Stuart Roberts has written this report for Ballieu Holst:...

Stuart Roberts has written this report for Ballieu Holst:

Phosphagenics (POH) – Breakthrough drug delivery
patches

COMPANY DESCRIPTION. Phosphagenics’ has proved in multiple clinical trials over the
last decade that its TPM technology, which is based on the ability of phosphorylated
Vitamin E to cross the skin, represents an efficient transdermal drug delivery solution. The
company’s patches, which avoid the traditional ‘first pass metabolism’ problem of orally
available drugs, are notable for the speed and safety of drug delivery and the lack of skin
irritation. Importantly, the company has now developed the world’s first patches for the
delivery of the opioid analgesics oxycodone and oxymorphone. This development opens up
a multi-billion dollar market opportunity.
 A near-term payday from oxycodone and oxymorphone. Clinical data to date has
shown that Phosphagenics has viable patches for the delivery of oxycodone and
oxymorphone (see Phosphagenics announcements dated 26 July 2013 and 24 October
2013). The patches are small and can deliver their drug payload either systemically or
topically over a 72 hour period for the treatment of chronic moderate-to-severe pain. These
opioid analgesics represent a large market opportunity - US$3bn p.a. just for oxycodone in
the US market – that has grown strongly in recent years due to increased clinical need for
chronic pain relief. Phosphagenics’ oxycodone/oxymorphone breakthrough positions it for a
good licensing deal. The record of another painkiller called Fentanyl, from J&J, is that the
ability to deliver it via a patch in a product called Duragesic boosted sales eighty-fold over a
15 year period. At its peak J&J sold just over US$2bn worth of Duragesic.
 Patch delivery would represent a solution to opioid abuse. In the last decade
oxycodone has emerged as a drug of abuse, particularly in the US, due to ease with which
abusers can extract the active pharmaceutical ingredient from tablets and use it to get a
high. This has led regulators to look for tamper-resistant formulations. Phosphagenics
patches would represent an ideal solution, due to the difficulty the would-be ‘street
chemists’ would face in extracting the active from the patches, as well as the inability of
sustained release patches to give the abuser the high he or she is looking for.
 Phase II in 2014. Phosphagenics has indicated that it intends to go to Phase II with its
oxycodone and oxymorphone patches this year. After this there is potential for Phase II/III
studies ahead of 505(b)(2) filings, which could take place in 2016 or 2017.
 TPM has been deployed across a range of drug delivery indications. Phosphagenics
currently has programmes with various collaborators ongoing in pain, dermatology, various
injectable drugs and animal health. These collaborations have potential to pay off in a big
way. Consider diclofenac. This non-steroidal anti-inflammatory drug, known globally as
Voltaren gel for the treatment of osteoarthritis and other inflammatory conditions, is a
US$700m global opportunity which is now being tapped via collaborations in India and
Japan. Phosphagenics has shown that TPM allows better dermal absorption of diclofenac
than Voltaren, while maintaining similar levels of systemic exposure.
 Phosphagenics earns revenue from cosmeceuticals. The company has created some
Vitamin E-based cosmeceuticals which sells through various channels around the world.
While these products only net Phosphagenics A$1-2m p.a. it does show the ability of the
Phosphagenics to realise commercial value from TPM.
 Capable leadership. Phosphagenics’s CEO, Harry Rosen, already has a track record of
success in the Life Sciences thanks to Betatene, which became the world’s largest
producer of natural beta carotene before it was sold in 1995 to the German company
Henkel. While 2013 has seen the company experience a scandal in which various insiders
were found to have misappropriated funds, under Rosen Phosphagenics has recovered
much of the lost funds, enabling the company to move forward in 2014.
 POH is undervalued on our numbers. We value Phosphagenics at 25 cents base case
and 60 cents optimistic case using a probability-weighted DCF valuation. We believe
Phosphagenics stock is undervalued because of the long time it has taken to get here – the
company has been developing TPM since 2002. We look for a re-rating of the stock as the
company initiates the next Phase II trials for oxycodone and oxymorphone.
VALUATION METHODOLOGY. Our probability-weighted DCF of Phosphagenics27 was
built as follows:
- Our WACC was 14.2% (High risk);
- We modelled payoffs mainly for oxycodone and oxymorphone patches, allowing a
small amount of extra value for tretinoin and ketoconazole and other products as a
proxy for the value of the TPM platform;
- We used a 32% risk weighting for the patches for base case and 38% for optimistic
case, to reflect the fact that the patches are moving into Phase II and have elements of
both small and large molecule risk associated with them. We assigned different risk
weights to the other pipeline products modelled;
- The main part of our valuation is our assumption that the oxycodone and
oxymorphone patches license together in 2015-2016, for US$100-150m upfront,
US$250-350m milestones and 10-14% royalties. We assume that the products launch
by 2017-2018 and model peak sales of US$3.9-$5.2bn;
- We assume that $15m in equity capital needs to be raised in order to fund the Phase II
clinical work on oxycodone and oxymorphone.
 .