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Biotech Notebook: Impotence-Drug Stock Zonagen Suffers from Ups and Downs

In addition, a potential Isis offering has some investors concerned, but the company says not to worry.

Maybe there's something in the water, but Mexicans don't appear to need



impotence drug.

Shares of Zonagen, the little company that developed a controversial erection pill called


, are about as volatile as Fred C. Dobbs in

Treasure of the Sierra Madre

. While the company and its supporters admit Vasomax isn't as potent as


(PFE) - Get Free Report


, they contend that it will find a nice niche and could be worth hundreds of millions of dollars. The shorts contend the drug's trial data are questionable and that it's little better than

sugar pills.

Recently, Zonagen's stock has perked up on news that partner



will manufacture Vasomax, not a big surprise since the big drug company will sell the pill, if it's approved. Zonagen, of the Woodlands, Texas, will get a 20% to 22% royalty on U.S. Vasomax sales. The stock has run up 50% so far this year.

But in a potentially important indicator, the drug has failed to catch on south of the Rio Grande. Mexico is no major pharmaceutical market, of course. Yet, the underwhelming performance of the drug, sold in that country as


, is highlighted by one stark, but overlooked, item in a recent earnings report: Zonagen actually gave money back to Schering-Plough in the fourth quarter. Satisfaction guaranteed or yer money back?

The company paid $4,000 to Schering-Plough in the quarter. That compares with the $167,000 in royalties it earned in the year's first nine months. A Zonagen spokeswoman says that Schering had a Z-MAX promotional deal down Mexico way, in which it offered four pills for the price of one. In the fourth quarter, Schering-Plough "must have bought some

tablets back" from pharmacies, says the spokeswoman. Why? "I don't know." She says the payment indicates that "nothing else sold in the December quarter." Schering-Plough didn't return a call seeking comment.

David Steinberg, a

Volpe Brown Whelan

analyst, isn't concerned. "What other drug stories have you followed where Mexico sales were a key to the story?" he asks.

Approval in the U.S., the attending media coverage and initial sales will drive Zonagen's stock up, he says. Steinberg expects that Vasomax will be approved in the U.S. no later than the fourth quarter and will have $50 million to $100 million in first-quarter sales.

That would be good, because everyone would forget about Mexico. Overall, how is the drug doing down south? Certainly not well, but the analysts aren't trying too hard to find out the specifics. In his Feb. 16 note, Steinberg, who rates the company a buy and whose firm has done underwriting for Zonagen, wrote: "Z-MAX in Mexico continues to hold its own, garnering approximately 25% to 30% of the

impotence market." Talk to him and Steinberg says that information comes from the company. He also says, "I've heard anything from 10% to 30% share." That 10% number comes from prescription tracker


international outfit. But Zonagen hints that that data are not comprehensive.

Meanwhile, the impotence market in this country isn't too flush. Viagra's performance continues to

stagnate, a trend over the past six months. It's selling at an annualized pace of about $480 million a year, far, far lower than the multibillion-dollar product it was supposed to be. That suggests the vaunted market for impotence isn't what was hoped, but Zonagen holders clearly think

no es importante


Goddess of Stock Offerings




about to be too fertile with its offerings?

The company has filed a shelf offering for up to 4 million shares, which has investors wondering whether the company is going to do some type of convertible deal that, if structured poorly, can send stocks into tailspins.

The company had $4.2 million in negative shareholders' equity in the most recent quarter, thanks to $77.7 million in long-term debt. The shelf filing "is clearly a signal that they need cash and need it in the form of equity. They are worried about the pressure on the stock," says one New York hedge fund manager who is short the stock.

Isis is the last biotech company working on antisense, which attempts to use synthetically designed DNA chains intended to block the production of disease-related proteins. Having attracting substantial retail interest, the company sports a market cap of about half a billion on a fully diluted basis.


, Isis's first and only approved product is essentially a bust. The drug, which treats a virus of the eye in AIDS patients, should give Isis between $1 million and $1.2 million in revenue this year. It was launched last year and is being sold by Swiss drug company


. Novartis is on track to sell about $10 million this year, according to estimates endorsed by Isis.

Isis had $56 million in cash at the end of the year and CFO Lynne Parshall says that will last two years. The company expects to have a burn rate, or spending rate, of around $40 million this year. Parshall says that most of the company's debt either has deferred payments five years out or only has to be paid back when the company has product revenue. However, another short-seller calculates that with the debt load, the company has only around one year of cash left.

According to Parshall, Isis has met with

Promethean Investment Group

, among other banks and potential investors, though it plans to manage any offering itself. The mere mention of Promethean, a shop known for designing so-called death-spiral convertible offerings, scares longs and has shorts salivating. Of course, that's just guilt by association, and Parshall is adamant that management won't do anything harmful to the company.

Death-spiral offerings often are constructed to have a price collar for the conversion that adjusts accordingly if the stock price falls. The investor who buys into such a convertible typically shorts the stock on the open market. The stock comes under pressure and falls, which has the effect of giving investors more shares in any conversion. A company that does such a deal essentially has nowhere else to turn.

Don't fret, says Parshall, for Isis is not so stupid as to do one of those deals. She says if it does an offering -- and that's not certain -- Isis will avoid "any structure where it's clear that any sensible investors would go out and short the stock. We will minimize or completely avoid providing an opportunity for shorting." The company is looking into ways to structure any deal in novel ways, considering frequent pricing periods or small fees that give investors an incentive to have the stock rise.

By the year's end, the company will have data on a pivotal trial of an antisense drug in the inflammatory bowel disease, Crohn's. But short-sellers have suggested that the drug has drawbacks. The administration of the intravenous drug is onerous, say three hedge fund health-care analysts, and it could have significant side effects. Meanwhile, the company keeps spending dough.