By Chris Shaw

For six years Phosphagenics ((POH)) has been working to prove its TPM technology can transdermally deliver therapeutic doses of drugs that until now have had no such delivery option. Transdermal delivery means the dose of a drug is absorbed through the skin.

Southern Cross Equities notes the major focus of the company to date has been the development of a patch for oxycodone. Another option appears to have emerged for a nearer-term payoff, the broker seeing potential in plans to develop an anti-fat cream using AOD9604, an anti-obesity drug.

AOD9604 has previously performed poorly in clinical trials, showing little weight loss among patients in a 536 patient Phase IIb trial in 2007. According to Southern Cross, Phosphagenics sees the poor performance as reflecting issues with oral delivery of the drug rather than the efficacy of the drug itself.

As Southern Cross points out, the Phase IIb trials did show the drug had some efficacy in women who didn't diet or exercise well. Also, there is pre-clinical evidence AOD9604 works well in regulating fat metabolism when it has reached the sites of fat storage.

By testing the drug via oral delivery there is the chance not enough of the drug got through, while Southern Cross also notes the size of the AOD9604 molecule is too large to be a pill. This suggests a different delivery form may generate better results.

Phosphagenics is currently working on cell testing to show the peptide is deliverable across the skin and on determining the optimal concentration levels for the drug. Southern Cross also notes progress is being made in determining if the peptide can make it through human tissue, while protocols for cosmetic testing of the cream are also being followed.

In the view of Southern Cross, recruitment for cosmetic testing is likely to start around November of this year, with cosmetic testing to be completed before the end of 2011. This would allow Phosphagenics to bring the product to market early in 2012 (assuming success).

The potential market is significant, Southern Cross noting around US$3 billion is spent annually on cosmetic products that are firming or anti-cellulite in nature. As well, there is an opportunity given the current market in the US for cosmetic surgery procedures related to excess fat is around US$1 billion annually in a good year.

Southern Cross at present includes no value for AOD9604 in its model for Phosphagenics, though the stockbroker estimates a base case scenario offers net present value per share upside of around 8.4c per share, rising to 21c per share using more optimistic assumptions.

To reflect this potential, Southern Cross has set its valuation-based price target for Phosphagenics at $0.40, which implies significant upside from a current share price of less than $0.10. Using its more optimistic assumptions the broker's valuation on the stock would increase to around $0.80.

This is enough for Southern Cross to rate Phosphagenics as a Speculative Buy, especially as success with AOD9604 would likely generate enough funds to finance pivotal trials of the company's TPM/oxycodone project and other projects.

Given a market capitalisation of less than $70 million Phosphagenics receives little coverage on the Australian market, as the FNArena database shows no other analysis of the company. Shares in Phosphagenics today are slightly weaker and as at 11.05am the stock was down 0.01c at $0.094. This compares to a trading range over the past year of $0.05 to $0.18.

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