Description

Heron Therapeutics (HRTX) is a commercial-stage biotechnology company focused on treatments that improve patient outcomes post-surgery and post-chemotherapy.  The company’s portfolio currently contains two drugs, Sustol and Cinvanti, both of which are extended-release injections that prevent nausea and vomiting associated with chemotherapy regimens.  The two drugs have captured over 30% market share in their respective patient populations since their approvals by the U.S. Food and Drug Administration (FDA) in 2016 and 2017.  Combined, these drugs generated roughly $90m in revenue on a trailing-twelve-month basis.  There is currently a reimbursement "arb" which is adversely impacting sales growth for both drugs. The sell side has written about this and the company talks about it on transcripts for those that want to learn more about it.

HRTX's main asset is a drug codenamed HTX-011. This is a long-acting formulation of a local anesthetic combined with an anti-inflammatory agent (NSAID).  HTX011 is effectively a cream that is smeared during surgery to minimize post-operative pain, leading to improved patient recovery and less dependence on prescription opioids.  Last month, the company released a study which showed that 90% of patients receiving HTX-011 did not require opioids through 72 hours post-surgery, and 81% of patients remained opioid-free through 28 days post-surgery. The results from the study were released at the JPM HC conference in SF in January.

As opioid-related deaths in the U.S. continue to grow at an alarming pace, HTX-011 offers a potentially attractive solution to combat one aspect of this epidemic (people who start taking opiods post surgery and then get hooked to them for life).  The FDA granted HTX-011 Breakthrough Therapy status in Q2 2018.  This was followed in December 2018 by a Priority Review designation. Given that HRTX submitted its NDA in October of last year, we expect formal approval ofHTX-011 by April 30th, 2019.

Currently, the market leader in extended postsurgical analgesia is a drug named Exparel, manufactured by Pacira Pharmaceuticals (PCRX).  Exparel was approved by the FDA in 2011 and generated roughly $330m in sales in 2018.  PCRX guided to sales of $400m this year (CY19). Based on an addressable market of about 5m procedures per year – including knee and hip arthroplasty, rotator cuff repair, hernia repair, abdominoplasty, and spinal surgery – that means Exparel  has captured roughly 20% of the market at its average selling price of $300 per dose. The rest of the procedures use bipuvacaine which has a very short half life and provides very little pain relief a few hours after surgey, necessitating opiods.

HTX-011 is superior to Exparel, the existing standard of care, in at least three ways:

1. The reduction in patient pain intensity and post-surgical opioid usage are both superior with HTX-011.  See the data from all the trials which is publicly available.

2. The method of administration to the wound area is significantly easier with HTX-011’s  topical cream application.  Exparel is a viscous compound that requires upwards of forty to fifty injections at the site of surgery, which wears out the surgeons’ thumb joints and can cause frequent hand cramps.  A surgeon's hands are his/her meal ticket. 

3. With bundled payments, Exparel  becomesm a cost center for hospitals and ambulatory surgery centers (ASCs). Under current reimbursement guidelines, the drug receives ASP-plus reimbursement from commercial payors or the Centers for Medicare and Medicaid (CMS) in only about 10% of applicable procedures.  HTX-011, on the other hand, will be reimbursed in 50% of procedures based on its new drug status.  That should allow HTX-011 to capture significant share in an underpenetrated market once it becomes commercially available.

Up until last fall, HRTX was chilling comfortably around $40. Then fit hit the shan and the stock tumbled to the mid $20s. Why did that happen? A few reasons:

1. Kevin Tang, the Chairman, sold about 10% of his holdings in a block sale that was royally botched by Cantor. Kevin has been in Heron for a very long time and took some money off the table to fund his other ventures. That seems understandable, nevertheless, the stock got punished in a skittish tape.

2. There was presumably some hope among buy side participants that Congress and/or FDA would instate some measures to boost opiod sparing drugs. Neither side made much headway, given the circus in Washington. The FDA held an ADCOM meeting which essentially ended up being a forum for docs to get together and pontificate without making any tangible progress. The ADCOM proceedings video is available online and is quite entertaining to watch. 

In any event, the end game here is M&A. A strategic partner with a strong existing hospital and ASC-focused sales force would benefit from enormous synergies in a potential HRTX acquisition.  HRTX CEO Barry Quart and Chairman Kevin Tang are no strangers to this type of outcome.  After co-founding Ardea Biosciences in 2006, they sold the company to AstraZeneca in 2012 for $1.26bn, or a 54% premium to the stock price at the time. Barry has since moved to Las Vegas, Nevada, where he pays no personal state income tax and enjoys the lowest capital gains tax rate in the country.

The market currently values cloest peer PCRX’s enterprise value at 4.4x trailing-twelve-month consensus revenues.  The sellside is modeling in revenue growth of 12% annually for the next three years.  Comparatively, we think HRTX revenues grow by 80% for 3 years post-launch, with steady-state HTX-011 sales of $750m to $1.0bn.  At a conservative 4.0x multiple of annual run-rate revenues of $1.125bn, that gets you fair value of HRTX stock at $62.50. We think Tang and the Board would be sellers in the $60 range. 

Catalyst

1. FDA approval by April 30. The main thing to watch here would be the label. The base case is that co will get a black box warning because of NSAID component (non-event to surgeons). If any opiod reduction language shows up in the package that will boost marketability to hospital pain committees. 

2. Sales process for company