A Painfully Protracted Partner

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Mergers and acquisitions are great for biotech companies when they're getting taken out for a premium. But when it's their partner that's being acquired, uncertainty and delays tend to be more prevalent than the popping of champagne corks.

Witness Depomed (Nasdaq: DEPO  ) , which announced yesterday that Abbott Labs (NYSE: ABT  ) doesn't want to launch its post-herpetic neuralgia (PHN) drug, DM-1796. Depomed's original partner, Solvay Pharmaceuticals, was purchased by Abbott.

It's not that surprising that a different management team would come to different conclusions about the economics of a drug.  After Valeant Pharmaceuticals (NYSE: VRX  ) merged with BioVail, it killed off half a dozen programs BioVail was working on.

But Abbott closed the Solvay deal nearly a year ago, so it's a little surprising that it would make the decision now. Especially because the duo is just a week and a half away from getting a response from the Food and Drug Administration for their marketing application for DM-1796.

Nothing material seems to have happened that would make you think DM-1796 is less valuable now than when Abbott took over. If anything, it's more valuable after GlaxoSmithKline (NYSE: GSK  ) and XenoPort's (Nasdaq: XNPT  ) Horizant failed to gain FDA approval for treating restless leg syndrome last year. Both DM-1796 and Horizant are extended-release formulas of Pfizer's (NYSE: PFE  ) Neurontin, which is approved to treat PHN, the pain associated with having shingles.

It's possible this is just a ploy by Abbott to try to renegotiate the contract. Depomed has pretty nice terms, being due royalties of 14% to 20% on product sales, with Abbott required to spend $85 million to $135 million on marketing.

So where does this leave Depomed? At this point, Depomed plans to enter mediation, which management hopes won't take more than three to eight weeks.

It can't just take back DM-1796 and market it on its own; the small drugmaker doesn't have those kinds of resources. The most ideal outcome would be for Abbott to pay Depomed to take back DM-1796 and then for Depomed to out-license the drug again. It has experience negotiating the return of drugs, having taken back Glumetza from King Pharmaceuticals (NYSE: KG  ) and ProQuin XR from Esprit Pharma. In the latter case, it was able to find another partner in Watson Pharmaceuticals to take over some marketing responsibilities for ProQuin.

Today's knocked-down price for Depomed could be a good entry point for investors, but only if you're confident that the drug will pass the FDA and that management will be able to negotiate a deal with Abbott and/or some other drugmaker. This isn't one to jump into with limited due diligence. Fortunately, you have a week before the FDA makes up its mind sometime around Jan. 30.

Ilan Moscovitz explains why cheap isn't always best.

Pfizer is a Motley Fool Inside Value selection. GlaxoSmithKline is a Motley Fool Global Gains selection. The Fool owns shares of and has written covered calls on GlaxoSmithKline. Motley Fool Alpha owns shares of Abbott Laboratories. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.

Fool contributor Brian Orelli, Ph.D., doesn't own shares of any company mentioned in this article. The Fool has a disclosure policy.

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  • Report this Comment On January 20, 2011, at 7:57 AM, clovisia wrote:

    Great article. As you have pointed out, Depomed is no stranger to the current situation surrounding the deal involving ABT and DM 1796. DEPO has successfully taken back licensed drugs from its partners and re licensed them to new partners who have very successfully commercialized the drug (Santarus is selling Glumetza which was taken back by DEPO from King Pharma). Fortunately for Depomed, their senior management is extremely capable and well informed.guided by highly competent inside and outside counsel. They have ample experience negotiating license deals with deals with Big Pharma. In this case with ABT, I have no doubt the contract with Solvay (who subsequently merged with ABT) is airtight. Its highly doubtful that ABT has any wiggle room to avoid its obligations concerning the launch and commercialization of DM 1796. Acording to Depomed, these launch and commercialization obligatins amount to be between approx. $85MM-135MM. Apparently, the approval milestones of between $35MM-$60MM are NOT in dispute. As an asie, this makes me think that the issue with ABT may be one of a labeling issue, but that is pure conjecture. It would/could make sense in this instance, given that labeling is an issue of importance (hence the approval milestone payments negotiated in advance are based on a sliding scale which is a function of the labeling). Nonetheless, I think ascribing ABT's behavior to a labeling issue at this point is a low probability. Most likely, they either want to renegotiate the contract terms or they have determined that the drug no longer has a strategic fit within th company (i.e.-there are better opportunities away). Who knows. The key to Depomed stock price in the near term (and we are talking VERY near term-Jan. 30th) is the FDA PDUFA date. Approval will drive the stock price higher. The odds of Approval appear to be decent-quite decent-for a variety of reasons, not least of which is the unmet need that DM1796 provides to PHN sufferers in the form of reduced side effects from taking the drug. Additionally, we know from the recent conference call that PDUFA decision will most likely not be delayed (according to Carl Pelzel), the drug has been granted Orphan Drug Status (after much lobbying (time and money) by ABT during the approval process, an importantly, reading the tea leaves of the current situation indirectly implies that ABT believes that the drug will gain approval-otherwise why all the drama?

    If approved, Depomed is in an excellent position. With approx. 75MM of cash already on the books it would stand to receive another Approx 50MM upon approval (est. milestone approval from ABT) and , if ABT really wants to jettison the drug back to DEPO, a settlement in the amount of say a minimum of 80MM should be paid by ABT to Depomed to break the contract. Depomed can then choose among a variety of options thereafter, but a likely path forward would be to simultaneously pursue new partnership discussions with a global parner (for US and worldwide rights) while also taking steps to launch the drug internally (through a contract sales force) to a niche specialty submarket (say neurology), so as to expedite as best as possible the launch of th drug into the marketplace and mitigate delay. A re licensing of the drug at this stage will generate substantial upfront payments by the new partner, especially since this would now be a presumably (big assumption) an APPROVED drug, in addition to even higher royalties than previously negotiated with ABT. Thus, in this scenario, Depomed could find itself with substantial amounts of cash, say up to almost $4.00 in cash per share-which means that at current levels (trading at 5.66) one is only paying $1.66 per share for the entire franchise of Depomed outside of the cash. That is what I call very cheap. Granted, many pieces of the puzzle have yet to be known, but th best thing that can happen to Depomed stock in the intermediate term is to have ABT return the drug (Assuming Approval). Approval is the key to the value, not Abbott. There are many other capable and willing partners who will have an interest in distributing the drug.

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