Description

Why does Isotechnika sell for around $100 million when it holds the largest pharmaceutical deal ever made in Canada? Pharmaceutical giant, Hoffman LaRoche agreed to pay about $400 million to develop a compound called ISA247, $215 million in cash and stock, the rest a refund of ISA247’s development expenses. Outside of obscurity, there is no reason for Isotechnika to trade at such a low valuation.

What is ISA247?

ISA247 is an analog of cyclosporine, a popular immunosuppressant for transplant patients. After receiving any organ transplant, the body recognizes the new organ as an invader and attacks the foreign tissue. In the early days of organ transplants, this immune response limited successful organ transplants to situations with donors that were close kin, preferably identical twins.

In the 70’s and 80’s, new drugs like cyclosporine revolutionized transplant medicine with their ability to suppress the immune system’s natural reaction and prevent organ rejection. Cyclosporine acts as a highly specific T cell inhibitor, preventing rejection without completely shutting down the immune system. Suddenly the donor organ did not have to be a near perfect genetic match, which dramatically opened up the number of potentially successful transplants. Since the advent of immunosuppressant drugs, the number of organ transplants has increased every year by 18-25%.

Under this regime, organ transplant recipients must take a cocktail of drugs daily in order to prevent rejection. While the required dosage may decline over time, recipients typically have to stick with this drug program for the rest of their lives. Such drugs now represent a $2 billion dollar market, which continues to grow with increasing numbers of transplants every year.

Cyclosporine extends the lives of transplant patients for five to ten years by inhibiting calcineurin, a family of enzymes that play a key role in immune response. However, decreasing the activity of calcineurin also changes the amount of blood flow to the kidneys, which eventually causes nephrotoxicity (damage to the kidneys). Many transplant patients survive the initial operation, only to succumb to kidney failure in later years.

In 1997, researchers at Isotechnika carefully tweaked the molecular structure of cyclosporine and created ISA247, an analogue of cyclosporine that selectively inhibits the calcineurin enzymes that are more associated with the immune system and affects the variants associated with the kidneys less. The net result is a version of cyclosporine that is both more effective at lower doses and less toxic at any dose.

Not only is ISA247 a boon to past and future transplant recipients, but it also opens up the market for other immune related diseases like psoriasis and arthritis. Cyclosporine is currently not a realistic treatment for these diseases because the side effects are more destructive than the disease itself.

Show Me the Data

ISA247 was directly compared to Neoral (a branded generic cyclosporine) in a Phase II(a) study on 132 kidney transplant recipients. ISA247 was able to achieve identical calcineurin inhibition with peak blood concentrations of 200ng/mL versus 600ng/mL of Neoral.

In addition to decreasing the required dose by 70% to 75%, ISA247 dramatically lowered the observed side effects, as indicated in the table below. These results were consistent with the observations of Phase I clinical trials.

ISA247 CsA
Hyperlipidemia 1.10% 7.10%
Hypertriglyceridemia 0% 7.10%
Diarrhea 5.70% 14.30%
Peripheral Edema 1.10% 7.10%
Nausea 5.70% 7.10%
Hypertension 5.60% 7.10%

Psoriasis Indication

As noted above, by drastically decreasing the nephrotoxicity of cyclosporine, ISA247 can be used to treat immune diseases that are not life threatening, like psoriasis. Psoriasis is a skin disease which generally appears as patches of raised red skin covered by a white, flakey buildup. Psoriasis affects 1-2% of the population worldwide, with 7 million patients in the US alone. The worldwide market for psoriasis drugs is estimated to be $601 million in 2001, growing to over $3 billion in 2011.

Isotechnika has successfully completed a Phase II trial for psoriasis with impressive results that are on par with their kidney transplant success. A .75mg/kg dose of ISA247 was successful for 54% of psoriasis patients when measure by SAG (Static Global Assessment) scores and successful for 74% of patients when measured by the PASI (psoriasis area and severity index).

mTor Inhibitor

Building on their success with ISA247, Isotechnika has taken a similar approach designing TAFA93. TAFA93 is an analogue of rapamycin, an mTOR inhibitor that is prescribed alongside cyclosporine in the immune suppressant cocktail given to transplant recipients.

TAFA93 is currently in Phase I trails on rats. It is demonstrating increased potency based on blood concentration and toxicity improvements (platelet aggregation and elevated cholesterol) that are on par with ISA247.

A Canadian Biotech that is in Edmonton?

Canadian companies that aren’t energy companies surely make US investors squirm. However, Roche’s deal and the size of the deal should make investors stand at attention. Making the recognition problem even worse for Isotechnika is that it is based in Edmonton, not Toronto. This company really is a hidden gem.

Besides founding management living in Edmonton as a reason why the company is there, Edmonton is the transplant “capital” of Canada. And it is where all of the research and studies towards transplants occur, making the city the perfect place to research and study ISA247.

Also, this is not one of those virtual biotech companies with a couple of people working for the company. Isotechnika has over 80 employees.

Timeline

Isotechnika will probably finish enrolling its Phase IIB trial in the first quarter of 2005 and have results in the second half of 2005. Phase III trials are scheduled to begin in the first half of 2006, with complete results by the beginning of 2007. A FDA NDA filing would occur in 2007, with the drug on the market in 2008. There is a chance they could roll the Phase IIb trial into a Phase III, which the FDA might approve if the drug works very well. This would accelerate those dates by one year.

Clearly this is some time away. However, if the company could be worth north of $1 billion in four to five years, is $100 million cheap now? That is how enormous the potential for ISA247 is, and how ridiculously cheap Isotechnika is.

How cheap is ridiculously cheap?

With the drug’s approval, Isotechnika has a 15% royalty fee on ISA247’s sales. Assuming $1 billion in sales four to five years out, Isotechika should be worth $750 million, assuming a 10 times royalty rate and a 50% discount for present value. That represents 650% return from current levels. Sounds ridiculous? It is. Isotechnika is a ridiculous bargain at current prices.

What happens if we back into the assumptions of what Roche thinks the drug is worth based upon their $400 million investment? The net present value calculation assumed the following:

1) Roche’s $400 million is ramped into the trials and research over six years
2) Roche receives 85% of the revenue
3) Roche has a 25% net margin after all expenses and taxes
4) Roche requires a 25% Return on Capital, to discount the cash flows

Under those assumptions, Roche thinks that ISA247 is at a $1 billion in revenue drug. If you assume a higher discount rate such as 35%, which I’m sure Roche does, they think ISA247 is closer to a $1.6 billion drug.

Comparables

There are no direct comparables, no other companies who are pursuing cyclosporine with the success that Isotechnika is. Instead, I’ve found three companies pursuing other drugs that are in similar stages of development, but instead have hype and research surrounding their companies. The ad hoc comparable group of companies are: Keryx Biopharmaceuticals (NASDAQ: KERX), Ariad Pharmaceuticals (NASDAQ: ARIA), and Conjuchem (Toronto: CJC).

The average market cap of these companies is $360 million, net of cash, over three times the value of Isotechnika. Now these aren’t perfect examples, but each shows something of the promise and undervaluation of Isotechnika.

ARIA has an mTor inhibitor, but it is not as far along in trials as Isotechnika. KERX is a virtual company with 12 employees pursuing one drug. And Conjuchem is a Canadian biotech that has soared from C$3 to C$14 on promising drug trials and hype, showing that Canadian biotechs can return multiples on an initial investment when they have momentum and a following.

I challenge anyone to find another company this far along in the drug development process with a $400 million deal with one of the largest pharma companies in the world that sells at this valuation.

Cash Burn

The company has only received about $70 million of the $215 million research contract and will still get refunded 70% of future R&D. Isotechnika only burns about $3 to $4 million a quarter. With $80 million in cash and short term investments, cash burn is really not much of an issue.

However, there is a chance that the company may buy back the rights to pursue ISA247 in everything but transplant. Roche has recently been exiting its dermatology business and Isotechnika wants to accelerate its development for psoriasis, whereas Roche for now wants to focus on transplant. If Isotechnika gets the rights back, its cash burn would jump as it would work on psoriasis, rheumatoid arthritis and diabetes. Also, as TAFA93 ramps in development, it might require further investment.

With its substantial cash balance and its milestones to come, Isotechnika has no real need to raise money unless it wanted to substantially accelerate development.

Summary

No one knows of this company, it is not listed in the U.S., and there is no hype or press around the company. With any hype, a U.S. listing, or further promising data, Isotechnika will soar.

Catalyst

1) US Listing
2) Analyst coverage
3) Start of Phase IIb trial for transplant
4) Any press coverage from the US
5) Data on mTor inhibitor