Summary & Company Description
NPS Pharmaceuticals is a biotechnology company that was founded in 1986 and went public in 1994. The company has several products in clinical development, with the most clinically advanced being Preos. The company currently receives revenues from Sensipar and Kineret through a partnership with Amgen. These current revenues primarily aid in servicing NPS’s debt.

We expect Preos to be a blockbuster, billion-dollar drug within the expanding osteoporosis market. As such we feel NPS is significantly undervalued based on its 5 and 10-year pipeline values of $38.63/share and $28.51/share, respectively. A significant Preos event will be its approval in 2006 and as such NPS's stock may outperform the market the remainder of 2005.

PIPELINE

NPS has several drugs in clinical evaluation that have advanced to phase I and above including: Preos, Teduglutide, Isovaleramide, Delucemine and Calcilytics. Its most advanced drugs are Preos for osteoporosis, which the company plans to file an NDA for by the end of April, and Teduglutide for short bowel syndrome, which is currently in a pivotal phase III study.

Preos
Preos is a recombinant, full-length human parathyroid hormone (PTH). Parathyroid hormone regulates blood calcium levels and promotes bone formation. Unlike most osteoporosis treatments, which slow bone turnover and reduce bone resorption (bone loss), PTH increases bone formation and replaces lost connectivity.

The first recombinant PTH to gain FDA approval was Forteo (Teriparatide; Eli Lilly), which was approved in 2002 for women and men at high risk of fractures. Forteo consists of a short fragment (amino acids 1-34) of PTH while Preos is the full-length hormone. Preos is currently in phase III studies, with two main studies ongoing: TOP and PaTH. The PaTH study is evaluating Preos in combination with Fosamax (Alendronate; Merck) while the TOP study is evaluating Preos as a monotherapy. An NDA for Preos is expected to be filed in the first half of 2005. We believe that Preos has a higher than average likelihood of gaining FDA approval, being 10% above average, due to the impressive results obtained from the TOP trial.

Interim data from the TOP (Treatment of Osteoporosis with Parathyroid hormone) study was released recently which showed that Preos not only reduced the relative risk of vertebral fractures in menopausal women with low bone mineral density (LMD) who have previously had fractures, but also in those who have never had a fracture. The decrease in likelihood of fractures correlated with an improvement in the bone microarchitecture to resemble more closely to that of normal bone. Thus, unlike the antiresorptive drugs, Preos can reverse some of the bone loss due to osteoporosis, increasing bone mass, density, and connectivity.

Preos is not likely to be used in combination with the antiresorptive drugs. In the PaTH study, which evaluated Preos used in combination with the most widely prescribed bisphosphonate, Fosamax, the addition of Fosamax negated Preos’ efficacy.

It is interesting that Fosamax, and perhaps other biphosphonates, inhibit the anabolic activity of Preos. In the PaTH study, which evaluated Preos, Fosamax, or the combination of the two drugs, the combination of Preos and Fosamax did not improve bone mineral density over Preos alone. While all treatments increased bone density, the increase in trabecular bone density at the spine was double in the Preos monotherapy group compared to the Preos/Fosamax group. Moreover, new bone formation was clinically significant in the Preos monotherapy group, but not in the combination therapy group.

While Forteo has the first-to-market advantage, we believe that Preos, if approved, will be more widely prescribed than Forteo for a couple reasons. First, Preos has demonstrated that it can reduce the risk of vertebral fractures in patients who have never had fractures, which has never been shown with Forteo. Second, in animal studies with Forteo, animals developed osteosarcoma, a type of bone cancer. This toxicity, which underlies the fact that Forteo is not prescribed for more than two years, is in line with the mechanism of action of PTH on the bone in that it encourages new bone development. Interestingly, animals given Preos are less likely to develop osteosarcoma than Forteo, with no bone cancer seen at the lower doses of Preos. Forteo is a truncated version of PTH, having only the first 34 amino acids (N-terminus), which appears to be responsible for the bone growth effects of PTH. It is now postulated that the C-terminus of PTH, which is missing from Forteo but is present in Preos, is responsible for regulating apoptosis (cell death). This may explain why Preos does not seem to present a bone cancer risk yet Forteo does.

Preos Partnership
In April 2004, NPS signed a distribution and license agreement with Nycomed in which NPS granted Nycomed the exclusive right to develop and market Preos as Preotact in Europe. Nycomed also agreed to make an equity investment in NPS of $40.0 million through the purchase of 1.33 million shares of NPS common stock in the form of a private placement. Nycomed is required to pay NPS up to $25.0 million in milestone payments as well as royalties on product sales. Nycomed has also committed to fifty percent of the costs incurred for certain phase IIIb clinical trials up to a maximum contribution of $12.5 million, as well as at least $12.5 million for certain Phase IV clinical studies.

Teduglutide
Teduglutide is an analog of glucagons-like peptide-2 (GLP-2), a natural hormone that regulates the growth and proliferation of cells lining the intestine. Teduglutide has a single amino acid change to the natural GLP-2 hormone, which increases the half-life of Teduglutide. It is being evaluated in short bowel syndrome (SBS) and Crohn’s disease, in phase III and phase II studies, respectively.

Teduglutide for SBS
SBS is a condition that results from the surgical removal of significant portions of the bowel following injury or illness, typically from Crohn’s disease. The shortened bowel is unable to effectively take up nutrients from food, leaving patients with gut abnormalities, electrolyte imbalances and malnutrition. Estimates for the prevalence of SBS range from 10,000- 25,000 patients. NPS estimates there are 25,000 adults with SBS and as such we have modeled a prevalence of 20,000 patients. SBS remains an unmet medical need for which there are no effective treatments. Teduglutide was granted orphan drug status by both the FDA and European Union and thus holds a highly competitive position for SBS.

Animal studies have shown that Teduglutide increases the mass and the absorptive area of the bowel lining, improving nutrient absorption and bowel function. Teduglutide is currently in a phase III study to evaluate the drug’s ability to reduce the patient’s requirement of intravenous feeding. Phase II data demonstrated that Teduglutide, given daily for 21 days, significantly increased fluid and nutrient uptake as well as increasing the epithelial layer lining the intestine. While this trial was conducted in a very small patient population, we are optimistic on Teduglutide’s likelihood of approval for SBS since it is the most clinically advanced drug for this unmet medical need. It also has a favorable safety profile.

Teduglutide for Crohn’s Disease
Crohn’s disease is an inflammatory bowel disease (IBD) in which part or all of the digestive tract is inflamed, though it typically occurs in the intestine. Like SBS, it can cause intestinal discomfort and malnutrition. Teduglutide is currently in early phase II studies for Crohn’s disease and patient enrollment has been slow. While Crohn’s disease is a much larger market than SBS, Teduglutide faces stiff competition from the TNF-inhibitors, such as Remicade, for the treatment of Crohn’s disease.

Drugs in Phase I Studies
There are 3 other compounds in early clinical development: Isovaleramide, Delucemine, and Calcilytics. Of these, the Calcilytics have the most potential to become a blockbuster drugs. One Calcilytic is in phase I studies for osteoporosis. Calcilytics are orally available small molecules that inhibit calcium receptors on the parathyroid glands, which causes a PTH to be releases by the parathyroid gland. Since Calcilytics stimulate PTH release, its mechanism of action will be the same as for Preos. While it is still too early to determine the efficacy and safety of Calcilytics, if it does show comparable efficacy with a decent safety profile, its oral administration means that it can potentially replace both Preos and Forteo for treatment of osteoporosis.

Isovaleramide is converted into isovaleric acid in the body. Isovaleric acid is thought to be the active ingredient of the herb Valerian. Valerian has known sedative properties, but is also thought to have antiepileptic properties. Isovaleramide was shown to be effective in a animal models of epilepsy, spasticity, and pain. Isovaleramide failed in a phase II study for migraines, but it is currently in phase I studies for epilepsy and other neurologic disorders.

Delucemine (NPS 1506) is being developed to protect neurons from ischemic injury. It is a small molecule based on a toxin from spider venom. Delucemine blocks open NMDA receptor-operated calcium channel, thus inhibiting excessive calcium influx during ischemia. Delucemine is currently in phase I studies for ischemic stroke and depression.

Drugs Developed in Collaboration
There are 2 drugs that NPS developed in collaboration: Sensipar and Kineret.

Kineret (Anakinra) is a recombinant Interleukin-1 receptor antagonist (IL-1Ra) that is capable of mopping up excess IL-1. IL-1 is an important cytokine involved in many inflammatory diseases including rheumatoid arthritis (RA). Despite the importance of IL-1Ra in inflammatory diseases, the drug has only shown limited clinical utility in RA. Thus, we expect this drug to remain a small player in the RA market, only used as a last resort for those who are unresponsive to the anti-TNF therapies.

Sensipar (Cinacalcet), known as Mimpara in Europe, is a calcimimetic that interacts with calcium receptors on the parathyroid gland. This results in a decrease in the secretion of PTH. Sensipar was developed to counteract the excess PTH secretion in hyperparathyroidism. It has already received approval for secondary hyperparathyroidism, where excess PTH secretion is a secondary effect due to disease, typically kidney disease. In kidney disease, the kidneys are unable to absorb calcium and thus excess calcium is loss through the urine, resulting in the parathyroid glands producing more PTH to counteract the low blood calcium levels.

Sensipar is also undergoing phase II studies for primary hyperparathyroidism, in which the excess PTH secretion is due to abnormalities of the parathyroid gland, usually due to tumors. While it is still in early phase II studies, the results thus far have been very encouraging, and we believe Sensipar has a very good chance of gaining FDA approval for this condition.

Partnerships for Sensipar and Kineret
In December 1995, NPS granted Amgen the exclusive right to develop and commercialize Sensipar and related compounds for the treatment of hyperparathyroidism, osteoporosis, and any other indications worldwide, excluding the areas licensed to Kirin Brewery. Kirin Brewery has the license to develop and commercialize Sensipar and other related compounds in Japan, China, Hong Kong, North and South Korea and Taiwan.

Amgen paid NPS an initial up-front license fee of $10.0 million, purchased 1.0 million shares of NPS common stock at $7.50 per share, and agreed to pay up to $400,000 per year in development support for five years, which has now expired. Amgen is also required to make milestone payments of up to $26.0 million as well as royalties on any sales of Sensipar or other related compounds. To date, Amgen has paid to NPS $19.0 million in milestone payments and $2.2 million in royalties.

Kirin paid NPS an initial up-front license fee of $5.0 million and agreed to pay certain milestone payments up to an aggregate of $13.0 million, as well as royalties on any sales of products containing Sensipar or a similar compound. To date, NPS has received $9.0 million in milestone payments from Kirin.

In August 2004, NPS entered into an agreement with Amgen to promote Kineret in the U.S. for the treatment of moderate to severe rheumatoid arthritis. Amgen is required to supply product, promotional materials, training and support for NPS’ promotional efforts. In return, NPS receives a percentage of incremental Kineret revenues.

REVENUE POTENTIAL

Preos for Osteoporosis
Because of the very large and growing population that is affected by osteoporosis, Preos has the potential to become NPS’s largest revenue generator. Our Preos for osteoporosis revenue model predicts it to be used in a slightly larger patient population than Forteo, due to some penetration into patients who have not had prior fractures. We project Preos will have a similar uptake as Forteo in the market, leading to U.S. revenues of $107.9 million and $220.5 million in 2006 and 2007, respectively.

By capturing 6% U.S. market share within Preos’ eligible patient population and assuming similar pricing to Forteo, we currently project Preos to achieve peak U.S. revenue of $996.4 million in 2013, with peak worldwide revenue of $1.84 billion in the same year. We estimate Nycomed to pay NPS a 20% royalty on all E.U. sales of Preos. We expect NPS to partner with another company in Japan and receive 20% of Japanese revenues. As such, we estimate NPS’s peak revenue from Preos to be $1.16 billion in 2013.

Teduglutide for SBS
While the SBS market is a relatively small one, there are very few treatment options. Most patients receive parenteral nutrition at the annual cost of up to $140,000 per year. Since Teduglutide has been granted orphan drug status, NPS should be able to charge a significant amount for Teduglutide. We believe Teduglutide will be able to achieve peak U.S. market share of 50% in the SBS market. We estimate peak U.S. revenue of $65.8 million in 2013, with peak worldwide revenue of $165 million in 2014.

Teduglutide for Crohn’s Disease
Crohn’s disease presents a much larger patient population for Teduglutide than SBS, but in turn is also a much more competitive market. If approved, Teduglutide’s first indication will be in SBS and as such we feel Teduglutide will be priced significantly higher than current Crohn’s therapies. This, along with the stiff competition from anti-TNF therapies, should limit Teduglutide’s use to a last resort treatment option in patients that have failed other therapies. At 5% peak market share within the eligible patient population, we project Teduglutide for Crohn’s to achieve peak U.S. revenues of $216.9 million in 2015, with peak worldwide revenues of $476.5 million in the same year.

Our Teduglutide models assume NPS will partner the drug and receive 80% of U.S. revenues, while receiving 20% of European and Japanese revenues. We project peak revenues to NPS in the SBS setting of $132.0 million in 2014 and peak revenues to NPS in the Crohn’s setting of $225.4 million in 2015.

VALUATION

Preos is the most advanced and largest potential revenue-generating drug in NPS’s pipeline and as such has the largest impact on NPS’s valuation. If Preos is the only drug NPS is able to get approved, we would value the company’s 5 and 10-year pipeline values at $37.03/share and $25.22/share, respectively. Should Preos only be able to garner a 3% U.S. market share within its eligible patient population (half our current projection), we would value NPS’s 5 and 10-year pipeline values at $22.36/share and $15.37/share, respectively.

While Teduglutide’s possible approval is some years off, it is a drug that can move NPS to more of a multi-drug company and potentially provide further upside to NPS’s valuation, especially in the Crohn’s setting. Currently we feel Teduglutide adds an additional $1.74/share and $3.26/share to NPS’s 5 and 10-year pipeline values, respectively.

Probability adjusting NPS’s entire pipeline, the company’s 5 and 10-year pipeline values are $38.63/share and $28.51/share, respectively. We currently feel the company is significantly undervalued at the April 12th closing price of $13.08. Our valuation is based on NPS’s projected 5 and 10-year probability adjusted EBITDA using a 25x EV/EBITDA multiple and a discount rate of 16%. Our valuation includes the need for NPS to raise an additional $450 million by 2008 to help fund Preos’ launch, continued pipeline advancements and the $192 million in debt due June 2008.

Upcoming Catalysts and Valuation
While the Preos NDA filing will provide a slight increase in its likelihood of approval (LOA), it is an event that is widely expected. A greater Preos event will be its approval in 2006 and as such NPS’s stock may outperform the market in the remainder of 2005. Without Preos NPS will need significant additional funding and we would value its 5 and 10-year pipelines well under its current price.

Assuming all goes well with Preos, Teduglutide’s advancement in Crohn’s disease will probably be the next greatest valuation driver. NPS expects its Phase II study to be completed in the third quarter of 2005, with top-line data released in early 2006. Should Teduglutide for Crohn’s disease move into Phase III and Preos gain approval, we would value NPS’s 5 and 10-year pipeline at $49.11/share and $38.38/share respectively.

NPS Convertible Debt
In June 2003, NPS issued $192 million in senior convertible notes, after the exercise of an over allotment option, due in June of 2008. The notes pay interest at 3% and were issued at an initial conversion premium of 35% making the notes convertible at a stock price of $36.59/share. As the convertible option becomes increasingly out of the money (NPSP trading at around $12 at the time of this analysis) and given the company’s negative cash flow even with an expected Preos launch in 2006, it seems plausible the company will need to refinance this debt before it matures. Also, in order to complete the expected launch of Preos, we expect the company to participate in an additional money raise before generating meaningful Preos revenues.