Amylin - A Discounted Option on Byetta's Outcome

Amylin (AMLN) presents a stock opportunity with substantial optionality, and is currently in the sights of activist investor Carl Icahn. I believe Mr. Icahn may not only be trying to make himself a profit, but may also be trying to get Eli Lilly (LLY) a good deal on AMLN at the same time. This may be the win-win genius of Mr. Icahn's deal making.

Regulatory risk surrounds AMLN's key drug Byetta, but if one can come to terms with this risk, then perhaps the stock is a cheap option on Byetta's outcome, and is an option that has a strong chance of ending up "in the money". And perhaps this is how Lilly would view AMLN should the company end up doing a deal via Mr. Icahn.

Afterall, any R&D investment in the pharma world has substantial optionality. Thus buying AMLN as a discounted option, even in the face of FDA risk for its key product, wouldn't be unreasonable for LLY. Should it then be unreasonable for investors?

In the sights of Carl Icahn

Carl Icahn has most recently been pressuring the company to sell itself to Eli Lilly and Eli Lilly has said that it is open to making acquisitions in general, plus has had a historical relationship with Carl Icahn. Last October, Eli Lilly bought ImClone for $6.5bn, a company which had been controlled my Mr. Icahn. Lilly also has a relationship with Amylin, as it is a partner selling Amylin's key product Byetta and provides financial support to AMLN. This relationship is likely to deepen as Amylin seeks approval for a new and much improved once a week version of Byetta. Amylin expects to seek approval with this new formulation during 2Q09.

While Carl Icahn is pushing for a near term sale, Amylin management is concerned that any near term sale would undervalue Amylin since the shares have been hammered by market concerns over the outcome of Byetta. AMLN's shares are near $10, down from $30 and higher last year.

Byetta faces safety concerns

Byetta, a Type 2 diabetes drug, is awaiting an FDA decision to put a warning label indicating the risk of a rare pancreatitis, or worse, a more severe Black Box warning. In addition, there are also some salient concerns that Byetta contains risk of thyroid tumors. This has all cast a shadow over Amylin's most visible future profit driver, the soon to be commercialized once a week Byetta.

Sales of Byetta, which is made in partnership with Eli Lilly, have been lagging since being linked to cases of acute pancreatitis in 2008. That has raised concern on Wall Street over the chances of approval for exenatide LAR. [the new once a week version of Byetta]

Thus we have risk of a safety warning on the original Byetta, hurting its future sales or keeping them stagnant, and then potentially the rejection or delay of the new once a week Byetta. Note that once a week Byetta is a substantial improvement on the original Byetta, since the older version requires two injections a day. Patients will clearly see a higher quality of life with the newer formulation, ie. far fewer needle jabs.

Mr. Icahn pushing for sooner, rather than later

Back on the activist investor front, Carl Icahn is currently trying to place five nominees on a 12-member board and has called for the Amylin board chairman's resignation. At the same time another activist investor, Eastbourne Capital, is trying to add its own directors. Thus it appears Carl Icahn would rather not wait for FDA results on Byetta or its new version, and is pushing for a near term sale.

Assuming Mr. Icahn gets his way, and assuming Amylin's Byetta franchise remains intact post any FDA ruling, Lilly would likely be getting AMLN at a good price should it close a deal soon, since the shares are currently down about 70% from pre-safety-concern levels in 2008. So not only would Mr. Icahn and any recent AMLN invesors likely make a profit, but Lilly might end up pretty happy too, buying AMLN at depressed levels. Let's not forget that Icahn has sold companies to Lilly in the past, perhaps Icahn's genius is to create win-win relationships of this sort and that's what he's trying to deliver now.

Who might lose from a near term sale? Historical AMLN shareholders who bought the stock at much higher prices, and perhaps management. These parties might be more interested in seeing the hopefully successful launch of once a week Byetta and AMLN's return to $30 share price levels or higher.

Mike Huckman, of Pharma Market, thinks that a buy out by Lilly makes sense given the close relationship already shared between the two companies.

LLY and AMLN are partners on the twice-a-day injectable diabetes drug Byetta. And they're working with Alkermes to bring a first-ever once-a-week version of the drug to market. ...

But the second that a Lily exec publicly acknowledges that the company might be interrested in an Amylin buyout, AMLN shares are going to rally and the price tag for LLY will go up.

David Kliff, who writes "The Diabetic Investor" newsletter, has been insisting for the longest time that it's not a matter of if, but when Lilly buys Amylin. But for now it looks like we've got a standoff.

All roads lead to regulatory risk

Thus the majority of the AMLN risk lies in FDA rulings and how patients react to potentially harsh safety labeling. If Byetta ends up doing well, AMLN will likely be bought at some stage.

On this front, a promising sign is that Byetta is a rather unique treatment, without direct peer, as it both helps to control glucose and promote weight loss. Being overweight is a challenge for 80-90% of American type 2 diabetics, as per Amylin. Because of its unique profile, and even after FDA safety concerns arose, the treatment was endorsed by major medical institutions at end-2008.

BYETTA has not only been accepted by patients, but also by advocacy groups and key opinion leaders. In their upgraded treatment guidelines published at the end of 2008, the American Diabetes Association and the European Association for the study of diabetes endorsed the approach of treating diabetes with glucose controlled therapies that promote weight loss without increasing hypoglycemia. ...

These treatment guidelines have not been updated in over two years and were written after careful consideration of the efficacy, safety, tolerability, cost and ease of use of currently available medicines. BYETTA was the only new edition to the revised guidelines.

To me this puts a decent probability on the prospects for Byetta. AMLN management's reluctance to jump the gun on any buy-out also indicates confidence in the drug's prospects, and Lilly even appears confident in Byetta's prospects since A) they are supporting AMLN already and B) Carl Icahn's behavior, and previous relationship doing deals with Lilly, implies that he suspects Lilly would be keen to buy AMLN, despite the FDA risks.

AMLN as a discounted option on Byetta

As for any investor, for LLY there is risk that safety issues scuttle Byetta's profit potential, assuming that the company were to buy AMLN in the near term. But with AMLN shares near $10, amounting to only $1.5bn in market cap, and down from $30 or more last year, perhaps it would still be a good deal. For Lilly, Amylin could be a cheap option on Byetta's (and the rest of Amylin's) prospects, a cheaper option than say... pharmaceutical R&D. And perhaps that's how other investors should look at AMLN as well, as a stock with cheap optionality, ie. one that has a strong chance of ending up "in the money" vs. its downside risk.

A lot of people close to the details appear to be confident in Byetta's FDA prospects. The market, given AMLN's share price, clearly isn't. Such a dichotomy could end up providing an excellent opportunity for current investors, and if Carl Icahn can get his way, for Eli Lilly as well.

As a voluntary disclosure, I do not directly own any AMLN or LLY shares.