patent on Xibrom expired in January 2009. As a life extension strategy, ISTA launched a once a day formulation of bromfenac called BromDay in October 2010 before a generic was introduced in May of 2011. Under Waxman-Hatch, BromDay as a new dosage form has marketing exclusivity through October of 2013.

The US market for topical anti-inflammatory drugs used in ophthalmology has annual sales of about $370 million based on three million prescriptions according to Bausch & Lomb. BromDay is the leading product in this category with annual sales of $85 million. Since 2000, it is estimated that BromDay and Xibrom have been prescribed over 20 million times globally. Bausch & Lomb will soon introduce still another lower bromfenac dose product called Prolenza; it is a once a day formulation which has an added feature of a permeation enhancer that is expected to increase bromfenac’s tissue penetration in the eye.

Bausch & Lomb’s development focus has been on life extension strategies. InSite believes that the DuraSite delivery system has superior product qualities and a major marketing differentiation that allows more tissue concentration of bromfenac in the eye despite a lower formulation. Key opinion leaders generally feel that this gives BromSite a meaningful clinical differentiation. InSite believes that BromSite is a superior drug. It has potential exclusivity until 2029.

In October of 2011, InSite announced positive top-line results from a Phase 2 head-to-head pharmacokinetic study of BromSite versus Bromday. Although BromSite has a 25% lower concentration of bromfenac than Bromday, it still achieved more than twice the tissue penetration in the eye as Bromday. This enhanced tissue penetration could lead to additional back-of-the-eye uses and new indications for BromSite beyond the initial post-cataract surgery indication.

Commercial Potential

If BromSite is seen as a me-too drug, its potential would be modest, perhaps on the order of $20 million. However, InSite believes that the DuraSite drug delivery system delivers bromfenac more efficiently so that even though there is less bromfenac in BromSite than in BromDay, it allows higher concentrations in the eye. This was shown in a pharmacokinetic study.

A major driving force behind the usage of anti-inflammatory drugs such as steroids and NDAIDs like BromDay is that many physicians believe that it provides affective prophylaxis against cystoid macular edema, or CME, a relatively rare but extremely serious adverse event in ocular surgery that can lead to blindness. The prevention of CME has not been established in clinical trials for any of the currently used drugs. Key opinion leader consultants to InSite believe that its higher concentration of bromfenac into the ocular tissues may further reduce the risk of CME. InSite intends to do additional clinical studies post-approval in pursuit of adding prevention of CME to the BromSite label.

Shortly after Prolenza’s approval, InSite will compare BromSite to Prolenza. As previously stated, BromSite has already shown better tissue concentration than Bromday and it hopes to show the same result when comparing to Prolenza. This pharmacokinetic study should take about three months. I am assuming approval of Prolenza in mid-2013; remember that Bausch & Lomb is trying to introduce it before the October 2013 loss of market exclusivity for BromDay. InSite has to await approval of Prolenza before it can conduct this comparative test. Conceivably, results could be available in 2H, 2014.

If ocular tissue concentrations are superior to Prolenza, I think that BromSite could quickly capture a large percentage of the market.

The next step in BromSite development would be a trial to show that it is effective in preventing CME. This trial would take about one year. Because Prolenza would be unlikely to have such data, this would be a convincing reason to switch more Prolenza users to BromSite. It would also expand the market. A significant number of surgeons are skeptical about the CME prophylaxis and feel that the prevention of pain and inflammation is not a sufficient reason to use an inflammatory drug. Hence, this indication could potentially expand the market. This trial would start sometime after approval.