Echo Therapeutics, Inc.

Transcription

1 Echo Therapeutics, Inc. Company Description: Echo Theraeutics is a development stage company with innovative skin permeation technology. The company is developing products enabling transdermal drug delivery and transdermal analyte measurement. Echo plans to initially target the topical anesthetic and continuous glucose monitoring (CGM) markets. Feltl and Company Research Department 2100 LaSalle Plaza 800 LaSalle Avenue Minneapolis, MN Ben Haynor, CFA bchaynor@feltl.com Healthcare- Real-time Diagnostics October 6, 2011 Symphony pilot study shows positive results (ECTE - $2.74) STRONG BUY Key Points Echo released pilot study results on their Symphony transdermal continuous glucose monitor. Results look solid, with Symphony achieving a 10.5% MARD (mean absolute relative difference, a measure of numerical accuracy) CG-EGA (a measure of clinical accuracy) showed 98.3% of readings being clinically accurate and 1.2% being benign errors, for an A+B of 99.5%. Reiterating: STRONG BUY rating and $6.50 price target (8x 2016 EV/sales discounted by 50%/year). Echo s pilot study on their Symphony tcgm showed positive results. The 12- patient study of the Symphony showed the tcgm (transdermal continuous glucose monitor) device achieved an MARD (lower is better) of 10.5%. This contrasts with MARDs of 19.7% for Medtronic s (MDT not rated) Guardian RT CGM and 16% for DexCom s (DXCM Buy) SevenPlus CGM (source: product user manuals). We believe the FDA has set the bar higher for new CGM system approvals and will likely evaluate new submissions on multiple criteria. However, we believe an MARD in the 12-13% range will be roughly the cutoff threshold for evaluating this type of accuracy. Additionally, the Symphony showed solid results on the Continuous Glucose-Error Grid analysis (CG-EGA, a measure of clinical accuracy), 98.3% of readings were clinically accurate with another 1.2% being benign errors, for a combined A+B score of 99.5%, also better than the CGMs currently on the market from Medtronic and DexCom which both achieved 96% A+B scores. The company plans on conducting a pilot study focused on diabetic patients this quarter, likely starting within the next couple of weeks. The company is also working on gaining hospital approval prior to conducting an additional study of critical care patients, which will likely begin sometime in Q Once these studies are complete, the company will conduct a pivotal study for their PMA submission to the FDA, which we estimate will occur in the first half of INVESTMENT THESIS We are reiterating our STRONG BUY rating and a 12-month price target of $6.50 (8x 2016 EV/sales discounted by 50%/year) on Echo Therapeutics (ECTE). Echo is a development stage company with two potentially large products in its pipeline. Echo s Prelude device permeates the skin, enabling small-molecule drug delivery and analyte measurement. Their Symphony transdermal continuous glucose monitor system monitors glucose and has applications for home use by diabetics and in critical care. We believe that Echo will be able to successfully commercialize both products by 2012 and 2013, respectively. We think these products can permanently alter their targeted markets to the company s benefit, and rate Echo a STRONG BUY. Financial Summary Rev(mil) 2010A 2011E 2012E Mar $0.0A $0.2A $0.5E June $0.3A $0.2E $0.5E Sept $0.0A $0.2E $0.6E Dec $0.1A $1.0E $0.7E FY $0.4A $1.6E $2.2E P/Sales 235.0x 58.8x 42.7x EPS 2010A 2011E 2012E Mar ($0.07)A ($0.20)A ($0.06)E Jun ($0.02)A ($0.06)E ($0.06)E Sept ($0.02)A ($0.06)E ($0.10)E Dec ($0.04)A ($0.05)E ($0.09)E FY ($0.02)A ($0.30)E ($0.31)E P/E NM NM NM Price: $ Week Range: $4.98 -$0.86 Target: $6.50 Rating: STRONG BUY Shares Outstanding: 34.0 mil Mkt. Capitalization: $94 mil Ave. Volume: 127,000 Instit. Ownership: 9% BV / Share: $0.28 Debt / Tot. Cap.: 0% Est. LT EPS Growth: 40% Please see important disclosures on pages 6 to 8.

2 rops Strong, Pricing Weak, Farm Profits Could Suffer FDA Evaluation of Blood Glucose Meters and CGMs The FDA has begun to take a closer look at the standards by which it judges blood glucose (BG) meters and CGMs. The impetus appears to be the off-label use of BG meters in critical care setting to maintain tight glycemic control (TGC). This off-label use generally happens due to several reasons. First, an over-the-counter BG meter provides a reading in less that 10 seconds. Second, OTC BG meters are inexpensive compared to the cost of point-of-care lab instruments. Third, many ICU patients are anemic and OTC BG meters minimize blood loss in relation to what is required for lab equipment. A more thorough comparison between the two BG testing types is given in the table below. Glucose Analysis: Lab Instruments versus Point-of-care Meters Lab Instrument Standard reference materials Elimination of hematocrit effect by analysis of serum or plasma Glucose Meter No standard reference materials Can cost more than $10,000 Costs less than $100 Maintenance is more than $1,000 a year Trained technician Calibrated many times daily Controlled environment Controls run frequently Large, stationary, sensitive to shock 5 ml sample 60 second throughput Hematocrit effect mitigated by measurement or algorithms No maintenance required Layperson No user calibration Variable temperature, altitude, and other factors Control solution use limited Small, portable, resistant to shock 1 µl sample 10 second throughput ±4% to ±10% inaccuracy Inaccuracy is generally 2X reference method (laboratory instrument) Source: AdvaMed, Clinical Laboratory News, May 2010 Quantification of Errors The Clarke Error Grid Analysis (EGA), shown below, was developed by Dr. William Clarke in 1987 to quantify clinical accuracy of blood glucose (BG) meters. The EGA is used to compare meter-determined blood glucose estimates to a reference value. When evaluating a BG device using the EGA, regions A and B are considered the safe regions, region C would cause unnecessary treatment, and regions D and E would be dangerous failures to detect hypo or hyperglycemia or confusing of appropriate treatments. The EGA has become the gold standard in determining accuracy of blood glucose meters. However, while it is applicable to CGMs, it is not necessarily a good measure of accuracy for CGMs. The EGA was developed at a time when diabetics typically measured their blood glucose using finger sticks and blood glucose meters a handful of times a day. Clarke Error Grid (EGA) Feltl and Company Research Department Echo Therapeutics, Inc. (ECTE) Page 2

3 rops Strong, Pricing Weak, Farm Profits Could Suffer Obviously, measuring blood glucose a few times daily is not nearly the same thing as measuring it 288-1,440+ times per day as is done by most CGMs today. For example, assume a diabetic is measuring BG every hour of the day by fingerstick and sees readings of 100, 100, 300, 100, and 100 over the course of four hours. Under the EGA, those readings could have been accurate. However, if one is using a CGM that reads BG every minute and sees those same readings, in which the 300 reading would be obviously erroneous, as BG cannot spike and return to normal over the course of several minutes, a CGM would be evaluated as generating serious errors under the EGA. The FDA appears cognizant of this fact and is apparently attempting to initiate a new standard that will likely apply to both blood glucose meters and CGMs. It should be noted that current CGMs are approved only for tracking and trending purposes (or adjunctive), not standalone BG measurement. DexCom indicated recently that the FDA has taken issue with the current ISO standard for blood glucose meters and that the FDA has requested comments from various parties on the establishment of a new standard for CGMs. The FDA-recognized BG meter ISO standard (15197:2003) requires that 95% of all results be within +/- 15 mg/dl when reference glucose levels are less than 75 mg/dl and within +/- 20 mg/dl when reference levels are greater than 75 mg/dl. Further, the ISO standard requires testing a wide range of glucose concentration levels as shown in the table below. There has been some indication that the FDA will wind up evaluating CGMs on something similar to the continuous glucose error grid (CG-EGA), also developed by Dr. Clarke s group. The CG-EGA attempts to take into account the interdependency of successive data by combining point accuracy with rate (directional change) accuracy. While we are unsure which approach the FDA will ultimately take, it appears that they intend to regulate using a two-track approach, with one standard for home use and another for the hospital and other medical professional use. The current consensus appears to be interested in tightening up the ISO range to +/- 15 mg/dl, or 15 mg/dl mean absolute relative distance (MARD), across the full spectrum. Likewise, there has been some discussion of requiring a 12 mg/dl MARD in the hypoglycemic range for CGMs targeted at the critical care market. Feltl and Company Research Department Echo Therapeutics, Inc. (ECTE) Page 3

4 rops Strong, Pricing Weak, Farm Profits Could Suffer However, we believe that the FDA will end up evaluating CGMs on multiple metrics with a focus on the risk/reward trade-off. In practice, this may raise the difficulty level in achieving FDA approval for minimally invasive devices, such as those that use a needle to draw fluids to measure glucose, especially those targeting the critical care market due to the potential risk of hospital-acquired infections (HAIs). We believe this can be looked at two ways. Firstly, this benefits existing players who have critical care approvals already as new applicants will have a more difficult time getting their minimally invasive CGM through the FDA, but has the corollary of making it more difficult for those same firms to gain approval for new versions of their devices. Secondly, this could benefit firms who utilize a noninvasive approach in the sense that the FDA may not apply a strict MARD standard on a noninvasive device as the risk of HAIs would be lessened considerably or eliminated. The table below details the FDA-approved CGMs. Given the past CGM approvals, it would appear that the best a new entrant into the CGM market could hope for is a little less than a year, but that time frame can stretch considerably if numerous amendments are made to the filing. PMA Continuous Glucose Monitoring System FDA Submissions Approved Amendments Time to Approval Notes MiniMed CGMS 6/15/ months GlucoWatch 3/22/ months DexCom STS CGMS 3/24/ months FreeStyle Navigator CGMS 3/12/ months MiniMed acquired by Medtronic Discontinued July 2008, purchased by Animas, now J&J First generation DexCom CGM System back-ordered indefinitely, sensors still available Feltl and Company Research Department Echo Therapeutics, Inc. (ECTE) Page 4

5 Echo Therapeutics (ECTE) Ben Haynor, CFA Income Statement (thousands) FY Q1 Q2 Q3 Q4 FY Q1A Q2A Q3E Q4E FYE Q1 Q2 Q3 Q4 FYE FYE FYE FYE FYE Licensing revenue , Royalty revenue ,114 5,014 9,111 9,207 9,304 Product revenue ,670 21,082 59, ,291 Other revenue Total Revenues 1, , ,242 8,484 30,992 69, ,395 COGS ,333 7,161 19,006 39,198 Gross Profit , ,964 7,151 23,831 50,223 95,197 Operating Expenses: Research and development 2,807 1, , ,076 1,614 4,552 1,937 1,975 3,500 3,570 10,982 12,406 11,036 11,256 11,481 Selling, general and administrative 3,055 1, , ,056 1,141 4,094 1,369 1,396 1,424 1,453 5,643 10,674 38,234 55,134 56,237 Total operating expenses 5,862 2,391 1, ,339 1,785 1,974 2,132 2,755 8,646 3,306 3,372 4,924 5,023 16,625 23,079 49,270 66,390 67,718 Operating income (loss) (4,530) (2,377) (911) (909) (713) (4,910) (1,555) (1,816) (1,932) (1,805) (7,108) (2,931) (2,933) (4,418) (4,379) (14,661) (15,928) (25,438) (16,167) 27,479 Other income (expense), net (6,428) (434) 764 (3,042) (171) (50) (50) (3,313) (50) (50) (50) (50) (200) (200) (200) (200) (200) Net income (loss) (10,958) (1,882) (536) (583) (1,147) (4,147) (4,597) (1,987) (1,982) (1,855) (10,421) (2,981) (2,983) (4,468) (4,429) (14,861) (16,128) (25,638) (16,367) 27,279 Preferred stock non-cash charges (2,554) (28) (29) (37) (38) (132) (2,021) Net income (loss), common (13,512) (1,909) (564) (620) (1,185) (4,278) (6,618) (1,987) (1,982) (1,855) (10,421) (2,981) (2,983) (4,468) (4,429) (14,861) (16,128) (25,638) (16,367) 27,279 EPS, basic and diluted $ (0.61) $ (0.07) $ (0.02) $ (0.02) $ (0.04) $ (0.15) $ (0.20) $ (0.06) $ (0.05) $ (0.04) $ (0.29) $ (0.07) $ (0.06) $ (0.09) $ (0.09) $ (0.32) $ (0.29) $ (0.43) $ (0.27) $ 0.45 Basic and diluted shares outstanding 22,291 28,243 29,071 29,106 29,705 29,031 32,637 33,911 37,000 42,000 36,387 44,000 46,000 48,000 50,000 47,000 55,000 60,000 60,000 60,000 Balance Sheet Current Assets: Cash and cash equivalents 1,167 1, ,342 1,342 4,995 3,200 3,961 24,976 24,976 Restricted cash 394 Accounts receivable Stock subscriptions receivable Prepaid expenses and other current a Total current assets 1,524 2,181 1, ,964 1,964 5,317 3,909 4,261 25,576 25,576 PP&E (net) Other assets 9,721 9,691 9,659 9,684 9,900 9,900 9,635 9,646 9,625 9,625 9,625 Total assets 11,303 11,923 10,712 10,231 11,912 11,912 15,098 13,835 14,046 35,376 35,376 LIABILITIES AND STOCKHOLDERS EQUITY Current Liabilities: Accounts payable ,500 1,500 Deferred revenue ,000 1,000 Current portion of notes payable and c Derivative warrant liability 2,117 1,620 1, ,545 1,545 3,321 2,526 2, Accrued expenses and other liabilities Total current liabilities 4,140 3,266 2,319 2,313 3,122 3,122 4,496 3,871 3,700 3,200 3,200 Notes Payable and capital lease obliga Deferred Revenue, net of current porti Total liabilities 4,271 3,421 2,425 2,369 3,210 3,210 4,542 3,876 3,700 3,200 3,200 Total stockholders equity 7,033 8,502 8,287 7,862 8,702 8,702 10,555 9,959 10,346 32,176 32,176 Total liabilities and stockholders equity 11,303 11,923 10,712 10,231 11,912 11,912 15,098 13,835 14,046 35,376 35,376 Feltl and Company Research Department Echo Therapeutics, Inc. (ECTE) Page 5

6 Analyst Certification I, Ben Haynor, CFA, certify that the views expressed in this research report accurately reflect my personal views about the subject company and its securities. I also certify that I have not been, am not, and will not be receiving direct or indirect compensation related to the specific recommendations expressed in this report. Important Disclosures: The analyst or a member of his/her household does not hold a long or short position, options, warrants, rights or futures of this security in their personal account(s). As of the end of the month preceding the date of publication of this report, Feltl and Company did not beneficially own 1% or more of any class of common equity securities of the subject company. There is not any actual material conflict of interest that either the analyst or Feltl and Company is aware of. The analyst has not received any compensation for any investment banking business with this company in the past twelve months and does not expect to receive any in the next three months. Feltl and Company has not been engaged for investment banking services with the subject company during the past twelve months and does not anticipate receiving compensation for such services in the next three months. Feltl and Company has not served as a broker, either as agent or principal, buying back stock for the subject company s account as part of the company s authorized stock buy-back program in the last twelve months. No director, officer or employee of Feltl and Company serves as a director, officer or advisory board member to the subject company. Feltl and Company Rating System: Feltl and Company utilizes a four tier rating system for potential total returns over the next 12 months. Strong Buy: The stock is expected to have total return potential of at least 30%. Catalysts exist to generate higher valuations, and positions should be initiated at current levels. Buy: The stock is expected to have total return potential of at least 15%. Near term catalysts may not exist and the common stock needs further time to develop. Investors requiring time to build positions may consider current levels attractive. Hold: The stock is expected to have total return potential of less than 15%. Fundamental events are not present to make it either a Buy or a Sell. The stock is an acceptable longer-term holding. Sell: Expect a negative total return. Current positions may be used as a source of funds. 5/24/2011 Ratings Distribution for Feltl and Company Investment Banking Number of Percent Number of Percent of Rating Stocks of Total Stocks Rating category SB/Buy 39 68% 2 5% Hold 17 30% 0 0% Sell 1 2% 0 0% % 2 4% The above represents our ratings distribution on the stocks in the Feltl and Company research universe, together with the number in (and percentage of) each category for which Feltl and Company provided investment-banking services in the previous twelve months. Feltl and Company Research Department Echo Therapeutics, Inc. (ECTE) Page 6

7 05/24/11 Strong Buy Target: $6.50 Date Nature of Report Rating Price Target 05/24/11 StrongBuy $ /09/11 No news is bad news? Fundamentals intact, reiterating StrongBuy $6.50 STRONG BUY, $6.50 PT 08/12/11 Q2 earnings inline, Prelude 510(k) amendment and StrongBuy $6.50 Symphony pilot studies soon 10/06/11 Symphony pilot study shows positive results StrongBuy $6.50 Feltl and Company does make a market in the subject security at the date of publication of this report. As a market maker, Feltl and Company could act as principal or agent with respect to the purchase or sale of those securities. Valuation and Price Target Methodology: We derive our valuation using an EV/sales methodology. We believe this is appropriate being that Echo is a development-stage company which will not likely generate positive earnings until 2016 by our estimates. Based upon past acquisition multiples for diabetes-related companies, which we believe to be approximately 8x trailing-twelve-month sales, as well as the rapid growth of the CGM industry, we think an 8x revenue multiple is appropriate to value Echo upon. Our $6.50 price target represents a 8x EV/sales multiple on our 2016 sales estimate of $134.4 million which we have discounted by 50% per year to arrive at our $6.50 twelve-month price target. We believe this relatively high discount rate is appropriate given the risks of achieving FDA approval and market success. Echo is currently a speculative stock and should be considered at currently levels by aggressive investors. Feltl and Company Research Department Echo Therapeutics, Inc. (ECTE) Page 7

8 Risks to Achievement of Estimates and Price Target: The Symphony tcgm does not obtain FDA approval in a timely fashion. We believe Echo will obtain FDA approval for Symphony late in the first half of 2013 (after filing a PMA in first half 2012), but some competing CGM products took nearly three years to get to market after filing their PMA applications. A delay in approval may further entrench current players and allow additional competitors to enter before Echo is able to enter the market. Echo may need to raise money to see its products to approval. We estimate Echo will raise ~$25 million in 2011 via an equity offering. While the company believes this will be sufficient to successfully commercialize the Symphony tcgm once combined with warrant exercises and the royalty revenues from the Prelude/lidocaine product, device approvals and commercializations tend to be more expensive than management teams usually estimate. The CGM industry is likely to become more competitive. Currently, only Medtronic (MDT not rated) and DexCom (DXCM not rated) have CGMs that are being sold. Numerous companies are attempting to develop CGM systems (see Glucose Monitors in Development section for discussion), and many have larger budgets and more experience commercializing technology. Other Disclosures: The information contained in this report is based on sources considered to be reliable, but not guaranteed, to be accurate or complete. Any opinions or estimates expressed herein reflect a judgment made as of this date, and are subject to change without notice. This report has been prepared solely for informative purposes and is not a solicitation or an offer to buy or sell any security. The securities described may not be qualified for purchase in all jurisdictions. Because of individual requirements, advice regarding securities mentioned in this report should not be construed as suitable for all accounts. This report does not take into account the investment objectives, financial situation and needs of any particular client of Feltl and Company. Some securities mentioned herein relate to small speculative companies that may not be suitable for some accounts. Feltl and Company suggests that prior to acting on any of the recommendations herein, the recipient should consider whether such a recommendation is appropriate given their investment objectives and current financial circumstances. Past performance does not guarantee future results. Additional information is available upon request. Feltl and Company Research Department Echo Therapeutics, Inc. (ECTE) Page 8

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