Biogen's Drop Looks Like Overreaction

Tecfidera's slowdown, mixed data for aducanumab in Alzheimer's disease, and two smaller pipeline disappointments (Tysabri in stroke and neublastin in sciatica) have put pressure on

Biogen reported disappointing second-quarter results and lowered its guidance for the full year, largely because of lower demand for Tecfidera in the United States and a weaker pricing environment in Europe. We think the competitive landscape in multiple sclerosis has been intensifying for some time, and Tecfidera safety concerns (two cases of progressive multifocal leukoencephalopathy in the past few months) and tougher European price negotiations (evidenced by the recent price cut in Germany) have exacerbated the situation. We think Tecfidera still has room for additional patient growth outside the U.S., but U.S. growth could be more limited, and we're lowering our peak sales estimate from $6.3 billion to $4.8 billion in 2018.

However, we're holding steady on our estimates for Biogen's two key pipeline programs, aducanumab and anti-LINGO, and recent prices appear to be giving the firm little credit for novel pipeline programs. Anti-LINGO data is expected in mid-2016, and while this is a high-risk program, sales potential could approach $10 billion if approved. We will have to wait until 2018 to see Phase III data for aducanumab, but midstage data from two programs partnered with Eisai should have data in 2016.

Competition in MS is heating up, but we still think Biogen has a dominant portfolio that can withstand this pressure. Novartis NVS and partner Momenta MNTA launched Glatopa, their generic version of Teva's Copaxone, in June, and while this doesn't appear to be pulling patients away from Biogen therapies, this could eventually have an impact on pricing for Biogen's Avonex and Plegridy, and we've slightly lowered our pricing assumptions for these products. Roche's RHHBY positive data for high-efficacy injectable ocrelizumab (to be filed in 2016) is in some ways a positive for Biogen, which has a profit share on future U.S. sales of the drug, and we've raised our assumed probability of approval to 75%. However, ocrelizumab could be a net drain if these patients are being pulled away from Tysabri. Therefore, we've slightly lowered our Tysabri estimates. There could be upside to our Tysabri sales estimates if Phase III data in secondary progressive MS is positive later this year (we assume a 30% probability of approval in our base case for this tough-to-treat indication).

Outside MS, Biogen has multiple programs that help offset this pressure. In Alzheimer's, we think recent data for the 6-milligram dose of aducanumab was disappointing, as we continued to see safety concerns (brain swelling) but did not see consistently better efficacy than the 3 mg dose. However, we think overall data from the trial points to a clear benefit from higher doses and sets the firm up well as it heads into large Phase III studies. We continue to assign a 50% probability of approval and see potential for $5 billion in sales by 2024. Also, the spinal muscular atrophy program (partnered with Isis) should generate Phase III data in late 2016 or early 2017, and we're bullish on its potential in this rare pediatric indication. Finally, we've added in the contribution for Biogen's European biosimilar sales (biosimilar Remicade and Enbrel have already been filed with regulators), as well as smaller long-term revenue contributions from an emerging gene therapy platform supported by recent collaborations.

Portfolio Can Withstand MS Pressure Biogen enjoys growing profitability from several multiple sclerosis products and cancer drug Rituxan. We think Biogen's specialty-market-focused drug portfolio and pipeline create a wide economic moat, and Tecfidera increases the firm's dominance in MS.

Biogen's strategy has its roots in the 2003 merger of Biogen (Avonex) and Idec (Rituxan). Rituxan's market penetration is already high, and patents in the U.S. (where Biogen derives its profit share from Roche) expire in 2018. However, we think a subcutaneous Rituxan as well as novel antibody Gazyva will allow for extended oncology revenue growth. Avonex generates $3 billion in annual sales and remains the leading MS interferon therapy. Biogen acquired full rights to MS antibody Tysabri from partner Elan, and sales reached almost $2 billion in 2014. A diagnostic test can isolate patients with the lowest PML risk, offering superior efficacy for the 50% of patients who have not been exposed to the JC virus.

Based on a strong launch and solid safety and efficacy data, we expect oral MS drug Tecfidera to see peak sales approaching $5 billion. Two recent cases of PML and European pricing pressure have weighed on Tecfidera's growth. However, we think Tecfidera's pricing power will remain strong in the U.S., while older products like Avonex could see pricing power erode now that generic Copaxone has launched. We're less enthusiastic about sales potential for a long-acting version of Avonex (Plegridy), approved in 2014, and high-efficacy product Zinbryta, which has significant side effects but could reach the market in 2016.

Outside MS, we see more uncertainty, but potential to offset MS pressure. Eloctate and Alprolix in hemophilia A and B launched in 2014; the $6 billion hemophilia A market looks lucrative, but we expect entrenched competitors like Baxter's BAX Advate to limit potential. However, the spinal muscular atrophy program with Isis looks likely to reach $1 billion in peak sales. Biogen's LINGO program (reversal of disability in MS) and BIIB037 (Alzheimer's) could both see multi-billion-dollar peak sales, but risk of failure is high.

Strong R&D Strategy Biogen has achieved strong profitability on the success of three marketed products in the fields of oncology and neuroimmunology, and the introduction of Tecfidera secures the firm's dominant share of the MS market. We think barriers to entry for potential biosimilars to Biogen's products are high, and Biogen has a strong R&D strategy for maintaining its leadership in MS, where pricing power is strong, patient need for novel therapies is high, and the pipeline has been particularly productive. These factors contribute to the firm's wide moat. Returns on invested capital, which we think will average above 20% during our 10-year explicit forecast period, easily exceed our 7.5% estimate of Biogen's cost of capital.

Rituxan remains the standard of care in several forms of hematological cancer, and Biogen's margins are boosted by collaboration revenue received from partner Roche. Biogen's Avonex is the leading interferon therapy in MS, due to its long-term safety record and relatively convenient once-weekly injections. Biogen's third drug, MS drug Tysabri, is achieving blockbuster sales based on outstanding efficacy despite rare but serious side effects, and we think efforts to target the drug to patients least likely to experience side effects will allow the firm to retain current sales levels despite novel products with cleaner safety profiles. The rest of Biogen's MS pipeline is also strong; we expect newly launched Tecfidera to achieve peak sales approaching $5 billion globally, based on its convenient oral administration and relatively strong efficacy and safety profile.

All three of Biogen's current blockbusters are biologics, and while biosimilar competition is a looming threat, we think any erosion of sales of these products would be slowed by the significant manufacturing and development costs that biosimilar makers are expected to incur, limiting the number of competitors and their ability to compete on price. Data quality may also be an issue with biosimilars; the first application for an Avonex biosimilar was rejected based on insufficient efficacy, and two Rituxan biosimilars have been delayed in development. Tysabri is likely to be a lower-priority target, given the risk monitoring and potentially serious side effects in certain patients.

Profitability Depends on 4 Key Blockbusters If future Gazyva data does not support superiority over Rituxan in key hematological oncology indications like non-Hodgkin's lymphoma, revenue from the Roche collaboration (which feeds directly to the bottom line and boosts margins) could begin to decline as biosimilars enter the U.S. market as early as 2018. Tecfidera's U.S. launch is beginning to see slower growth, partly due to concerns about two recent cases of PML. Avonex and Tysabri sales are still being adversely affected, as patients are switching from one Biogen product to another. Biogen delayed its Tecfidera launch in Europe as it awaited a decision on regulatory exclusivity; while Biogen received 10-year protection in late 2013, similar oral drugs from XenoPort XNPT, Alkermes ALKS, and Forward Pharma FWP could still compete with Tecfidera globally by the end of the decade. In the meantime, pricing pressure in Europe has been more severe than Biogen anticipated.

Unless Tysabri sees positive data for secondary progressive MS in 2015, it may be difficult to see new patient growth, given the number of new therapies entering the market (including Tecfidera). While Plegridy is likely to help Biogen maintain its lead in the interferon market, we expect generic Copaxone to weigh on sales of injectable MS therapies. Biogen's MS portfolio has enjoyed tremendous pricing power in the U.S., and insurers could begin to find ways to put pressure on future price increases as more competitors reach the market.