Weighing In on a New Name

Amid a wave of companies with late-stage obesity products that are currently vying for Food and Drug Administration (FDA) approval, Vivus VVUS is the biotechnology name that offers the most attractive prospects.

While this sector carries several risks, we believe this niche of the pharmaceutical market -- in which more than $50 billion is spent each year in mostly over-the-counter products -- is a potential Game Breaker, and that this particular stock offers an attractive risk/reward at its current levels. With that in mind, we will initiate a new position in the model portfolio by purchasing 350 shares of Vivus after you receive this Alert.

The stock -- which was recently trading at $7.37 -- has slid nearly 30% since September, when the company raised more than $100 million in a secondary offering. Following this deal, Vivus is well capitalized with $227 million of cash on the books ($3.20 a share) and no debt.

At current levels, the shares are trading only about a dollar higher than where they were before the company posted strong phase III data. The company's lead product candidate, Qnexa, performed successfully in multiple phase III trials for treating obesity, which involved thousands of patients. The product stood out against similar studies conducted by its rivals as it helped the subjects achieve a much higher weight loss on average.

For example, 60% of patients in one study lost at least 10% of their body weight, which was five times greater than what was achieved by those who were given the placebo. This also compares favorably to the company's competitors. In Arena Pharmaceutical's (ARNA) latest trial for lorcaserin, only 35% of patients lost more than 10% of their body weight. Orexigen OREX had similar results with its Contrave product with 33% of patients achieving double-digit percentage weight loss.

Qnexa is actually made up of two currently approved drugs, combined in a proprietary formulation to promote significant weight loss. One of the drugs is phentermine, a generic weight-loss drug that is still prescribed to millions as an appetite suppressant. The other drug in Qnexa is Johnson & Johnson's (JNJ) topiramate, which is used to treat epilepsy and migraines.

The true benefits in the resultant compound, and in its peers, lie in the potential these types of drugs have to improve other vital signs such as blood pressure, lipids and high blood sugar in diabetic patients. Vivus and its competitors have been able to show proof of these benefits in their studies, which is important, given the public recalls of popular but dangerous weight-loss drugs in the past such as Phen-Fen. Because of these risks, some folks at the FDA may be be reluctant to approve another product in this space, especially if it seems to be merely a "lifestyle"-type drug, but the administration has yet to comment specifically on this.

No drug is without its potential side effects, however. And of late, the market has had issues with the safety of Qnexa. The company's latest study showed that about 2% of patients dropped out because of memory/attention loss, which is one of the previously known side effects of the Qnexa component topiramate. Also, before Qnexa is potentially approved, the company has two important catalysts to address over the coming months. First, the company needs to file its new drug application for the product before the end of the year. Second, Vivus is also actively seeking a distribution partner for Qnexa. On its recent earnings conference call, management said that discussions with unnamed potential partners are going well. There is a less definitive timeline for this potential catalyst, but we believe that the company could strike a partnership deal during the first half of 2010.

It's also worth noting that Vivus has an erectile-dysfunction product on the market and two others in the pipeline. Even so, we don't believe that the market will pay much attention to the company's prospects in this competitive space. This is especially true with Viagra set to go generic in 2012.

With an FDA approval for Qnexa, we believe that the stock can move back into the double-digits over the coming quarters. But if the drug lives up to the full potential that the data currently show, we believe the stock can more than double over time.

Our initial purchase gives our model portfolio a 2.2% position in Vivus. Despite the risks involved, we believe that it's healthy to speculate in a diversified portfolio and, therefore, we have left room to take our stake up to 500 shares on a pullback in the stock.

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