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Are These Beaten-Down Clinical-Stage Biotech Stocks Buys?

Todd Campbell, The Motley Fool

Geron (NASDAQ: GERN) shares collapsed after Johnson & Johnson (NYSE: JNJ) gave it the cold shoulder. Similarly, Omeros (NASDAQ: OMER) stock tumbled following less-than-inspiring trial data. Are these two clinical-stage stocks bargain-bin buys? 

In this episode of The Motley Fool's Industry Focus: Healthcare podcast, analyst Shannon Jones and Fool.com contributor Todd Campbell discuss:

  • What Geron and J&J were collaborating on.
  • Why J&J walked away from Geron.
  • What may be in store for Geron investors in the future.
  • Why investors were disappointed by Omeros' clinical trial update.
  • What Omeros plans to do next.
  • What could be the biggest risk Omeros faces in the next year.

A full transcript follows the video.

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This video was recorded on Oct. 3, 2018.

Shannon Jones: Welcome to Industry Focus, the show that dives into a different sector of the stock market every day. Today is Wednesday, October 3rd, and we're talking Healthcare. I'm your host Shannon Jones and I am joined via Skype by the fool.com expert when it comes to all things healthcare, all around good guy, Todd Campbell. Todd, how are you?

Todd Campbell: Shannon, I'm doing great! I'm excited! I'm going to be coming down to Fool HQ, spend a couple of days with you and Austin behind the glass and a few other people down there. I'm looking forward to the writers' conference. We do it every year and it's such a great time to get together with all these wonderfully Foolish people. 

Jones: I think the IQ level of everyone rises at least by 20 to 30 points when you have all these experts in one room. I'm super excited. For our listeners, we'll have a special treat for you for next week's Industry Focus: Healthcare episode. We're going to have Todd, and, as you mentioned, several others joining us here in the studio to talk about a very hot topic. I won't tell you which because I want you to listen in to hear it. Be sure to check out next week's episode for that.

Turning our attention to this week, Todd. For today's show, we're going to be talking about two biotech, small in size, but definitely not small when it comes to interest. These two stocks have really taken the world by storm for both good and bad reasons. We're going to be diving into the latest on Geron and also Omeros, both of which reported not so great news over the past week. We'll be really diving into, is there a silver lining somewhere in the midst of all the bad news with these two stocks? 

Let's dive right into the first one, Geron. That was the first blow up this week. That's ticker symbol GERN for our listeners, Todd, this small blood cancer start-up has probably been, I would say, one of the most polarizing biotech stocks when it comes to the bull and bear case. You've really seen this play out tremendously, in terms of volatility, even over the past several months. If you look at it just from last week, the stock fell 23% in one day. It's currently trading at about $1.69 a share. $310 million market cap.

Todd, this was actually a stock that was one of the best performers this year when it came to the biotech space. What is it that has really captivated the attention of the bears and bulls alike with this stock?

Campbell: Biotech stocks and binary events, right, Shannon? I mean wow, talk about hit or miss. When you have one drug in development, and that was the case here for Geron, everything comes down to whether or not the clinical trials go off without a hitch. Unfortunately for Geron, its investors, there were enough questions about the early stage clinical trials that just wrapped up for their collaboration partner J&J to jilt them, send them a Dear John, right, Shannon?

Jones: That's right. This was a love story gone bad, Todd, is really what it came down to. You've got the breakup now that came out off of news from this trial. Todd, this company has been through so many hurdles. It's been around since 1990, trying to get up and off the ground. J&J was going to pull up alongside of it, really help it to get it to the finish line. 

But I would say, even more than the trial results, the big question mark, all eyes have been on this partnership. What can you tell us about what exactly happened? What transpired over this last week?

Campbell: Back in 2014 J&J decided that it would license global rights to Geron's only drug, which is Imetelstat. Imetelstat is being researched for hematological cancers, specifically myelodysplastic syndromes, we'll call that MDS, and myelofibrosis. The myelofibrosis is arguably very important, because that's a billion-dollar blockbuster indication at this point. So, J&J stepped up, gave $35 million back in 2014 to get the global licensing rights to this drug. The two companies shared development costs, but J&J wrote into the agreement an opportunity for it to walk away and return the rights that it secured back to Geron if it wasn't happy with how the early stage trials read out data. 

The reason the stock has been such a biotech battleground this year is that we were at that point, where J&J was starting to be able to gather enough of this early stage data together to form its decision and figure out whether or not it was going to continue to develop Imetelstat by bringing it into Phase III trials, or if it was going to say, "We have bigger fish to fry right now. We're going to give this back to you, Geron. You have to figure it out on your own." Unfortunately for Geron investors and for Geron, because now they're facing some pretty tough decisions from here, J&J's review of the data... they weren't convinced. Sure enough, they sent them a letter, sent the drug packing, and said, "Strategic review, we've decided to focus on other stuff in our pipeline." And there you go, there you have it.

Jones: Yeah. I think for this company, the huge question mark is, can it go on without a big partner? Obviously, having the backing, the financial footing of a J&J to help fund this company moving forward was something that -- I mean, you really want to see that across any early stage biotech, that you've got really solid partner that can help fund. Now, that rug has been pulled out from under them.

If you look at it, though, from the perspective of competitors, there's actually some good news here when it comes to Incyte and Jakafi. Jakafi is a drug blockbuster for Incyte right now. That drug in particular -- Todd, you can go into more detail -- really treats the symptoms related to this particular disease class, but not necessarily the disease itself. That was something that Geron was attempting to do. So, what does this mean for Incyte, and potentially even Celgene, who has a drug development moving forward, too?

Campbell: Right. To back up really quickly, one of the things that's really disappointing for Geron investors is, they're now missing out on a boatload of cash that J&J could have handed them because of J&J's decision to walk away. If J&J had said, "Yes, we're going to bring this into Phase III," then they would have paid a $65 million continuation fee to Geron, plus Geron could have received up to $820 million in additional milestones if development continued and went off without a hitch, plus eventual royalties. So, yes, this is very disappointing from that front.

In terms of Incyte, Incyte's Jakafi is used in myelofibrosis. When I said earlier that this is a billion-dollar blockbuster indication, that's what I was referring to. Last quarter, Jakafi sales were tracking at about $1.6 billion pace for Incyte. The problem with Jakafi is that there's a very high discontinuation rate to it. Within five years, 75% of Jakafi patients discontinue its use. Either they're intolerant to it because of side effects or they develop a resistance to it, it's no longer effective. Whatever reason, they're going off the drug within five years.

That had really gotten Geron investors excited, because Geron's drug, Imetelstat, works differently. It does not have the same mechanism of action as Jakafi. People thought, if we can get approval of this, maybe we can even get a quick OK from the FDA for its use in those patients who are no longer on Jakafi. Because unfortunately, the prognosis once you discontinue Jakafi is pretty poor in this patient population. 

Now, as we look forward and pull up our binoculars and try and see what this company may do from here, they may not even end up pursuing in indication myelofibrosis in Phase III. It's all going to depend on some data. I'm sure we'll talk about that in a second. It's all going to depend on some data. If they don't, then yeah, Jakafi is not going to have to worry about any kind of competitive threat in myelofibrosis from Imetelstat from Geron. Instead, it's going to have to worry about competitive threat from another drug, which is a separate conversation. That drug is Celgene's Fedratinib, which is supposed to get filed for FDA approval relatively soon. It looks like those two companies in myelofibrosis, for now, anyways, are benefiting from Geron's stumble.

Jones: Celgene's particular drug candidate, it's had a pretty rocky history in and of itself. We'll probably have to do an episode just on that at some point, too, Todd.

I'm curious to pick your brain -- can Geron find a new partner? Looking at its cash position, the company had $183 million in cash on the books as of its conference call. Can it find a partner? Will it find a partner? Is a suitor in the mix at this point?

Campbell: It's not enough cash. It's not. They're going to need to figure out a way to bolster their balance sheet. They have enough money. On the conference call, and I urge all of our investors to go punch it up and read through it or listen to it, they said that they have enough money to execute on the strategy that they outlined in the conference call. I'll get to that in a second. But beyond that, they weren't willing to give up any kind of cash guidance. I think that should be a big red flag for investors. If you can't secure a partnership, someone to walk in and say, "Yeah, we'll give you some money upfront and help you with these development costs," then, wow, you're going to be on the hook for those Phase III trial expenses yourself. Your cash burn is going to accelerate significantly, which means you're going to have to tap investors. And the last thing you want to do is tap investors when your stocks trading at 52-week lows.

Jones: Absolutely. Pretty dire right now for this particular company. You mentioned the conference call and looking forward. What came out of that conference call, No. 1? No. 2, what's the probability of them continuing on into a Phase III successfully in myelofibrosis?

Campbell: Let's take MDS first. We haven't spent a ton of time talking about it. MDS, they feel encouraged enough by the information that J&J shared with them to pursue Phase III. That's going to be their focus. They're going to focus on the MDS indication initially. Their hope is to be able to get a Phase III trial up and running sometime in the middle of 2019.

As far as myelofibrosis, they're going to have to wait and see what overall survival data looks like. The data that they did share, and we're going to know more in December. There's an American Society of Hematology conference that goes on every December. J&J has submitted the full data set for presentation at that conference. As a result, Geron's hands are a little bit tied in what they can share with investors about efficacy and safety and all that stuff. But they did provide some top line data, which I'll get to in a second, in myelofibrosis.

Anyways, they're going to pursue the MDS. In the myelofibrosis, they need to see overall survival data come in strong, because Jakafi's approval was based on a reduction in spleen volume. Unfortunately, in Imetelstat's early stage trial, spleen volume reductions really didn't move the needle. They didn't reach the target set at the onset, they just weren't significant enough for them to feel like that can be a primary endpoint in a Phase III trial. 

So, their only hope for resurrecting in myelofibrosis, Shannon, back to your question, is if that overall survival data comes in good. Unfortunately, who knows. Obviously, J&J wasn't willing to take the risk. So, investors are probably better off staying on the sidelines and waiting until there's clarity there, too.

Jones: I totally agree. I think the risk on this particular stock has gone through the roof. I will say, I think the particular area, the high unmet need patient populations that Geron is going after, still keeps me intrigued to see what can happen. Expectations are relatively low, though. But when you have these high areas of unmet need, relatively few options, if any, plus also deep-pocketed big pharma companies that are desperate to bolster their own pipelines, it makes this company that more interesting; especially when you look at its market cap and even its cash position at this point, too. 

I'm curious to see what will shake out industrywide in this particular space. Blood cancers, blood disorders, tend to be very lucrative across the board. We'll have to see on that, particularly with the data that will come out later this year. But ultimately, hang out on the sidelines, watch this one from afar, but keep your eyes posted.

We turn our attention to our second biotech of the week. We're talking about Omeros Corporation, ticker OMER. This is a commercial stage biotech, but shares have been all over the place this week, Todd, particularly Monday. Shares dropped 43%. Actually then turned around, recovered just slightly, picking up 10% by Tuesday. I looked just a few minutes ago, shares are now down 1.6% and are currently sitting at $15.13.

Todd, this stock has been all over the place for a couple of different reasons. What can you tell us about the company and its lead candidate, one of which was hoping to become a potential blockbuster?

Campbell: This is a very interesting story. It's kind of a toughie. It does have that one commercial-stage drug which is Omidria. That's used in cataract surgery. However, sales for that drug have been declining sharply all year because of changes to reimbursement from Medicare for it that has created a big drag on it over the course of the first nine months or so. I'll explain the other side of that later on in the episode.

The reason for the huge drop-off last week was because of data that was reported on OMS721. It's a MASP-2 inhibitor. MASP is a component of the immune system. When it's overactive, it can cause tissue damage and injury, which can be a very big problem, especially when you're talking about organs, specifically the kidney. They are investigating OMS721 in three different, and probably additionally, further back in the pipeline, three different indications that can cause life-threatening kidney failure.

The information that they've released in the past, Shannon, to investors, about OMS721, has been pretty good. I mean, it hasn't been horrible. But this week, they updated some data from one of those trials. Investors looked at that data and were like, "Oh, wait. Maybe this isn't as good of a drug as I thought it was."

Jones: Yes. These are actually results from a Phase II looking at OMS721 in progressive kidney disease. We'll just call it IGA for short. To say the least, I think it left many investors scratching their heads. 

The company put out a pretty positive PR note talking about how wonderful this drug did in the studies. But when you actually started to dig into it, it really was not that impressive. I'd have to say, this is one where that dog-gone placebo effect really kicked into play here, Todd.

Campbell: You have to wonder, what did they tell the copy editor who wrote that press release? [laughs] 

Jones: [laughs] Exactly!

Campbell: I would have liked to have been a fly on the wall. You have to always read press releases, investors, listeners, very, very cautiously. Take everything that they say with a big old fat grain of salt. They're going to put their best foot forward. 

In the case of this press release in IGA in the Phase II trial, what they wanted us to focus on was the fact that the amount of protein that is measured in the urine, which is the gold standard measurement for kidney disease, kidney failure in advancing, protein in the urine was declining and declined relatively sharply in this small group of patients. They had 12 people who are enrolled in the trial, and they evaluated nine of them. The other three, there were circumstances [laughs] that prevented them from thinking that they should include them in the final trial outcome measure. When the final dot, if you will, of the press release were read, investors said, "No, I'm not focusing on that lower protein in the urine. What I'm really looking at is the fact that you're telling me that the reduction in the protein urine was only slightly better than what we saw in the placebo group." I think was 18.4% improvement vs. 18%. 

Jones: Basically no change, no difference there. And then they also came out with a second PR announcement on Tuesday. That's when you saw the stock jump up about 10%. But all in all, definitely not what investors were expecting to see.

For investors who are following the biotech space, anytime you see results where patients have been excluded from the results, you have to immediately ask, "If they were studying this particular drug in 12 patients, why is it that only nine were included in the end results? What happened to the others?" Sometimes it's a side effect issue. Sometimes there are other reasons. The intent to treat population is key to hone in on for any study. Look to see why certain patients were excluded. 

This was a study that ultimately was Phase II. Phase III, obviously, you're going to be expanding it to a much larger patient population, really looking for those confirmatory efficacy signals. I'm not that hopeful, in terms of Phase III, for OMS721 in this particular indication, for IGA. Are you, Todd?

Campbell: Well, not against the placebo. [laughs]

Jones: [laughs] Exactly!

Campbell: Here's the thing. Investors, if you're new to biotech investing, or if you just need a reminder, I mentioned previously in the show that the data that they had shared with us up until now had looked pretty good. One of the things that you have to understand, though, the data they had shared, they were using matched controls. It wasn't a placebo-controlled study. Now, that's OK in certain indications, where there's a really, really tremendous unmet need, and there's really just not enough of a patient population, and you don't want to deny anybody the chance of survival by putting them in the placebo group. You can do that. You can do a single-arm study. However, the single-arm study is only going to tell you so much. It's certainly not going to add a whole heck of a lot of conviction to the fact that a larger, later stage trial is going to read out positively. 

In one of their trials, the AHUS -- I'm abbreviating here because it's the longest name in history -- they only reported that three patients discontinued dialysis, which is great if you're in end-stage renal failure and you're on dialysis. Great, that's great news. Three others became eligible for a kidney transplant. That's great. But, again, we're only talking about six patients. And, again, that wasn't a placebo-controlled study. 

So, you have this situation where you've got these two other indications, not IGA but these two other indications in kidney disease, where Phase III trials are going on, where we're just not really sure what that data is eventually going to look at now that we have this IGA data. Then, you've got the IGA situation, and you've got management saying, "We're encouraged enough to continue, and we're going to move this into Phase III, we're going to use it to help design Phase III."

I think one of the other things that we have to recognize with this stock is, there was some hope that you could get accelerated approval in these indications. I'm not sure whether or not this latest data may create a roadblock to that happening. It's certainly not what they would have wanted to see. I think it may raise some questions at the FDA of how effective the drug is.

Now, the drug seems to be pretty safe. But, again, very small patient population. We'll need to see it in more patients just to make sure.

Jones: Definitely more data, for sure. And when you consider that there aren't any improved treatments in this particular indication that they're going after first, it certainly makes things hopefully a little bit easier. But then again, from the FDA's perspective, you still have to show that there are clear benefits. I think that'll be the big question mark for this drug. 

But, they've got, as you mentioned, multiple shots on goal. They are looking at those other indications. We'll have to wait to see what that shakes out to be. But, at least when it comes to this particular stock, they do have one approved drug on the market. You talked a little bit at the beginning about the rocky road it's had over the past year. It really comes down to the complex reimbursement side for this approved drug. It's called Omidria. It's a drug that's designed to basically maintain pupil diameter during eye surgeries, and also for pain. 

But with this Medicare reimbursement arrangement, things on the sales side actually took a nosedive. Todd, what can you tell us about that?

Campbell: When it got approval, I think was in 2015, it got reimbursement from Medicare, with pass-through status, meaning that it didn't have to be included in the bundled price. They could actually bill out separately for the use of the drug. That can actually be profitable for the surgery center that's doing the actual operation, because they're able to take a little bit of a margin on that with Medicare. 

That pass-through stats expired as of January 1st of this year. That means that now, you have to factor in the use of the drug in the cost of the procedure, and then get reimbursed by Medicare based on that pooled price. As a result, what ended up happening is, a lot of surgery centers didn't want to sacrifice the margin on the procedure, and they said, "We're just not going to use Omidria." As a result, sales fell off remarkably through the first nine months.

Now, on Monday or Tuesday, they came out with a second press release after the trial results, saying "Just letting you know, we have pass-through status back again." Medicare is allowing it for two years to get charged as pass-through status again. That begins on October 1st.

What's going to be really important to investors from here is to watch and see whether or not the surgery centers that no longer were using it come back and begin prescribing again; and, whether or not it becomes a meaningful driver of sales again. I think you could talk about $10-12 million in sales per quarter, which certainly would be welcome. If there's anything that concerns me about this stock, it's the fact that when I was reading through their 10-Q, they had a going concern question in there. 

For people or investors who aren't familiar, companies, when they are putting together all their numbers, they have to look and see what they expect will happen with their current business, and whether or not they think they can remain a going concern based upon the information that they have at the time that they put together all these numbers. If you look at Omeros' last 10-Q, they concluded that there is a substantial doubt of their ability to continue as a going concern through August 9th of 2019. That was based on $88 million in cash. Just as an aside, they're spending about 32 million per quarter. The situation for them is, I'm not going to say dire, because, Omidria's revenue could start kicking in again, and that will help push back that date. Other trial data could come out in these other indications that could excite somebody. Maybe somebody steps up and gives them a partnering deal that makes their balance sheet flush with cash again. But given the risks, again, this is another one to be on the sidelines on, in my opinion.

Jones: Totally agree, and maybe even more so here. I think there's a lot of take-home messages for biotech investors just within these two stocks themselves. No. 1, we've talked about, obviously, cash position is huge. Having partners that can help fund certainly helps. But ultimately, you're looking at potential capital raises that are going to be dilutive to current shareholders if they are able to do so. But with the stocks being so depressed, I just don't see that continuing much longer.

Also, too, placebo-controlled data. It's one thing to look at studies with those historical controls. But really, the gold standard is looking at data and having that placebo arm. Ultimately, what you want to see is that there is a statistical significance in outperforming the placebo. That should be the No. 1 thing that you look at when you go through press releases, when you're looking at these study results. Did it beat placebo? Was it statistically significant?

Todd, any other last final thoughts on what biotech investors can take away from these two stocks?

Campbell: Everybody's out there, if you're a shareholder listening, you've gotten beaten up. That's real money that's been lost. I say it over and over again on the show: diversify, diversify, diversify. When you're looking at clinical stage companies, a lot can and usually does go wrong. Make sure that you're protecting yourself and not going all-in on these stocks ahead of what are really binary events. 

I think that you nailed on the key things to pay attention to. When you're looking at press releases, always read them not through rose-colored glasses. Be willing to admit when an event that you thought was going to play out, the reason or the catalyst for owning the stock, when it's changed.

Jones: Absolutely. One final thought, Todd, you heard him say it: read those SEC filings! You'd be amazed what you can find in the SEC filings.

That is it for this week's Industry Focus. As always, people on the program may have interest in the stocks they talk about, and The Motley Fool may have formal recommendations for or against, so don't buy or sell stocks based solely on what you hear. This show is produced by Austin Morgan. For Todd Campbell, I'm Shannon Jones. Thanks for listening and Fool on!

Shannon Jones has no position in any of the stocks mentioned. Todd Campbell owns shares of CELG. His clients may have positions in the companies mentioned. The Motley Fool owns shares of and recommends CELG. The Motley Fool owns shares of Johnson & Johnson and has the following options: short October 2018 $135 calls on Johnson & Johnson. The Motley Fool has a disclosure policy.