Is Alkermes plc Stock Undervalued?

In simple terms, what Alkermes plc (NASDAQ: ALKS  ) is attempting to do is not easy. Few companies manage to successfully transition from being a licensor of drug formulation technologies to a proprietary drug developer and likewise few independent biotechs successfully take on the challenges of developing drugs for difficult-to-treat conditions like schizophrenia and depression. Alkermes has strong technology and intellectual property in its favor, though, and I for one would not underestimate the long-term potential.

Will long-acting antipsychotics catch on?
While antiopsychotics can improve many of the symptoms of schizophrenia, serious and unpleasant side effects make patient compliance a real problem. That has in turn led to the development of long-acting injectables (or LAIs) that treat the symptoms of the disease in a more compliance-friendly way.

This has largely built the business thus far for Alkermes, as the company generates close to 40% of its revenue from royalties on Johnson & Johnson's (NYSE: JNJ  ) Risperdal Consta and Invega Sustena. Alkermes' proprietary extended release technology has played an important role in these drugs becoming a nearly $3 billion business, with Alkermes getting less than 10% of the sales as its payment.

Now Alkermes is trying to get into the game with a wholly owned compound based on the blockbuster drug Abilify. Known as aripiprazole lauroxil, this drug has successfully made its way through pivotal testing, where it showed strong efficacy (a statistically significant reduction in PANSS scores of 10.9 and 11.9 depending upon the dose) and a surprisingly short period between the start of the therapy and the reduction in symptoms.

Alkermes will be filing for FDA approval relatively soon and will likely get FDA approval around mid-2015. At that point, the company will be entering the U.S. market on its own, where it will compete with Johnson & Johnson and Otsuka/Lundbeck, (NASDAQOTH: HLUYY  ) which together market another LAI Abilify Maintena.

Right now, LAI use in treating schizophrenia is between 5% to 10% in the U.S., a rate well below some European countries. Doctor/patient awareness is still an issue and both Johnson & Johnson and Otsuka/Lundbeck continue to invest marketing dollars into awareness campaigns. While this represents a challenge for Alkermes, the good news is that Otsuka and Lundbeck may be warming a seat for them – Abilify Maintena and aripiprzaole lauroxil are similar in efficacy, but Abilify Maintena requires a somewhat complex reconstitution process (aripiprazole lauroxil will come in pre-filled syringes), has fewer administration options (gluteal versus gluteal/deltoid), and has been priced at a 25% premium to Invega Sustenna.

I'm bullish on both Abilify Maintena and the Alkermes drug. While I think Alkermes has a better drug, Otsuka/Lundbeck do have the advantage of a headstart in the market (and about 10% share). More importantly, though, I think that there is room for both in a market that is still significantly under-penetrated in the U.S. Longer term, Alkermes is also developing a two-month formulation of this drug.

Other pipeline opportunities offer strong risked upside
Assuming that Alkermes' clinical trials go to plan, proprietary products could be around 50% of the company's revenue in 2020. Johnson & Johnson is likely to remain the largest source of revenue until then, with companies like Biogen Idec also contributing to royalty revenue. AstraZeneca's Bydureon remains a potential source of risked upside, but this once-weekly GLP-1 drug has apparently plateaued against Novo Nordisk's once-daily version and incoming competition from Lilly and a future long-acting version from Novo Nordisk don't bode well.

The lead pipeline compound still in testing is ALKS-5461, a combination of buprenorphine and ALKS-33 and a once-daily opioid receptor modulator that has shown encouraging efficacy as a treatment for major depressive disorder. Phase II studies showed strong placebo-adjusted reductions in the Hamilton Rating Scale for Depression, the MADRS, and the CGI-S endpoints, though an inverse dose response (smaller doses worked better) had many scratching their heads.

Alkermes is moving forward with a three-trial, 1,500-patient pivotal clinical program and has designed these studies with a sequential parallel comparison design that has been shown to significantly reduce the high placebo response rates normally seen in depression studies. Incidentally, should ALKS-5461 make it through phase 3 development, it will compete with a new depression drug from Lundbeck – one of the few recent additions to the branded depression drug market.

Beyond ALKS-5461, Alkermes is developing ALKS-3831 (an antipsychotic that appears to have fewer/lesser side effects), ALKS-8700 (an MMF prodrug similar to Biogen's Tecfidera), ALKS-7106 (an oral opiod analgesic), and RDB-1419. This last drug is an interesting new opportunity for Alkermes, not only is it a cancer immunotherapy (targeting IL-2), it is Alkermes' first biologic product.

The bottom line
There are sound reasons to be bullish on Alkermes for the long-term. On the technology side, extended release injection formulations using microsphere encapsulation, NanoCrystal technology, oral controlled release technologies, and LinkeRx (a proprietary linker-tail chemistry) can all support a continuous process of pipeline refreshment with well-characterized pharmaceutical agents "made new again" through enhanced delivery. Alkermes also has the benefit of an Irish address (low taxes in the future) and an initial market opportunity in LAIs that will only require about 150-200 sales reps based on Johnson & Johnson's and Otsuka/Lundbeck's experience.

I see almost 50/50 value between Alkermes' existing business (including the LAI antipsychotic) and its pipeline. There are risks that the LAI antipsychotic market never develops as it seems it should, and/or that Johnson & Johnson and Otsuka/Lundbeck prove to be more formidable competitors. Likewise there is always development risk with the pipeline. Even with those risks, though, these shares look undervalued today to me.

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