What’s behind the Eros Delay?
Before we get started Diabetic Investor wants to clarify that today’s post is OUR speculation as to why the Eros pod from Insulet (NASDAQ:PODD) is still awaiting approval at the FDA. We have absolutely no inside information and our comments today are based on our knowledge of the insulin pump market and interviews with experienced insulin pump professionals. Additionally we reached out to manufacturing experts to gain a better understanding of the manufacturing process and how this may be impacting the FDA’s decision. Finally we will state that we do believe the Eros pod will eventually be approved by the FDA. The question really isn’t if it will be approved but when it will be approved.
The story actually begins not with the Eros pod but the existing pod. As Diabetic Investor has noted previously the current version of the pod had an unacceptable failure rate, by our calculations a 20% failure rate. The FDA is well aware of this fact, as is the company who noted on their most recent earnings call the improvements they have made. These improvements have had a noticeable difference in pod failure rates which we now estimate to be less than 10%.
This is both good news and bad news. The good news is fairly obvious, patients are happier and the company makes more money from not having to replace pods which have failed. Additionally along with this improvement in pod quality comes a better reputation among physicians, educators and most importantly pump patients. It’s not a stretch to say that Insulet had a less than stellar rep due to the numerous pod failures. The bad news is the company cannot undo the damage that has already been inflicted by previous issues and the FDA is holding the new pod to a higher standard – in their own way the FDA is looking for payback.
Diabetic Investor also believes that while the company was working to improve the quality issues with the existing pod, this delayed working on the Eros pod. Or put another way, the company and their manufacturing team could not do two things at once and needed to make sure the existing pod issues went away. As the company has noted on their recent earnings calls it would be a disaster if they switched everyone over to the new pod only to see something go wrong making their patients switch back to the old system. They also know that with the new pod taking much longer than they anticipated to get approved they must make sure they are no longer distracted by quality issues related to the existing system.
Frankly the company vastly underestimated the complexity of not just manufacturing the new pod but the how the FDA would respond to their submission. Keep in mind that the manufacturing process is critical for Insulet as unlike Medtronic (NYSE:MDT) or Animas, they are not making a few thousand systems but millions of systems all of which must function properly. The fact is Medtronic and Animas have a much easier threshold since their systems are not disposable and the disposable components used with their systems (pump supplies) are basically dumb parts that don’t require sophisticated manufacturing processes. This is not the case with the OmniPod which only has one non-disposable component; the Personal Diabetes Manager (PDM) which controls the throw away pods. With an average life of 3 days, that means a typical OmniPod patient uses 122 pods per year, multiple that number over a patient base of 35,000 and that means the company is making over 4 million pods per year. That’s basically 4 million smart systems which is why the manufacturing process is so critical here.
Just by way of contrast Medtronic who has an installed patient base north of 350,000, only needs to manufacture 50,000 or less new systems each year to meet demand. While it is true that their newer systems are more complex than their older models, the fact remains they are not making millions of these systems and it is much easier to get the process right when they are not making millions of them. This is not like test strips for glucose monitors which are manufactured by the billions, these are insulin pumps a sophisticated and complex device.
Although no one will go one the record (surprise, surprise) the general feeling in the industry is that the Insulet regulatory team is sub-par. Several sources have told Diabetic Investor that the process would have gone much smoother had the Insulet team not pissed off the FDA. Yes we all know that FDA is a strange animal and their requests can seem odd to say the least; however they do control the keys to kingdom and when they say jump the company’s immediate response should be “How high?” While no one at the agency nor the company will confirm this to those who have been through this process before it’s pretty obvious the FDA is making Insulet jump through extra hoops because the agency is not happy with how the company has responded to their requests. It seems with each earnings call we learn that FDA has asked more questions to clarify responses to previous questions which will likely lead to more questions from the answers to these most recent answers to the last round of questions; idiotic yes but this is what the FDA does when they are not happy.
Suffice it to say Insulet underestimated not just the FDA but their ability or should we say Flextronics’s ability to manufacture millions of what in reality are mini-insulin pump systems. It’s bad enough that the manufacturing process is complex but this is made even worse when you consider it is being done halfway across the world. A fact not lost on the FDA who is known to make things rougher on companies who use foreign based contract manufacturers. Charlie Liamos, Insulet’s Chief Operating Officer, is spending so much time in China trying to get this process to run smoothly that he could be considered a permanent resident of the country.
Some may be wondering why with this complexity is the company not coming clean and letting everyone know that while the Eros pod will eventually be approved that day is not anytime soon. Why the company at one time was stating that the new pod would be approved in time for the ADA conference in June and now is stating approval will be coming “months” from now.
The answer is really quite simple; the company not only has bet the ranch on the new pod but desperately needs it if they are to have any chance at surviving. From day one Insulet biggest problem hasn’t been convincing people there is a market for wireless pumping, the company has proven that several times over. With nearly two-third s of their patients previously following multiple daily injection therapy they have also proven they can expand the market for insulin pumps, something that Diabetic Investor considers an astonishing accomplishment. There biggest problem from day one has always been COGS. The bottom line is no matter how good or revolutionary the OmniPod system is, Insulet cannot become a profitable insulin pump company when it sells systems for less than what it costs to make them. Insulet will never achieve their goal of being acquired if they cannot demonstrate their product can deliver acceptable margins.
This is why the Eros pod is critical to the company’s future and why without it they are in serious trouble. While the company’s Board of Directors are not the most dynamic bunch, they aren’t stupid and realize that the company cannot keep going to the capital markets for more money. As we noted before we do believe the Eros pod will be approved. But even with approval that is only the beginning as the company must make sure they can manufacture the Eros, millions of them, consistently. They must make sure BEFORE they begin converting their existing patient base that there are no major issues with Eros. The absolute worst case scenario as noted by the company would be to launch the new system, which does require a new PDM, only to see a major issue develop which would force patients back to the old system. This would not just be a major blow to the company; it would likely be the beginning of the end.
As we noted when we started this post, we are merely speculating as to why the Eros pod has not yet been approved by the FDA. Whether our speculation is accurate or not will never be fully known as it is unlikely anyone will ever publicly acknowledge what many believe to be true. One thing that is NOT speculation is the fact the company better get it right with Eros and make sure the worst case scenario does not happen for as sure as night follows day this would mark the beginning of the end.
