Gilead loses record $2.5 billion patent verdict to Merck; so what’s a couple billion when you’ve got plenty more and need to grow–fast?

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Gilead Sciences Inc. (Foster City CA) was told by a federal jury to pay $2.54 billion to Merck & Co. (Kenilworth NJ) for using a patented invention as the basis for its blockbuster drugs for the potentially deadly liver disease hepatitis C–the biggest patent-infringement verdict in US history.

@GileadSciences was told by a federal jury to pay $2.54 billion to @Merck Click To Tweet

The jury in Wilmington, DE, deliberated for less than two hours and rejected Gilead’s arguments that Merck’s patent is invalid. The judge in the case had already decided that Merck’s patent was infringed by Gilead’s Sovaldi and Harvoni, which account for more than half the drugmaker’s revenue.

The infringement also was found to be willful, according to Bloomberg, meaning the judge could increase the damage award by as much as three times the amount set by the jury. The jury said on Thursday that Gilead owed 10% royalties on $25.4 billion in total sales for the two drugs. Gilead pledged to appeal.

The patent, issued in 2009, is for a compound that Merck’s Idenix unit contends is the basis for all major treatments for hepatitis C, including ones made by Gilead. Sovaldi was approved by the US Food and Drug Administration in 2013 and Harvoni got regulatory go-ahead a year later. Merck’s drug, Zepatier, was approved this year.

“We were first,” Merck lawyer Stephanie Parker said in closing arguments. “That’s the most important thing. All of the Gilead work comes after ours. Our patent was first. The Gilead story starts years later.”

Gilead argued that Idenix never adequately described what it claimed to have invented, and the patent didn’t cover a new idea.

Sovaldi is based on the compound sofosbuvir, while Harvoni combines sofosbuvir with the compound ledipasvir. Gilead got the compounds as part of its 2012 acquisition of Pharmasset Inc. Gilead added that the verdict doesn’t affect its ability to sell its products.

This is the second trial between the two companies. The first, over different patents, ended in a disaster for Merck. A jury in California said that Gilead should pay $200 million in royalties, but that was thrown out because the judge said a key Merck witness lied. In that case, Merck may have to pay Gilead’s legal fees.

The latest HCV drugs are effective at curing the virus with fewer side effects than earlier treatments, but they have been controversial because of their costs. A complete treatment with Sovaldi costs $84,000, while Harvoni’s price tag is $94,500, though the drugs are typically discounted. A newer version that can treat more genotypes of the virus, called Epclusa, has a list price of $74,760 for a 12-week treatment.

Harvoni generated $4 billion in US sales in the first nine months of the year, and Sovaldi brought in $1.78 billion. Revenue from the two drugs is falling, however, because Gilead has been forced to offer discounts to insurers due to competition from Merck and AbbVie Inc. Merck sells Zepatier for $54,600.

The case in California was Merck’s own suit against Gilead, filed in 2013. Gilead also had been engaged in a patent fight with AbbVie over ways to treat hepatitis C. The companies resolved their disputes in August.

The previous top verdict was a $1.67 billion judgment Johnson & Johnson won against Abbott Laboratories. It was later thrown out on appeal. The case is Idenix Pharmaceuticals LLC v. Gilead Sciences Inc., 14-846, US District Court, District of Delaware (Wilmington).

Steve’s Take:

In a huge blow to Gilead Sciences, a federal jury last week ordered the company to pay $2.54 billion to Merck in order to resolve a long-running patent dispute concerning its Sovaldi and Harvoni hepatitis C treatments, which have been blockbuster sellers.

The patent-infringement verdict is the largest in US history. A judge may yet decide Gilead has to pay as much as three times that figure and give up a portion of future sales.

The verdict is the latest twist in a heated battle between the two drug giants over hepatitis C patents, which have proven extremely lucrative over the last few years. Since its launch three years ago, Sovaldi has generated more than $19 billion in sales for Gilead, while Harvoni, which is an enhanced version of its predecessor, has notched more than $23 billion since becoming available in 2014.

The litigation (pdf), however, has a complicated backstory that involves patents, high-stakes pharmaceutical acquisitions, and a touch of old-fashioned rivalry between scientists, says Ed Silverman at Pharmalot.

For its part, Gilead plans to appeal.

“We remain steadfast in our opinion that Idenix’s US patent is invalid, and since they made no contribution and assumed none of the risk in the discovery and development of [Sovaldi and other medicines based on this drug], we do not believe they are entitled to any level of damages,” a Gilead spokeswoman said.

Several billion dollars could pay for a few decently sized biotech acquisitions. But the threat of these patent losses shouldn’t dissuade Gilead from doing such deals. If anything, it should encourage the company to splurge, thinks Max Nisen of Bloomberg.

This patent saga is far from over; Gilead will appeal, and legal wrangling could stretch for years. But the mere possibility of further damage to its already struggling HCV drugs should add urgency to Gilead’s acute need to find other drugs to replace them.

Gilead’s HCV drugs have been a boon to the firm, generating more than $40 billion in sales since hitting the market in 2013. That has more than justified the $10.6 billion acquisition of Pharmasset that gave Gilead the drugs in 2012.

But competing drugs from AbbVie Inc. and Merck have hit the market since, giving payers leverage to pry discounts from Gilead. HCV sales have fallen precipitously as a result, bad news for a franchise that delivered 58.6% of the company’s total sales in 2015. Thursday’s legal setback won’t help.

Aggressive price competition and a high cure rates mean expectations for Gilead’s future HCV sales have fallen rapidly. Gilead doesn’t have the drugs to replace that lost revenue, or to even come close.

The company’s HIV franchise is strong and growing with a new generation of treatments, but it faces stiff competition from GlaxoSmithKline PLC’s Viiv joint venture and won’t be nearly enough to make up for the HCV decline.

Meanwhile, Gilead has had a succession of pipeline failures in the past year for drugs intended to treat ulcerative colitis, the liver disease NASH, myelofibrosis, and heart disease. The wave of disappointments does not boost confidence in the company’s next wave of drug candidates.

So let’s say Nisen is dead on with the notion that Gilead needs to make an acquisition. In my opinion, Wall Street analysts like Nisen and Todd Hagopian (who started his biotech fund at Marketocracy in 2011) are correct that Gilead is far too invested in the Hepatitis C field, where it will struggle to get much larger.

Although Gilead’s advancements in Hepatitis B will pay enormous dividends, analysts like Hagopian would like to see them reinvest their impressive cash flow into the oncology space to improve their long term growth rate, and mitigate the risk of their position in the HCV market.

Who would be a good fit for Gilead?

Hagopian, in an interview with Forbes, says his top candidate is Kite Pharma. If Gilead itself doesn’t wind up being purchased in a mega-merger, it has long been rumored to be overdue to make further acquisitions. It has a stranglehold on Hepatitis C, it’s making strong advances in Hepatitis B, and analysts are expecting it to make a major acquisition in the oncology space.

After Juno Therapeutics recent drug-trial failure, Kite took a dive, based on worries that the CAR (chimeric antigen receptors)-T drugs are too dangerous to get approved by the FDA.

On the contrary, due to Juno’s misstep, Kite is poised to be the first CAR-T competitor to the market, potentially years in front of its next competitor, which will allow it to become the Gilead of this particular aggressive new oncology market. Kite would likely cost just over $3 Billion to acquire, says Hagopian.

Medivation is another potential target for Gilead. Chances are it can outbid the more traditional competitors like Sanofi SA, if it decides to jump into the race. Between Medivation’s current pipeline, along with its Talazoparib, it offers an attractive oncology portfolio. Hagopian says Medivation would make for a great oncology expansion for Gilead, and, “the analysts would love the move, which would probably value Medivation at nearly $12 Billion.”

But despite the patent war between Gilead and Merck, how about Merck making a play for Gilead? That’s right. A bid to buy its sworn enemy. It could be friendly or hostile. Either way, what a surprise that would be to some observers.

Well, after limping into the Hepatitis C market with the $3.85 billion acquisition of Idenix Pharmaceuticals in 2014, Merck was beaten back by Gilead, although Merck got a taste for how large, and how profitable the market for Hepatitis was and now is at this point.

By combining its own pipeline with Gilead’s, along with expanding into the Hepatitis B market that Gilead is pursuing, this is the type of game-changing acquisition that Merck needs, something few analysts are talking about.

Hagopian says while Gilead’s growth rate is not too impressive,

“Merck could dramatically lower the overhead if the two were to merge, and the bottom line would increase at a much faster rate than either of the two companies could muster on their own.”

This would almost be a merger of equals, says Hagopian, with Gilead likely demanding about $150 Billion, which would still be a bargain deal for Merck. Gilead generates over $10 Billion per year in free cash flow and is trading at only 6x 2018 earnings, which makes the company one of the best bargains in the biotech field.

 Bottom line? Despite all the expert analysis cited here and elsewhere speculating (hopefully highly informed and experienced speculating) about possible M&A, the problem is that it’s is very hard to consistently pick winners in the biotech space.

That’s why sector funds are the safest way to play the biotech field for the average investor. (I recall my euphoira with Intermune, followed by my despair with Catalyst Bio, Delcath, Mateon Thera, Rosetta Genomics, and on and on.)

Meanwhile, despite the patent litigation setback, don’t be surprised if Gilead snatches up one of Hagopian’s picks. With $31 billion in cash lying around, a big chunk of that will likely come back from overseas under a friendlier Donald Trump tax regime. Maybe.

Steve's Take: Will @GileadSciences acquire or be acquired? Click To Tweet

Is it too late in the year for Gilead to give shareholders at Kite Pharma or Medivation a nice green holiday present in their stockings?

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Disclaimer: All posts are purely my opinion. I am not a financial advisor, so please conduct your own due diligence on any and all stocks mentioned.