Episode #422: Best Idea Show – Doron Junger, Sanvia Capital – US Biotech

Episode #422: Best Idea Show Doron Junger, Sanvia Capital US Biotech


Guest: Dr. Doron Junger leads Sanvia Capital, a nascent Florida-based biopharmaceutical investment firm, which Doron originally started as a Millennium Partners platform company. A surgeon by background, Doron Junger has since 2005 managed public equity portfolios of biotechnology and pharmaceutical companies for some of the world’s premier hedge funds, including Citadel, S.A.C. and Millennium, as well as J.P. Morgan.

Date Recorded: 6/1/2022     |     Run-Time: 1:46:22

Summary: In today’s episode, we’re talking about US biotech! Doron’s extensive background as a doctor and PM with the likes of Citadel, SAC, Millennium and JP Morgan makes him the perfect guest to discuss why this space is so beaten down and what opportunity lies ahead. After giving us a high level overview of where the sector sits today, Doron shares some areas he’s excited about, including gene-therapy and psychedelics, and companies in each space that he likes going forward.

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Transcript of Episode 422:

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Meb: What’s up, everybody? We’re back with an episode in our Best Idea series. Our guest is Doron Junger, founder and portfolio manager at Sanvia Capital, a biotech investment firm. In today’s episode, we’re talking about U.S. biotech stocks. Doron’s extensive background as a doctor and PM with the likes of Citadel, S.A.C., Millennium, and JP Morgan makes him the perfect guest to discuss why this space is so beaten down and yet what opportunity lies ahead.

After giving us a high-level overview of where the sector sits today, Doron shares some areas he’s excited about, including gene therapy and psychedelics, and companies in each space he likes going forward. Please enjoy this Best Idea episode with Sanvia Capital’s Doron Junger.

Meb: Doron, welcome to the show.

Doron: Thank you so much for having me, Meb. I’m delighted to be here. And I should add that all of my comments on the podcast are my personal opinion only and should not be taken as an attempt to solicit investments for our fund, which is reserved for institutional investors.

Meb: We got a German doctor by way of Miami. I met you virtually, introduction, Dylan Grice, one of my favorite podcasts of the year. How do you know Dylan?

Doron: Dylan and his team at Calderwood Capital, hedge fund boutique, invited me to talk about my perspective on the biotech sector for an article in the March issue of their premium monthly investment newsletter called Popular Delusions.

Meb: It’s a great title. Episode 406, listeners, we’ll put in the show note list. We may win the award for number one and number two best accents on the podcast this year. I can’t read Dylan without reading it in his accent at this point. He’s great.

So you and I got some commonalities, man. I was a biotech guy in a former life. The difference between me and you, I think, is once I actually started to see the blood and guts, I said, “Okay. Maybe not so much.” Once I started in the lab, I was spilling viruses everywhere, I said, “Okay. Not so much. I better find a better path.” Tell me a little bit about your origin story. You’re a real doctor, is that right?

Doron: I am indeed. For as long as I can remember, I’ve always been fascinated by medicine, by the design and function of the human body, how and why it can malfunction, and how to correct that. One of my earliest memories is of my feelings of profound love and worry for my baby brother when he was sick and made a beeline to study medicine and had the good fortune to go to Oxford, graduated from its medical school, then trained as a surgeon, mostly in London, then became a fellow of the Royal College of Surgeons of England.

Afterwards, I had the opportunity to study for an MBA while waiting for some research grant funding I had successfully applied for to materialize. I did my MBA at INSEAD, a business school outside of Paris. I became fascinated with the intersection of medicine and finance, with the opportunity I saw for applying my background in medicine and surgery, which I loved then and still love, with applications in finance.

Meb: Yeah. I was going to say that can mean different things. That can mean operating roles where you’re actually working at a company. It can be M&A as a banker. It can mean investing side. Which path started you out post-INSEAD?

Doron: All of the above. I spent a little bit of time in healthcare investment banking at Credit Suisse First Boston. I became the founder and CEO and raised two rounds of capital for an eHealth start-up. And eventually, I was recruited to work at Citadel, a large Chicago-based hedge fund, initially as an analyst and within a couple of years rose to become responsible for its large biotech and pharmaceuticals portfolio. I have the distinction of being an alumnus of three of the world’s largest hedge funds: Ken Griffin’s Citadel, Steve Cohen’s S.A.C. (now called Point 72), and Izzy Englander’s Millennium Partners, as well as JP Morgan back when large U.S. investment banks were still allowed to invest proprietary.

Meb: Yeah, JP Morgan was always at the big healthcare conference back in the day when they would have it out in San Francisco and there abouts. But, man, that’s the Mount Rushmore of funds. All right, man. Well, what in the world you did after that point? You say you’re going to go start your own? Crazy idea.

Doron: I managed long and short portfolios of public biopharmaceutical companies at each of those three institutions and JP Morgan. That conference is still the pinnacle of our calendar in January of each year still in San Francisco at Westin St. Francis. And I learned invaluable lessons along the way.

Eventually, together with two other healthcare investors in areas of expertise outside of biotech and pharma, I founded a New York-based hedge fund, where my colleague, Chris Radon, Sanvia’s analyst, and I started working together. Chris is a Harvard PhD in biological chemistry, and we’ve worked together side by side for the past seven years.

Sanvia, the name of my fund, is a made-up term combining the Latin roots for health, san, and road, via. We believe that the pioneering companies that we invest in are paving a path to good health. I originally founded Sanvia as a company on the Millennium Partners platform, then spun it out to be independent. And together with Chris, launched our fund with friends and family capital in November 2020. We believe that economic value is unlocked where patient value is created.

Meb: Man, so you have the naïve optimism to think you’re all right, ready to go out on your own, put up your shingle. Okay. So let’s talk a little bit broadly speaking about the healthcare world. I kind of checked out full time for me 20 years ago. You’re going to have to walk us forward of what’s been going on.

But there is really this promise of a logarithmic leap in information and analytics and massive bioinformatic databases really going to all combine to change the world for healthcare. It seems like some of that is coming to fruition. The war on cancer is five-decades old at this point since it was started many years ago. But give us a little overview of kind of the healthcare biotech space in general. What does it look like over the past decade or two since you got started?

Doron: I’m glad you asked because parts of your audience will be very familiar with the answer to your question. To others, biopharma maybe an esoteric universe. Our investment universe consists of public biotech companies, of which there are about 450 with average daily trading volumes sufficient for institutional investors listed mainly on NASDAQ, and global pharmaceutical companies, of which there are about 20 around the world. Think Johnson and Johnson, Pfizer, Merck, Lilly, Bristol-Myer in the U.S. and AstraZeneca GSK, Novartis, Roche, Novo Nordisk, and Sanofi in Europe.

Meb: When you say the first 400 or 500 or so biotech, is that global to or only U.S.?

Doron: That’s global, too, but with a heavy concentration in the U.S. Without jumping the gun, the reason for that is that many of these companies are reliant on biotech investors to fuel them with cash for their pipelines. And the investment ecosystem in the U.S. is unlike any other in the rest of the world. Biotech companies in Europe, let alone in Japan and other parts of the world, struggle to receive the same kind of dedicated attention from biotech investors that exists in the U.S. and hardly anywhere else.

Of these several 100 biotech companies, only a small fraction generate recurring revenue, and an even smaller fraction are consistently profitable: Amgen, Gilead, Regeneron, Vertex, and Moderna, to name a few. Together, all of these companies make up the therapeutic universe. The distinction between biotech and pharmaceutical companies is soft. Historically, it refers to a technological distinction, which no longer really holds.

Originally, pharmaceutical companies would focus on traditional chemistry, while biotech companies would manufacture drugs in cells that were biological products. These days, however, most of the global biotech companies and pharmaceutical companies have expertise in both areas of chemistry and biology. Sometimes, to define something, it is useful to delineate what it is not, and biopharma is not medical devices or tools or diagnostics or services companies.

And in our fund, we don’t invest in private companies. Sanvia is a global, partially hedged, long-biased, long-short fund focused on public biotech and pharmaceutical companies, specifically, small and mid-cap biotech companies, may mark the end of our 19th month.

Meb: When you say small, that goes down to what, 100 million, 20 million?

Doron: It could. We don’t restrict our universe by market cap, but we do buy liquidity. Now these oftentimes go hand in hand. But when average daily trading volume goes below a number that makes it impractical for institutional investors to hold a meaningful position of any size in the portfolio, then we exclude those companies until they become more liquid.

The vast majority of these public biotech companies perennially consume cash to fuel their pipelines. They are the innovation engines in the therapeutic universe. The large pharma and biotech companies depend on the most successful of these several hundred biotech companies to come up with the next blockbuster drug. And especially in the face of patent explorations, the large companies habitually acquire smaller companies.

Roche acquired Genentech and Bristol acquired Celgene. More recently, AstraZeneca acquired Alexion, AbbVie acquired Allergan. And similarly, Gilead acquired Kite and Immunomedics, and Amgen, Five Prime, and Novartis, AveXis. Many of the large pharma companies’ most successful drugs were not in fact invented there, but were licensed or acquired. The ETF that best represents mid-cap biotech companies is the XBI. It is far from perfect, consisting of about 175, roughly equally weighted biotech companies, but it is the best we have.

Meb: Looking at that sucker. Your timing on launching your fund, good thing it’s a long-short, because XBI, my God, that thing in the last year is got to be down about two thirds. My first job was at a biotech fund, back before ETFs were really doing it. So this would have been 2000.

Everyone remembers the internet bubble of 2000. But it was equal sort of biotech bubble. So you had all the excitement about the human genome. And in retrospect, people always blame, I can’t remember if it was Bill or Hillary, I think it was Bill Clinton talking about, “Yeah, you can’t patent the genome in a speech.” And it was really the excuse to start sending some of those stocks down.

But I remember it was baby bathwater everything. I mean, those stocks we ran along only fund, and it didn’t matter if you’re a relatively good stock picker, because some things were down 60 and some things were down 80 or whatever it was, a 100 back then. Everything just got tossed.

And that kind of set me on a path of quantitative investing and trying to figure stuff out because biotech, more than anything, it feels like… I’m not a cycles person, but it feels like every four years, you get like a biotech run and then kind of lull or plateau. And then another run up, excitement, and then kind of some sideways action.

It looks like we’re on the other side of that Mount Eiger or whatnot. So XBI looks like it peaked in 2021, and then it has just gotten smashed. That’s the professional analytical term. It’s gotten taken to the woodshed over the past year. Justified, not justified, gives us a scenario, what’s it mean?

Doron: So to talk about biotech performance, the word carnage comes to mind. Today, we’re recording this on June 1st, so the figures through May 31 are, that year to date, the XBI is down 39%. In May alone, it shed another 7%, and that’s off 2021, in which the sector was down 21%.

Since the peak that you identified in February of last year, the XBI is off 60% plus. It’s been a 14-month-long bear market that takes the level of the XBI all the way back to January 2017, over 5 years ago, before Donald Trump was inaugurated as president. This is the longest and deepest correction the XBI has ever seen. And if you ask me how biotech funds have performed, even long-short funds that supposedly are partially hedged, it is no less depressing than the XBI itself.

You asked me to speak about the reasons why biotech has turned down in this way. I talk about it in more detail than we’ll likely have time for on the podcast in the article in Calderwood Capital’s March issue of Popular Delusions. But I divide the several reasons for the biotech downturn into nonspecific and sector-specific reasons.

The nonspecific reasons include that there were relatively weak-hands investors that drove biotech up for a period after the COVID slump in March of 2020. These were investors that discovered the thrill of investing, sometimes through a newly-opened Robinhood account and became, pretty quickly, what you might call armchair-COVID experts and then began to widen their expertise into other pockets of biotech, betting that between them the several 100 biotech and pharma companies would get us out of the global mess that COVID presented. That worked well for a while. And between that slump of March 2020 and the following February, biotech performed quite well.

But then, with the wider availability of vaccines, the reopening trade took many of these weaker, less-dedicated biotech investors out of the sector towards more favorable risk-reward scenarios. That’s reason number one, as I see it.

Then inflation reared its ugly head. And as we mentioned, the vast majority of companies in the biotech universe aren’t profitable, rely on investors to fuel their pipeline for many years, need ready access to capital. And as the cost of capital rises and with it the WACC, the weighted average cost of capital that you calculate as part of your discounted cash flow model, your DCF to value companies that may be profitable only five or six years out from now become relatively less attractive.

The third reason is the prevailing risk-off mentality. The MD and PhD degrees of the portfolio managers and analysts in the biopharma space, ours included, may stand us in good stead when it comes to predicting the outcome of clinical trials and FDA decisions. But these days, among the challenges for investors in biotech stocks and just about any other asset class, is to get into Vladimir Putin’s mind. Good luck with that.

So those are the nonspecific reasons that I see for the downturn in biotech. But there’s also a host of sector-specific reasons. There are perennially drug pricing concerns that are on investors’ minds whether the administration is Republican or Democrat. For a while, the FDA was without a permanent commissioner led by a very experienced drug regulator, Janet Woodcock. But the lack of formally-appointed leader was sometimes pointed to as a risk that some investors saw with biotech.

And then there was also a perception that during that period and now, the FDA may be stricter. I don’t know about that. But what we do know is that the FDA was concerned in a major way, of course, with COVID vaccines, antibodies, convalescent plasma, antivirals. As a result of which, reviewers were pulled out of certain divisions and rededicated. That meant that drugs in other areas received relatively less attention, experienced delays, and in some cases, inspectors could not travel because of the COVID-related restrictions to approve manufacturing plants ahead of an approval, which delayed approval decisions and extended review times.

Third sector-specific reason is a lack of that M&A activity that I was talking about earlier. You would expect, especially with biotech stocks becoming cheaper, that you would see more acquisition activity. But that hasn’t really been the case. And I think it’s because biotech stocks have, in many cases, fallen so far that there is a no man’s land in which there cannot be a happy meeting of acquirers and their targets. Some biotech companies are trading so far below their 52-week high that any larger acquirer could not offer a large enough premium that their own board would sanction to make the targets, board, and executive management happy.

There’s been, I should also add, an abundance of negative news flows, some of it related to the FDA factors I talked about, and some of them more intrinsic with biotech company after biotech company announcing failure to meet the primary endpoint in its trials or unforeseen safety concerns that rear their head.

But it’s always been true that more drug development projects fail than succeed. That’s especially true when preclinical companies, companies that have not yet advanced any of their pipeline drugs into first in-human trials, find it so easy, as they did during the period from 2018 to 2021, to access capital markets and go public. It’s especially hard for even seasoned biotech investors to correctly assess the likelihood of success that these preclinical companies will have as they make the giant leap from non-human primates or rodents into humans for the first time.

And lastly, and maybe most interestingly, there’s also been a flight of dedicated capital away from public biotech companies. Investing in public biotech companies is a challenge even for dedicated investors. It’s competitive. We’re all dealing with public information that is either disclosed or otherwise available in the public domain.

And when academic institutions became more open to letting their star researchers found companies around technologies they invented and scientific insights they gleaned in the laboratory, there was a virtual explosion of the number of private companies, and with it, a great deal of private financing that they attracted. And those companies could go from series A to B, all the way through to a crossover round, and eventually an IPO pretty smoothly with the same dozen or two dozen dedicated specialist VC/crossover/public funds supporting them, investing in each round at higher and higher valuations. And for a while, we’re able to make money, hand over fist, and pulled some of the capital out of public biotech and dedicated it to private biotech.

Meb: That distinction used to mean something, I feel like, 10, 20 years ago, but with the tigers and everyone else in the world, blurring this whole spectrum of public and private and everything going on, how much impact is that actually had as far as funding in the biotech space? Is it pretty material where companies stay private longer or they just are willing to try new projects because there has been an abundance? What were the effects of that, if any, in the biotech space the last 5, 10 years?

Doron: It allowed private companies to access capital markets much more smoothly, stay private for less long, go public sooner, often at a time when in previous decades, they would not have dreamed of becoming public yet. There was a time when there was virtually no public company with a pipeline that was entirely preclinical. And in 2021, there were dozens of them. Some of them have not been able to successfully make that leap and keep the promise that they began life with.

For a while, hitherto public-only biotech funds got a real boost in performance from the private parts of their portfolio. That has changed dramatically since the downturn in biotech. Private companies now can no longer point to their public company brethren that trade at enterprise value of many billions of dollars and argue that they should be valued at some reasonable fraction of the same.

Because those public companies have been decimated, they’re staying public for longer. They are reliant on private funds being dedicated to them. They are, from what I hear, sometimes pressured to accept down rounds, which was virtually unheard of in the good old days between 2018 and 2021. It’s also been a real problem for those funds in the last 14 months or so that invested in these companies, have them on their books, and now are struggling to make them public companies and achieve an exit.

Meb: One of the things we’ve talked a lot about, this goes back to my very first book “The Ivy Portfolio” over a decade ago, getting old, man, but we talked about investing in sectors, asset classes, and industries. And a part of this is sort of magazine cover asked where we said, “What does it look like to invest in a big asset class after it’s been down multiple years in a row?” Or we did some posts on the French pharma sectors and industries that are more concentrated, obviously, but said, “What happens if you close your eyes, hold your nose, and invest in something after it’s down 60%, 80%, 90%?” But the results end up being good.

And thinking about that with biotech and the carnage that’s going on, how does one think about it? Do you just go out and buy a basket and say, “Okay, I’m just going to buy ETF”? Is there a better way to think about getting exposure to the sector currently as far as everything getting tossed out together?

The challenge for me is always the good companies, obviously, if you can pick the winners with the actual drugs that make it to fruition, will eventually earn their market cap or enterprise value. But stocks and businesses can diverge for a long time.

So how are you thinking about sifting through this? For a long time, listen to this podcast know that that list was dominated by energy, and agriculture, coal, uranium, we talked about it for a long time. And here we are in 2022, where those have gone through the roof. So the dark days, we often joke, are followed by better times eventually. But what’s the thoughtful approach for people willing to get invested here?

Doron: Well, I’m so glad you asked the question. I think it is the right question that you’re asking. This is really the nuts and bolts of what I was looking forward to discussing with you on this podcast. It’s been a little depressing, so far, listening to how much distraction there’s been in biotech, and what the prevailing mood is among even dedicated biotech investors.

Meb: That’s a good sentiment indicator, though. I love investing where everyone is depressed and sad. That means it’s usually a good contrary indicator that it’s a good value. So, okay, let’s hear it, keep going.

Doron: Good investors know when to buy low and sell high. And when I watched Warren Buffett’s recent interview with Charlie Rose, one of my favorite titbits was when Buffett was asked, what makes him different from other investors? And his answer was his mindset.

And he explored that by explaining that when stocks in the companies that he buys with 5- or 10- or 15-year investment horizon go down, he regards that as an opportunity to buy more, whereas other investors become acutely concerned and anxious or downright panicked. The crisis, as I see it in biotech, is not a crisis of innovation but a crisis of valuation.

You talked earlier about the promise of biotech that goes back to the turn of the century. And we now have, as a reality, technologies being used, not just in clinical trials but actually in patients, available as FDA-approved remedies for serious and debilitating diseases that would have been deemed futuristic a few short years ago.

Like cell therapy, the idea that you harvest human cells, sometimes from the patients, sometimes off the shelf, alter the cells in the laboratory, and then give them to the patient where those cells do the work that drugs traditionally do. Or gene therapy, where we use a virus to transfect patients and insert into their target cells an intent copy of a gene that these patients are born with a mutation in. Gene editing and base editing are technologies that are in clinical trials now and showing a significant amount of promise. Psychedelic substances that, until recently, were considered taboo and off-limits are in advanced clinical trials and showing tremendous promise in a variety of mental health conditions, including post-traumatic stress disorder and depression that is resistant to treatment with conventional drugs.

And we all have some idea of how much worse the mental health crisis is now post-COVID, during COVID, than it was when the world was an altogether more healthy place. And there is perhaps no better poster child for the innovation that the biotech sector is capable of than COVID itself.

We have now on the market two approved antiviral drugs, Molnupiravir from Merck and Paxlovid from Pfizer, that can be used in very early stages of the disease. We have a number of antibody treatments that were all developed during COVID and can be administered in the hospital setting. And we have vaccines, of course, saved the lives of millions of people around the world who are not getting seriously ill, don’t require hospitalizations, and are avoiding death because of the innovation that’s taking place as the sector has rallied to arms since the very beginning of 2020.

Now, I’m not calling a bottom here and now.

Meb: You can call it go ahead. We can call the Doron Bottom. There we go.

Doron: That seems way above my paygrade. But what I do feel somewhat confident in saying is that if you run a well-positioned, long-short biotech portfolio, with well-financed companies with near-term catalysts, de-risked data, and a cash runway that takes them well beyond those catalysts, trading below the value of their net cash on the long side of your portfolio. And you populate the short side of your portfolio with a group of cash-starved companies with no near-term catalysts, trading at enterprise value of, say, $100 million or above.

Meb: Explain to the listeners who aren’t familiar, enterprise value, what does that mean to you?

Doron: The enterprise value is the market capitalization of a company less its net cash. You get at what the market is valuing the technology, the management, the patterns of the company, everything basically minus the cash on its balance sheet or, better said, the net cash on the balance sheet because we add back to it the company’s short-term debt.

Meb: One of the challenges of the biotechs, as you alluded to, was a lot of them are trading at or below right around enterprise value. So you net out the cash and, essentially, everything else, “you’re getting for free.” But the problem with the biotechs, as we all know, it’s like the mining sector, is they love to spend money. You might have a year or two of cash, which is usually the biotechs, they’re a milestone business. And so they usually get funding for a couple years to get to the next milestone. If they fail, see you later. If they progress, you get to step up in valuation, they raise an X amount of money, get acquired, whatever.

How should we think about it today? Differentiation? Is there a process or screen? How do you think about sifting through these with the ones that stocks are super cheap, but have runway versus ones that aren’t, on and on? So, what’s your approach?

Doron: Well, I’m so glad that you asked about that. If I were to tell you that it was as simple as buying a basket of companies that are trading below their net cash, trading, in other words, at negative enterprise value, I would be putting myself out of a job. And I’m not about to do that.

Meb: By the way, this is why I gave up on discretionary biotech a long time ago because competing with the doctors, the world, like you, I was like quantitative. This is too much work for me. So, okay, keep going.

Doron: So I think you’re heading in the right direction when you think of buying a basket of companies that are trading at a negative enterprise value. But in biotech, that is not where you are at rock bottom. That’s not where you’ve hit solid ground. It’s more like you’ve hit a melting ice cube. Because, Meb, as you explained in asking your question, these companies continue to burn cash, in many cases, even if they were to stop today. And it’s hands up, pencils down, some of that cash is already spoken for.

We want to refine the basket of companies that we want to be long in our book at Sanvia even further and look at what companies will have more cash after the next pivotal part in their development turns over, be it an FDA decision, a proof of concept trial, may be the outcome of a Phase III pivotal trial, than it is valued at today. And if, at that time, after the cards have been turned over and we have an answer to a puzzle that, at the moment, is still an answerable question is, the company has more cash on hand then than it is valued at now? Then we’re looking at much better set of odds. I think we would all agree.

The responsible thing for some biotech companies to do at that point is to look for strategic alternatives to sell itself to an acquirer for the cash that it has or invite one of these promising private companies to merge into it and go public when the capital markets are not particularly friendly to private companies. But there is a route to become public. That’s via a reverse merger, avoiding many of the processes that private companies have to go through as they become a public company and netting it some cash that it can then use to finance its own pipeline.

A phenomenon that we haven’t spoken about before in our conversation today is that of SPACs. And well, the SPAC market was healthy and well. That was yet another route for private companies to become public. It only added to the number of preclinical companies that, in past decades, would not have had much of a hope of becoming public.

Now that the SPAC market become a very difficult path for going public too, the idea of a reverse merger into a cash-rich biotech shell is gaining more attraction. And in some instances, biotech companies that don’t keep their promise but have plenty of cash on their books can distribute that cash as a onetime dividend back to its shareholders.

Meb: Good luck with that. These guys want to spend it. Come on, man. All right. So you got this huge opportunity set. And it’s got to be a pretty fertile fishing ground, I imagine.

Let’s talk about some broad themes or names to the extent you’re willing to go on the long side. I know shorts, you don’t want people coming and knocking on your door. I think this would be helpful as a framework to think about how you think about this. But like what’s some themes or names that might be indicative of something people could be looking into?

Doron: Well, thank you for making that comment about our shorts. We do actively short. We short idiosyncratic, single position names.

Meb: What’s the framework there? Is it just the mere opposite of the longs? Are you saying, “No, no. There’s zero chance this drug gets approved. We’re betting on the science or we think it’s overvalued.”? What is the criteria, just the opposite or is it totally different?

Doron: So approximately half of our book, long and short, is made up of, on the long side, these wealth finance companies with near-term catalysts and a cash runway that takes them well beyond that catalyst with data in hand from previous trial that de-risks the catalyst ahead. Think of it almost as a pair trade.

We contrast that long side of the book with companies on the short side of our portfolio that are cash starved, have a short runway of four quarters or less. In other words, they need more money before the end of a year, with no such near-term catalysts, trading at an enterprise value of $100 million or more, which is an arbitrary level that we set to contrast those two sets. That pair trade, a long basket and a short basket, makes up approximately half of our portfolio.

And then the other half consists of companies that, on the long side of the portfolio, have positive enterprise value but we believe are grossly undervalued for the opportunity that they present themselves. All of these companies also have meaningful catalysts and are well financed. And then we have a few idiosyncratic shorts and a few index shorts, which I won’t name because we value our relationship with the management of these companies and our long-term investors. And while we may be short the company in our portfolio today, we could very well be long that same company, in a year or two as its fortunes change.

Meb: You’re not going to, but theoretically, CEOs and people don’t like investors to be short their company. However, my favorite rebuttal to that has always been, “What do you mean, you should be sending me bottles of champagne?” I said, “What are you talking about?” “You’re betting on our company go down. You’re negative. You’re a pessimist, probably spreading lies on Reddit.” And everything else that the paranoid CEO says.

I say, “No, I am guaranteed to be a pin up buyer of your stock at some point. So every share that I’m short at some point, I will be buying. So the short is already in the price. So I am a pent-up demand. You should be loving me.” Now, no CEO agrees with me, of course. But I love saying that to people.

When Bill and Elon were getting into it on Twitter. I went, “What do you mean?” Bill’s got to buy these back someday, baby. He’s already short.” So, anyway, no one sees my point of view. But…

Doron: You’re right. An investor who has short your stock is ideally placed, if you can convince him otherwise, to cover his short and then go long your company. Suffice it to say, I do not send the CEOs of any of our portfolio companies cartoons of them depicted pregnant, especially not the male ones. And it’s a tricky relationship that we value and access to management so that we can really quiz them about their plans, their use of cash, their team management, their preparation for the commercial opportunity is such an important part of the process that we don’t want to jeopardize that.

Meb: I think that’s good life advice for a portfolio manager, for hate mail, and get a box of poop on your doorstep. All right. Let’s talk about some longs. Where are you seeing opportunity – themes, names, particulars? Let’s hear it.

Doron: The first one I would present as a long, and this represents one of our largest positions, is a biotech company called Viracta. The ticker is VIRX. It trades on the NASDAQ. It is based in San Diego and became public through one of these reverse merger processes that I referred to earlier.

Meb: By the way, listeners, if reverse merger conjures images of Salt Lake City and Vancouver shady mining companies, remember, I think Berkshire Hathaway, 70 years ago, whenever it started, was actually a reverse merger. I could be wrong. I think that’s correct. But like SPACs and like IPOs and everything else, it’s simply a structure and can be used for good, for bad, everything in between. Carry on, reverse merger.

Doron: You’re quite right, Meb. Reverse mergers, because they make it a little easier in some ways for a company to become public and access public capital markets, have less than stellar white vest reputation. In the case of Viracta, I happen to know, as the CEO explained when asked about this in investor forums, that the thought behind it was born from a large, well-known, dedicated biotech fund that had a large position in cash-rich biotech shell, and a large position in Viracta, when it was a private company, and proposed to Viracta’s management that they consider a reverse merger into Sunesis, a public oncology company that had failed to bring a drug to the market and remained with some double digit cash position in the portfolio.

The Viracta management team took over that cash shell and inherited one of Sunesis’ board members, a really experienced, well-respected oncologist who had made her mark developing one of Bristol-Myers’ most important chemotherapy portfolio drugs. And Viracta now trades at a slightly negative enterprise value but is well financed with about nine quarters worth of cash left with a runway into approximately the middle of 2024.

Viracta focuses on the association between the Epstein Barr Virus and cancer. I learned in medical school that among the causes of cancers, many of which still elude us, are viruses. That viruses can infect humans and animals and lead to cancerous change over the many, many years that the virus remains latent in the body. The poster child bad boy of such viruses is the Epstein Barr Virus, named after its discoverers, commonly known as the virus that causes infectious mononucleosis or mono in so many of us.

Meb: Yeah, check the box on that one. Thanks a lot, Myrtle Beach, spring break, college, whenever it was.

Doron: The virus is not successfully eliminated from the body in the majority of people who contract it. It sticks around in a latent form. It hides inside cells. And there’s been found to be an association between Epstein Barr Virus and lymphoma in about 10% to 15% of all lymphoma cases. So we’re talking about a population in the five figures whose lymphoma is driven by the Epstein Barr Virus. And lymphoma, by the way, is a cancer of the lymph nodes. These cancers can grow very large and lymph nodes are found throughout the body.

Viracta set out to kick the virus from its latent into a more active form and then use an antiviral drug to kill the cell that is harboring the virus. Pretty clever approach it calls kick and kill. Viracta ran a Phase I and then a Phase II trial, results for which have been presented at the American Society of Hematology meeting for the past three years, where the data were subject of oral presentation that was reviewed by the hematologists in the audience who had an opportunity to ask questions and critique it.

And what the data showed is that about half of the patients, in some cases as many as 80% of patients, depending on the subtype of lymphoma, responded to the drug with tumor shrinkage exceeding percentage that is counted as a response. There were even complete responses where the tumor entirely disappeared from the patients. And many of these responses have been ongoing for months, if not years.

Meb: You have this setup where you have this company, it’s hitting its milestones. And so for listeners who aren’t familiar, Phase I, II, III, FDA Phase I. And at each level, there’s a pretty high attrition. But each level unlocks…it’s like a video game, unlocks a new level. Post-evaluation, the bar gets higher. Phase III being the big daddy trial, traditionally, that’s the huge value creator. But each level is certainly one as well.

How do we square the situation where the chart looks like the backside of Jackson Hole or some other mountain, right? So the stock has done poorly, but the prospects are positive. So is this a scenario where a) there’s something that the market just doesn’t recognize or do you think it’s a part of just the industry construction where everything’s getting pummeled? Why is this an opportunity? Because usually, if you have something that has positive Phase I, II, it’s not at a market cap where we find Viracta. So what’s the story? What’s going on?

Doron: Let me say a couple more things about that. We like to invest in companies that represent a great unmet need. And while there are many approved drugs for lymphoma, there is a distinct difference in how well patients respond to these drugs depending on whether they are positive for the Epstein Barr Virus or not. And you can test that quite easily by measuring the amount of viral DNA in the blood. In patients who are EBV positive, the survival rates, even when they’re treated was the standard of care in lymphoma, is markedly lower than the survival rate of patients who are EBV negative and treated with the same drugs.

So this is a population that truly represents a refractory group of patients that need to be helped. But the opportunity for Viracta doesn’t stop at lymphoma. Epstein Barr Virus also causes a number of solid tumors in the nose and the back of the throat, so with nasal pharyngeal carcinoma, and in the stomach, gastric carcinoma.

Viracta believes that its mechanism of action is also applicable to those cancers. Where it is at now is in a Phase III pivotal trial in lymphoma, which, if successful, could lead to an FDA approval in any of a number of different lymphoma subtypes that trial is including. And in an initial proof of concept Phase I trial, with the same drug, in solid tumors. The number of solid tumor cases exceeds that of the addressable lymphoma population by a factor of two to three times.

Now, Viracta’s 52-week high is over 5 times where the stock is trading now. It’s, along with the rest of the biotech group, being thrown out with the proverbial bathwater and really got a drubbing. The sell-side analysts that cover the company have price targets that are way in excess of where the stock is currently trading. And that includes the number one rated biotech analyst Josh Schimmer, who works at Evercore ISI, one of the two firms that helped the company become public through the reverse merger.

By the end of the year, we will have data from Viracta’s lymphoma trial and the solid tumor trial. And we will know whether the initially good Phase I, II data will be corroborated and whether the drugs mechanism of action is applicable in solid tumors, too. The valuation of the company, if either of those two, let alone both, materialize, will not be as it is now, a negative enterprise value.

Viracta will be looking at FDA approval in lymphoma initially and eventually in solid tumors. And we have, in our model, made assumptions around pricing and the size of the addressable patient population, the penetration rates that grow over time in the U.S. and in Europe, and consider Viracta grossly undervalued.

Meb: I think this is actually a really helpful training ground and exercise for investors. So many investors only think in terms of binary outcomes, yes, no, when they’re positioning, “I want to be long stocks,” or, “I’m a gold bug,” or, “I buy NFTs,” whatever it is. And they spend all day looking for confirming evidence to their position – long, short, whatever it may be. As a good analyst, you have to see both sides.

But also the thing about biotech, and particularly when it comes to stocks, is it really helps with probabilistic thinking. You say, “Look, I’ve seen a million of these drugs go in front of the FDA or Phase III or Phase II. And while I think this is probably going to happen, I know that it’s medicine, it’s hard. It’s really hard.”

And thinking in terms of percent handicap for a lot of these attrition events, and I think it’s like a gambler sitting down at the poker or blackjack table saying, “Okay, well, this has this sort of odds. But the expected value, if it does happen, is XYZ. So maybe it’s a 50/50 coin flip if it gets approved. But if it gets approved, it’s a 5X, five bagger. If it doesn’t get approved, it’s down 60%. And the odds are such that the expected value is usually, possibly, will be long, vice versa too,” right?

Doron: That’s exactly how we think about it.

Meb: So how do you think about this one? Do you think it’s got a majority chance for positive Phase III? You think it’s 20%, majority, minority. You can’t say 100%, I know.

Doron: Binary events are a fact of life in the biopharma universe. We have to contend with them, and we have to be good at dealing with them as biopharma investors. And the framework that you described of calculating the expected value based on inputs that include the probability of success and the payoff of a successful outcome. And the drawdown of a negative outcome are key in calculating what the present value of the opportunity is ahead of that all-important catalyst.

And for Viracta, whether you assign it odds that are above 50% or even below 50%, based on these peer review data that have been presented for the last three years running and where the stock is trading now, so close to the cash that the company will have on hand at the end of the year before which it will have results from both of these trials, makes this, in our mind, a compelling opportunity.

We know that in the not-too-distant past, this stock traded approximately 520% above where it is trading now. In the meantime, Viracta has initiated a pivotal trial, has initiated the trial in solid tumors, and regained the rights to commercialize its drug in China, where Epstein-Barr-Virus-positive solid cancers are rife.

It has done this without really setting a foot wrong in the meantime. This drubbing is not company specific due to any blow up or disappointment. But one of these examples, rare as they may be, then again, that’s why we spend the majority of our professional time focused on finding them, that may be the pearl among all the many empty shells in the oyster bed.

Meb: When thinking about the portfolio, how many of these are you putting together? The cool thing about biotech is you know and see the eventual milestones. And so, granted you have the beta of the industry but you have all these individual companies hitting their milestones of various periods, when you think of portfolio construction, are you putting in 10 names in, 20, 50? How’s the portfolio construction kind of work on this portfolio?

Doron: The way we construct our portfolio is with a number of positions that we think of as core and others that we think of as shorter term and more trading-oriented. Clearly, Viracta is one of our core positions, of which, in our portfolio, we have 8 to 12. And on the short side, a slightly smaller number of core short positions.

Meb: And I assume the shorts are a little bit smaller.

Doron: The shorts are a little bit smaller. Overall, through the end of May, I’m looking at first draft of our monthly tier sheet, which we will be sending out in a few days once our numbers for the month are finalized, which usually takes us a few days past the end of the month, we had 17 long and 19 short positions.

Meb: Oh, wow. Okay, we got a little time. We can talk about one more. I like this company. Now that I know I have Epstein Barr and all the fraught risks with that, I’ll be cheering for them. What else excited about?

Doron: There’s one other thing I’d like to mention about Viracta before we move on. We look at the companies that we invest in across three pillars: the science (of course), the people (that is to say, the quality of the management company and the board), and, lastly, the cash. We’ve talked about the science. We’ve talked about the cash. We haven’t really spent much time talking about the people.

Viracta’s CEO is the founder of a little biotech company called IDEC. He is an oncologist himself, worked at UCSD and founded IDEC, which became part of Biogen IDEC. Hence, Biogen’s ticker, BIIB. The company’s chairman joined it from a long career in Merck, which he joined after becoming an oncologist himself. The chief medical officer and other board members are also equally high quality. And now that I mentioned that, I didn’t want to let it go ignored.

Meb: More than in any industry, I think, quality and its flipside, management, is important. Because the people that have been through the whole process, like the FDA process, like you mentioned, is not trivial. And so the people that have ushered various drugs through that process before, I mean, that is a huge experience that you can’t really…it eventually can be taught, but it’s worth its weight in gold.

And also on the flip side, you see a lot of the bad actors somehow continue to, like a phoenix, have five different companies that they could just continue to launch, pump up, puke out all the stock, eventually go bankrupt. And then they just do it again and again. So you can have a list of the good guys and the bad guys.

I put mining and biotech in the same umbrella where you want to follow the old phrase of success leaves traces. You want to follow, in general, a lot of the people that have been there, done that, and that tends to be a pretty good positive… Obviously, it’s science, and it’s messy, it doesn’t guarantee it’ll be successful, but it certainly helps.

Doron: Three more long positions of ours that we think are grossly undervalued, well-financed, and each have important catalysts before the end of the year. One of them is a gene therapy company called Krystal, with the ticker KRYS, also trading on the NASDAQ, and headquartered in Pittsburgh, Pennsylvania.

This company was co-founded by a husband and wife who continued to run the company. So traditionally, gene therapies are injected into the patient’s bloodstream. From there, they transfect a whole host of tissues and organs that we have little control over. And, not surprisingly, sometimes, gene therapies are associated with very serious side effects, which have led to the FDA halting several of these programs in development.

There is, on the one hand, great promise around this technology, which has resulted in several FDA-approved treatments that are now on the market. But the number of successful gene therapy companies is still less than a handful.

Krystal is a gene therapy company with a difference because of a number of really important distinctions to the many other gene therapy companies in development. Firstly, the virus it works with it is herpes simplex, HSV, virus. That is a large virus that generally evades a reaction by the immune system. That has really important implications. It means that you can administer the virus several times over, rather than being limited to giving it just the one time for fear that any subsequent administration will lead to a really potent immune reaction.

The viral therapies that are available today as systemic treatments are one-and-done therapies. And they are priced accordingly. You may remember reading headlines when a drug called Zolgensma, originally developed by one of our former portfolio companies AveXis and now in the hands of Novartis, was approved and came out with a sticker price of approximately $2 million per patient.

Now, that is a drug that has really dramatic patient benefit for a truly horrible disease that has 100% mortality in children and stops them from, even in their short life, developing most motor milestones that parents take for granted. But it’s because it’s a one-and-done therapy that it’s priced where it is for a single administration. In Krystal’s case, since it uses the herpes simplex virus, the drug can be given over and over again.

Secondly, Krystal made a strategic choice to focus on diseases in tissues that are easily accessible where the virus can be administered topically as cream or gel or inhaled spray. So think of devastating, dermatologic, congenitally inherited diseases such as butterfly skin syndrome.

Meb: What is that? I’ve never even heard of that.

Doron: Medically known as epidermolysis bullosa. And what’s missing in these kids is a gene for a collagen molecule that tethers the epidermis, the uppermost layer of the skin, to the dermis underneath. And without that collagen that binds the two layers together, any shearing force causes the epidermis and the dermis below it, to move in opposite directions, resulting in the fracture of the capillaries, the very fine blood vessels that run between them, and the formation of blood blisters, which can extend over large parts of the skin in the space between the epidermis and the dermis.

So these kids, from the time that they’re born, when they’re handled in the hospital by the nursing staff and by their parents, are found to develop these widespread areas of the skin all over their body that are affected by these blood blisters that are best managed by opening them up and letting the skin underneath heal, which requires the application of lots of topical treatments and careful bandaging.

I joined, as part of my research and my quest to better understand this disease, one of the Facebook groups dedicated to epidermolysis bullosa. And I learned just how devastating and serious a disease it is. We don’t usually think of dermatologic diseases as terribly serious. But this is one of the few exceptions to the rule.

Krystal set out to make an intact copy of that collagen gene that is mutated in butterfly skin syndrome children. And to put it inside a herpes simplex virus that is large enough to contain multiple copies of that gene, and then apply it to the raw skin of these kids as a gel where the virus transfects fibroblasts in the dermis and puts the gene inside them so that these cells start producing the collagen that’s been missing. And you can apply this treatment over and over again.

Krystal ran a pivotal trial with the primary endpoint being durable wound closure. And as a comparison, it used wounds of similar size and age in the same children. And those wounds were treated on a double-blind basis, where neither the child nor the physician knew which is which, with an identical looking gel that contained not a gene therapy but a placebo. And the results were really striking and showed that the kids treated with Krystal’s technology had wounds that healed faster and remained closed. While the kids treated with a placebo did not experience that benefit.

It is this month that Krystal is going to, according to its guidance, submit an application to the FDA for a new biologic license. And the FDA will decide within coming months whether the submission is complete, sufficiently complete for review, and could decide before the end of the year, whether that drug can make it onto the market for epidermolysis bullosa children.

But the application of Krystal’s technology goes beyond that into other dermatologic conditions and pulmonary conditions, too, including cystic fibrosis, in which the company is just on the cusp of initiating a trial with an inhaled version of the herpes simplex virus gene therapy.

There are also aesthetic applications, as you might imagine, to this technology. And Krystal has formed a subsidiary, it’s called Jeune, to do just that and deliver via the same herpes simplex virus route an intact copy of collagen gene that is steadily deregulated in most of us as we age, but could make the difference between sagging and wrinkled skin and more youthful-looking, plumper, fresher skin with more collagen in it.

Meb: Take photos, man. That sounds like a winner. Well, that’s the cool thing. I mean, this re-dosable gene therapy has a much larger potential market than, like you mentioned, some of the one off. I mean, they’re obviously both well needed and accepted, if it works but then becomes an entire platform as opposed to just one therapy, right? Like the platform companies, particularly where you have a technology that can expand to many indications, can certainly become not just a billion-dollar unicorn, but 10, 50, 100-billion-dollar company, as Moderna has shown, as well as others.

I was smiling earlier when you’re talking about Bristol-Myers because that was a long-time family holding. And I remember that sucker peaked in like 2000. And then, it had its valleys over the past 20 years and is just now breaking out to all-time highs again. And I think I read about it in Barron’s this weekend as well, they were talking about the bright future for Bristol. So it’s a mega cap, of course, but what we’re talking about right now is the sort of billion-and-under companies thus far. That’s exciting. And so the milestone for this one, you said, was in the year?

Doron: It is possible that by the end of the year the FDA will make a decision on Krystal’s about to be submitted BLA. It’s a biologic licensing application for its herpes simplex virus vector gene therapy for children with epidermolysis bullosa. And you’re right that behind it is essentially a platform that uses the same technology and can be applied to different diseases changing out almost like cassette, the oligonucleotide sequence that codes for the intact gene you’re looking to introduce to the patient missing it.

There are platform companies a plenty. But a much, much smaller number of platform companies, including Moderna, which you just mentioned, with proof that the platform generated a successful compound, generated a product that has shown utility in patients. And Krystal is one of these.

And ultimately, we see this company relatively unlikely to survive in the long term as a standalone entity. It’s more likely to us that, like AveXis and other gene therapy companies before, it will be snapped up by a larger pharma or biotech company that is looking to get its hands, not just on a product for children with unfortunately rare dermatologic condition, but a platform company whose technology can be developed and applied across a number of different indications.

Meb: Yeah, I mean, a lot of these early-stage biotech, you know, they’re meant to demonstrate a certain scientific experiment and/or therapeutic, but then commercialization, production at certain scale, as well as the sales, often, like you mentioned, becomes either a partnership, a handoff, a M&A acquisition, which was often the intent, but it gives it a certain closure and finality often for a lot of these stories with the bigger partners, which is great, successful outcome. It can get rolled out big time. I think we’ve got time for one more.

Doron: A company called Tarsus Pharmaceuticals that is developing a treatment for demodex blepharitis, inflammation of the eyelids caused by a mite that is common. Or COMPASS Pharmaceuticals, one of the group of companies that I mentioned earlier that is at the forefront of developing the group of psychedelic substances as medicines by running rigorous, state-of-the-art clinical trials.

Meb: I already have my answer. Let’s talk about the mushrooms because, I’m saying that in passing and laughing, because I read a book about microscopic organisms to my son in the last month or two, and it grossed me out, about all the mites that are everywhere. So mites in eyelids, I’m going to get nauseous by the end of this podcast. So let’s move on to psychedelics as a good finality to this one.

Doron: We have been talking about books a few seconds ago, and there is a tremendously good book that I think was really seminal about the change in thinking that’s occurred around psychedelic substances. The book is “How to Change Your Mind” by Michael Pollan. And it covers the history of psychedelic substances from their discovery in the ’50s and ’60s, a relatively brief period when these substances were explored, not just recreational use, but for their medical benefits. Which was abandoned as part of the war on drugs in the late ’60s and ’70s, a ban and taboo that they were subject to until very recently, when some academic institutions around the world, I’m thinking of John Hopkins in the United States and Imperial College in the UK, began to seriously explore their use as useful medicines for a variety of mental health conditions.

There’s a not-for-profit agency called MAPS that ran a Phase III placebo-controlled trial using Molly or ecstasy, for patients with post-traumatic stress disorder. And the company that I want to talk to you about today called COMPASS Pathways with the ticker CMPS, went public on the NASDAQ in the second half of 2020 and straddles the Atlantic with headquarters in London and in the U.S., that is focused on psilocybin, the active ingredient in magic mushrooms, as a treatment for, initially, treatment-resistant depression.

The studies conducted in England and elsewhere showed significant promise that led to the FDA awarding COMPASS a breakthrough therapy designation for its proprietary crystallized version of psilocybin. But it wasn’t until October of last year that we first saw the results of the first-ever, large, multicenter, international, double-blind trial run with patients receiving psilocybin in one arm and other patients receiving placebo-like, much lower dose of psilocybin.

These substances are so psychoactive that running blinded trial that uses a sugar pill as a placebo is unlikely to fool any patient into oblivion about whether they are receiving the active drug as treatment or are assigned to the placebo arm, which would unmask the blind. In an effort to avoid that, COMPASS gave everyone on the trial a dose of psilocybin. But while patients on the active arm were given 25 milligrams, patients on the placebo-like arm were given just 1 milligram, which induces a much lower but somewhat noticeable effect. And there was a middle dose tested for exploratory reasons of 10 milligrams.

Hitherto, the best information about the effects of psilocybin came from a study conducted at Imperial College that was written up in “The New England Journal of Medicine” in the spring of last year. The first author is Robin Carhart-Harris, for anyone interested in looking that up.

But the company-sponsored, state-of-the-art trial that read out in October, showed that on a depression scale, known as MDRS, which has led to FDA approval of other substances that hit on that endpoint in the past, treatment with psilocybin led to profound reduction in the severity of symptoms. In a subset of patients led to the remission of their depression. And that difference, which was statistically significant for the primary and a host of secondary endpoint, was durable too, after a single administration of psilocybin.

And to put in context, just how high the burden of suffering of these patients prior to the treatment was, all of them had failed, not one, but two, conventional depression drugs and were facing as alternatives to going on a trial electroshock therapy, other investigational drugs.

Meb: The alternatives are so harsh.

Doron: Correct. The trial enrolled really quickly, which gives us, as investors, a good idea of how high the demand is for a drug that could meaningfully make a difference to patients, even though the patients did not know a priori whether they were going to be assigned to the 25-milligram active dose of the drug or the placebo like 1 milligram. Despite taking that assignment risk into account, patients signed up to be in the trial. And they were very carefully vetted. And out of every 10 patients who applied, only about 1 was allowed into the trial.

At the end of April, COMPASS had an opportunity to discuss these data with the FDA. The FDA habitually sends companies minutes of their meetings approximately a month later that would have occurred at the end of May, just a few days ago. And COMPASS has said that over the course of the summer, they will brief investors about the plans for its Phase III program, which will begin this year.

Simultaneously, it is advancing into Phase II trials, that establish a proof of concept, the same drug, the same proprietary formulation of psilocybin into other diseases for which a small data set has already indicated that there is some potential for patient benefit. And there’s a number of these, including anorexia, end-of-life anxiety, post-traumatic stress disorder, body dysmorphic disorder, and addiction.

One of these, PTSD, COMPASS has committed to advancing into a company-sponsored Phase II. It will, as per company guidance, make a decision on another one, which is advancing. And what we really like about this as investors is that the same drug, with the same psychiatry-focused sales force, can address multiple indications. In that way, COMPASS too is similar to a platform drug or what we sometimes call a pipeline in a drug company.

And that, from the perspective of a financial model becomes very quickly, very accretive with fairly minimal additional costs around manufacturing and a slight expansion of the same focus sales force, you can unlock a market that is very accretive to the initial indication of treatment-resistant depression, which itself counts probably a million patients around the world who suffer from it and are not getting sufficient relief or any relief from conventional SSRI antidepressants.

Meb: What’s the big concern here? If you’re a bear on COMPASS, is the psilocybin formulation, is it defensible? Like, is it something that, you know, other companies can pursue if it’s a treatment that works? If you flip the bull-bear case, what are people concerned about?

Doron: So I’d say that the bear case focuses on two areas. One is the proprietary nature of COMPASS’ formulation of psilocybin. Psilocybin is, after all, a naturally occurring substance. And so the question is, well, how can you patent a drug like that? And will that withstand core challenges by potential competitors that now or in the future, when COMPASS establishes psilocybin as an attractive drug with significantly sized market, may want a piece of that action?

The answer has to do with not only the defensibility, but the extent to which COMPASS can defend its own patents, its manufacturing process, and this proprietary crystalline formulation of psilocybin called COMP360 that COMPASS has developed. It also has to do with data exclusivity that the FDA awards to companies that go through the hard work of establishing a naturally occurring substance as clinically useful. That costs a great deal of time, effort, and money. And other companies that come on the scene later, raise their hands and say, “Me too,” are rebuffed by the FDA because of such exclusivity.

That exclusive period is not quite as long as the 20 years awarded to composition of matter patent, but even if the first line of defense in the legal arena should fail, there is the data exclusivity from the FDA. And then there is a precedent that we can point to.

You may remember a company that originated in the cannabis space called GW Pharmaceuticals. GW set out to develop new medicine that was derived from the portion of cannabis that does not give you a high for children with epileptic seizures disorders. And it was successful beyond the dreams of most people associated with the company and investors, including us, who put their money into the company at a much earlier stage. That company was eventually acquired for the better part of $10 billion by Jazz Pharmaceuticals, a well-known U.S. specialty pharma company.

And the parallels are pretty striking between the two companies. In fact, COMPASS’ head of Investor Relations is the former head of Investor Relations at GW Pharma. The similarities extend not just around the development of proprietary formulation of drug that has its origins in nature, but also about how receptive the FDA is to these substances and how the DEA plays a role in that process, the Drug Enforcement Agency, and ultimately about how ready the market of psychiatrists, in the case of COMPASS, or neurologists, in the case of GW’s drug, are to prescribe the drug.

And that leads me to the second major part of the bear thesis on COMPASS, which is that this drug may successfully make it to the finish line, but the barriers to it being prescribed and used on a widespread basis are just too high, to which you may say, “Wait, what are you talking about? Are you saying that if magic mushrooms were FDA-approved, that they would not immediately become a widely prescribed class of drugs?”

Well, the bear case is this fairly sophisticated around that. And it says that the treatment with a psychedelic substance, such as psilocybin takes many hours out of a patient’s day. There is a preparation session with a therapist, who’s got to be trained in administering the drug and supervising the patients while they are under the influence of the drug, and then an integration session to put it all together afterwards and discuss with the patient the insights that they gleaned during the therapeutic session.

It requires, in other words, several hours of time, on behalf both the patient and the therapist that administers it. And on the part of the psychiatrist that prescribes the drug, it requires some faith, some confidence in the drug and the therapeutic process to refer the patient to a therapist who is trained in the administration of psilocybin.

The bear case goes that that is just too big a shift from the currently prevailing paradigm in which a psychiatrist writes a prescription on a notepad that the patient then fills at their local Walgreens or CVS, goes home with a packet of pills that they take 1 of each day for the next 6 to 12 months, until they are reassessed. Psilocybin, on the other hand, is a discrete therapeutic intervention that seems to be durable for some time that could potentially be used again after a period of some months.

We don’t yet know whether that might be 3, 6, or 12 months out into the future, and is quite a different way of thinking about treating depression than the current framework. And that, the bear case goes, is going to impede the uptake of the drive and its reimbursement by insurance companies that are well known for pushing back any which way they can, especially in these large indications.

Well, COMPASS is doing a great deal of work that it doesn’t very often talk about unless asked, and I would love it if the company would, at some point, hold an investor day and share with the public exactly how it proposes to overcome all of the obstacles they describe, cognizant about to ensure that its drug reaches as many patients who could benefit from it as possible in a shorter period of time. COMPASS has a real sense of mission around what it seeks to accomplish in the area of mental health, initially in treatment-resistant depression, but beyond in several of these other mental health disorders that I rattled off a few minutes ago where psilocybin could potentially show similar efficacy.

Meb: The bear case ideas you mentioned, eventually when you have a treatment, if it works, the therapeutic outcome trumps everything. If it’s helping patients, like, it’ll figure out a way. I think the FDA usually ends up on the right side eventually, on how, if it’s clearly helping people, it can get fit into a box.

Doron: On that point, Meb, I believe that not only is the FDA receptive to this new class of drugs, of which I think COMPASS with COMP360 is really the poster child. It is the company that is most advanced, that has developed the most patents, has received breakthrough therapy designation from the FDA. In fact, it’s the only corporate entity to have received that designation.

It is the company that is most advanced in developing psilocybin by far, and it is also well staffed with experts in their respective areas within the company. The chief medical officer, for example, is the former Regius Professor of Psychiatry at Oxford, who led the Department of Psychiatry at Oxford University for many years before he joined the company. COMPASS, in my mind, is really distinguished from the many other companies that are active in the psychedelic space, many of which came to it through an initial experience in the cannabis space.

I think the other party that is ultimately going to be receptive to COMP360 as a new treatment for depression and potentially other indications, our psychiatrist and the therapists who I see desirous of being trained in the administration of psilocybin. Psychiatrist wants to help their patients, I firmly believe that based on my own experience as a physician, with some training in psychiatry as part of the many disciplines I rotated through. And they’re very earnest in their desire to help patients. And there are few good options available to them once patients don’t respond or no longer respond to the conventional SSRI antidepressants, such as Prozac or Wellbutrin and sertraline, and what have you.

Meb: Man, this has been a whirlwind tour. You know, as you kind of look to the horizon, obviously, these cycles come and go. I was thinking back, man, you mentioned some books. Pollan is famous for “The Omnivore’s Dilemma.” I remember there being a biotech book in the ’90s about Vertex called “Billion Dollar Molecule” that was like such a great insight into how that world operated. But, man, that’s 20-plus years old now.

Are there any other books or resources that you can think of? You mentioned the JP Morgan conference, of course, that investors that are seriously interested in this space might find of interest or useful to someone who really wants to get deeper into biotech.

Doron: There’s a wonderful book about the ImClone story that is rife with these very colourful, glittering characters that include Martha Stewart and the well-known Waksal Brothers who founded ImClone, which eventually resulted in the FDA approval of the molecule they set out to develop as a very useful cancer medicine. That book is called “The Cell Game.” Cell as in C-E-L-L.

Meb: The ImClone also was interesting before all of it went down. Going back to the probabilistic thinking, it was a scenario of a company where everything looked good, man, if I can remember this 20 years ago, in a Phase III study, but the stock was priced for perfection. Meaning if anything went wrong, everything had to go right for the stock to be trading where it was.

And you’ve seen this a lot in the company’s history of time, of course, but where you have a stock that all the good news was priced in, and then a little something or a big something happens, and all of a sudden, you have a lot of downside, even though, as you mentioned, this ended up being a successful therapeutic company and eventual exit. They got acquired by Lilly, I think. Brings back some fond memories, Martha, and others. All right, well, add that to the show note links. Any others come to mind off top of your head?

Doron: I’m traveling to Chicago on Sunday to attend the annual meeting of the American Society for Clinical Oncology, the world’s largest cancer meeting, ASCO, where dozens and dozens of companies are going to present data from preclinical, as well as Phase I, Phase II, and Phase III clinical trials, including some of our portfolio companies. That is part of the job.

And either traveling there or following what is being presented at these conferences very closely, I would also recommend anyone really thinking about investing in the sector, which I don’t recommend, by the way, for casual investors. This is highly information-driven sector, where valuations can pivot on a dime, depending on an FDA decision, the release of briefing documents, the outcome of an advisory committee meeting, the release of clinical data from a company, or the somewhat unpredictable nature of drug development and patient safety.

Things can go swimmingly well with a company in a clinical trial or even, just think of Vioxx, past the point where the drug is FDA approved and on the market when we suddenly learned that there are safety concerns that were not detected in preclinical experiments or in earlier clinical trials. So it’s certainly not for the faint of heart.

Meb: So just send them a check in the mail, listeners, you can bypass me, just kidding. Where do people find you if they want to find out more what you guys are up to? Brilliant idea of inventing a new word for the firm name for SEO, it’s easier to Google Sanvia and come up with the right place.

Doron: Thank you. Thank you. LinkedIn is really good. And of course, by email at doron@sanviacapital.com.

Meb: What’s been your most memorable investment, thinking back in history, good, bad, in between?

Doron: I think the example I leave you with is a company called Alexion, ticker ALXN. It’s now part of AstraZeneca. But in 2006, I remember there being a very heated debate between bulls and bears over whether Alexion’s drug, an antibody called Soliris, initially approved for rare disease, I barely remember learning about in medical school, called paroxysmal nocturnal haemoglobinuria, or PNH for short.

Most medical students, barely knew how to spell PNH, was already fully captured by Alexion, which had received FDA approval earlier that year, or whether the market was far greater now that the drug was approved and on the market and whether more patients would be identified as suffering from PNH, because their doctors would look more carefully given the availability for a treatment for it. A treatment that, by the way, has worked very well.

And as this bull-bear debate raged over the size of the market for PNH, I and a small group of other investors, took a step back and thought about the drug’s mechanism of action. It works by suppressing a part of the immune system, known as the complement system, which is not necessary. It is supplemental to other parts of our immune system. But when it becomes rampant, and is constitutively active, it leads to disease, including paroxysmal nocturnal haemoglobinuria, where the complement system attacks red blood cells and causes them to pop, to lyse, and to release blood in the urine.

But there are other diseases mediated by a rapid complement system. As I thought about this, there were researchers around the world, some of them clinicians treating rare complement-mediated diseases that looked to get their hands on Soliris in order to try the drug in those other relatively rare diseases that they were champions of. Diseases that included nerve disease called myasthenia gravis and an eye disease, neuromyelitis optica, and a kidney disease.

And as I thought about the potential for Soliris to become successful in these other indications, I set out to contact researchers around the world who had developed very early expertise in a small number of patients and learned that Soliris was very promising in a patient with neuromyelitis optica there or with the rare kidney disease that I mentioned. It became really clear to me that the growth for Soliris was going to be explosive. Never mind what the exact size of the market in the initial indication of PNH was.

Eventually, Soliris became approved in not just the one indication, but in a total of four. Some of these are now larger than the original indication for which it become approved. Along with it, Alexion established that you can run a very successful company by focusing on these very rare orphan diseases only, which wasn’t well-known before, because it hadn’t been tried.

Other orphan-disease-focused companies included Genzyme, which also is not a standalone company anymore, having been acquired by Sanofi. Because when you have a really profoundly efficacious and safe drug on your hand, you can charge accordingly for it and run a successful business, even though you’re not addressing a blockbuster indication, such as hypertension or diabetes.

Meb: How receptive are most other PMs in this space, doctors? Do you feel like it’s a community, that you’re able to talk about some of these ideas, or does it tend to be kind of sharp elbow?

Doron: It’s a very collegial, collaborative, but at the same time, clearly also very competitive industry. There was a time when any group of PMs and analysts focused on biotech could get together and call out name after name and have a really healthy debate about them. But that was when there were perhaps 120 publicly listed biopharma companies out there.

Today, that number has ballooned. Because of COVID, we went through a multi-year period of having very few of these conversations in person. When I moved to Miami, there were two other investors focused on biotech. Now, because of COVID, that number has mushroomed to something like 25. It’s still a far cry from San Diego, San Francisco, the tri-state area around New York, and Boston, of course.

But we can now have more frequent in-person interactions, where we find again and again, that my favorite long or your favorite short, may be a name that I know only very superficially. So it doesn’t lead to these more substantive debates that people in my circles used to have routinely in the past.

It’s really good, though, to see my colleagues from New York and Boston, and increasingly from Miami, at sell-side conferences that are sponsored by investment banks, dedicated to biotech. We’ve had several of these and I’m especially pleased that several of those have taken place in Miami because it’s a place where you can feasibly have a conference out in the open and be relatively certain as the organizer that it’s not going to get cancelled.

Meb: I love it. Doron, this has been a masterclass. Thank you so much for joining us today.

Doron: Meb, thank you. You’re so gracious in the way that you asked your questions. And thank you for inviting me on. It’s really been a pleasure and I would look forward to doing it again and discussing the state of biotech and specific long ideas.

Meb: Podcast listeners, will post show notes to today’s conversation at mebfaber.com/podcast. If you love the show, if you hate it, shoot us feedback at feedback@themebfabershow.com. We love to read the reviews, please review us on iTunes and subscribe to the show anywhere good podcasts are found. Thanks for listening, friends, and good investing.