Arrowhead Pharmaceuticals, Inc. (ARWR) Q3 2012 Earnings Report, Transcript and Summary

Good afternoon, and welcome to the Arrowhead Research Corporation fiscal 2012 third quarter conference call. [Operator instructions.] I would now like to turn the conference over to Mr. Michael Levitan of the Trout Group. Please go ahead sir.

Thank you, operator. Good afternoon everyone, and thank you for joining us today to discuss Arrowhead's results for its fiscal 2012 third quarter ended June 30, 2012. With us today from management are President and CEO Dr. Christopher Anzalone, and Chief Financial Officer Ken Myszkowski. Management will provide a brief overview of the quarter and will then open the call up to your questions. Before we begin, I would like to remind you that comments made during today's call may contain certain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. All statements other than statements of historical fact, including without limitation those with respect to Arrowhead’s goals, plans, and strategies, are forward-looking statements. Without limiting the generality of the foregoing, words such as may, will, expect, believe, anticipate, intend, could, estimate, or continue, or the negative or other variations thereof or comparable terminology are intended to identify forward-looking statements. In addition, any statements that refer to projections of Arrowhead’s future financial performance, trends in its businesses, or other characterizations of future events or circumstances are forward-looking statements. Forward-looking statements represent managements’ current expectations and are inherently uncertain. You should also refer to the discussions under Risk Factors in Arrowhead’s Annual Report on Form 10-K and the company’s quarterly reports on Form 10-Q for additional matters to be considered in this regard. Thus, actual results may differ materially. Arrowhead undertakes no duty to update any of the forward-looking statements discussed on today’s call. With that said, I’d like to turn the call over to Dr. Christopher Anzalone, president and CEO of the company. Chris?

Thanks, Michael. Good afternoon, everyone, and thank you for joining us on our call today. Let me start by mentioning two announcements. First, we will issue a press release before the market opens tomorrow that we have entered into an evaluation agreement with Merck, whereby they will assess a novel, proprietary antibody against an undisclosed target identified in the human-derived peptide targeting and discovery program, which we acquired in the Alvos transaction. We are very excited about Merck’s interest in this program, and we believe there will be many more opportunities to extract value from our portfolio by partnering with biopharma companies in areas such as this. The timing of this is also important. We believe that entering into a collaboration with a company of Merck’s stature so soon after acquiring the platform is a tremendous point of validation. We look forward to working with Merck on this and other projects. We also look forward to entering many more collaborations stemming from our targeting library. The other announcement I’d like to touch on is that of our financing. We raised approximately $6.2 million in our offering that was oversubscribed. We believe this was the correct size, because it provides us with needed capital while limiting dilution for our existing shareholders. We feel comfortable with our current capitalization given this new financing, the fact that we still have $14 million in our facility with Lincoln Park Capital, and the stage of development of our technology platforms. Also important in the current financing is the investor group. Approximately half of the funding was provided by current shareholders led by noted investor Jim Mellon and the other half was provided by a large healthcare fund. We believe the quality of these investors speaks well of Arrowhead. Moving to our business, as you know…

Thanks Chris, and good afternoon everyone. As we reported earlier today, our net loss attributable to Arrowhead for the quarter ended June 30, 2012 was $8 million, or $0.71 per share, based on 11.2 million weighted average shares outstanding. This compares with a net loss attributable to Arrowhead of $1.8 million, or $0.25 per share, based on 7.2 million weighted average shares outstanding for the quarter ended June 30, 2011. Total operating expenses for the quarter ended June 30, 2012 were $6.9 million, compared with $1.8 million for the quarter ended June 30, 2011. The increase in operating expenses includes a $2 million noncash charge to record a reserve against a receivable from [unintelligible]. The balance of the increase primarily relates to cost associated with our R&D facility acquired in October of 2011, its associated technical staff, and our research programs. Net cash used in operating activities for the first nine months of fiscal 2012 was $10.8 million, compared with $6 million for the prior year period. The increase in cash used in our operating activity primarily relates to our costs associated with our new R&D facility. At June 30, 2012, we had cash resources of $3.3 million, including a cash balance of $2.3 million and an amount due from a previous financing of $1 million. As we reported earlier today, we also closed a registered direct offering. Gross proceeds will be approximately $6.2 million prior to commissions and fees. Our cash at September 30, 2011 was $7.5 million. Cash outlays for R&D and G&A were $10.9 million during the first nine months of this fiscal year and expenditures for capital equipment was $400,000, while cash inflows consisted of revenues of $200,000, cash from the sale of investments of $500,000, and proceeds from the sale of equity securities of $5.4 million. Our shares outstanding at June 30, 2012 were 11.3 million, up 2.7 million from 8.6 million shares at September 30, 2011. The increase in our shares outstanding is primarily due to shares issued for the Roche Medicine acquisition as well as related financings. With that brief review, I will now turn the call over to Chris for concluding remarks.

Thank you Ken. The last few months have been important in the obesity and RNAi therapeutics markets. We believe the recent FDA approvals for Arena and Vivus, the first in 13 years, signal and easing in the regulatory stance and increasing acknowledgement by the FDA that obesity is one of the great healthcare challenges of our times. We see that as a positive signal for Arrowhead, our shareholders, and the millions of patients who struggle with obesity and potentially could benefit from treatment with Adipotide. On the RNAi front, Alnylam, which is an Arrowhead partner, released some encouraging clinical data on their ALN-TTR-02 candidate that’s sparked a lot of investor interest. The last couple of years have been difficult for developers of RNAi therapeutics, but market reaction to the Alnylam data suggests a renewed hunger for good RNAi data, even if it is early. This is encouraging, and we believe that we are well-positioned to benefit from an increased demand, particularly as ARC-520 moves toward the clinic. During the final few minutes of the call, let’s take a look at where we have come, strategically and operationally. Less than 10 months ago, we were a company with a single solution for siRNA delivery and a promising pre-clinical obesity program. Both programs were dependent on outsourcing for further development. We are now a fundamentally different company that provides our shareholders with a more focused business, broader upside potential, increased value to partners, and enhanced ability to rapidly innovate. Through the Roche and Alvos acquisitions, we are now a targeted therapeutics company with deeper value drivers than just 10 months ago. They include a Phase I clinical trial in obesity that is fully funded by M.D. Anderson, completion of a Phase IB oncology trial in the next two weeks, a very promising…

[Operator instructions.] Our first question is from Donald Hutchinson of Safe Harbor Financial Management.

It’s been quite a while since they announced the dosing of the first patient for Adipotide. Has the second one started?

We’re not going to announce when every patient gets dosed. We announced when the first one was dosed. That was a little bit over a month ago, and as I mentioned in my remarks, that patient has completed his treatment. But it’s not going to be our policy to…

Let’s make it a general question. Are there more than one?

We announced that the first patient has been dosed, and we are actively accruing other patients. And again, we’re not going to provide granular information as we dose individual patients. But I can tell you this, we have seen a tremendous amount of interest in joining the trial. M.D. Anderson has a large patient population to draw from, and we are confident that we can accrue these patients fairly rapidly.

Okay. I, for one, am disappointed about the dilution with the stock offering. And I’m curious as to why anyone could have figured out when the cash was going to run down to a point where new financing was necessary and could have ascertained that months ago, why this offering wasn’t done six months ago when the stock was about double where it is right now. Something of a mystery to me. Could you explain why the decision was to hold off?

Sure. Timing of financing is never perfect. We were working on the Alvos acquisition for some time, and we really couldn’t do anything until that was complete. Even though it was not a cash acquisition, it was material, we thought, to our business. We are really building our business around this targeted therapeutics concept, and so it was going to be a large part of our business going forward. So we needed to get through that before we could start any sort of discussions with potential investors. So that pushed us off. And then after that, it just takes time to speak with the right investors, and here we are. Of course you like to raise money when you’re at a higher stock price, but you don’t always have control over that timing.

Well, to be honest with you, your company basically has been sort of a stock issuing machine, and then a reverse split kind of a situation. So anybody who’s owned this thing for a long time is severely underwater, and it’s largely due to the constant dilution of the share base. Let me ask you a question about that, other than registering my displeasure with this policy. What is the likelihood that we’ll have another share dilution over the next couple of years?

Let me address that in a couple of ways. First, with the question. The possibility of additional financings in the future is certainly there. We’re a biotechnology company, and biotechnology companies require capital. Toward those ends, I would submit that as a biotech company we have a manageable burn rate and in fact over the last several years we have had a fairly light burn rate compared to other biotech companies. Now, let’s look at where we are now versus where we’ve been in the past. We have substantially focused this business. Two years ago, we were in a number of different areas, and now we are a focused biotech company. Two years ago, in the biotech space, we had a single piece of technology that we think is powerful, but it was a single piece of technology in siRNA delivery. Where we are now is we have two very large platforms, one with the result of acquiring Roche’s RNAi business. Roche spent half a billion dollars developing that program, and we acquired that. Alvos Therapeutics also had a very attractive and very powerful platform, and we acquired that. So when you look at where we are given the dilution, no one likes dilution, but if you look at where we are, and the assets we have underneath us, I would submit that we have done a good job of putting together the assets that we need to really grow this. The last few years have been a very difficult time in the capital markets for small companies, particularly small biotech companies. And I think we did a very good thing a couple of years ago, and we reacted very quickly, to the damaged capital markets by decreasing our burn rate substantially. I think we acted more quickly than many of our peers, and we’re still around because of that. As we brought down our burn rate, we were still able to move our programs forward and again many other biotech companies weren’t able to do that. And so while again no one likes dilution, I think that we managed that in a very trying time fairly well, and we are still able to assemble a set of assets that I think are world class.

Well, what disturbs me is that there was about $6 million that was raised, and about a similar amount, slightly more I guess, burned off in one quarter. That doesn’t look like good tidings for the near future to me. The amounts of money might not be spectacular, but it doesn’t look like what was raised now is going to last very long.

As I mentioned in my prepared remarks, we think the size of this raise was right given our facility with Lincoln Park Capital, which has $14 million on it, the state of our technology development, and our stock price. It’s interesting, you are concerned about the dilution, which we all are, but you’re also suggesting that maybe we didn’t raise enough money.

Well, it would have been better to raise money in some other manner if there was a choice is my point. Continual share dilution impoverishes all shareholders.

Okay, I appreciate your comment. Thank you.

[Operator instructions.] And our next question is from Todd Aldrich.

I had a follow up question on the previous investor’s comment. And that really is the ability to sort of forecast your business, the continued goal orientation you guys have set out. And I think part of that post-Roche asset acquisition was the ability to raise non-dilutive capital faster than what the cash burn would be. I assume by today’s headline that hasn’t been the case. So to what degree can we take confidence again that we won’t see further dilutions like this versus just non-dilutive capital potentially coming in?

We continue to feel confident that we have what we need to bring in non-dilutive capital. The market for RNAi therapeutics has been difficult for everybody over the last two years. We’ve been disappointed at the rate of partnerships that can come out of that. We are not alone in that. You know, if you look at Alnylam, if you look at RXI, if you look at Marina, if you look at Silence, if you look at all those in the space, it’s been a very difficult time to do partnerships. It feels as though that market is finally turning, given the Alnylam data that were just reported. They were good data, and their market capital went up substantially. It feels as though the market is turning a bit, and we are hopeful of that. And when it does, we believe that we are well-positioned as a complete player with RNAi chemistry continuing to operate, and a portfolio of delivery systems. But, again, to harken back to how we have been funding the company, let’s look at our competitors in the field. Let’s look at Marina and RXI, and Silence, and others. And I think that we have reacted well to the changing capital market environment and at the same time have been able to bolster our underlying assets such that when the RNAi market does turn, we are well-positioned for it. I mean, even look at Alnylam. They’ve always had a large cash position, but until recently, didn’t trade for much of a premium on that cash. And that’s a reflection of the RNAi market. There has been substantial interest in the markets for some time, but then there was a real concern that delivery was going to kill the field. I think the market’s coming around. It seems that that’s not the case, and I think that, again, we are well-positioned to take advantage of that. And on top of that, what we’ve been able to do with expanding our business without substantially expanding our costs into targeting. This fits very well with our RNAi assets, and enables us to get into whole new markets internally, as well as with partners. And I think the announcement about this Merck collaboration is a good example of that. We just acquired this targeting platform quite recently, but were able to get into this collaboration fairly quickly, and we see that as a good sign that the market is going to value this platform and the partners are going to value this platform.

I would also just ask, it seemed like with your June slide presentation up on the company website in terms of goal orientation that I think you had at least one RNAi collaboration, at least potentially. I assume that’s CALAA-01 and/or RONDEL, I think, Q4 this year through Q1 of ’13. And I think you had at least two targeted for the other part of the RNAi platform there running from, I think, Q3 of this year again through Q1 of next year. I guess we can possibly assume that those collaborations may potentially bring in some non-dilutive capital to keep earning the business?

Yes, I think that’s a good assumption. I think those collaborations can take multiple structures. The least of which would be collaborations where a partner would provide financing of a development program and thereby decrease our burn rate. But there’s also certainly the likelihood of getting collaborations and partnerships done where there’s economics on top of that, yes.

And I also had a quick question just on the data for the Phase IB. I guess that’s going to be wrapped up in August. Is this going to basically be results by scientific journal, or is there a chance the company could basically self-release that?

We have not yet made that decision.

Would potential partners that would want to partner on RONDEL, where that Phase IB would be critical, basically have the opportunity, through maybe signing a disclosure agreement, to get a look at those results? Or would it only be after the results came out, either self-released or in a journal?

No, certainly, as we’re in discussions with partners, once those discussions turn confidential, those data would be available, yes.

And the next question comes from [Lee Alper] of Hammock Investors. [Lee Alper] - Hammock Investors: I got on a little late, so I may have missed something, but could you remind me again what are the terms of the Lincoln Park financing?

The Lincoln Park facility enables us to take down as much as $500,000 a week at our discretion, and there’s a formula to determine what the cost of that capital is. There is a look-back period of a fairly short period of time and then the average close of that period goes into a formula to figure out what the price is. And then to be clear, the current financing was not a Lincoln Park financing. It was outside of that facility. [Lee Alper] - Hammock Investors: I understand that, but are you saying you couldn’t have gotten the Lincoln Park financing cheaper than what we paid for this dilution?

The Lincoln Park facility is not a financing strategy, at least the way I view it. The Lincoln Park facility provides us flexibility but I don’t believe should be relied upon solely to operate a business. So while we can draw it down, and in fact we did draw it down in the third fiscal quarter as we mentioned, I would not rely solely on that facility for development, even though that can be cheap capital. I think your point is a good one. On a spot basis, if we draw it down, it is, relatively speaking, cheap capital. [Lee Alper] - Hammock Investors: I think it may have been a lot cheaper than this. And along those lines, is there any financing involved in the Merck collaboration that you’re doing? Is there any funds coming from Merck?

That’s a great question. Unfortunately, there are no economics disclosed. As you can imagine, anything that we say about this in the press release that will come out tomorrow morning all has to be approved by Merck, and so no economics were disclosed. [Lee Alper] - Hammock Investors: Because it’s confusing, if you’re getting money from Merck and you could have gotten money from Lincoln Park, why this financing was necessary at this time is I think a concern of a lot of people.

Yeah, and I appreciate that, but also take a look at this in another light. We are heavily retail stuck, which is fine. But I think it’s important for us to also start to build an institutional share base. And we brought in, I think, a very strong institution into this financing, and I think that’s part of our maturation as a biotech company. And so to that extent, I think that’s another important aspect of the financing. [Lee Alper] - Hammock Investors: A year ago or more, maybe two, you spun off a piece of the company to [Weiss], I think, the Korean company?

Yes sir. It was about a year and a half ago. [Lee Alper] - Hammock Investors: Any updates on that? Are we seeing anything from that?

That’s a good question. We don’t have any progress updates on them, as you are likely alluding to. We do have milestone payments associated with revenue [unintelligible] from [Weiss Power]. We do not have an update on where we are vis-à-vis those milestone payments. However, in January we do have a $2.5 million note coming due that they owe to us as part of the acquisition, and so that note matures and will provide us, again, with $2.5 million in January. [Lee Alper] - Hammock Investors: Is there a reason why we don’t have an update 18 months after we’ve given them the product to try to do some work with?

We have had periodic updates from them, but nothing terribly granular. I have nothing to report on when any of those milestone payments might be triggered. [Lee Alper] - Hammock Investors: And last question, we have another collaboration - I’m drawing a blank on the name of it - it’s another one of our products with another company. Is there any update on that?

We have a development collaboration with Alnylam, and we have no update on that. We continue to work with Alnylam on an undisclosed target of theirs. [Lee Alper] - Hammock Investors: I’ve got to tell you, you’re leaving us pretty much in the dark on a lot of the stuff that we thought had a lot of potential.

I appreciate position there. I’ll tell you this, our internal programs continue to move forward. Our platforms continue to move forward. My hands are a bit tied on what I can tell you about development programs with other companies. Alnylam is a publically traded company, and they have their own considerations, and they didn’t want to disclose what target we are helping them to deliver. When that changes, we can certainly give you an update, but right now that is their prerogative to keep that confidential. The same thing with the new Merck collaboration. We are certainly hopeful that at some point we can update you on that progress, but right now we cannot.

And our next question is from Tom [Birchfield]. Tom [Birchfield]: I spoke with you about a year ago, I guess, and we talked about efficacy in CALAA-01, and I know it was a Phase I, but you said things looked awfully good at that time. And so we have the IB now, and that’s wrapping up, and I’m just wondering is there any reason to think we don’t have the same type of successful efficacy indicators? Understanding it’s a Phase I, but there’s no reason to think that, well, this was kind of a shot in the dark and it didn’t work.

I don’t know how to react to that. As you say, it is a Phase I, and so it’s not powered for efficacy. And in addition, the target, RM2, ribonucleotide reductase subunit M2, is likely not a single agent drug. There’s interesting data to suggest that it will have synergistic effects with radiation or other cytotoxics, but as a standalone drug, it likely is not intended to be a standalone drug. Now, what I can tell you is this, when we look at the Phase I, what we can determine on an efficacy standpoint is the efficacy of RONDEL, if you will, or the ability of RONDEL to do what we want it to do. And as was published in Nature, we think that we’ve shown that it can do what we want it to do. We saw a dose-dependent accumulation of RONDEL in biopsied tumor cells, and not in surrounding tissue. We saw RNA knockdown. We saw protein knockdown. So the way I view that Phase I is in two ways. One, how good is the drug, or how safe is the drug? And two, how good and how safe is the delivery system? It’s easier to answer the latter than the former. And again, I think that the data that have been shown thus far suggest that RONDEL is a well-tolerated and potentially effective delivery system for siRNA. Tom [Birchfield]: That leads me, then, to part two of my question. And let’s see, we’re going to finish that up roughly the end of August. And I think you mentioned to another caller that you didn’t yet determine how that’s going to be announced, the results. I mean, we’ve been waiting for a couple of years on this, and I am way underwater on my investment. And hey, I know you roll the dice, you take your chances, but I’m anxious to hear, and I know other companies they sometimes even show their incremental results, that are biotechs. And surely we can get an expectation of when we’re going to have the results we’ve been waiting on all this time.

Again, we have not made a determination on how to provide those data. We’ll wrap up the Phase IB in the next couple of weeks, and then we can make that determination and make that announcement.

[Operator instructions.] And our next question is a follow up from Todd Aldrich.

May I ask if you guys feel as encouraged about RONDEL as you have been in the past based on this wrapping up at the end of August?

Yes, we still think that RONDEL is a good delivery system. Our value proposition, though, has changed, as we’ve said in the past. RONDEL is good, but now it’s one of several arrows. We have another system, the DPCs, or dynamic polyconjugates, that are also good. And we also have chemistries that we have to offer. And so I think our value as an RNAi player is just broader than it used to be, which again is not to say that we don’t believe in RONDEL. It just means that we have additional assets around it to support RONDEL and to support the overall programs.

Well, the other part of this, too, is you had mentioned, I think about a year or so back, that the goalpost had moved in terms of trying to partner anything with biopharma. That predominantly you needed good, solid clinical results. It seems to me as you look at the potential of DPC, it is preclinical. We have nothing in human. RONDEL is the furthest along. So it would seem that most of the focus or encouragement, I would assume, would be on RONDEL, just given how mature it is, and that, seemingly, being the most right for partnering.

And not to take anything away from RONDEL, but to talk DPCs up. Here’s what we have with the DPCs. We have a much more complete data set on the DPCs preclinically than we did with RONDEL. We have a substantial amount of nonhuman primate data across multiple iterations of the DPCs. We’ve got substantial data in various rodent models across various iterations of DPCs. So I think the DPCs, now, even though it’s preclinical, has a broader data set than RONDEL at the same time. And so I think that partners are interested in DPCs as well, even though we don’t yet have clinical data.

And then just one quick follow up. You had mentioned the ability to have a very powerful platform and/or partnering opportunity. But I would think, too, a lot of these partners would want a viable company that has survivability. So just my opinion, but without the ability to get significant non-dilutive capital, i.e. partnerships and funding, in the door, to what extent do you think a lot of biopharma partners would really be that encouraged to partner that deeply without knowing or feeling that that partner, meaning Arrowhead, would likely be around in 12-24 months?

I can’t speak for any other company but my own, but I’ve not seen that as a concern thus far.

And our next question is from James Cash of [Poterhead] Pharma. James Cash - [Poterhead] Pharma: Could you tell me when was the first public announcement of this financing?

It was the press release this morning. I think it went on the wire at 9:15 or thereabouts Eastern time. James Cash - [Poterhead] Pharma: It certainly seems like there was some anticipation of this, easily a couple of days toward the end of last week. This really causes me dismay when it seems like the playing field isn’t quite level as far as who gets the information and when.

I really appreciate your comments, sir, and I share the concern always. I can tell you that it was a confidentially marketed deal, and we did everything we could to make sure that confidentiality was honored. But I do appreciate your concerns, and you tend to see that sometimes in financings. But I can tell you that we did everything we could to make sure that our interactions were confidential. James Cash - [Poterhead] Pharma: Well, what was the formula by which you priced the private placement at this $2.76, and did you understand that when you placed it that price, the stock would fall to that price?

The lead investor dictated the terms.

And our next question is a follow up from Todd Aldrich.

Just a quick question, did management invest in this round of financing - to the extent you can answer that? And with the stock down at this level, and I guess by you guys’ estimation, being a very powerful and potential value-creative proposition long term, any chance management would be investing anytime soon, and put their own money to work at this level?

Management did not participate in this round. But in the past management has invested in, in fact, multiple rounds, as well as in subsidiaries. I’ve invested substantial amounts of my own cash into the company in the past. I did not invest in this round, but I have in the past.

Any chance management would be buying any more stock sometime soon, with the stock at such a discount, with such great value ahead potentially, as you guys describe it?

It is certainly possible, sure.

Then last question, could you probability weight, to the extent you can, the opportunity for non-dilutive capital to [get them] through these partnerships between now and the first of 2013, first quarter of next year?

I’m not going to weight that. Look, we are speaking with companies on a number of levels, and we believe that we will bring in partnerships and collaborations. What the economics of those will look like is just speculation.

I guess the concern is you had mentioned before, after the Roche asset acquisition, that there was a chance of bringing in non-dilutive capital that would likely or potentially run ahead of cash burn. That hasn’t been the case. The collaborations you’ve had so far, and seemingly the one tomorrow we’re going to hear about with Merck, have no capital inflows. Thus my concern of any future collaborations from here through next year.

We do believe that capital will come in from partnerships, yes.

And this will conclude our question and answer session. I would now like to turn the conference back over to Chris Anzalone for any closing remarks.