Heat Biologics is combining its HS-110 with Opdivo in a new trial.

Its ImPACT platform has advantages over other antigen-specific immunotherapy platforms.

If HS-110 succeeds in trial, the company has considerable upside.

Here's an interesting story from a pioneering small company: Heat Biologics (NASDAQ:HTBX). Last year, HTBX was developing a cancer vaccine based on heat-shock proteins (HSPs) that could stimulate an immune response against multiple antigens. This is a technology for unbinding gp96, a potent immune response stimulator, from the endothelial reticulum of all cells. These two technologies would combine, it was assumed, to produce a potent cancer vaccine for NSCLC, among other cancers. The product, HS-110, was in phase 2 trial last year, planning to enroll 123 patients.

On September 1, 2015, it halted this phase 2 trial and began a new phase 1 trial afresh. The market reacted as usual by dropping the stock's value by 50%, but in the next few days, once it appreciated HTBX's plan, it bound up to almost where it was before, before settling down to a corrected, still-appreciative mode.

So what is the gameplan now? Well, our immune system is complex, and cancer cells are sly little things that try to avoid detection by the immune police in so many ways. So the best sort of immune therapy - a therapy which fights against cancer by somehow stimulating the body's own immune system, or working like a second-line immune system - the best sort of immune therapy will want to combine multiple types of immunotherapy.

With the approval of Opdivo, and then of Keytruda, a new type of immunotherapy became available to researchers - the so-called PD-1 inhibitors. PD-1 is a programmed cell death receptor; it is also called an immune checkpoint receptor. These receptors act as brakes for the immune system, blocking their killer action against normal cells. Because cancer cells are derived from normal cells, the immune system finds it tricky to recognize them, and the PD-1 receptors block the immune system from killing cancer cells. PD-1 inhibitors, as their name suggests, block the PD-1 receptors from blocking the immune system to unleash its wrath on cancer cells. Bristol Myers Squibb's (NYSE:BMY) Opdivo has been shown to be effective in some patients with NSCLC.

The problem with a potentially $7bn drug like Opdivo is that only about 20-30% of NSCLC patients actually respond to Opdivo at present. The rest of the patient population is what is called checkpoint unresponsive. HTBX thinks that HS-110 coupled with nivolumab (Opdivo) can broaden the patient base here.

Taylor Schreiber, M.D., PhD, HTBX's Chief Scientific Officer, notes that emerging clinical evidence shows that while responses to checkpoint inhibitor therapy are biased toward patients that already have tumor-infiltrating lymphocytes (TILs), the optimal patient population for therapeutic vaccines in conjunction with checkpoint inhibitors may be checkpoint unresponsive (and TIL negative) population. The idea followed from the fact that it was observed that in a clinical trial for HS-410 for bladder cancer, patients with low levels of tumor-infiltrating lymphocytes (TILs) at baseline appeared to respond better.

Around 20%-30% of the NSCLC patient population currently responds to nivolumab. The trial initiated by HS-110 will evaluate whether HS-110 can broaden the patient base for checkpoint inhibitors, Schreiber says. If it does then HTBX could see a licensing agreement or even a potential acquisition, especially considering that it is well ahead in combining cancer vaccine and checkpoint inhibitors and also is attractively valued when compared to a number of other companies in the cancer immunotherapy space.

The ImPACT Immunothrapy Platform

Immune Pan-Antigen Cytotoxic Therapy ("ImPACT" Therapy) is HTBX's proprietary platform, which is specifically designed to activate pan-antigen CD8+T cells to kill cancer cells. It is an allogenic, off-the-shelf vaccine, meaning one donor's cells may be used to develop the product and deliver it to another recipient. This makes it easier to develop, less time consuming to deliver, and cheaper to manufacture, compared to autogenic vaccines which needs the patient's own tissue to be developed. For example, Provenge, the only cancer vaccine approved in the U.S., is not allogenic, therefore it is more expensive. Neither does it work as adjuvant therapy, so it will not be as powerful as one that combines two therapies, say a cancer vaccine and a PD-1 inhibitor like Opdivo.

The platform expresses a modified version of a naturally occurring heat shock protein or HSP. Known as gp96-lg, this is the most potent mammalian adjuvant immune response stimulator, and it comes with a set of chaperoned antigens. The ImPACT platform transforms allogenic living cancer cells so that they continually express this gp96 analog protein, which is exactly similar to autogenic gp96.

The platform is able to stimulate immune response against multiple tumor proteins, and also maintain them for days. Below is a list of key differentiators between this platform and others:

Source: Corporate Presentation

ImPACT has been dose-tested against other immune stimulants, and one key difference is that it can create a response at very small physiologic concentrations of antigen compared to some others whose antigen levels can be measured in grams. Also, it is specific to CD8+T cells and does not involve other cells. HTBX is currently conducting one phase 2 trial of HS-410 to treat Non-Muscle Invasive Bladder Cancer (NMIBC) and HS-110 to treat Non-Small Cell Lung Cancer (NSCLC).

HS-410 and NMIBC

HS-410 is being developed for the treatment of patients with NMIBC. It is currently conducting a phase 2 trial, as a combo with the SoC, or by itself. The SoC, Bacillus Calmette-Guerin (BCG), may have some synergy with HS-410. However, there's some positives with monotherapy because BCG has to be administered intravesically.

HS-410 has a fast track designation from the FDA. The trail is being led by the U Chicago School of Medicine. The market is small, with 73,000 new cases of bladder cancer reported every year. No new drugs have been approved in almost 25 years.

HS-110 and NSCLC

HS-110 is being developed to treat NSCLC. It has been developed to cover known and unknown antigens , which gives it an advantage over a single antigen approach. Tumors are inherently heterogenic when it comes to antigens, and no single antigen focused drug can hope to kill an adequate number of tumor cells.

HS-110 is undergoing two trials. One of the trials, as I discussed before, combines with a PD-1 checkpoint inhibitor, Opdivo. Called DURGA after the multiple-armed Hindu goddess, this phase 1 trial is the first of its kind combining a PD-1 inhibitor with a cancer vaccine.

The other trial is a phase 2 trial combining HS-110 with cyclophosphamide, a known anti-cancer chemotherapy drug. Data readout is expected at the end of next year.

NSCLC is the most widely prevalent variety of serious lung cancers, with 190,000 cases reported in the U.S.

Valuation and risks

In order to value HTBX, I have focused on HS-110 and HS-410. Both vaccine candidates could reach the market before the end of this decade if they remain on track in clinical stages. I have assumed a 2018 launch for HS-110 and a 2020 launch for HS-410. I have assigned a 30% probability for both the product candidates, which is the average probability for product candidates in Phase 1b/2, according to data from Torreya Partners. Read the complete valuation here.

According to data from the American Cancer Society, an estimated 224,000 new cases of lung cancer were diagnosed in 2014. Around 85% of all lung cancers are NSCLC, which translates to roughly 190,000. If approved, HS-110 will be a third-line treatment. According to a 2009 paper from Girard N. et. al. published in the Journal of Thoracic Oncology, between 28% and 38% NSCLC patients require third-line therapy. Based on 2014 estimated NSCLC patient population and the mid-point of the percentage of patients needing third-line therapy, this translates to around 63,000 patients who require a third-line therapy. Assuming treatment cost of $10,000, HS-110's addressable market based on 2014 estimates is around $630 million. I have assumed that the market will grow at a CAGR of 10%. These figures are only for the U.S.

HS-110 has patents until 2029. I have assumed that at peak HS-110 will capture 60% of the addressable market, which is reasonable considering that there are very limited treatment options in third-line therapy. Following patent expiration, I have assumed HS-110's share to drop to 10% in 2030. I have calculated the terminal value in 2031.

The discount rate has been assumed at 15%, which is reasonable for an early-stage biotech company. I have assumed continued growth rate of 3%.

Based on these estimates, I get a fair value for HS-110 of $8.85. This is just based on the sales estimates for the U.S. alone.

For HS-410, I have assumed a 2020 launch, patent expiration in 2029 and calculated the terminal value in 2031. HS-410's addressable market is significantly smaller. Heat Biologics, citing data from the American Cancer Society, notes that in 2012 there were 73,000 new cases of bladder cancer. The important thing to note is that the FDA has not approved any new drug to treat bladder cancer in over 25 years. According to GlobalData, the bladder cancer treatment market in the U.S. would reach $181.1 million by 2017, growing at a CAGR of 5.4%. Globally, the market is expected to reach $297.5 million. If HS-410 is approved, it will face very little competition considering the lack of late-stage drug candidates in this space. I have assumed a CAGR of 5% beyond 2017 and HS-410 to capture 60% of the market at peak. Following the expiration of patents, I have assumed HS-410's share to drop to 10%.

Based on these estimates, I get a fair value of $0.83 for HS-410.

The fair value for HTBX based on the value for HS-110 and HS-410 comes to around $9.68, which represents an upside of more than 100% from current levels. At the end of the June quarter, HTBX had $19.36 million in cash, which is more than $2 per share. The company's burn rate in the first six months of 2015 was around $8 million. Based on the current burn rate, the company will need to raise cash by the end of 2016. So dilution is a near-term risk. But, HTBX has a low float. Another risk of course is the failure of the DURGA trial. Remember that HS-110 is the key value driver for HTBX. If that drug fails, this company is gone. However, if the trial results are successful then HTBX could see a licensing deal or even a possible takeover. Several deals have been done in the cancer vaccine and anti-PD-1 space already. The size of these deals have been between $700 million and $1 billion.