Atossa Genetics — Endoxifen catalysts expected in 2019

Atossa Genetics has been focused on advancing its breast health programs, primarily its programs on endoxifen, but also programs on intraductal microcatheter (IDMC)-administered fulvestrant, and its early research activities on delivering CAR-T therapeutics to breast tissue. In 2018, the company reported lower than expected operating costs and losses. It reported an $11.4m operating loss, driven by $7.2m in G&A costs and $4.2m in R&D expenses. This compares to our prior estimates of a $12.9m operating loss, $7.4m in G&A costs, and $5.5m in R&D expenses. Atossa reported a $22.8m net loss (or $5.50 per share) in 2018, but this net loss would be reduced to $11.4m if the $11.5m dividend attributable to preferred stock holders were excluded.1

Endoxifen is a tamoxifen metabolite that is responsible for much of the oral drug’s selective estrogen receptor modulation (SERM) action. Atossa believes that topical endoxifen can exert SERM effects to breast tissue and reduce elevated mammographic breast density (MBD), with fewer significant adverse events. It also believes that topical endoxifen can safely reduce gynecomastia (male breast enlargement).

Atossa is also developing an oral endoxifen formulation with the aim to reduce breast cancer risk. About 20% of the 300,000 US women currently taking tamoxifen (largely to prevent recurrence of breast cancer) do not achieve sufficient concentrations of endoxifen and may have increased risk of cancer recurrence. Atossa believes that oral endoxifen can reduce recurrence risk in these patients, having completed a Phase I oral endoxifen trial in 2017, and we believe it plans to start a Phase II study in tamoxifen-refractory women in 2019. The oral formulation is also being evaluated in a pilot Australia-based study (which began in July 2018) designed to assess the drug in the ‘window of opportunity’ (WOO) between estrogen receptor-positive (ER+) breast cancer diagnosis and surgery (in patients requiring mastectomy or lumpectomy). The primary endpoint is to determine if the administration of oral endoxifen reduces the tumor activity as measured by Ki-67, which is a marker of cellular proliferation. The study plans to recruit eight patients and if at least two of these show a Ki-67 response (suggestive of tumor activity reduction), it will be increased to 25 subjects.

Atossa is conducting a double-blinded, placebo-controlled Phase II study of its topical endoxifen formulation in women with elevated MBD at Stockholm South General Hospital in Sweden (affiliated with Karolinska Institute). The study follows a Phase I trial completed in Q317 showing that topical endoxifen was safe and well tolerated in women and that it can generate an increase is blood endoxifen in a dose-dependent manner. The primary endpoint of the Phase II study is to determine if daily topical endoxifen administration results in changes in MBD, which will be measured after three and six months of study commencement. The secondary endpoints are safety and tolerability. Enrollment was completed in October 2018, and 90 participants were randomized to one of three 30-participant groups (one placebo arm and two endoxifen dosage arms).

If the study shows a reduction in MBD, the firm’s intent is to use the resulting data to drive sample size calculations for a future pivotal Phase III study. However, reports of skin irritations with the topical formulation and a higher than expected dropout rate raise uncertainty as to whether the study’s data can be used in this regard. Atossa disclosed in November 2018 that some participants in the current MBD Phase II study have reported skin rashes and irritation and have withdrawn from the trial. Some participants have chosen to exit the trial before receiving a full six months of drug or placebo. As of March 2019, Atossa reports that approximately 72 participants have exited the study primarily because of skin rashes and irritation. Because the study is double blinded and results to date are not known, the firm does not yet know whether the study results will result in sufficient data to design a subsequent study. All patient dosing within the study was completed in April 2019, and top line results will be reported in Q219.

Altogether, it is relatively premature to speculate on whether or not the skin reactions observed to date will require a formulation change for future clinical development (leading to product development delays), or whether the same reaction would occur in men with the existing formulation. However, given that c 80% of enrolled patients have discontinued due skin rashes or irritation, we believe that there is a high probability that the product will require a formulation change prior to subsequent clinical development.

Management had also previously planned to start a Phase II gynecomastia study in male prostate cancer patients in 2019, but we believe they will await the results of the Phase II MBD study (and to determine whether formulation modifications are warranted for the topical product candidate) before proceeding with the Phase II study in men.

Atossa announced in March 2019 that it received a "Safe to Proceed" letter under the FDA’s expanded access program (EAP), which allowed the use of oral endoxifen as a post-mastectomy treatment in a single pre-menopausal, ER+ breast cancer patient who had previously already completed a three-week course of endoxifen prior to surgery under an FDA EAP. Tumor activity from the initial biopsy was compared to activity at surgery, and results showed the cancer cell biological activity was reduced by two measures: the Ki-67 activity decreased by 50 percent, and ER content decreased by over 20 percent. There were no reported safety or tolerability issues. These results suggest that the endoxifen course may have benefited the patient prior to surgery and management reported that the FDA agreed that continued endoxifen therapy may be appropriate for this patient. Under the FDA EAP, the use of endoxifen is restricted solely to this patient for the time being. We expect that the company is continuing to evaluate study options for oral endoxifen in the US beyond its planned cancer recurrence prevention study in patients refractory to tamoxifen.

Atossa’s stock price reacted very positively (more than tripling) in the days following the announcement of the FDA EAP in March, although most of the gains have since reversed. However, during this brief period, the company received exercise requests for outstanding warrants (at the $4.05 per warrant exercise price). All in, it received $11.3m in proceeds in March 2019 for the exercise of about 2.8m common share warrants. As 3.87m warrants (at $4.05 exercise price) had been outstanding as of YE18, we estimate that about 1.07m of these warrants remain outstanding (but they are no longer in-the-money).

Atossa reported Q418 net cash of $10.5m. Given its 2018 operating cash burn rate of $8.96m and the $11.3m received as per the warrants exercise, we assume Atossa’s Q119 net cash level is $18.9m. We assume this level of cash on hand will be sufficient to fund the company’s operations into 2021.

We expect the firm’s 2019 operating cash burn rate (excluding net interest) will increase to $12.2m (from $8.7m previously). This is primarily due to us pushing some of our endoxifen R&D cost expenses from 2018 into 2019. We continue to believe Atossa’s burn rate will decrease after 2019 (to $7.1m in 2020), as we model the company to have partnered the endoxifen programs (oral and topical) in H219, which would reduce its R&D expense needs. Of course, if the skin irritation/rash issues suggested in the preliminary endoxifen responses in the Phase II MBD study persist and a formulation revision becomes desirable or required, this could impede or delay the realization of a partnership agreement, and may result in the need to raise more funds to internally develop the endoxifen program further prior to a partnership transaction.

We previously assumed that Atossa would raise $10m in 2019 (modelled as long-term debt) to fund its operations, and we have now revised our assumptions to include the $11.3m equity financing from the exercise of warrants (and removed any other financing sources from our 2019 estimates).

Our rNPV valuation continues to include the prospects of the company’s topical and oral endoxifen programs, and its IDMC-delivered fulvestrant program. Our 4% (unchanged) probability of success estimate for the topical MBD endoxifen already factors in the skin irritation issue that has been raised and that, as explained previously, may provoke development delays beyond our current assumptions. We also reiterate proof-of-concept in terms of MBD reduction has not been shown and our forecasts depend on building significant support and recognition among patients, physicians and stakeholders of the benefits of treating MBD as a preventative approach to lowering cancer risk. We continue to apply a 20% probability of success estimate for the oral endoxifen program. Our 10% success probability estimate for the IDMC-fulvestrant program is unchanged.

We continue to apply a 12.5% discount rate in our rNPV approach. After rolling forward our estimates and reducing long-term G&A expenses (on the back of FY18 results), we now obtain an rNPV valuation of $18.4m, above our prior valuation of $10.9m. After including Q119e net cash of $18.9m, we obtain an equity valuation of $37.3m, or $3.81 per fully diluted share (which assumes full conversion of 2,379 currently outstanding Series B convertible preferred shares into 0.676m common shares),2 up from $3.66 previously.