RedHill Biopharma Ltd (RDHL)

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Redhill's Dilution Remedy, A Work In Process

Aug. 16, 2017 12:37 PM ET|1 comment| About: Redhill Biopharma Ltd. (RDHL), Includes: CXRX, SGYP
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Redhill Biopharma has a seemingly awesome pipeline of promising therapies, either ready to market or in late stages of development.

Redhill Biopharma's recent Business Update confirmed its development plans announced at its Q2 2017 CC.

Redhill Biopharma has $51 million of cash on hand.

Redhill has a strategy to mitigate potential dilution that is a work in process.

Redhill's pipeline is filled with attractive therapies but still has hurdles to overcome.

Introduction

Redhill Biopharma (RDHL) has accumulated a powerful pipeline of late stage therapies. It is at the stage in its life where young companies with great potential often need to raise funds by repeatedly issuing stock in the secondary market. Redhill has devised and is pursuing an ambitious strategy to fund its growth while minimizing such dissolution.

Its goal is to arrange deals to market compatible therapies to those in its development pipeline. In so doing, it plans to build a powerful marketing capability while earning cash to fund its operations.

The premise of this article is that Redhill is an attractive investment because of its strong pipeline of developing therapies and its modest market cap of ~$140 million. At this point, its marketing operations seem to be more of a cash drain than a cash generator.

Redhill Biopharma has a seemingly awesome pipeline of promising therapies, either ready to market or in late stages of development

Redhill is a company whose pipeline grabs one's attention. It consists of two GI therapies that are being marketed and three GI therapies undergoing phase lll studies. There is also a Rizaport which has received MAA approval under the European decentralized procedure and is working through a CRL in the USA.

The two GI therapies being marketed, Donnatal and EnteraGam, are products of recent deals with Concordia International Corp. (NASDAQ: CXRX) for Donnatel and Entera Health for EnteraGam. I urge investors to recognize that Donnatal and EnteraGam belong in different conceptual slots from the remainder of Redhill's pipeline as I will explain below.

Redhill Biopharma's recent Business Update confirmed its development plans announced at its Q2 2017 CC

Guy Goldberg, who has been with Redhill since 2012, currently serves as Redhill's Chief Commercial Officer. His presentation at Redhill's Q2 2017 CC announced Redhill's grand strategy to ready itself to market its bumper crop of phase lll therapies, once they receive FDA approval, as follows:

RedHill manage[s] a fully functional commercial operation. This is an important transformation for RedHill from being a GI development company to being a fully integrated revenue-generating GI-focused specialty pharma company. Our U.S. operation is intended to set the stage for the potential launch by the RedHill of its late-clinical stage GI products, still in development if they are approved and to fulfill our goal of being able to take a product from the clinic all the way to the patient. (emphasis added)
Goldberg goes on to explain an added wrinkle that Redhill has adopted. In additional to the conventional activities of a young pharma company, it has taken on a side business which it believes to be complementary. As Goldberg goes on:

In the past half year, we have moved quickly and methodically to identify two products to promote. In January and April this year, we announced an exclusive U.S. co-promotion agreement with Concordia for commercial GI drug Donnatal and an exclusive U.S. promotion agreement with Entera Health for commercial GI product EnteraGam. We have also moved quickly in this time period to build a first-class commercial infrastructure. We are very proud of this new team, they are experienced and motivated and we look forward to doing great things together.
Redhill Biopharma has $51 million of cash on hand

Redhill is an Israeli company. That takes some getting used to for me in my investigation. For US companies, I often rely upon the 10-K and 10-Q for comprehensive and reliable information. As a foreign company, Redhill files no 10-K, rather it files a 20-F, referred to as an "Annual and Transition Report (foreign private issuer)".

Similarly, Redhill files no 10-Q. It does file periodic Forms 6-K, which seem to be roughly equivalent to 8-Ks as filed by US companies. I suspect that much of the same types of information is available. However, with the 10-Q issued every quarter, I know where I can find the latest authoritative information in one place.

This is by way of excusing my exclusive reliance on Redhill's CC for its latest financial information. The one figure that stands out from the Q1 2017 CC is Redhill's net cash of $51 million. Intuitively, this seems light to me for a company that is operating multiple late stage trials all the while trying to set itself up to market sundry therapies as described by Mr. Goldberg above.

CFO Chorin explained in the Q2 2017 CC how Redhill's trial expenses coupled with its marketing build-out are increasing operating loss outlays by substantial margins. The cash burn from operating activity during Q2 2017 was $9.7 million, an increase of $3 million or 70% from Q2 2016. He offered no guidance as to what to expect for future quarters in terms of overall cash burn.

It seems that Redhill has a cash operating path for another year. However, unless it is able to pare expenses or increase revenues, it will start to bump up against an uncomfortable lack of cash reserves as the year progresses.

In the section of its 20-F captioned, "Risks Related to Our Financial Condition and Capital Requirements", Redhill describes how existing shareholders will face potential dilution if its strategy fails to generate sufficient cash for it to maintain its operations. Investors in young biotech companies, and some that are not so young, should be fully familiar with that unpleasant drill.

Redhill has a strategy to mitigate potential dilution that is a work in process

Redhill's pipeline has advanced to an exalted level for an incredibly thrifty accumulated deficit totaling ~$89 million as of 12/31/16, according to its 20-F. By way of comparison, Redhill's GI competitor Synergy's (SGYP) accumulated deficit as of 12/31/16 was >$582 million.

I say this to acknowledge that Redhill's management has proved itself in its overall efficiency of operation. That said, its foray into marketing of Donnatel and more recently EnteraGam appear ill-advised.

Redhill views these marketing efforts as its special sauce which will help it to generate additional cash while it goes through the expensive process of developing its own therapies. I see them as an unwarranted diversion that may well not only fail in its financial goal but will also have a tendency to tarnish its brand.

Neither Donnatel nor EnteraGam has the pedigree of FDA approval for both safety and efficacy. Redhill's Donnatal deal is with a subsidiary of Concordia International, a company with a decidedly dicey future as is clear from several SA articles, such as "Concordia International: Even The Knife Catcher Has Doubts About Wielding This One" and "Concordia Looking More And More Like An Eventual Zero".

As for Donnatal itself, it does not seem to be the type of therapy with which you want to associate your brand in the minds of the nation's GI specialists. It is not covered by most medicare plans. It requires prior authorization under several formularies. The following excerpt from a 2013 Kaiser Permanente newsletter is instructive:

Some patients are reluctant to take therapies which carry a stated risk of death as a rare side effect. Donnatal is one such therapy, suggesting that reimbursement issues may not be its only challenges.

Similarly, EnteraGam is outside the norm for prescription therapies. An article announcing Redhill's deal to promote EnteraGam describes it as follows:

EnteraGam is a serum-derived bovine immunoglobulin/protein isolate (SBI) that binds microbial components, such as toxic substances released by bacteria, that upset the intestinal environment. Binding helps to prevent them from penetrating the lining of the intestine, which may contribute to chronic diarrhea or loose stools in people with specific intestinal disorders, such as IBS-D, inflammatory bowel disease (IBD), and human immunodeficiency virus (HIV)-associated enteropathy (disease in the intestine).

As a medical food, EnteraGam is regulated by the U.S. Food and Drug Administration under the Orphan Drug Act; because it is not a drug, it is not subject to FDA approval.
This article goes on to state that its efficacy is supported by several studies according to company reports. It is not, however, approved by many medicare plans. It also faces formulary issues of non-coverage.

I have to ask myself, has Redhill been attracting the highest quality sales reps with this motley crew of therapies? I think not.

Redhill's pipeline is filled with attractive therapies but still has hurdles to overcome

There can be no doubt that Redhill is all dressed up ready to commercialize its US GI products when, and if, they are approved. And when, you might ask, shall we expect a decision on whether such approval is forthcoming?

According to Redhill's August 10, 2017 Semi-Annual Business Update, its GI therapy which stands closest to approval is Bekinda (RHB-104) for acute gastroenteritis. Redhill has announced positive phase lll topline results for this therapy. Redhill expects an October 2017 announcement of the results of a planned FDA Type B meeting discussing "the potential path forward to marketing approval".

If all goes well, this should give Redhill's sales force a Redhill product to peddle towards the end of this year or early in 2018.

Conclusion

In theory, I applaud Redhill for its ambitious effort to generate extra revenue, while at the same time developing a sales team to promote its numerous GI candidate therapies. As implemented to date, I am concerned that its efforts in this regard will exacerbate its cash burn, tarnish its brand with GI specialists and tend to saddle it with less accomplished sales reps.

Certainly, its CFO, during his Q2 2017 CC presentation, was clear as to how expensive this undertaking was. He stated:

Selling and marketing and business development expenses for the second quarter of 2017 were $3.4 million, an increase of $3 million compared to our $400,000 in the second quarter of 2016, comprised only of business development expenses. The increase was mainly due to the establishment and advancement of the Company's U.S. commercial operations.
The offsetting revenue of ~$.5 million only reflects the very beginning of operations, so it is too early to judge the overall financial aspect. During its CC, Redhill declined several analyst invitations to volunteer guidance on this subject.

The bottom line is that Redhill has done a great job in its core activities of developing therapies and shepherding them through clinical trials. In so doing, it has a powerful pipeline of substantially derisked GI therapies vying for FDA approval over the next several years.

Its efforts to market third-party therapies appear to be expensive diversions at the current time. Luckily, however, the positives associated with this name appear to outweigh any negatives arising out of its deals.

Disclosure: I am/we are long RDHL SGYP.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: I may buy or sell shares in RDHL and SGYP over the next 72 hours.

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