WHATS NEWs1.q4cdn.com/460208960/files/May 7, 2012_T DND... · This new coverage and KPA's ... by the improved formulary coverage at United Health and the strong January 2012 sales

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Cipher Pharmaceuticals Inc. (DND-TSX)

Current Recommendation Outperform

Prior Recommendation N/A

Date of Last Change 01/03/2012

Current Price (05/07/12) $1.10

Target Price $2.25

UPDATE

SUMMARY DATA

Risk Level Average,

Type of Stock Small-Value

Industry Med-Biomed/Gene

We continue to be optimistic on Cipher Pharmaceuticals Inc. We are maintaining our Outperform rating and $2.25 price target, or a market capitalization of $50 million. Cipher currently trades with a market capitalization of only $30 million.

Based on our model, the stock is currently trading below the net present value of the cash flows from Lipofen and ConZip / Durela, plus the cash on hand. That means investors can purchase the stock today and get the CIP-Isotretinoin product, a potential $200 million opportunity in the U.S., for free.

Our DCF model calculates fair-value at $2.25 per share. We would be buyers of the stock at today s price.

52-Week High 1.35

52-Week Low 0.65

One-Year Return (%) 14

Beta 1.22

Average Daily Volume (sh) 6

Shares Outstanding (mil) 24.3

Market Capitalization ($mil) 30.1

Short Interest Ratio (days) N/A

Institutional Ownership (%) N/A

Insider Ownership (%) N/A

Annual Cash Dividend $0.00

Dividend Yield (%) 0.00

5-Yr. Historical Growth Rates

Sales (%) N/A

Earnings Per Share (%) N/A

Dividend (%) N/A

P/E using TTM EPS N/A

P/E using 2012 Estimate N/M

P/E using 2013 Estimate N/A

Small-Cap Research

scr.zacks.com

111 North Canal Street, Chicago, IL 60606

May 7, 2012

Jason Napodano, CFA 312-265-9421

[email protected]

DND: Business Tracking Nicely. CIP-Iso PDUFA Set For May 2012. Outperform.

ZACKS ESTIMATES

Revenue (millions of $)

Q1 Q2 Q3 Q4 Year (Mar) (Jun) (Sep) (Dec) (Dec)

2011 0.7 A 0.7 A 1.1 A 1.0 A 3.6 A 2012 1.8 A 5.3 E 0.8 E 1.3 E 8.9 E 2013 8.6 E 2014 13.2 E

Earnings per Share (EPS is operating earnings before non recurring items)

Q1 Q2 Q3 Q4 Year (Mar) (Jun) (Sep) (Dec) (Dec)

2011 -$0.05 A -$0.02 A -$0.01 A -$0.02 A -$0.10 A 2012 $0.01 A $0.16 E -$0.02 E -$0.01 E $0.12 E 2013 $0.09 E 2014 $0.24 E

Zacks Investment Research Page 2 scr.zacks.com

WHAT S NEW

Recent Financials

On May 4, 2012, Cipher Pharmaceuticals reported financial results for the first quarter 2012. Total revenues in the quarter were $1.8 million, nicely above our forecast of $1.2 million. Revenues consisted of approximately $1.4 million in royalties and milestones on Lipofen, $0.3 million in royalties and milestones in ConZip/Durela, and $0.1 million in milestones on CIP-Isotretinoin. Milestones on Lipofen in the quarter included a $1 million payment from Kowa Pharma based on the sales performance of Lipofen over the trailing twelve month period. Cipher s share of this milestone was approximately 50% after paying a sub-milestone to Galephar.

Cipher reported net income of $0.125 million during the first quarter 2012. This was in-line with our financial model. Operating expenses consisted of $1.0 million in operating overhead, $0.5 million in research & development, and $0.2 million in amortization and depreciation. Net income per share was $0.01 based on 24.4 million shares outstanding. Cipher exited the first quarter 2012 with $10.1 million in cash and equivalents. We find this to be sufficient to fund operations for the foreseeable future and even to cash flow positive operations if CIP-Isotretinoin gains U.S. FDA approval on May 29, 2012.

INVESTMENT UPDATE

Good Quarter For Lipofen

As noted above, Lipofen contributed $1.4 million in the first quarter 2012. Royalty revenue of $0.9 million was up 65% verse the prior year and 26% higher than fourth quarter 2011. In December 2011, Kowa Pharmaceuticals America, Inc. (KPA) won an important formulary listing for Lipofen with United Healthcare. United Healthcare has listed Lipofen at tier-2 coverage, dropping two other competitive fenofibrate products to tier-3. The move facilitates United Healthcare customers to refill existing fenofibrate prescriptions with Lipofen. This new coverage and KPA's increased promotional effort led to a solid increase in monthly prescriptions in January 2012.

On February 6, 2012, Cipher announced that it has achieved a $1.0 million one-time sales milestone payment from Kowa for Lipofen based on the trailing 12-month period. The milestone came earlier-than-expected, no doubt driven by the improved formulary coverage at United Health and the strong January 2012 sales performance for the drug. The milestone also sets up a potential one-time step-up in the royalty rate payable to Cipher (based on sales in a contract year) from KPA later this year.

We expect that net Lipofen revenues for the full year 2012 will total about $3.3 million, driven by $2.8 million in royalties and $0.5 million in the recognition of the milestone payment for KPA noted above for the TTM sales eclipsing $25 million. We forecast royalties will continue to grow in 2013 and beyond, up to $3.0 million in 2014 when the patent expires.

Lipofen® - Monthly Prescriptions


ConZip & Durela Just Getting Started

Cipher's extended-release tramadol (CIP-Tramadol-ER) was launched in the U.S. by Vertical Pharmaceuticals in September 2011 under the trade name ConZip. Vertical has dedicated a sales force of 60 representatives, with plans for further expansion in the third quarter 2012. Cipher noted on their first quarter conference call that product sales to date have been encouraging. We expect sales to grow substantially as U.S. physicians gain more experience with the product and Vertical expands its coverage. Cipher recorded $0.3 million in revenues on ConZip during the first quarter 2012.

A Little Background

Tramadol is widely available as a generic tablet (50mg to 300mg). It is also available in combination with acetaminophen and aspirin. Several formulations of tramadol exist, including capsules (regular and extended release), tablets (regular, extended release, chewable, sublingual, effervescent, suppositories), sterile solutions, injections, powders, topical (liquid with or without alcohol). Cipher s CIP-Tramadol-ER is a novel, extended-release formulation used for the management of moderate to moderately severe pain. The formulation is designed to provide a smooth consistent plasma level over an extended period of time. Absorption is pH-independent, enabling the product to be taken with or without food a key differentiator to generic tramadol ER. CIP-Tramadol-ER also provides remarkably fast absorption, allowing for peak therapeutic plasma concentrations to be achieved in as little as 60 minutes again superior to generic tramadol ER.

Superior Dosing

Superior Pharmacokinetics

Niche Opportunity

Tramadol is one of the most widely-used opioid analgesics for moderate pain. According to IMS, the U.S. market for extended release formulations of tramadol was approximately $163 million in 2010, which represents half of the dollar sales for total Tramadol sales in the U.S. in 2010 at $326 million. However, these sales are being generated by only a fraction of the scripts. The total tramadol market exceeded 30.5 million prescriptions in 2010, up 8% year-over-year from the 28.3 million scripts in 2009. Scripts for extended release formulations of Tramadol totaled 1.05 million in 2010, accounting for only 3% of the total scripts. Sales are being driven by the few branded and promoted Tramadol-ER products, J&J / Valeant s Ultram-ER and Purdue Pharma s Ryzolt. Branded Ultram-ER sales in 2010 were approximately $66 million. Ryzolt sales totaled $18 million in 2010.


U.S. Launch Gaining Steam

In July 2011, Cipher announced that it had entered into a distribution and supply agreement with Vertical Pharmaceuticals, Inc., under which Cipher has granted Vertical the exclusive right to market, sell and distribute CIP-Tramadol-ER in the U.S. Vertical Pharmaceutical is a privately-owned, U.S.-based specialty pharmaceutical company focused on niche prescription drug preparations in the area of pain management, primary care, internal medicine and women's health. We expect primary position detailing for the next six to eight quarters.

Under the terms of the agreement with Vertical, Cipher received an initial upfront and launch payment of $1.5 million (USD). Cipher is also eligible to receive future payments of approximately $4.0 million contingent upon the achievement of certain sales milestones. In addition, Cipher will receive a royalty on net sales in the mid-teens. Vertical officially launched the product in September 2011 under the brand name ConZip. Vertical has dedicated an initial sales force of 60 representatives, with plans for further expansion in the second half of 2012. As of February 2012, monthly prescriptions are now tracking around 2.5% of the total tramadol market. For 2012, we forecast $4.0 million in sales at Vertical Pharma.

Canadian Launch Just Under Way

In August 2011, Cipher received final approval from Health Canada on CIP-Tramadol-ER. A month later, Cipher announced that it had entered into a distribution and supply agreement with Medical Futures Inc., a Canadian-based pharmaceutical company, for the exclusive right to market, sell, and distribute CIP-Tramadol-ER in Canada under the brand name Durela. Medical Futures will add Durela to its suite of specialty pharmaceutical products, including Onypen (topical nail fungus), Iberogast (anti-inflammatory agent), Proferrin (iron supplement), and Mutaflor, Florastor and Purfem (probiotics).

Under the terms of the agreement with Medical Futures, Cipher received an upfront payment of $0.3 million (CAD). Cipher is also eligible to receive future payments contingent upon the achievement of cumulative net sales milestones. In addition, Cipher will receive a double-digit royalty on net sales Cipher is responsible for product supply and manufacturing, which will be fulfilled by its partner, Galephar Pharmaceutical Research. Medical Futures launched Durela in mid-March 2012 with a dedicated primary care sales force of approximately 22 representatives with plans for further expansion.


CIP-Iso PDUFA May 29, 2012

As noted above, the U.S. FDA action date (PDUFA) for CIP-Isotretinoin is scheduled for May 29, 2012. Management noted during the first quarter conference call that they have been working with the FDA over the past few months responding to questions. CEO Larry Andrews noted the questions seemed, customary and usual with respect to the dialogue, so at this point we are not expecting a delay. We note that pre-commercialization activities are underway at Ranbaxy Pharma, Cipher s U.S. commercialization partner for CIP-Isotretinoin. If approved at the end of May 2012, Cipher believes that Ranbaxy will be in position to launch in the fourth quarter 2012. Approval will trigger two milestone payments to Cipher totaling $9.0 million, of which we expect Cipher to retain 50% after paying sub-milestones to Galephar.

Improved Formulation

Cipher s CIP-Isotretinoin is based on Galephar s oral Lidose drug delivery system. Lidose facilitates a precise, consistent, and uniform dosage delivery with an absorption characteristic consistent with or without food versus traditional generic Isotretinoin. A major issue for existing isotretinoin products is patient compliance, as the active ingredient should be taken with a high-fat meal to ensure consistent absorption. Current generic Isotretinoin products have an estimated 70% variability in absorption depending on dietary intake causing inconsistency in dose a major issue when dealing with teenagers.

Cipher s product offers more consistent absorption day-in and day-out over the course of a typical 3- to 5-month treatment period. We think this will be a significant marketing advantage for Cipher upon launch. There are currently no promoted branded Isotretinoin products in the U.S. Existing branded products, Teva s Claravis and Mylan s Amnesteem, rely on previous patient and physician experience with Roche s Accutane (isotretinoin) to drive sales. The efficacy profile of Isotretinoin is powerful enough that over one million prescriptions were written in 2011 despite this lack of active promotion. All three products discussed above exhibit significant reductions in absorption under fasting conditions. Note this this is not a problem for Cipher s CIP-Iso product (see graphs below). In total, Isotretinoin products, posted sales of $466 million in 2010, up over 10% from 2009.

CIP-Isotretinoin Offers Consistent Absorption

During Fed

And Fast Conditions

Addressing FDA Concerns

Cipher originally filed for approval of CIP-Isotretinoin in the second quarter 2005 as a 505(b)(2) application. Unfortunately, the company received an approvable letter from the FDA in May 2006. In the letter, the FDA requested that Cipher provide additional clinical data and further details relating to chemistry, manufacturing and controls (CMC) for the product. Cipher submitted its response to the approvable letter in October 2006, which was accepted by the FDA in January 2007 as complete. The FDA designated the filing as a Class-2 response and established a Prescription Drug User Fee Act (PDUFA) of April 27, 2007. Unfortunately, Cipher s second attempt at gaining approval for CIP-Isotretinoin was met with another approvable letter.


This time the FDA indicated that Cipher s application was approvable subject to the resolution of two requests. Firstly, the FDA had lingering issues with respect to the CMC of the product. In 2008, Cipher stated it believed it had answered and resolved the FDA s questions around the CMC for CIP-Isotretinoin. Secondly, the FDA requested the company provide additional safety data prior to approval. Cipher attempted to appeal the decision with the FDA, but following a meeting with the agency in July 2007, it became evident that a phase 3 safety trial was necessary before the drug would be allowed on the market in the U.S. Based on what we have been able to pull from the public records and our conversations with management, it looks like the FDA is using Cipher s NDA on CIP-Isotretinoin to fill in significant holes mostly safety concerns on generic Isotretinoin. This is not the first time we have seen the FDA ask a reformulation 505(2)(b) applicant conduct significantly more work than what the original applicant had to submit for approval. After all, Roche filed the NDA for Accutane in 1982. Since that time significant questions have been raised about the drugs side effects and safety profile. Cipher got stuck tying up those loose-ends.

Nevertheless, Cipher began working closely with the U.S. FDA on the design of a phase 3 safety trial in 2008. During the second quarter 2009, Cipher finalized the study protocol under a Special Protocol Assessment (SPA) with the FDA. Management enrolled the first patient in the trial in October 2009. The phase 3 safety study was double-blind, randomized trial comparing CIP-Isotretinoin to an FDA-approved, commercially available generic isotretinoin product in over 900 patients. The study was conducted at over 50 sites in both the U.S. and Canada over an 18-month period. The trial completed enrollment in October 2010 at 925 patients.

The primary endpoint of the trial was safety. The FDA asked Cipher to look into all potential adverse events that had been associated with Isotretinoin over the past two decades the drug was on the market. This included potential psychiatric side effects like depression and suicidal thoughts, effects on hearing and vision, dry skin, and changes in bone mineral density and fractures. It was a comprehensive safety and pharmacokinetic analysis.

Cipher released top-line data from the trial in June 2011. Of the 925 patients who enrolled in the study, 813 patients completed the 20-week trial. As per the protocol, subjects were directed to always take Isotretinoin with meals. Data from the trial revealed no overall statistical differences in the adverse event profile between the two products. The most frequent side effects that were observed were dry skin and dry lips. In addition, initial statistics on psychiatric disorders, eye disorders, ear disorders, musculoskeletal, vascular disorders, cardiac disorders, and gastrointestinal disorders, illustrate there are no significant differences in the extent of adverse events between Cipher s CIP-Isotretinoin and the reference product. Population pharmacokinetic data showed no statistical difference between the two products (AUC / CMAX) they were equivalent when taken with food (per the proposed label).

Because the phase 3 trial enrolled patients with active acne, there was an efficacy component. Cipher established two co-primary efficacy endpoints: 1) the total change in lesion counts between baseline and at the end of week 20; and 2) the total number of subjects that had at least a 90% clearing at the end of 20 weeks of treatment. These two co-primary endpoints were analyzed using a per-protocol population (PP) and intent-to-treat (ITT) analysis. Analysis of the efficacy was based on non-inferiority (at 90% powering) with a range of +/- 10% between CIP-Isotretinoin and the reference product.

The PP analysis comprised all subjects who completed the study according to the protocol. That includes taking both drugs for the full 20 weeks, and showing up for all safety analyses and follow-up visits. In this analysis both co-primary endpoints met the non-inferiority margins established for the study.

The ITT population comprised all subjects who entered the study, including those who did not conclude the study for whatever reason. Those who dropped out early were assigned treatment efficacy scores based on the last observation recorded for that subject, also known as last observation carried forward (LOCF). In the LOCF analysis of the ITT population, the first primary endpoint (total change in lesion count) was achieved while the second endpoint (at least 90% clearing) fell slightly outside the non-inferiority target margin. In fact, the results were less than 0.5% from meeting statistical non-inferiority.

Efficacy Analysis Non-Inferior to generic Isotretinoin

Safety Analysis

PP ITT-LOCF Lesion Count (Week-20)

90% Clearing (Week-20)


Management has gone back and conducted further analysis of the ITT-LOCF population. Given the identical pharmacokinetic data between CIP-Isotretinoin and the generic Isotretinoin, we believe the cause of the missed endpoint in the 90% clearing ITT-LOCF can be associated to random chance (10%) or outliers in the ITT population due to protocol violators. We remind investors that this was a rigorous safety program that required blood work for the PK analysis, X-rays for the bone density analysis, skin tests, vision tests, hearing tests, cardiovascular tests, and extensive psychological tests over a 5 month timeframe. The majority of the population in the study was teenagers. Of the 925 enrolled, only 813 completed to week 20. The PP population was even less. According to management, there were no statistical differences in adverse events or drop-out rates between the two arms.

We fully acknowledge that this issue remains the single biggest wildcard for Cipher heading into the U.S. PDUFA. However, we believe the pharmacokinetic data proves that CIP-Isotretinoin is identical to generic Isotretinoin. The FDA has accepted this type of PK / bioequivalency data in the past on reformulation applications. The FDA s CRL was based on filling in gaps on the Isotretinoin safety profile. We do not believe that the missed 90% clearing endpoint by less than 0.5% on the ITT-LOCF will hold up approval.

Big Opportunity

We see a significant opportunity for CIP-Isotretinoin if approved. Despite strict FDA monitoring around prescriptions of Isotretinoin, the market remains quite robust. Generic (multiple providers) Isotretinoin does around $500 million in sales in the U.S., and that is with no promotion. Prescriptions have remained fairly consistent over the past few years, perhaps trending down slightly since late 2009 once Roche exited promoting Accutane. We estimate that in terms of a branded opportunity, the Isotretinoin market is nearly $1

billion in size. We remind investors that Roche had Accutane sales over $750 million at peak. We believe that Cipher s CIP-Isotretinoin product, being the only promoted branded Isotretinoin on the market, could achieve peak sales in the $150-200 million range.

The market is currently dominated by two un-promoted branded products, Mylan s Amnesteem and Teva s Claravis. Amnesteem posted sales of $136 million in 2010 on 386K scripts. Claravis posted sales of $330 million in 2010 on 670K scripts.

Ranbaxy To Commercialize

Cipher s marketing rights to CIP-Isotretinoin include the Americas and a majority of the Pacific Rim. In August 2008, the company entered into a distribution and supply agreement with Ranbaxy Pharmaceuticals Inc., under which Cipher granted Ranbaxy the exclusive right to market, sell and distribute CIP-Isotretinoin in the U.S. We think this is an interesting partnership for Cipher considering Ranbaxy has experience in the Isotretinoin market with Sotret. We note that in 2009, Ranbaxy had to recall a single lot of Sotret when the FDA issued a Class-III warning on manufacturing, citing deviations from good manufacturing practice (GMP) at the company s plant in India. Sotret achieved annual sales of $41 million in the U.S. in 2009. Sales were triple that in 2008 prior to the recall.

Under the terms of the agreement with Ranbaxy, Cipher received an initial upfront payment of $1 million (USD). Ranbaxy also agreed to fund the bulk of the recently completed phase 3 safety program. Since that time, Cipher has received additional milestones associated with the trials progress, filing the NDA, and the U.S. FDA accepting the NDA to a total of $4 million (USD). The agreement provides for additional pre- and post-commercialization milestone payments of up to $19 million (USD). These milestones include two $4.5 million payments for U.S. FDA approval (various doses) and $10 million for cumulative sales thresholds, payable in the form of two $5 million milestones. Through conversations with management, we believe the two $5 million in sales-related milestones are achievable under the current expected plans with Ranbaxy. Ranbaxy is committed to a dedicated a 60-person sales force and to promote CIP-Isotretinoin in the primary position for a minimum of three years.

Cipher is also entitled to receive a royalty in the mid-teens on net sales. Any additional development costs associated with pre FDA approval will be shared equally. Cipher is responsible for product supply and manufacturing, which would be fulfilled by its partner, Galephar. We expect similar economics between Cipher and Galephar on CIP-Isotretinoin to the two previous deals for CIP-Fenofibrate and CIP-Tramadol-ER.


Canadian Opportunity

On January 30, 2012, Cipher announced that Health Canada had accepted the company's New Drug Submission (NDS) for CIP-Isotretinoin for review. We are expecting a decision out of Health Canada in the first quarter 2013. The NDS was first submitted to Health Canada in late December 2011. We view CIP-Isotretinoin as a potential $10 million opportunity in Canada. The total Isotretinoin market is Canada is small, only around $20 million total. Only two products, Roche s Accutane and Mylan s Clarus are on the market, with little to no promotion. Therefore, we believe that a sales force of 6 to 8 representatives could effectively promote the product in-house. We expect that Cipher will seek to commercialize the drug on its own in 2013. We think approval of CIP-Iso in Canada will create a meaningful shift in the company s future development plans, as Cipher seeks to become a specialty pharmaceutical company with multiple products and its own sales force in Canada over time.

Sales Opportunity

We expect that Ranbaxy, up until recently a major player in the Isotretinoin market with Sotret, will actively look to convert its previous business over Cipher s superior CIP-Isotretinoin product. As a reminder, Sotret was doing over $120 million in 2008 before the recall on QC/GMP issues out of the India manufacturing facility. It s a little different market now than then because Accutane is gone and promotion has dried up, but with the added benefit of flexible dosing with respect to food (more consistent absorption under fed / fast conditions), and premium pricing, we believe that Ranbaxy will be able to achieve peak sales in the U.S. of $175 million.

For the purpose of CIP-Isotretinoin in Canada, we see peak sales of at $7.5 million in Canada. We assume that Cipher will look to commercialize the product in Canada with its own contract sales force of around 8 full-time representatives. We think CIP-Isotretinoin becomes cash flow positive for Cipher in Canada at sales around $3 million. We think this can be achieved in the third year post-launch.


VALUATION & RECOMMENDATION

Remaining Optimistic on Cipher

In January 2012, we initiated coverage of Cipher Pharmaceuticals Inc. with an Outperform rating and $2.25 price target, or a market capitalization of $50 million. Since that time, the shares are up nearly 100%. We believe the story is largely de-risked and under-appreciated by the Street. Cipher currently has three revenue streams in place with royalties and milestones on sales of Lipofen (CIP-fenofibrate) at Kowa Pharma in the U.S. and the recently launched ConZip (CIP-tramadol-ER) at Vertical Pharma in the U.S. and Durela (CIP-tramadol-ER) at Medical Futures in Canada.

We have established what we believe to be conservative forecasts for these revenue streams going forward to patent expiration on each product, Lipofen (Q1-2015) and ConZip/Durela (2022). We remind investors that Cipher has little to no ongoing costs associated with either product. Therefore, the best way to value these revenue streams is through the net present value (NPV) of the cash flows using a 20% discount rate. We believe royalties and milestones on Lipofen are worth approximately $7 million in value. Royalties and milestones on ConZip / Durela are worth another $8 million in value. Finally, we forecast that Cipher will exit 2011 with approximately $9 million in cash and equivalents.

Pre-CIP-Isotretinoin Sum-Of-Parts Value Lipofen (CIP-fenofibrate) $7.1 million

ConZip / Durela (CIP-tramadol-ER) $7.7 million Est. Cash at March 2012 $9.4 million Shares (FD) Per Share

Current Value $24.2 million 26.2 million $0.92

CIP-Isotretinoin Offers Big Upside

Based on our model, the stock is currently trading below the net present value of the cash flows from Lipofen and ConZip / Durela, plus the cash on hand. That means investors can purchase the stock today and get the CIP-Isotretinoin product, a potential $200 million opportunity in the U.S., for free. Cipher has licenses the rights to CIP-Isotretinoin to Ranbaxy, a major player in the generic Isotretinoin market with branded Sotret. Sotret posted U.S. sales over $120 million in 2008 prior to the FDA mandating a recall on the product due to quality control / GMP issues at the company s plant in India. We believe that Cipher s CIP-Isotretinoin, with its superior absorption and bioavailability characteristics will move into the primary detail position for Ranbaxy s efforts around Isotretinoin.

Cipher is entitled to receive a mid-teens royalty on sales of CIP-Isotretinoin at Ranbaxy, along with the potential for $19 million in milestones ($9 million upon approval and two $5 million cumulative sales related) with roughly 50% economics to Cipher after it pays the sub-royalty to Galephar.

Cipher becomes a different company with CIP-Isotretinoin on the market in the U.S. By 2016, the royalties on CIP-Isotretinoin alone will account for greater than 80% of the top-line.

We also remind investors that Cipher has filed an application for approval with Health Canada. We estimate the Canadian opportunity with CIP-Isotretinoin is around $10 million, and we expect that Cipher will seek to commercialize the drug on its own through the formation of a small internal sales force of 6 to 8 representatives. We assume Canadian approval in mid-2013.


Keep Risks In Mind

Approval of CIP-Isotretinoin is paramount to our investment thesis. The application is not without risks however. The U.S. FDA has rejected Cipher s NDA on CIP-Isotretinoin twice in the past five years. The second letter called for Cipher to conduct a phase 3 safety trial, which Cipher completed and presented data on in June 2011.

Of the 925 patients who enrolled in the study, 813 patients completed the 20-week trial. The safety data revealed no overall statistical differences in the adverse event profile or the pharmacokinetics between CIP-Isotretinoin and a commercially available generic Isotretinoin product. Unfortunately, the efficacy component offers mixed results. The efficacy component of the study had two co-primary endpoints: 1) the total change in lesion counts between baseline and at the end of week 20; and 2) the total number of subjects that had at least a 90% clearing at the end of 20 weeks of treatment. These two co-primary endpoints were analyzed using the per-protocol population (PP) as well as the intent-to-treat population (ITT) last observation carry forward (LOCF).

In the PP analysis, both co-primary endpoints met the non-inferiority margins established for the study. In the LOCF analysis of the ITT population, the first primary endpoint (total change in lesion count) was achieved while the second endpoint (at least 90% clearing) fell narrowly (less than 0.5%) outside the non-inferiority margin target. However, we do not believe this will be an issue to hold up approval in the U.S. We think the FDA was far more interested in the safety analysis from the trial. The trial was set up as a safety and PK analysis. The FDA has traditionally approved reformulations in the past on PK / bioavailability data alone. Cipher went above and beyond a traditional reformulation application by conducting the extensive safety analysis requested by the agency. However, a missed endpoint presents risk, and this is the single biggest risk to owning the stock ahead of the May 29, 2012 U.S. FDA PDUFA action date.

DCF Model Shows Fair-Value at $2.25

We have conducted a discounted cash flow (DCF) analysis to value the shares of Cipher Pharmaceuticals Inc. Above we note that our NPV / Sum-of-Parts analysis for the cash flow from Lipofen and ConZip / Durela alone shows a market value of $24.2 million. However, this is just to give investors a sense of the downside to the Cipher story. At today s value, the stock is trading on the present value of these cash flows. We see little downside in the stock price as long as Lipofen and ConZip / Durela meet our forecasts.

Upside comes with the approval of CIP-Isotretinoin. Cipher will receive a net $4.5 million cash payment from Ranbaxy if the U.S. FDA approves CIP-Isotretinoin. Our model (posted below) shows that operating cash flow should turn positive immediately after the approval of CIP-Isotretinoin. That means that by the end of 2012, Cipher could be collecting revenues from three approved products in the U.S., with a growing cash balance of over $10 million in the bank, and generating positive cash flow. We think that this presents the clear opportunity to in-licenses yet another 505(b)(2)-like product for late-stage development and commercialization in 2013. We would be buyers of Cipher s stock today, ahead of what we see as a transformational 2012 coming with the potential approval of CIP-Isotretinoin. Our rating is Outperform .


PROJECTED FINANCIALS

Cipher Pharmaceuticals Inc. Income Statement


Cipher Pharmaceuticals Inc. DCF Model


HISTORICAL ZACKS RECOMMENDATIONS

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ZIR or Zacks SCR Analysts do not hold or trade securities in the issuers which they cover. Each analyst has full discretion on the rating and price target based on their own due diligence. Analysts are paid in part based on the overall profitability of Zacks SCR. Such profitability is derived from a variety of sources and includes payments received from issuers of securities covered by Zacks SCR for non-investment banking services. No part of analyst compensation was, is or will be, directly or indirectly, related to the specific recommendations or views expressed in any report or blog.

ZIR and Zacks SCR do not make a market in any security nor do they act as dealers in securities. Zacks SCR has never received compensation for investment banking services on the small-cap universe. Zacks SCR does not expect received compensation for investment banking services on the small-cap universe. Zacks SCR has received compensation for non-investment banking services on the small-cap universe, and expects to receive additional compensation for non-investment banking services on the small-cap universe, paid by issuers of securities covered by Zacks SCR. Non-investment banking services include investor relations services and software, financial database analysis, advertising services, brokerage services, advisory services, investment research, and investment management.

Additional information is available upon request. Zacks SCR reports are based on data obtained from sources we believe to be reliable, but is not guaranteed as to accuracy and does not purport to be complete. Because of individual objectives, the report should not be construed as advice designed to meet the particular investment needs of any investor. Any opinions expressed by Zacks SCR Analysts are subject to change. Reports are not to be construed as an offer or the solicitation of an offer to buy or sell the securities herein mentioned. Zacks SCR uses the following rating system for the securities it covers. Buy/Outperform: The analyst expects that the subject company will outperform the broader U.S. equity market over the next one to two quarters. Hold/Neutral: The analyst expects that the company will perform in line with the broader U.S. equity market over the next one to two quarters. Sell/Underperform: The analyst expects the company will underperform the broader U.S. Equity market over the next one to two quarters.

The current distribution of Zacks Ratings is as follows on the 1025 companies covered: Buy/Outperform- 14.2%, Hold/Neutral- 80.1%, Sell/Underperform

4.6%. Data is as of midnight on the business day immediately prior to this publication.

WHATS NEWs1.q4cdn.com/460208960/files/May 7, 2012_T DND... · This new coverage and KPA's ... by the improved formulary coverage at United Health and the strong January 2012 sales

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