An All-In Bet on a Game-Changing Diabetes Treatment

Leo is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Note: This article has been amended to correct the spelling of Afrezza. Motley Fool apologizes for the error.

In the biotech industry, there are generally two kinds of companies -- those that have established top and bottom line growth from approved products, and those that have pipelines of experimental treatments with a high potential for growth. Conservative investors favor the former, which include well-known companies like Pfizer (NYSE: PFE), Merck (NYSE: MRK) and Johnson & Johnson (NYSE: JNJ), while more speculative ones flock around the latter, hoping for big gains.

There are plenty of these speculative biotechs on the market, with no marketed products but plenty of promises in the pipeline. These companies generally have very little, if any, fundamental scaffolding and rely on investors to fuel the research and development costs of its experimental drugs. One textbook example is MannKind (NASDAQ: MNKD) -- which could change the entire world or fade away over the next few years.

One egg in MannKind’s basket
MannKind has risen nearly 250% over the past twelve months, although the company has no marketed products or reported revenue. Last quarter, MannKind reported an operating loss of $46.1 million, down from a loss of $36.6 million in the prior year quarter. The company’s quarterly earnings suffered from an unfavorable comparison to the prior year quarter, when it received a $13.3 million boost in income from one-time litigation gains.

However, due to share dilution over the past year, the company lost less on a per share basis, at $0.16, compared to the $0.23 loss it reported last year. This missed the consensus estimate by $0.02 per share. Yet, in the end, these quarterly numbers didn’t really matter, since MannKind investors are really only focused on the one egg in its basket -- its inhaled diabetes treatment, Afrezza.

Holding on while others have given up
Inhalable insulin first appeared in 2006 when Pfizer introduced Exubera. The technology allows diabetes patients to deliver insulin via the lungs into the bloodstream instead of regular injections. However, Exubera was discontinued a year later since it was too expensive to be cost effective. In addition, Exubera’s high delivery of insulin to the lungs (at 90%) resulted in a warning label that stated that the treatment should not be used by smokers or asthmatics.

At the time, other companies such as Alkermes/Eli Lilly and Aradigm/Novo Nordisk were also pursuing inhalable insulin, but those products were also discontinued by March 2008. Therefore, MannKind is the last man standing, holding onto a treatment that its industry peers have long since abandoned.

Why has MannKind insisted on sticking with Afrezza, spending years trying to win market approval, when its larger competitors have given up? The company has three major reasons for sticking with Afrezza: its cheaper price, which only costs 10% to 15% more than traditional insulin treatments, its higher efficacy than Exubera and injected insulin, and less adverse, shorter-lasting effects on the lungs. The pocket-sized Afrezza inhaler is also much smaller than Exubera’s inhaler.

MannKind completed two Phase III clinical trials of Afrezza during the quarter, and intends to release the results later this summer, along with an application for an FDA approval. An FDA decision on Afrezza is expected to come in the first half of 2014.

MannKind has one other inhalable diabetes treatment, MKC253, in initial clinical studies, and two oncology treatments, MKC1106 and MKC204, in its pipeline. However, these treatments are years away from possible approval and should not be considered reasons to own the stock.

More concrete alternatives
Although Afrezza sounds promising on paper, there are some other companies with more promising prospects. Johnson & Johnson won a major victory in March when its orally administered SGLT2 (sodium glucose cotransporter) inhibitor, Invokana, was approved by the FDA. SGLT2 inhibitors are a new class of drugs that help diabetes patients excrete more glucose through urine to stabilize blood sugar levels, reducing the amount of daily insulin injections for type 2 diabetes patients.

Invokana’s success showed the rest of the pharmaceutical industry that SGLT2 inhibitors, not inhalable insulin, was a more viable way to expand diabetes treatments. To compete with Johnson & Johnson, Pfizer teamed up with its rival Merck to develop ertugliflozin, its own SGLT2 inhibitor. Ertugliflozin is currently ready for Phase III trials, and could be marketed as a standalone drug or in combination with other orally administered diabetes drugs, such as metformin and sitablipin (Merck’s Januvia), which counteract high levels of blood sugar. Other major competitors vying for a piece of the SGLT2 market include Bristol-Myers Squibb and AstraZeneca.

SGLT2 inhibitors are gaining traction in the diabetes market and reducing the amount of necessary insulin injections rather than replacing them completely, as MannKind seeks to do.

A Foolish final thought
Investing in MannKind is a classic high-risk, high-reward scenario. The entire company is built upon the hope that Afrezza will be the game-changer that eliminates the need for insulin injections once and for all. Although there is positive data to back the company’s hopes, it is unknown if the treatment will hit unforeseen safety issues in the future which could jeopardize its approval by the FDA.

If the FDA rejects Afrezza, the company will face a major crisis, since its cash and equivalents have declined 71.4% over the past three years to $28 million. Its free cash flow came in at $(121.7) million last quarter and it currently has $364.8 million in debt.

MannKind is a stock for investors who truly believe that Afrezza will revolutionize diabetes treatments. If it can, insulin injections could become a thing of the past and $7 a share will seem dirt cheap in retrospect. However, conservative investors who can’t stomach the risk of owning a stock which lacks fundamental support might should stick with more established companies like Johnson & Johnson, Pfizer, and Merck instead.

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Leo Sun has no position in any stocks mentioned. The Motley Fool recommends Johnson & Johnson. The Motley Fool owns shares of 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. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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