Questcor Pharmaceuticals, Inc. (QCOR) Bank of America Merrill Lynch 2012 Health Care Conference Transcript May 16, 2012 4:40 PM ET

Steve Byrne – Bank of America Merrill Lynch

My name is Steve Byrne. I cover some of the biotech stocks for BofA Merrill. It’s a pleasure for me to introduce Questcor. With me up here is Don Bailey, CEO. He has been CEO for the last five years and also CFO, Mike Mulroy, so they both up here, if you need to reach them afterwards. All yours Don.

Don Bailey

Thanks Steve. Good afternoon to everybody here. So let’s see before we get going, we’ll have to give you usual cautionary language here on Safe Harbor statements. So we will be making forward-looking statements here today, so please consult with all of our documents filed with the SEC, understand all the risks associated with Questcor thoroughly before investing, as I do that anyway, so.

Questcor is a biopharmaceutical company. We are focused on one key product called Acthar. This product helps patients with serious difficult to treat medical conditions. It’s a particular product Acthar is approved for 19 indications, 19 indications on the label approved by the FDA. The key markets currently are nephrotic syndrome, kidney condition, multiple sclerosis, essential nerves system condition, and infantile spasms, a form of epilepsy.

The markets together form a several billion dollar market opportunity. The company’s strategy is very straightforward, strategies to grow sales in each of these key markets and to develop other unlabeled markets for Acthar, and particularly rheumatology will be the next area that we’ll be going into.

The company is profitable, has excellent operating leverage and hence is cash flow positive. Our cash is now at -- sitting at $136 million. This is net of some payments that they will be made in the next few days to for the stock that we’ve been repurchasing actively over the last several weeks. We -- by contrast we had about a $0.25 billion just a couple weeks ago.

We are going to talk through these four key markets. We’ll start with nephrotic syndrome, because that’s the biggest market right now. Although, rheumatology probably will be a bigger market eventually, at least the great amount of our value from our scripts is coming from nephrotic syndrome, close right behind it is multiple sclerosis, infantile spasms is a smaller mature market, but an important one and then, finally, rheumatology.

So let’s talk about Acthar and nephrotic syndrome, so nephrotic syndrome is a condition that’s characterized by excessive swelling of protein into the urine, condition called proteinuria.

It is a condition where basically the kidney is not functioning, the filtration in the kidney is not functioning properly and the kidney is headed potentially for end-stage renal disease, which means that the only option left to a patient at that point time are dialysis and transplant.

Acthar is approved for treating the proteinuria in nephrotic syndrome, the actually wording, the label is up here on the slide, it’s rather laborious label, but wording, but basically we refer to this is treating nephrotic syndrome for the purpose of today.

There is a significant unmet medical need here. There are very few treatment options. The goal of therapy is to significantly reduce the level of proteinuria, the goal either 50% or the primary goal of therapy is the reduction of 50%, secondary goal is the reduction of 90%, and those are called partial response and complete response.

So we entered the nephrology market here about, just about a year ago by hiring, I don’t know the pointer, is the point out here. Oops, that didn’t work. This is not a pointer.

Mike Mulroy

Left side Don, (inaudible) left side of the podium, here is.

Don Bailey

Thanks. Okay. So we started back about a year ago with hiring of five reps, so with this whole five and yellow areas is on the chart. And that -- those five reps generated 45 scripts and they were then able to grow that number in the subsequent quarter.

We then started an activity to expand that sales force to 28 reps and you can see sales jumped up, script count jumped, and jumped up again in most recent quarter, and we are now in the middle of another expansion, which I’ll talk about little later expanding the 28 sales reps up to 58. So sales have been going rather nicely there.

So let me switch to multiple sclerosis and Acthar. Here we are talking about using Acthar. Acthar is approved for the treatment of exacerbations also called relapse or flares associated with multiple sclerosis.

And Acthar is approved for first line treatment but we are targeting Acthar a second line treatment for those patients who don’t get the complete response to IV steroids, which is generally the first line treatment. This give you some stats here on the size of this patient population which in terms of percentages.

There is probably something in the neighborhood of about 200,000 flares a year. So you can work with the math here to see that there is a pretty sizable market. Right now, we are at a run rate of about 5,000 prescriptions a year. So we’ve a plenty of headwinds.

Here we have a little bit longer history of having a selling effort. You can see we started -- we actually started the selling effort here four years ago with eight reps and we built that up over time. As you can see in this chart, there is 77 reps and the prescription count has now grown to about 1,000 a quarter so each of these bars is a quarter.

And on the next chart, we serve the same data on a monthly basis. So you can see during -- from this chart, sales were moving along. During 2010, we expanded the sales force to 77, late in 2010, sales then jumped to a new level and now been kind of flattening out. We are in the process currently of expanding this sales force to 109. That’s our comment on those expansions a little bit.

Acthar and Infantile spasms. This is an older market for Acthar. Acthar has been the standard care for treating infantile spasms for decades. And yeah, that was just approved by the FDA in late 2010 because we were the first sponsor to take the time and effort to spend the money to try to get this drug approved, get Acthar approved for infantile spasms.

Infantile spasms is not responsive to your standard anti-epileptic drugs and unsuccessful treatment will leave, I think, will likely leave an infant in a very bad shape, orphan in a hospice care by contrast or successful treatment can leave the -- can leave an infant -- can move an infant back to being totally normal. So it’s a pretty dramatic change from an unsuccessful to successful outcome.

It is considered a medical emergency because the development of the part of the brain has really stopped. The brain has stopped developing. So there is a sense of urgency. This is an ultra rare disorder. There is only about 1500 patients a year and about half of -- and Acthar probably has about 60% market share here.

And half of that 60% of patients are treated either through free drug programs or through medicaid, which is where Acthar has 100% rebase. So it’s basically also a free drug program.

IS scripts tends to run thoroughly flat and approximately 90 to 100 range a quarter. And Acthar is -- the last three quarters it’s been running a little bit above that. Acthar is characterized by a brain pattern called hypsarrhythmia and this will -- wavy pattern on this chart is actually what an EEG would like for a baby for infantile spasms and it’s not if you look like that.

Rheumatology, Acthar has some -- has a pretty extensive label for room for various rheumatology indications. I have listed four here that are rather are the most interesting lupus condition called PMDM or polymyositis/dermatomyositis, psoriatic arthritis and rheumatoid arthritis.

Again there is a high unmet need. It is difficult to treat conditions. There is serious health issues involved and significant patient population and we believe there are multi-billion dollar opportunity. We have very little sales in that rheumatology, just a handful of scripts but we will be entering this market later this year.

We’ll talk briefly about the financials, then I’ll shift to strategy. So the company has a profitable debt free cash flow positive. There is not whole lot to talk about here. You can see on this chart that our shipped vials are growing. They are roughly up 100% year-over-year, if you look at Q1 ‘12 versus Q1 ‘11. Our financial results for Q1, where similar sales were up over 100%.

EPS was also up well over 100%, in fact over 200%. The first quarter cash flow was about -- from operations, free cash flow was about $40 million, operating income EPS on this chart.

We did have a channel inventory issue in Q1. We had a late order on the last day of the month that got skewed. It was about a $4 million order of sales in Q1 are inflated by about $4 million over -- due to inventory.

So accounting rules require us to recognize our revenue but just for your understanding of the quarter, our medicaid reserves were normal. And during Q1, we bought back about 800,000 shares although we announced this morning we bought back another 3 million so far in Q2.

I will talk about that now. So in the last four years, we have repurchased 19 million shares. We now have 60 million outstanding. So this is a 26%, is that right Mike, about 26% of our shares, 27% of our shares were repurchased. We have 5.4 million shares remaining. We just extended or just added another incremental buyback program.

We have returned $236 million worth of our free cash flow to shareholders. So the repurchase activity this year is 3.8 million shares, 800,000 in Q1, 3 million in Q2. And we had the more aggressive buyback now because in the last six months, our sales and earning have been increasing rapidly.

We are now seeing some traction in the nephrology market. The sales force expansion is going very well. In fact, it’s running well ahead of schedule and we are getting ready to move into the rheumatology opportunity.

So, I think, as you all would know, repurchased shares are accretive, highly accretive since interest we can earn on that cash is basically near zero. The Q1 -- just in Q1 alone, based on the repurchase activity up through Q1, so that doesn’t include what happened in Q2. We estimate it has increased EPS by 24%. So, if we had not done any of this activity, EPS would have been impacted by 24% in Q1.

Our balance sheet is very straightforward. It just has cash and equity on it and you can see the cash is $136 million, net of the final payments out on share repurchase.

We reported recently our April metrics, so we report monthly our script activity and here it is for -- there is nothing new on this page. We shipped 1,350 vials in April even with the channel issue. But the ending level of inventory at the end of April is still on the high side, not quite as high as it was at the end of March, but still it’s on high side.

We also announced that operating expenses in Q2 are expected to be up about $10 million over Q1 and we’ll up again in Q3. This is principally related to the, all the sales force expansions. We also, we’ll announce today that we took a small price increase effective today.

Acthar is a very interesting drug. It’s an old drug. It’s not well understood how this drug works. It appears to moderate the autoimmune system. It works very nicely in a number of different of these autoimmune conditions. As you can just see from what we’ve talked about so far, rheumatology, kidneys and central nervous systems, it’s quite a wide variety.

Acthar works -- technically we believe it works through the melanocortin peptide system. There are a number of receptors located throughout organs in the body. Acthar seems to activate those receptors, which then modulate the immune system.

All the contents of Acthar and its effective ingredients have yet to be totally characterized. We are in the process of doing that. The PK profile is not in the public domain and that is not well known. So none of this will ever been made public. So basically these are all trade secrets that provide some pretty significant hurdles to a competitor to ever duplicate this drug.

We, therefore think that a biosimilar or generic pathway are extremely difficult, if not impossible, because the drug is not well characterized, complex pharmacology, not known how the drug works publicly.

So we’ve believe clinical trials will be involved for any competitor and that would be indications specific. So, some of our risk abatement here is having sources of revenue from multiple therapeutic avenues.

Let’s talk briefly about the market opportunity, just from what we’ve -- just from the indications we’ve already identified. So we’ve talked MS, nephrotic syndrome, infantile spasms and rheumatology. And you can see here that the Rxs values vary, so a prescription for Acthar, for MS is in the $40 to $50,000 range, for nephrology it’s much higher.

And the market size is over there in the right are, these are numbers where the markets certainly sustained. We’ve been very conservative in stating these numbers. Our run rate of sales here is about somewhere between $350 million to $400 million, so you can see where we are versus these market opportunities.

We want to point out that in the case of nephrotic syndrome we don't give all the revenue in the quarter in which the script comes in for MS and IS. When the script comes in, pretty much, all the vials are shipped right away and they are consumed in a very short period of time, a weak or two.

Nephrotic syndrome is a six-month script and the vials tend to go out over a six-month period, and the revenue is going to track with the vials through an inventory cushion. So, when the script comes in for nephrotic syndrome, the value of that script is obviously going to eventually be recognized as the script is fulfilled. But in the most recent time period, the revenue would be a little bit lower.

So here's our plan. It’s a very straightforward plan. Our plan is to focus on Acthar and to focus on the embedded pipeline. So we want to expand our nephrotic syndrome effort and I will talk a little bit more about that in a minute. We want to expand the MS promotion effort.

IS is pretty much in a mature stage, so there’s not much to do there and we’re going to initiate a pilot effort in rheumatology, like the two pilots we’ve done in the past for MS and nephrotic syndrome.

We’re also going to develop other markets for Acthar. We want to look first at the other on-label indications, which are mainly in the dermatology and ophthalmology areas. And we want to further define the unique characteristics of Acthar, so that we can understand the drug better and look at other possible, future indications for Acthar that could be added to the label after trials are run.

We do not plan on doing any business development or acquisitions certainly, unless it’s really closely related to this pituitary adrenal axis.

The sales force expansion looks a little bit like this time-wise. So here we are in the middle of smack, in the middle of Q2, all of these nephrology reps have been hired. So we now have 58 nephrology reps in-house.

They're being trained in tranches and the last couple of tranches are in various stages of training. The first group is already out in the field. So within another less than 30 days, all 58 reps in nephrology will be out in the field.

With neurology, we are expanding from 77 to 109. We are about a third away through that hiring process already. So about a third, about 12 or 15 of the incremental reps have been hired.

And then up here in the right, we have the rheumatology sales pilot. We don't have any reps, we are going to have yet. We did announce in our April 8-K that, actually it’s going to come a little bit earlier, so each of these has ended up being earlier than we had originally projected.

And looking at the Acthar and the pipeline of Acthar, we talked about generating more data for the on-label indications. We've been doing that gradually, especially in nephrotic syndrome and lupus. That’s where our focus has been.

But we also have started a number of efforts looking at other possible future indications for Acthar, the biggest one being diabetic nephropathy, the autism, traumatic brain injury, ALS and migraine. Amongst others are also areas that we have some research going on.

So in summary, Acthar has, we believe sustainable competitive advantages and we’re past the point of having really any FDA risk, certainly FDA approval risk. Acthar has a very strong label with quite a few viable, commercially viable indications. Sales in both nephrotic syndrome and MS have shown some very nice growth characteristics over the last 24 months, and yet it looks like there is plenty of room to grow there in the future.

We have a new vertical market coming in rheumatology. We have excellent margins and very good operating leverage and the company’s financial balance sheet is in a very good order. So Steve, with that looks like you got.

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