Sunshine on the FDA


The Food and Drug Administration is arguably the government agency that has the greatest effect on individual companies' stock prices. When the FDA holds advisory committee meetings, smaller companies often halt trading in their stock for the entire day because of the potential gyrations based on what's said by whom at the meeting. After FDA decisions on whether to approve a drug, it's not unheard of for biotechs to double in price or for their stock to be cut in half.

And yet, investors get very little insight into what the FDA is thinking. That needs to change.

A one sided story
The FDA doesn't discuss unapproved drugs with the public, so investors are left getting the entire story from the company itself. Some executives tell it like it is; most paint a rosy picture that's a little more optimistic than it really should be.

They have to. Most drugs are funded through secondary offerings, and if the stock price falls, the dilution from raising capital is worse.

Without the FDA giving its side of the story, it's difficult to sort out the good guys from those putting lipstick on a pig.

The black box starts well before the FDA is set to make a ruling on a drug. In theory, the FDA publishes guidance for different diseases, so investors can get some idea of what the agency expects. In reality, the development path of a drug is often specific to that drug, making generalities are mostly useless. And even when they are useful, the agency moves so slowly in updating the guidelines that it's easy for them to get behind. After a new drug is approved, for instance, it's sometimes inappropriate to run clinical trials using a placebo control group; the FDA may want the new drug used as an active comparator.

One way companies can get around the one-sided nature of the clinical trial disclosure process is to get a Special Protocol Assessment, or SPA, from the FDA. When the FDA signs off on an SPA, it's essentially agreeing to accept the clinical trial as support for the FDA approval, assuming nothing weird, like unforeseen side effects, pops up along the way.

Except there's still no announcement from the FDA about an SPA -- they don't discuss unapproved drugs, remember? -- so investors are counting on the company for assurances that they're following the agreed-upon clinical trial plan.

Or even that there's an SPA at all. Executives at MAP Pharmaceuticals (NAS: MAPP) reportedly said the FDA had agreed to an SPA for its migraine treatment, Levadex, but later conceded that there wasn't one in place for its pivotal phase 3 trial.

After the rejection
I think investors can live with a lack of pre-approval disclosure from the FDA. For drugs that have advisory committee meetings, at least investors get some insight into the reviewers' thought process when the agency posts briefing documents for the panel members.

And predicating how the FDA will rule by interpreting clinical trial data offers buying and shorting opportunities. If the FDA gave a ton of hints along the way, investing in the sector would be a little boring.

Where I think investors could use a little sunshine is when the FDA turns down a drug. The agency sends a "Complete Response Letter," letting the company know what needs to be done to get the drug approved. Investors rarely, if ever, get to see that rejection letter and have to count on companies to tell them what the FDA wants.

After the FDA rejected Amylin Pharmaceuticals' Bydureon -- now owned by Bristol-Myers Squibb (NYS: BMY) and AstraZeneca (NYS: AZN) -- shares actually increased because the company said there were only minor issues to be resolved. The company resubmitted, but got a new rejection, requesting a thorough QT study to check for heart rhythms irregularities. Investors assumed that this was just something that had come up during the second review, but the FDA disclosed -- after the eventual approval of the drug because again, it doesn't talk about drugs before then -- that the company knew about potential heart problems before the company submitted its second application.

The biggest black box of them all
One of the biggest risk for biotech investors is also the one that they often spend the least time thinking about: manufacturing of a drug. Unlike safety and efficacy data that is usually published in peer-reviewed scientific journals, how a drug is manufactured, and the quality-control tests used to confirm the manufacturing is consistent are a black box for investors.

When the FDA rejects a drug for manufacturing reasons, like it recently did with Navidea Biopharmaceuticals' (NYS: NAVB) this week, investors are left in the dark about how serious the issue is. It could be something minor that can be cleared up with just paperwork. Or it could be something more serious. Discovery Laboratories (NAS: DSCO) took five applications to finally get its drug approved.

Out little secret
Biotech CEOs have told me the reason they can't disclose the contents of Complete Response Letters is that they might contain proprietary information that could help their competitors. I say, black that part out, if necessary, but investors deserve to have the opportunity to interpret the letter for themselves.

Investors are unlikely to get any help from the FDA on this. It's responsible for the patients' safety and wellness and seemingly could care less about investors. The agency routinely releases approval notices with no warning to the companies to halt their stock.

The only solution is likely a law that requires the FDA to explain their rejection. It's not all that farfetched; the European Medicines Agency provides summaries of its approvals and rejections on its website.

If you agree, a letter to your Congressman and Senators could make these disclosures happen. You might want to wait until after November, though; I hear they're a little preoccupied right now. Until then, check out the Fool's new free report, "These Stocks Could Skyrocket After the 2012 Presidential Election," where you'll get ideas for companies that can benefit from each candidate's platform. Get your free copy by clicking here.

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Fool contributorBrian Orelliholds no position in any company mentioned.Click hereto see his holdings and a short bio. The Motley Fool has adisclosure policy. We Fools may not all hold the same opinions, but we all believe thatconsidering a diverse range of insightsmakes us better investors. Try any of our Foolish newsletter servicesfree for 30 days.

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