Approval, Baby!

It's been a long time coming, but Discovery Laboratories (Nasdaq: DSCO  ) finally got Surfaxin, its preventative for respiratory distress syndrome, approved by the Food and Drug Administration. To put in perspective how long investors had to wait:

  • Its first rejection was called an "approvable letter" -- this was before the FDA changed the name to a "complete response letter" … in 2008.
  • Discovery labs got one of those too, back in 2009. In fact, there were in all four previous rejections of Surfaxin for various issues, mostly of the manufacturing sort. Fifth time's the charm, I guess.
  • Premature babies that were treated in the pivotal clinical trial supporting the application are now in elementary school.

But that's all water under the bridge; current investors should be focused on the future.

Surfaxin is a synthetic surfactant that will compete with animal-derived surfactants to prevent RDS in premature babies. Synthetic or human-based products typically replace animal-based products because there's worry, however slight the chance, that animal based-products might introduce a foreign substance into the body.

But the conversion isn't necessarily quick. ZymoGenetics had a hard time getting past King Pharmaceuticals' cow-derived Thrombin-JMI and Johnson & Johnson's (NYSE: JNJ  ) Evithrom when it introduced its human-blood-clotting drug, Recothrom.

Likewise Discovery Labs will be going up against a heavy hitter in Abbott Labs' (NYSE: ABT  ) Survanta. There's also Cornerstone Therapeutics' (Nasdaq: CRTX  ) Curosurf and ONY's Infasurf, which was previously marketed by Forest Labs. Surfaxin will have some pricing power over the others, but might be better off pricing close to the entrenched leaders to bring customers on board quickly. Maximizing the number of accounts is also critical because Discover Labs has two other RDS drugs in the pipeline: an easier-to-store version of Surfaxin and Aerosurf, an aerosol surfactant that wouldn't require intubation or mechanical ventilation for administration.

Because the drugs are used in hospital neo-natal units, it'll be relatively cheap to market Surfaxin. Together with Afectair, which Discovery Labs got approved last month, the company plans to spend just $12 million to $13 million annually to sell the two products.

Of course Discovery Labs had only $10 million at the end of the year, so it'll have to raise some cash to get the two products launched this year. The company has multiple potential sources -- exercising of warrants, a Committed Equity Financing Facility, an "at-the-market" program, a secondary offering -- all of which are dilutive to shareholders. There's also the potential to license the ex-U.S. rights to its products, although Discovery Labs wouldn't exactly be negotiating from a strong position given its financial conundrum.

Normally it's wise to wait to purchase shares until after a company's financing, but since we all know the dilution is coming, it looks to me like it's already priced in. Let's just hope Discovery Labs can turn a profit before those clinical trial kids hit high school.

The surfactant market is pretty small, but Fool analysts have discovered a much larger one. Find out what it is and how to profit from it in our free report, "The Next Trillion-Dollar Revolution." Get your free copy by clicking here.

Fool contributor Brian Orelli holds no position in any company mentioned. Click here to see his holdings and a short bio. The Motley Fool owns shares of Johnson & Johnson and Abbott Laboratories. Motley Fool newsletter services have recommended buying shares of Johnson & Johnson and Abbott Laboratories; and creating a diagonal call position in Johnson & Johnson. 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. The Motley Fool has a disclosure policy.


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