Inhale Product Deserves a Breather

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Investors might gasp when

Inhale Therapeutic Systems

(INHL:Nasdaq) reports its earnings later this week, but analysts say breathe easy. Though the firm is expected to report significant losses, prospects for the Palo Alto, Calif.-based company remain robust.

Why the optimism over a company that is expected to lose 32 cents a share in the fourth quarter, as measured by

First Call

's consensus estimate, and that has yet to get a product to market? Solid technology, a sound business plan and a promising pipeline.

Inhale makes "pulmonary delivery systems" for insulin and osteoporosis treatments. Those are essentially inhalers, like those used for asthma treatments, that deliver larger molecules for these disease treatments. If breathing in big chunks of protein sounds unattractive, consider the alternative. Traditional diabetes treatments require daily self-administered injections. A deep-breathing exercise, the company and analysts reckon, will be more appealing to most patients than the prospects of sticking themselves.

It could also be lucrative. The market for diabetes-controlling insulin alone is huge. In 1995, an estimated $2.5 billion was spent on the drug worldwide.

The company's projected losses, analysts say, are right in line with research-intensive start-ups, which often chew through piles of cash before achieving profitability. What separates Inhale from other newly established companies is its effective use--and procurement--of capital.

"A penny here, a penny there, is important when a company has become profitable," says Don Ellis, who covers the company for

Robertson Stephens

. "But at this stage it's their burn rate that matters." Robertson Stephens was not involved in the Inhale underwriting. Burn rate refers to the speed at which a start-up uses, or "burns," its cash reserves.

Ellis, who gives the company his highest rating and sees the stock appreciating to $28 over the next year, says Inhale is using around $10 million a year--about a third of the company's cash reserves--to fund itself.

The company achieves a low burn rate by getting its business partners to pony up part of its research-and-development costs. Inhale recently signed an agreement with pharmaceuticals giant

Eli Lilly

(LLY:NYSE) and has a previous deal worth $60 million with

Baxter International

(BAX:NYSE). It also sports

Pfizer

(PFE:NYSE) and Baxter as equity partners.

Those big names do more than pad the company's war chest. "Gaining Lilly as a partner provides additional, meaningful validation of Inhale's core technology,"

Lehman Brothers

analyst Richard Silver told clients last week. Silver recommends Inhale to investors interested in diversified portfolios holding venture-type stocks. Lehman Brothers participated in the firm's underwriting.

To be sure, despite the sound plan and strong technology, which was featured in the Jan. 27 issue of

Forbes

, analysts caution profitability is a long way off (which would explain Silver's complex rating of Inhale). The company has several products in Phase II

Food and Drug Administration

testing, but still hasn't begun Phase III testing of any of its products yet. Phase III testing can take anywhere from one to four years.

Robertson Stephens' Ellis forecasts the company will be profitable in 1999 or 2000.

Inhale also faces competition from at least two California-based companies,

Dura Pharmaceuticals

(DURA:Nasdaq) and

Aradigm Corp.

, both of which are scrambling to develop similar medicine delivery products. But like Inhale, neither company has a product with FDA approval.

Inhale traded at 18 5/8 on Tuesday, below a 52-week high of 20 5/8 reached last May.

By Andrew Morse

amorse@thestreet.com