Description

Full post w/images can be found at http://ge.tt/8DaU965.

Sanofi-Aventis acquired Genzyme (GENZ) on April 11, 2011 for consideration of $74 in cash per share and one contingent value right (CVR) - 291mm CVRs issued in total. The CVRs, which started trading on March 31^st, at $2.25 per right, were constructed primarily to offer value for Lemtrada (also called Alemtuzumab or Campath), Genzyme's phase III multiple sclerosis therapy.  

The CVRs give each holder the right to receive cash payments conditional on the achievement of defined milestones, as shown below:

Milestone 1: Production of Cerezyme and Fabrazyme ($1 cash payout expected January 2012)

-          Hurdles: Cerezyme and Fabrazyme are used for treatment in two rare, life-threatening, genetic diseases called Gaucher and Fabry. Since June 2009, Genzyme has faced a series of manufacturing difficulties causing major production setbacks for the two drugs. The Company was forced to shut down the Allston facility in 2009 and failed multiple inspections thereby ceasing manufacturing operations for the two drugs. This has resulted in intense and ongoing government oversight, hiring of multiple consulting firms and the transferring of the "fill/finish" stage of production to contract manufacturer Hospira.

-          Data/Recent Results:

o    Q1 2011Production: 133,778 units of Cerezyme (50% of capacity due to production hiccup due to one contaminated lot) and 11,827 units of Fabrazyme (30% of capacity due to fill/finish hiccup). Company reports that Cerezyme production is back to normal in 2Q 2011 and Fabrazyme fill/finish operations have been outsourced to Hospira.

-          Note: The Company expects to produce at 100% capacity in 2H 2011 which will allow them to hit the production milestone. FDA oversight, consultant retained, fill/finish transferred to Hospira ahead of schedule, new production facility in Framingham should receive regulatory approval in 2H 2011 and might help given that production milestone does not include the potential contribution from Framingham.

Milestone 2: FDA Approval of Lemtrada ($1 cash payout expected 2H 2012)

-          Lemtrada: Experimental treatment and "quasi-cure" in Phase III trials for multiple sclerosis, which is a chronic and debilitating disease in which the body's immune system attacks the central nervous system. Affecting ~2.1 million people worldwide, sales of MS therapies exceeded $10bn in 2009 and expect to reach $13bn in 2012. Despite the advancements in its cure, there remains an unmet medical need for treatments with greater efficacy, better tolerability and ease of administration, all of which are addressed by Lemtrada.

o    Treatment: One course of IV infusions for three to five days once a year for two or three consecutive years.

o    Phase II Trial Results: Results were unprecedented for MS therapies and showed that the drug halted MS progression and could potentially reverse some MS symptoms. Five years of data showed:

§   65% of patients with early stage, active relapsing remitting MS ("RRMS") were free of clinically active disease as much as four years after most patients received their last course of the drug versus 27% for Rebif (standard treatment for MS).

§  ~72% of the Lemtrada-treated patients were relapse-free versus 41% for patients taking Rebif.

§  ~87% of patients treated with Lemtrada were free of sustained accumulation of disability compared to 62% for Rebif.

§  Lemtrada patients were more than twice as likely to experience sustained improvement in vision as compared to Rebif.

o    Competition: Lemtrada has shown unrivaled efficacy as the only drug shown to halt the progress of MS and offer potential reduction in some MS symptoms.

§  Gilenya: The first FDA-approved oral treatment for MS, but has lower efficacy than Tysabri and Lemtrada and faces safety concerns with lack of long-term data.

§  Tsyabri: Treated as a monthly infusion, Tysabri is the most effective drug on the market but faces significant safety concerns recently reporting cases of patients developing a potentially fatal brain infection called PML.

-          Risks: Side effects reported in the Phase II study: 94/334 (28%) suffered from thyroid autoimmunity; 6/334 (2%) suffered from ITP (Idiopathic Thrombocytopenic Purpura), a serious bleeding disorder. Thyroid disorder is commonly associated with MS anyway and can be satisfactorily treated with medication. ITP is more serious but now that researchers are aware and can catch the early signs, ITP can be avoided. ITP should not prevent FDA approval but might relegate Lemtrada to a second line treatment. Tysabri is a current second line treatment generating $1.2bn in sales. Lemtrada appears to be superior to Tysabri.

-          Conclusion: Data due from two phase III studies later this year (first one will be released mid-year and the second one by end of year) will determine the eventual outcome of the treatment. As long as no new major safety concerns arise from these trials, Lemtrada will apply for FDA approval early-2012 and should receive the approval by end of the year. To summarize, the primary reasons for approval are:

1)       Results have shown unrivaled efficacy and for the first time, the opportunity to reverse some MS symptoms.

2)       Infused once a year for two or three years, the drug is very easy and most convenient to administer even compared to the oral treatment of Gilenya.

3)       Safety is the biggest concern but side effects are manageable and relatively tolerable considering other approved MS drugs and the severity of MS symptoms.

4)       The treatment was awarded "fast-track" status by the FDA. The FDA generally only grants fast-tracked status to drugs that treat diseases with no current therapy. However, the fact that there are treatments in the market for MS indicates that the FDA must believe in the advantages of Lemtrada over those in the market and its potential in addressing the unfulfilled needs in MS treatment.

Milestone 3-6: Sales Milestones for Lemtrada (up to $12 cash payout)

-          Description: The sales milestones trigger payments once the Company achieves the revenue thresholds described earlier. The timing of these milestones is described, as follows:

In other words, sales towards the $400mm start counting in USA, UK, Germany, France, Italy and Spain ("major markets") the quarter immediately following the quarter in which the first sale takes place in that specific country. Sales in all the major markets must start within six quarters of the first commercial sale in order to count towards the first sales milestone. Lastly, sales in all other markets start counting four quarters following the one year anniversary of Lemtrada's launch.

-          Sales Potential: Lemtrada, upon FDA approval, has an opportunity to become a major player in the $13bn MS market and generate strong sales. Genzyme is currently targeting 18% to 20% market share and estimates of generating sales of $3 - $3.5bn during the peak years. They have disclosed revenue forecasts for the drug, shown below:

Both the independent advisory and Genzyme indicate strong sales forecasts exceeding $2.5bn during the peak years which would contribute towards a significant payout for CVR holders. Even in a scenario where Lemtrada is relegated to second/third line of therapy for MS, the drug should still generate sales of greater than $1bn annually based on $1.2bn sales of Tysabri in 2010, which still hasn't reached peak levels, has inferior efficacy, is harder to administer and has serious safety concerns.

Conclusion

Trading at $2.40/share, the Genzyme CVRs present a very compelling investment opportunity. Given the high probability of the first two milestones, investors have the opportunity to receive $1 in cash in less than eight months and another $1 by the end of 2012 thereby investing a net $0.46 for the opportunity to receive up to $12. In addition to the arguments presented above, it's important to mention that the milestones were created by Genzyme and likely to have been on the more conservative side of the spectrum. Ex-CEO Henri A. Termeer owns 708,914 shares and stands to make up to $9.9mm from milestone payments. Lastly, Credit Suisse and Goldman Sachs, as part of their recommendation to Genzyme's Board of Directors, valued the CVRs at $5.58 using company provided data, as shown below:

Catalyst