u    Specialist in developing and commercializing proprietary drug delivery technologies in partnership with large pharmaceutical companies; currently marketing 5 major products in-line with 4 more in clinical development with applications ranging from treatment of diabetes to Hepatitis C

u    Co-developer with Pfizer of Exubera, the first inhaled insulin product approved by the FDA (Jan 2006);  “soft-launched” in September, Exubera will have a 2.5-3.0 year lead on competitors coming to market

u    Stock decimated by (1) slow ramp-up in scripts volume due to staged marketing campaign, (2) less than ebullient initial physician reaction to the drug and (3) Pfizer’s corporate woes – will fall away once actual post-marketing Rx data becomes available to validate blockbuster status of the drug

u    By focusing almost exclusively on the (buoyant) projected growth in diabetes cases, street estimates the inhaled insulin market ignore an equally-strong contributor to growth – the more rapid move to aggressive therapy likely to occur due to the impending prevalence of the disease and the availability of inhaled insulin

u    Short-term thesis: prescription volume will markedly improve in 2H 2007 after full-ramp-up of GP and DTC marketing efforts and validate blockbuster-status of Exubera

u    Longer-term thesis:

-         Exubera will play a pivotal role in managing an emerging Type II diabetes epidemic driven by aging demography and Western diets.  Inhaled insulin will be a key component of  driving earlier aggressive treatment / glucose management

-         Pfizer/ Nektar’s 2-3 year lead to market over competitors and focus on developing a next generation inhaler will likely enable them to solidify market dominance

-         Strong lead-horse in portfolio opportunities around (i) diabetes treatment and  (ii) drug delivery technologies as components of “Health Maintenance Therapies” sectoral thesis

u    At current share price, almost 100% downside protection provided by the value of non-Exubera products – incredibly, all the value of this blockbuster drug is upside

 

            Based in San Carlos, California, Nektar Therapeutics (“Nektar” or the “Company”) develops and commercializes pharmaceutical products based on two proprietary drug delivery technologies: Pulmonary delivery and Advanced PEGylation.  The Company does not develop drug compounds but rather delivery technologies needed to achieve better efficacy, dosing and ease-of-use for approved drugs. 

 

            Nektar’s pulmonary delivery technology is rooted in its biopharma expertise in developing liquids and powders (and corresponding delivery mechanisms) that can transport compounds through pulmonary alveoli and into the bloodstream with optimal and consistent dosing, bioavailability (the % of the compound that actually makes it to the bloodstream), longevity and minimal side effects.  Nektar has generally focused on drugs in which bio-availability or toxicity render pulmonary delivery medically preferable to other methods or recurring treatment would support improved patient satisfaction.  Traditionally, the Company has developed these products through proof-of-concept (Phase II) and then partnered with major drug companies to fund and support subsequent development (e.g., Phase III trials, new drug applications & FDA approval, launch marketing).  Consequently, its revenue stream to date has been primarily comprised of royalty revenue (generally 1-8% of drug revenues).  More recently, Nektar is attempting to garner greater revenue share by taking on automated manufacturing responsibility (Exubera) and developing two pulmonary products through FDA approval:

u    Amphotericin B Inhalation Powder (ABIP) for the prevention of fungal lung infections by immunologically-compromised patients

u    Inhaled antibiotics for the treatment of ventilator-assisted pneumonia (VAP) in hospitals 

 

In addition to Exubera (discussed below), the Company’s other partner-developed pulmonary delivery compounds include inhaled versions of

u    Tobramycin  (lung infections from cystic fibrosis; partnership with Bayer, PII)

u    Dronobinol (for the treatment of migraines, Solvay).

 

            Nektar’s Advanced PEGylation utilizes the Company’s expertise in developing highly-specialized PEG-structures for protein compounds to regulate drug bio-absorption and longevity.  PEGylation is the process whereby a protein-based pharmaceutical compound is bonded to polyethylene glycol (alcohol) molecules to slow its metabolism, thereby increasing its longevity in the patient’s body.  Because of the otherwise rapid breakdown of protein in the body, PEGylation is an essential component of most potential drugs developed through the use of recombinant DNA technology (because such drugs are typically proteins). The Company’s technology permits highly customized PEGylation that can be used to regulate bio-absorption from half-lives of minutes to weeks.  Nektar’s Advanced PEGylation technology is currently being used in the following marketed products and pipeline compounds:

 

 

By far and away, Nektar’s most important product is Exubera.  Approved by the FDA and EU regulators in January 2006, Exubera is the first-to-market inhaled insulin product available to diabetics (type I and type II) for the regulation of blood glucose.  Co-developed with Pfizer, Exubera is a fine (1-5 micron) powder, dispensed in 1mg and 3mg blister packets (most common patient doses), of rapid-acting insulin intended for use as a “bolus” insulin (administered 2-3x/day with meals by type I/II, versus long-acting ”basal” insulin administered 1x/day prior to sleep by type I diabetics only).  Exubera blisters are administered via a portable inhaler (the size of a glasses case when compacted) that disperses the blister powder into a fine mist within an extendable reservoir tube that is then cleared through patient inhalation with a normal deep breadth.  While the expanded reservoir increases the visibility of the device in public settings, inhalation-driven delivery (rather the forced inhalation) is currently a key component of insuring proper dosing. Nektar and Pfizer are currently developing a second-generation device that is expected to be the size of an asthma inhaler and ready for market by late 2009/ early 2010.

 

To date, over 3,000 patients, have taken part in Phase III clinical trials of Exubera, ranging from 6 months to 3 years.  Such trials indicated that Exubera delivers comparable (if not superior) glucose management to traditional insulin with substantially higher patient satisfaction / compliance and no serious side effects:

u    Exubera was as effective as subcutaneously (SC) injected insulin in lowering post-prandial (after meal) blood sugar and improving hemoglobin A1C (HA1C)[1] toward normal levels.

u    Drug uptake was as rapid (and in some cases more rapid) as fast-acting SC insulin and was more rapid that regular SC insulin;  time to peak drug levels and longevity were comparable to fast-acting insulin

u    Bioavailability was approximately 10% that of SC insulin (addressed by the dosing in blister packets

u    Hypoglycemia (the most common complication of insulin caused by using too high a dose) was comparable in incidents to SC insulin in all cohorts except smokers – as a result Exubera is contra-indicated for smokers, <6-month non-smokers and people with poorly-controlled respiratory diseases/asthma

u     The only other side effect was a temporary decrease in lung capacity (not surprising for people breathing in a powder); as a result, the prescription protocol for Exubera includes an annual spirometer test administered by the patients GP

u    Among insulin-dependent (ID) diabetics, 95% reported higher patient satisfaction with Exubera as compared with their SC insulin

u    Given the absence of long-term safety data (specifically on pulmonary complications), Exubera is not yet indicated for use in children (Pfizer has a PIV study underway for this indication)

 

Under its agreement with Pfizer, Nektar will manufacture at least 50% of the Exubera powder/ blister packets and, via contract manufacturers (Bespak & West), manufacture the inhalers while Pfizer is responsible for the other 50% of the insulin production and marketing of the drug.  Under such terms, Nektar earns revenue from the manufacturing of blisters and inhalers (with an estimated 15% margin above costs) and royalties from the end-market sale of Exubera (10% up to the $1bn in sales, 12.5% for $1bn-2bn and 15% for $2bn or more).  Based on Pfizer’s inventory levels, manufacturing revenues are earned in the same quarter as sales with royalty revenues lagging by one-quarter

 

Due to the novelty of the product (since insulin injection therapy was invented in 1921, there has never been another delivery method), Pfizer developed a three-fiscal-quarter “phased” launch program for Exubera in which marketing efforts would first be focused on ~5,000 endocrinologists / diabetes specialists (Phase I), followed by a “full-court press” of roughly 33,000 general practitioners who would regularly prescribe the drug (Phase II), culminating with the commencement of DTC marketing (Phase III). 

 

As a result of this phased launch, Pfizer and Nektar have consistently warned analysts that there would likely be a two-quarter delay in substantial prescription volume. In addition, Pfizer’s launch of Exubera has encountered several minor delays that have further stalled market validation through script volumes.  In June 2006, Pfizer was required to delay Phase I (until September) due to problems is getting its powder manufacturing up to scale.  In addition, the Phase I education of endocrinologists took longer than expected due to the need to supply and train them on use of spirometers (because, unlike GPs, they do not regularly use them). As a result, Phase I is not expected to be complete until the end of January.  In addition, based on the longer-than-expected education effort, Pfizer has decided to delay DTC advertising until 3Q 2007.  As a result, sales to date have not validated the expected blockbuster status of Exubera.

 

 

However, the Company and Pfizer have consistently attributed Rx volume to the phased nature of Exubera’s roll-out and continue to guide to 2007E U.S. sales (to Pfizer) of approximately $150 million (equivalent to approx. 360,000 scripts (90-day) at an average daily price of $4.67).  Correspondingly and based on inventory orders from Pfizer, Nektar has stuck with Q3 guidance of 2006E revenues (all manufacturing) and 2007E revenues (manufacturing and royalty) of $90-$100 million and $110-$130 million, respectively. However, Nektar’s 2006 guidance is substantially all manufacturing revenue (paid by Pfizer to build inventory and, based on 2006 Rx data, end-user revenue (to Pfizer) should be only $5-10 million)

            The attractiveness of the Diabetes drug market and Exubera’s role in it can only be well understood with a basic knowledge of diabetes, its prevalence and treatment methods.  As of 2005, approximately 21 million people in the U.S. (7% of the adult population) and 180 million globally are estimated to have diabetes – an inability of the body to maintain normal levels of blood glucose[2].   In addition, about 55 million Americans (40% of the adult population) have blood glucose levels higher than normal but lower than the diabetic threshold and are considered “pre-diabetic”[3].  Within this broad category, the two primary types of diabetes, Type I and Type II have little in common other than their core symptom of high blood glucose and potential for insulin treatment.

 

Type 1 Diabetes is caused by the destruction of the cells in the pancreas that produce insulin (ß cells), generally caused by a genetic auto-immune disorder, and the consequent complete inability to produce insulin – the primary hormone regulating sugar metabolism in the muscles and liver.  As a result, Type I diabetes typically manifests in childhood and is almost uniformly fatal without medicinal delivery of insulin. If untreated, Type I typically results in ketoacidosis in which toxic levels of blood glucose compromise the kidneys and liver.  With proper insulin therapy, Type I diabetics’ metabolism is otherwise normal and, consequently, fastidious control of insulin levels is their primary treatment objective.  While Type I diabetes is a serious illness, it comprises only 5-10% of US cases, is primarily genetic/embryonic in nature, relatively stable incidence.

 

By contrast, Type 2 Diabetes is caused by a developed resistance to insulin, often with limited initial impairment of pancreatic functioning.  In contrast to type I diabetes, the pathology of Type II diabetes is less well understood and it is possible that it comprises several different disorders with similar symptoms.  Those symptoms generally include a developed resistance/ insensitivity to insulin by muscle, liver and fat cells with an eventual decline in the production of insulin by the pancreas.  While genetics play some role in development of the disease, it is more directly linked to obesity, poor diet (high fat, high sugar) and a sedentary lifestyle with over 90% of Type II diabetics being obese and a controlled regimen of diet and exercise often being an effective means of preventing its onset by pre-diabetics as well as a means of glucose control for many Type II diabetics. 

 

Prevailing theories of Type II diabetes’ pathology attribute insulin insensitivity and under-supply to a chronic over-utilization of the chain of processes that regulate glucose homeostasis.  These include not only the production of insulin and anti-insulin (glucagon) but the production of GLP-1, an enzyme that regulates insulin release by the pancreas and the production of glucose in the liver, and PPAR, a set of nuclear receptors that regulate the receptivity to insulin in tissues outside the liver.  Thus, in contrast to Type I, the onset of type II diabetes tends to occur in middle-to-late adulthood, is gradual in nature and can be potentially treated by a number of therapies that (i) supplement insulin (as in Type I), (ii) induce higher production of pancreatic insulin, (iii) control the production of blood glucose, (iv) increase receptor sensitivity to blood glucose or (v) induce secretion of hormones than control insulin / glucagon production (e.g., GLP-1).  These therapeutic avenues roughly coincide with the 5 general classes of non-insulin diabetes medications available or in development (discussed below).

 

Roughly 19.3 million Americans (6.4% of the population in 2005) are estimated to have Type II diabetes, comprising 90-95% of all diabetes cases.  In addition an estimated 54 million Americans (two-fifths of the adult population) are pre-diabetic, with blood glucose levels significantly above normal and a >50% probability of developing full-blown diabetes within 10 years.  Complications for uncontrolled / poorly controlled Type II diabetes include:

u    Heart disease and stroke (2-4x greater risk, 65% of diabetes deaths)

u    High blood pressure (73% of adult patients)

u    Diabetic retinopathy leading to blindness (12-24k new cases each year)

u    Renal failure (attributable for 44% of all kidney failure, 154k dialysis patients)

u    Neuropathy (nervous system damage): 60-70% of diabetics over 40

u    Amputations: 80-90k per annum attributable to diabetes

u    Miscarriages and birth defects (5-10% of total) and impotence

 

            The prevalence and cost (human and financial) of Type II diabetes are nothing short of astonishing.  In 2005, diabetes was the 3^rd-leading cause of U.S. deaths (182K) and was directly responsible for $91.1 billion in healthcare costs, making it, by far, the most expensive of any disease category.  In fact, according to the NIH, 1 of every 7 healthcare dollars spent in United States is to treat diabetes and health complications arising from it. On average, the per capita medical cost of a diabetic is $13,243 per year versus $2,560 for a non-diabetic.  Adding in non-medical costs (caregiving, lost work), a conservative estimate of the annual cost of US diabetes is approximately $132 billion. This cost is expected to rise to $156 billion by 2010 and $192 billion by 2020.

 

            In addition, due to the aging of the “baby-boomer” population and the prevalence of American obesity, the size of the diabetic population is expected to grow dramatically over the next 15 years.  In the U.S., conservative estimates developed in 2002 by the NIH and ADA forecast an increase of nearly 30% from 20.9 million in 2005 to 30.0 million in 2020.  More recent analyst estimates that attempt to include the recent surge in juvenile obesity, estimate 33-35 million cases by 2020.

 

Globally, thanks in large part to the “Westernization” of eating habits, diabetes is expected to grow by almost 43% from 195 million to 289 million cases in 2020, including a 170% increase in the developing world. Inclusive of associated coronary heart disease, diabetes will be the #1 cause of death for adults in the developed world by 2050.  Outside the United States, the five largest “diabetes markets” are Japan (7mm), Germany (7mm), France (2.5mm), Italy (2mm) and the UK (2mm).  Interestingly, Germany has, by far, the highest and fastest growing incidence of diabetes with the German diabetic population expected to reach 10mm by 2010 (8% of population).  As a result, the German government has stated that diabetes is its #1 health priority and was the first nationalized healthcare system to approve Exubera as a first-line therapy.

 

 

The vast majority of costs (human and financial) generated by diabetes are purely a function of poor glucose control. In fact, but for the adverse effects of continued excessive blood glucose on body systems, diabetes would probably have no health impact.  Thus, quite apart from the incidence of the disease, better treatment rather than a cure (for Type II diabetes) is the most promising avenue of managing this epidemic.  Approximately 33% of Type II diabetics are undiagnosed and, despite the availability of treatment with oral medications, nearly 2 million more remain untreated and most (59%) of those treated remain poorly controlled (HA1C>7%) and eventually require insulin therapy. All told, 67% of diabetics are poorly-controlled with HA1C>6.5%.  Nevertheless, not only is the success rate in treatment prior to insulin therapy weak but it causes an average delay of more than 8 years in migrating diabetic patients to insulin:

 

            In addition, even among Type I and Type II diabetics using insulin, poor compliance with intensive dosing regimens is a recurring problem (with strict compliance estimated at only 64%).  Currently, insulin therapy for Type I diabetics generally consists of  two different forms of insulin: long-acting insulin administered 1x/day at bedtime and short-acting / regular “bolus” insulin taken 2-4x a day in conjunction with meals.[4]  Most Type II diabetics using insulin use only bolus insulin. 

Multiple studies have shown that every 1% reduction in Hemoglobin A1C reduces potential complications from diabetes by approximately 35%.   With the average estimated Type II diabetic’s HA1C at nearly 9.5%, the economic (much less human) impact of effective therapy, bringing that level to 6.5%, could exceed $100 billion in the U.S. alone.[5]

Over the next 10 years, diabetes medications are expected to be fastest growing segment of the pharmaceutical industry, growing at a CAGR of 12%, 300-400 bps faster than the market as a whole, principally as a result of (i) increase in the number of diabetics (discussed above) and improved focus and technology on detection, designed to reduce the period in which the disease remains undetected from an estimated average of 4 years.

Despite the use of subcutaneous insulin therapy for over 80 years, the development of synthetic human insulin in the 1980s (and proliferation in the 1990s of targeted products with varying onset, peak and duration of action) revolutionized the market and heavily concentrated sales among 3 major pharmaceutical companies: Eli Lilly (Humalin/ Humalog family), Novo Nordisk (Novalin/Novalog family) and Sanofi-Aventis (Lantus – long-acting insulin).  In the long-acting insulin space, Novo Nordisk / Genentech recently launched, Levemir, the first competitor to Lantus in early 2006

 

 

            The five general classes of marketed non-insulin medications for Type II diabetics attempt to bolster the regulation of blood glucose levels by targeting different levers of glucose homeostasis within the body.  One or more of them is generally prescribed after the failure of diet and exercise to reach acceptable glucose levels and may be continued during later insulin therapy to improve effectiveness.  Because they require some pancreatic functioning, they are not generally prescribed for Type I diabetes

 

 

 

 

            Almost every major pharmaceutical company has several drug compounds (in over a dozen categories) targeting non-insulin diabetic therapy. Recently launched and particularly promising late-stage drugs include:

 

GLP-1 Mimetics & Analogues (Byetta / Liraglutide) – As mentioned earlier, GLP-1 is an essential enzyme that regulates insulin/glucagon release.  It is especially useful because its effectiveness is glucose dependant and, consequently, does not pose a risk of hypoglycemia to patients (the most prevalent side effect of insulin and most other medications. In addition, GLP-1 is involved in functioning of the liver and digestive system and has proven weight loss effects. However, GLP-1 is, itself rapidly broken down in the body by an enzyme, DPP4, and typically only has a half-life of a few minutes. Consequently, compounds that can mimic / impersonate GLP-1 in the body but are impervious to DPP4 represent a promising therapy for Type II diabetics, both in regards to controlling glucose levels and promoting weight loss. Byetta, developed by Eli Lilly and Amylin, was approved in April 2005 as a second-line adjunct therapy (with Metformin) injected post-prandially 2-3x/day. Amylin and Lilly are currently developing Byetta LAR which will be a 1x/week injectible and are seeking pediatric approval for Byetta. Conjuchem and Roche both currently have GLP-1 mimetics in development, including administration through a continuous pump.  Important to Byetta’s commercial success has been clinical data that it was as effective as Lantus (long-acting insulin) in reducing glucose levels in non-controlled Type II patients on oral medications. Byetta sales growth has recently flattened (at 50K Rx/week, annual sales of $520mm) due to the release of Januvia by Merck (discussed below). In addition, Novo Nordisk is in late PIII trials for approval of Liraglutide, a GLP-1 analogue (naturally produced hormone) that functions similarly to Byetta but also has promising effects on beta cell production in the pancreas.

 

DPP4 Inhibitors (Januvia / Galvus): DPP4 inhibitors block the breakdown of GLP-1 by DPP4 and, consequently, improve the half-life of naturally-produced GLP-1.  Importantly, they are administered orally rather than by injection. However, they have not been clearly shown to have weight loss benefits.  Approved in early 2006, Merck’s Januvia is currently the only marketed DPP4 inhibitor and thanks to a 3-month delay in approval of Galvus, Novartis’ competing product over skin toxicity concerns, Januvia will likely retain exclusivity for most of 2007.  A chief long term concern with DPP4’s is the potential for long-term immunosuppressive effects as DPP4 is chemically identical to a protein vital to T-cell activation. Worldwide peak sales for Januvia are estimated at $2.5-2.7 billion with the chief commercialization concern being Merck’s ability to manufacture the drug to scale with demand.  Galvus’ NDA was accepted by the FDA in March 2006 for review and appears likely to make it to the U.S. market as a “me-too” product in late 2007 after toxicity issues are addressed. Bristol-Myers has a third compound, Saxagliptin, in PIII development with similar attributes that is 2-3 years away from market.

 

Dual PPAR Agonists:  Functioning similar to TZD’s in activating PPAR-gamma, a nuclear receptor directly linked to insulin sensitivity but combined with a PPAR-alpha agonist (lowers plasma triglyceride and raises HDL cholesterol levels), Dual PPAR Agonists have gained prominence in the last three years as a potential “holy grail” monotherapy for Type II diabetes – both directly addressing the insulin receptivity and insulin production components of the disease in an oral medication.  Unfortunately, serious safety concerns around every such developed compound (including tumors, edema, heart failure) have retarded development and, to date, no compound has survived beyond Phase II trials because tolerable dosing has been too low to provide any therapeutic benefit superior to TZDs.  Currently, there are no such products in Phase III or later development.

 

 

Currently, the only insulin-delivery alternative to injection (other than Exubera) is by jet injection (a process by which liquid insulin is forced at high velocity through the skin – effectively a “liquid needle”). Other alternatives in early stage clinical trials include oral spray (bucolic), nasal spray, transdermal patch and implanted insulin pump.  Other than the pump (primarily marketed to Type I) and nasal spray (in late phase II trials but showing difficulties in dosing), no such products are likely to come to market in the next 3 years.  Bucolic sprays have shown promise in early Phase II trials but bio-absorption has been too low to provide cost-effective insulin delivery.  Transdermal patches have similar issues and, if ultimately available, are more likely to replace basal/ long-acting insulin than meal-time injections.  Most importantly, there are no oral insulin compounds in PII or later clinical development – a potential category killer – as digestion of insulin in the stomach and intestines proves a formidable barrier.

With regard to Type I diabetes, it should be noted that substantial strides have been made in transplantation of pancreatic islets (containing Beta cells) as a potential cure.  To date more than 500 patients have received transplants with high rates of insulin independence observed one year following surgery. However, the continued need for immunosuppressive drugs, high incidence of rejection within 5 years and the supply of islet tissue limited to human cadavers have been continuing issues.  Nevertheless, there is substantial optimism that transplantation will become a viable mass therapy within the next 20 years for Type I diabetics.

 

 

Looking at the universe of marketed and potential therapies for Type II diabetics over the next 3-5 years, inhaled insulin is the only one that provides the combination of efficacy, ease-of use and tolerability likely to accelerate and optimize intensive treatment for Type II diabetics.  If we look at the effective barriers to reducing Type II patients’ HA1C levels, they principally involve:

 

1.        Improving early diagnosis and transition to treatment

2.        More rapid migration through lifestyle (diet and exercise) and non-insulin therapy for the majority of patients who will ultimately not be successful with it, and initiation of insulin therapy

3.        Better compliance in insulin treatment

 

While emerging medications (GLP-1 mimetics, DPP4 inhibitors) may ultimately enable more Type II patients to avoid insulin therapy and better stabilize their blood glucose as an adjunct therapy to insulin injections, the majority of patients will likely continue to ultimately need insulin therapy and benefit from more rapid transition to insulin therapy.  In particular, while Dual PPAR agonist and oral insulin might, in theory, provide a more tolerable therapy with comparable effects on glucose control, no such products are even in clinical development, much less close to market.

 

            Based on aforementioned growth rates in US and global diabetes cases, analysts are nearly uniformly bullish about the market for insulin products.  In fact, most forecasts simply extrapolate growth based on projections of the diabetic population (1.8% 20-year CAGR) to arrive at a growth rate for the current $3.75 billion insulin market given the stable pricing and oligopoly structure.[6]  With Lantus and early generation products accounting for roughly $1bn and bolus insulin pricing of $1 per patient per day, this equates to a market of roughly 7-8 million patients.  Assuming that 10-15% of them (a conservative take-up rate for a new differentiated product) adopt inhaled insulin at the hefty Exubera price tag of $4.40 (per day), this implies a total U.S. insulin market of roughly $1.93 billion.  Assuming the international sales will be roughly 50-60% of US sales (a common drug assumption due predominantly to pricing and adoption rate), most analysts’ estimate the global inhaled insulin market to peak at $2.7-$3.5 billion.

 

 

 

This equates to peak Nektar revenues and EBITDA contribution from Exubera of $595-$685 million and $375-$485 million (or $4-5/share).

 

The current insulin market is only a small fraction of the current diabetic population (diagnosed and undiagnosed) – 38% to be precise.  More diabetics should be diagnosed and treated with ineffective lifestyle and oral medication quickly supplemented with insulin if glucose levels remain uncontrolled.  These are truisms of diabetes medicine today and a primary impediment to them is patient’s fear and discomfort (physical and social) with needles. According to the American Medical Association, an estimated 26% of patients have a psychologically-valid “phobia” of needles.  In a 2006 survey by the American Diabetes Association of patient satisfaction by patients using Exubera versus subcutaneous injections, Exubera satisfaction was higher across the board. 

 

Over the next 10 years, the inevitable focus that the healthcare system (public and private) will place on diabetes management (purely based on fiscal considerations), the availability of inhaled insulin and recent advances in diagnostic testing/  blood sugar monitoring will drive substantial increases in the percentage of the diabetic population on insulin therapy.  Putting aside the personal incentives of patients to avoid the health complications of uncontrolled diabetes, public and private health insurers, who bear the brunt of the nearly $90-150 billion annual cost of this treatment deficit, stand to save up to roughly $80-$90 thousand per patient over the next 15 years through encouraging aggressive therapy.

 

Relatively modest improvements in diagnostic rates and the time period between commencement of treatment and insulin therapy (for those patients who will ultimately take it), can have a dramatic effect on the size and growth rate of the insulin patient population.  For example, by decreasing the time diabetes goes undiagnosed by 1 month each year (from a current average of 4 years), the diagnosed portion of the population would increase from 70% to 79% over the next 15 years.  Additionally, if the time period to insulin therapy for diagnosed patients (of the 59% who ultimately take insulin) declined from an average of 4 years to 2 years, the percentage of diabetics on insulin would increase from 36% to 55% over this period.  In total, with these two modest improvements in diabetes management, the insulin market would grow at a CAGR of almost 4.1% (versus a growth in the diabetic population of 1.8%).  At this growth rate, the U.S. insulin market will double over the next 11 years and growth to over 14 million patients by 2020, requiring over 5 billion daily doses of insulin per year!

 

 

Within such a market, 10-15% penetration of inhaled insulin (as a class) by 2010 is overly conservative.  This penetration rate is appropriate to existing insulin-treated patients, who choose to switch from current injections to Exubera (over a 3 year period), but it does not seem plausible as applied to the take-up rates of newly-diagnosed patients.  As noted above, these patients will represent half the diabetic population by 2016. Is any Type II diabetic who is encouraged by his/her physician to start insulin therapy (because Metformin and Pilates wasn’t successful) really going to opt for subcutaneous injections over inhaled insulin?

 

Some will.  Smokers (20.9% of the U.S. population) and poorly-controlled asthmatics (<5%) will go with injected insulin. So will children (176K, 160k of which are Type I diabetics).  The largest category of new insulin patients who opt for injections will likely do so on the basis on cost – inhaled insulin will initially cost more than 4x the price of injected insulin.  Some of this added cost is due to the product’s bio-absorption – inhaled insulin doses use about 10x the insulin to achieve comparable efficacy – but most is probably pharmaceutical company “surplus”. 

 

Will insurance companies pay for Exubera? So far roughly half of the insurers (20) I surveyed on the web included in Exubera (typically in their most expensive formulary).  Completely uninsured, Exubera costs about $2,100 per year (roughly 1/3 more expensive that injected insulin before insurance).  As suggested above, I believe skeptical insurance companies will eventually realize that Exubera’s value proposition is well met with even a modest improvement in glucose control. However, in the near-term it seems reasonable that up to 1/3 of patients could prefer injections on cost grounds.  Consequently, a total of 50% of newly-diagnosed patients may opt for injected insulin on cost or medical grounds. 

How many others will . . . 5%, 10%?  It’s complete speculation but a conservative 5-year market penetration for inhaled insulin among newly-diagnosed patients seems closer to 30-35% than 10-15%.  On such a basis, the peak size of the US inhaled insulin market (in 2013, assuming superior therapies are commercialized in the next FDA window), is approximately 2.5 million patients (23% market share).

 

Although over 80% of the world’s diabetic population lives outside the United States, 50-55% of the global insulin market has historically been domestic owing to the prevalent lack of treatment in the Third World and lower pricing among nationalized healthcare in most European countries. Such an assumption does not incorporate any evolution due to the faster growth in diabetes cases internationally.  In Europe, public reaction to Exubera has been mixed with French and German Healthcare systems approving it as a fully-covered alternative while the UK system has denied coverage without showing of medical necessity.  On the other hand, a key advantage of Exubera in the developing world is that, unlike liquid injectible insulin, it does not need to be refrigerated.  In total, if we assume that receptivity to inhaled insulin is comparable to the United States but lags by one year and international pricing is 75% of US pricing, international sales will comprise approximately 45% of Exubera revenues in 2013 peak sales.

 

Three significant competitive inhaled insulin products are in late-stage development and will likely enter the market in late 2009 / early 2010.[7]  They are:

u    AIR Insulin, co-developed by Eli Lilly and Alkermes, is a powder-based insulin similar to Exubera in most respects other than the inhaler, which is similar in size to an asthma inhaler and disposable. Air Insulin will likely file an NDA in early 2009 and may be approved by late 2009.

u    Technosphere, developed by MannKind Corporation, is a powder-based insulin with a unique airflow-regulated inhaler, palm-sized, that monitors the strength of the patient’s breadth preventing non-optimal inhalation; in PII trials, Technosphere’s bio-absorption was 3x that of regular insulin and markedly greater than Exubera

u    AERx Insulin Diabetes Management System (iDMS), co-developed by NovoNordisk and Aradigm, is a liquid insulin delivered through a mist inhaler.  Relative to powder-based insulins, iDMS has the advantage of allowing for patient-controlled dosing and, in clinical trials, had a slightly lower incidence of hypoglycemia.  Like regular liquid insulin, however, iDMS requires refrigeration.

The chief advantage of each of these competitive products is that the size of their inhaler is comparable to current asthma inhalers and more amenable to discrete use in public settings.  In response, Pfizer and Nektar have a next-generation (small) inhaler under development and expect that it will be on the market by early 2011.  As a result, Exubera may encounter meaningful penetration by one or more superior products for a 6 -12 month period in 2010.  However, their second-generation product is likely to be superior to other inhaled insulin products due to their substantial lead-to-market advantage.  Given that most innovation in this area is likely to be functional in nature (e.g., insuring that dosing levels are well-regulated, the comfort and portability of the inhaler, the durability of the packaging), it is difficult to overestimate the importance of Exubera’s 2-3 year exclusive access to patient data covering millions of users.

 

            Consequently, I’ve assumed that Exubera is able to retain a dominant share (61%) of the inhaled insulin market following 2011 release of its next-generation inhaler.  However, pricing amid competition begins to decline in 2011 (after peaking at $5/daily dose), to $2.50/ daily dose by 2013.  In total, peak global sales of Exubera in 2011 approach $4 billion ($500 million to $1.3 billion greater than most sell-side analyst estimates). 

 

 

 

One would think from most analyst and new coverage of Nektar that Exubera was its only product.  Quite to the contrary, Nektar sports a robust product portfolio and diverse pipeline of mid- to late-stage pipeline compounds that will generate substantial near-term revenues from a broad set of partners and, thanks to the Company’s renewed focus on increasing revenue share, will increasing flow to its bottom line.

 

The NPV pipeline analysis below lists Nektar’s 14 marketed products and compounds under development, including Exubera as forecasted under the Upside Case.  Within each product, indication (the condition treated) and geographic market are estimates of the product’s peak forecasted sales, probability of coming to market (if in development), launch date, patent expiry and post-tax contribution margins.  These estimates were collected from various sell-side analysts covering Nektar or its product partners (mostly Lehman).  Omitted from the table is a 20-year table of probability-weighted cash flows for each compound used to derive the Product NPV’s in the third-to-last column.  Nektar’s non-Exubera product portfolio is relatively well-diversified with PEG Intron comprising roughly 33% of the remaining portfolio value and 4 other market and late-stage compounds generating the next 50% of remaining value.

 

 

 

PEG Intron is a PEGylated version of interferon developed with Schering-Plough for a 1x/weekly administration for the treatment of Hepatitis C.  The product generated 50% of its peak projected revenues in its first full year following launch (2006) and its high value contribution is principally due to its long anticipated lifecycle (as an exclusive niche product) and Nektar’s high revenue share (25%).  In total, the value of Nektar’s non-Exubera portfolio is heavily weighted toward marketed and late-stage products.

 

 

Most notably, even in the Upside Case, the value to Nektar derived from global Exubera sales never exceeds 68% of the Company’s total value and the value of its other products and compounds ( on a per share basis) slightly exceeds its currently depressed share price.    Put differently, Exubera – Nektar’s “blockbuster product” – is actually pure upside at current trading levels!