One Step Closer?

One Step Closer?

This morning Dexcom (NASDAQ:DXCM) and Animas, the insulin pump unit of Johnson and Johnson (NYSE:JNJ), announced they were amended their joint development agreement to extend outside the United States. According to a Dexcom press release:

Under the terms of the agreement, Animas will receive an exclusive right to develop and market CGM-enabled ambulatory insulin delivery systems outside the U.S. Animas will pay DexCom a one-time $5 million milestone payment upon the first regulatory body approval outside the U.S. for the new system. In addition, Animas will contribute $300,000 to offset a portion of DexCom’s development expenses for the new system. The parties have also entered into a commercialization agreement under which Animas will obtain distribution rights for DexCom sensors and transmitters to users of the integrated system and will pay a royalty to DexCom for each CGM-enabled pump sold outside the U.S. The initial term of the development agreement is three years and the initial term of the commercialization agreement is three years from the first commercial product launch. “

According to an 8-K which Dexcom filed this morning “The OUS Commercialization Agreement provides Animas with non-exclusive distribution rights of DexCom sensors and transmitters to users of the integrated system and provides DexCom with a royalty of $200 for each CGM-enabled pump sold outside the United States.”

This change to their original agreement isn’t that surprising especially when you look at where the insulin pump market is going. Yesterday at the JP Morgan Healthcare Conference insulin pump market leader Medtronic (NYSE:MDT) made it clear they believe the next step in insulin pump technology will be a closed loop insulin delivery system. A closed loop systems combines an insulin pump with continuous glucose monitor and is the first step towards an artificial pancreases. 

Looked at realistically the technology for a closed loop system is already here. The real question is will patients and physicians accept this new technology. There are some who believe with advances in technology the patient will no longer be involved in any dosing decisions and their system will do all the work. Diabetic Investor believes a semi-closed loop system that allows greater patient interaction is more realistic goal. Although CGM technology has improved over the years it still has a long way to go before sensors are robust enough to take the patient out of the dosing decision loop. The same is true for insulin pump technology which has been around for over 20 years. The reality is both of these devices occasionally fail and it’s unlikely a patient will turn over all dosing decisions to a machine.

There is also some who question whether insurance companies will pay for a closed loop system. While the reimbursement environment for CGM has improved and will continue to do so, reimbursement for a closed loop system is not a given. Just as CGM systems had to prove their value, studies will be needed to prove that a closed loop system actually improves outcomes. Diabetic Investor suspect’s reimbursement will come but will follow a similar path to what CGM went through.

The bigger question here is whether JNJ is setting the stage to eventually acquire Dexcom. This agreement between Dexcom and Animas reminds Diabetic Investor of the path JNJ followed before they bought Animas.  If you listen to the rumor mill many believe JNJ is more interested in acquiring the insulin pump business from Medtronic. An acquisition Diabetic Investor sees as problematic given that a MiniMed Animas combination would control almost 90% of the insulin pump market.  Such a combination may have been possible under the Bush administration but highly unlikely under the incoming Obama administration.

It’s well known that JNJ wants to be number one or a very close number two in every market they play in. With Medtronic controlling almost 75% of the insulin pump market Animas is a distant number two with about 14% of the market. While it’s true that Medtronic has been losing share to both Animas and Insulet (NASDAQ:PODD) in terms of new pump placements, their huge installed user base gives them a tremendous cushion.  

However, JNJ could use their considerable resources to acquire both Dexcom and Insulet. Like Animas, Insulet also has an agreement with Dexcom to combine their CGM system with the OmniPod. Owning both companies would provide Animas with the most complete insulin pump portfolio. This would allow Animas to compete head on with Medtronic providing them the ability to offer more pump options. Medtronic is still working on their wireless pump which Diabetic Investor hears is behind schedule.

An Animas-Dexcom-Insulet combination armed with JNJ resources could make a serious dent in Medtronic’s bread and butter revenue stream, pump upgrades from existing Medtronic patients. Roche’s pump unit never lived up to expectations and the company has recently gutted the operation. The Cozmo system has been floundering ever since Smiths settled the MiniMed patent infringement case.  This leaves the insulin pump market to Medtronic, Animas and Insulet.

Animas has the resources but basically sells the same type of pump that Medtronic does. Insulet has an innovative product but lacks the resources to compete with Medtronic. Together Animas – Insulet- Dexcom would offer the most complete line of insulin pumps combined with JNJ’s marketing expertise and resources. This combination of technology and resources would provide JNJ with a realistic chance of making a serious dent in Medtronic’s share.  

Like Bayer buying Abbott’s (NYSE:ABT) blood glucose monitoring unit, this deal makes so much sense it probably won’t happen.  But when it comes to the diabetes device market history tells us that the improbable often becomes the possible.