Dynavax (“DVAX”) is a biotech company that in early 2018 launched the first new Hep-B virus vaccine in 25 years. The company also has several early-stage assets focused on cancer immuno-oncology (“IO”).
DVAX’s stock has traded down substantially from around $20 per share in November 2017, the time of the vaccine’s FDA approval, as sales of its vaccine, Heplisav-B, underwhelmed expectations and market sentiment in the cancer IO space has cratered after clinical trial failures at Nektar, Incyte and Celldex.
The bull case touted by management claims that vaccine sales can reach $500 million over time, above the current market size of $300 million. Their logic is that DVAX’s vaccine provides a 95% rate of protection and requires only two doses over one month, while GSK’s Engerix-B, the current standard of care, provides an 81% rate of protection with three doses over six months, resulting in lower compliance. As a result, DVAX has priced Heplisav-B at a premium and believes it will become the standard of care in the market.
If you listen to the company’s May 2019 quarterly earnings call, you will hear DVAX management talk about making great traction with targeted customers, including customers representing 50% of the targeted market, approving the vaccine and making it available for order.
However, a year since the initial launch in February 2018, Dynavax reported 1Q19 quarterly sales of just $5.6 million, or $22.4 million annualized, which represents less than 5% of management’s targeted market. Given the way management was talking on the call, one would expect to see an acceleration in sales growth. However, sales in 1Q19 only increased by $1.7 million versus 4Q18, compared to an increase of $2.5 million in 4Q18 compared to 3Q18. If the product is so good and sales momentum is so good, why are sales not accelerating?
We spoke to former DVAX employees, competitors, and customers and heard consistent feedback, which is that Dynavax faces an uphill battle – its vaccine is trying to solve for a problem that most customers don’t believe exists. The 95% protection vs. 81% is essentially meaningless. Customers view the existing standard of care as adequate and are generally not willing to pay more for an alternative. In addition, DVAX is a single product company competing against a pharma giant that has a broader vaccine portfolio and often bundles products at lower prices. Finally, another competitor, VBI Vaccines (“VBIV”), which is backed by Perceptive Advisors, has an arguably superior vaccine that will likely hit the market in a couple of years and put even greater pressure on DVAX, especially as it relates to pricing.
We believe Dynavax does have a niche in the market for higher risk patients where the customer is worried that the person receiving the vaccine might not show back up six months later for a third dose. In theory, this makes sense. However, a very large portion of the Hep B vaccine market is given to employees, prisoners, and dialysis patients, where there are generally no worries about where the person will be six months later. In those cases, price matters more than anything. Even for clinics who have patients where they are worried about seeing the person six months later, pricing is still a big factor. Also, Medicare reimburses the same amount whether Engerix-B or Heplisav-B is used, so a clinic needs to pick up the extra cost. Dynavax could lower prices to match GSK, but then GSK would likely react and a price war would be in nobody’s best interest, particularly with VBI potentially hitting the market in a couple of years.
So what we believe is happening is that customers are approving Heplisav-B, but only using it for niche purposes, when they are willing to incur the extra cost. The vast majority of the targeted market is still using GSK’s Engerix-B as the preferred vaccine. Interestingly, in the first two quarters after Heplisav-B first launched, Dynavax disclosed the number of customers who have “fully implemented” or switched to Heplisav-B; this was 24 as of 2Q18 and 68 as of 3Q18. However, in the last two quarters the company stopped disclosing this information, nor has the company been consistent in the other metrics it tells investors about the progress being made.
While it is not part of our thesis, there is also a chance that safety becomes an issue with Heplisav-B. Vaccines are generally given to healthy people and given the public scrutiny on vaccines, the FDA is ultra-conservative with regards to approvals. Given safety concerns with Heplisav-B, it was initially turned down by the FDA twice, in 2013 and 2016, prior to ultimately being approved in late 2017. However, the FDA required a Phase 4 post-approval marketing study that won’t read-out until the end of 2020. One contact we spoke to compared Heplisav-B to adding Red Bull to GSK’s Engerix-B, as Heplisav essentially revs up the immune system with a stronger dose to achieve a better response rate. Given this, combined with past rejections by the FDA, there is an increased risk of safety issues like heart attacks, and a non-zero chance that Heplisav-B could be pulled from the market in the future.
Dynavax has taken the same Red Bull-like approach to its cancer IO portfolio, which we see as having little value. This is an ultra-competitive field and DVAX recently halted further development of these assets until it can find a partner for funding. Its closest peer, Idera Pharmaceuticals, has a similar drug that is further along in development and has shown greater improvement in response rates compared to the current standard of care and to DVAX, yet Idera trades at nearly zero enterprise value. Big Pharma companies are interested in compounds that will work across multiple areas and/or can become best in class - this is not at all clear for DVAX’s assets. Dynavax is also negotiating from a point of great weakness. Therefore, we do not think it is likely that Dynavax signs a partnership deal that creates shareholder value.
Another problem for Dynavax is its debt. With the stock down Management understandably doesn’t want to issue equity, so in March 2019 it fully drew down on its term loan resulting in $176 million of debt at the end of the 1st quarter. That is quite a lot of debt for a company that is burning cash and had just $5.6 million of quarterly sales. Plus, if sales of $30 million are not met in 2019, then the company will breach its minimum sales covenant.
While we wouldn’t be surprised with less than $30 million of sales in 2019, we expect less than $40 million of sales in 2019 and less than $100 million of sales in 2021, which is lower than consensus of $130 million. We believe 2021 will be the peak year for Heplisav-B sales given that VBIV’s vaccine should be on the market by then.
Dynavax does have a high short interest of around 25%. A common trade is to short initial pharma launches and that trade worked out well on Dynavax in 2018. 1st quarter 2019 sales were at best in line with consensus, but given management’s bullish commentary about being on track to become the standard of care, etc., we believe there was large short covering that helped the stock price. In reality, sales growth decelerated as noted above, and go-forward street estimates for Dynavax actually came down after the quarter.
Also, in late February 2019, there was strange selling of the DVAX stock into weakness by three members of the DVAX management team, including the CFO, Chief Accounting Officer and the Chief Scientific Officer who sold 45% of his Form 4 holdings. If sales of Heplisav-B were truly hitting an inflection point or a strong partnership deal on the IO side was likely, that level of management selling seems unlikely.
Dynavax continues to lose money, and we believe it will be forced to raise equity once it becomes clearer that Heplisav-B sales will fail to meet expectations. This would put an additional cloud over the stock while there is little to get excited about on both the vaccine and IO sides of the business. We estimate a fair value of approximately $250 million for Dynavax, which is about half of today’s enterprise value. With debt of $175 million, this implies a 2020 equity value of less than $1 per share.
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