Intermune (ITMN) Convertible & Company Summary

- by Bill Feingold & Kent Bailey, CFA

Look for Intermune stock to continue its strong performance in anticipation of a takeout, which we believe will ultimately occur.  It makes too much sense not to happen.

The Convertible

Intermune’s near-legendary volatility, combined with its increasing market capitalization, has made it a convertible touchstone for over a decade. Two stub issues trade deep-in-the-money—in fact, the company flushed out a large portion of the 2.5% of 2017 recently, paying 3.25 points over parity for a bond trading around 370 at the time.

The main convertible play in Intermune these days is the 2.5% of 2018, which looks reasonable enough. The bond is provisionally callable in September 2015 if parity’s above 130. Parity at the time of writing is in the high 130’s, but given historic volatility in the name, there’s plenty of justification for the current premium of around 11 points. Assuming an 85% delta, a takeout up 33% or so by year-end looks to cost arbs on the order of a point and a half, barely a flesh wound. The breakeven hedge under those conditions would be a little below 80%. Perhaps going a bit light to theoretical makes the most sense here.

The Company

Intermune management answered questions around the expected approval and launch of Esbriet in the US and potential competition.  For background, Esbriet is approved for the treatment of idiopathic pulmonary fibrosis in Europe and is Intermune's only marketed product. Intermune recently announced very positive data from ASCEND, Esbriet's third U.S. Phase III trial, which was required by the FDA after the first two trials showed mixed results.  The company resubmitted the NDA on May 23rd and hopes for approval by YE2014, with an expected launch in 1Q15.  Management is busily preparing for an Adcom panel, but argued that a panel may not be necessary, citing the 9-3 vote in favor of Esbriet in the previous panel, before the compelling ASCEND data existed.  Management indicated that U.S. pricing will be highly data dependent, which should lead to a larger-than-normal price premium in the U.S. compared to Europe.

Intermune's research shows that orphan drugs generate from 3-12% of estimated peak revenue during the first year of launch.  With analysts assuming around $1 billion peak US Esbriet revenue, current year one estimates reflect roughly 7-10% of peak, apparently reasonable in management's eyes. On the competitive front, the MAA for Boehringer Ingelheim drug nintedanib was filed in Europe, but the U.S. filing status is uncertain.  ITMN expects the FDA to hold an Adcom for nintedanib. Like any good management team, Intermune's executives cast a small doubt on the approvability of its competitor in the US, given the FDA's stated preference for a mortality benefit in IPF.  Not coincidentally, Esbriet showed a mortality benefit in ASCEND, while nintedanib failed to do so in its Phase III trials.  The elephant in the room is Intermune's status as an attractive takeover target.  As numerous analysts have recently pointed out, Esbriet could be a highly accretive addition to any pharma with a pulmonary sales force.