Beanie Babies, pogs, T206 Honus Wagner baseball cards, NFTs. All these things can be traded and sold for cold hard cash. Okay, well not NFTs. Those are worthless.

There's actually something similar in the drug development industry called a priority review voucher (PRV) – and they can fetch over $100 million apiece. Krystal Biotech (NASDAQ: KRYS) could earn up to four of them, which could become a sneaky source of non-dilutive capital or boost the company's competitive positioning in cystic fibrosis.

What's a Priority Review Voucher?

The U.S. Congress created the PRV program in 2007 to reward companies for developing drug candidates in diseases with no treatment options. If a drug developer earns approval for an eligible asset, then the U.S. Food and Drug Administration (FDA) will give the company a PRV. The voucher can be submitted with a future regulatory application to accelerate the review process from 10 months to six months.

Four months may not seem like much, but it can provide a significant advantage in certain competitive landscapes. If a drug developer is neck-and-neck with a competitor, then it can slap down a PRV to leapfrog the competition or bolster its lead. A first-mover advantage could be worth hundreds of millions of dollars in additional annual revenue in certain markets.

What Krystal Biotech Programs are Eligible?

Krystal Biotech has initially focused on rare diseases with no treatment options. As a result, the precommercial drug developer has four named programs that are PRV eligible.

• Vyjuvek, an HSV gene therapy for dystrophic epidermolysis bullosa (DEB). A biologics license application (BLA) was submitted to the FDA in June 2022, although regulators have yet to set an approval decision date.
• KB105, an HSV gene therapy for transglutaminase 1 (TGM1) deficient autosomal recessive congenital ichthyosis (ARCI). That's a lot of science coming at you, but it's a devastating skin disease. The company expects to resume dosing a phase 2 clinical trial in 2022.
• KB104, an HSV gene therapy for Netherton syndrome. The company expects to initiate a phase 1 clinical trial in 2022 for the skin disease.
• KB407, an HSV gene therapy for cystic fibrosis. The company expects to initiate a phase 1 clinical trial in the United States in 2022. It's the first program in the company's lung pipeline.

The first PRV-eligible program, Vyjuvek, is likely to earn FDA approval in 2023. That creates some interesting scenarios for the company.

What are Krystal Biotech's Options?

Krystal Biotech can do two things with a potential PRV.

1. Sell it for cash.
2. Use it to accelerate approval for a future regulatory submission.

The FDA allows companies to buy and sell PRVs like trading cards. In fact, similar to some auctions, the buyers can be completely anonymous. They are still less cool because they haven't earned it though.

Although the PRV program has only existed for 15 years, there's considerable precedent for selling vouchers. Sarepta Therapeutics sold two PRVs for a combined $210 million in 2020 and 2021. The drug developer focuses on rare diseases, which means it didn't really have a need to accelerate regulatory reviews for drug candidates. There wasn't any competition, so a 10-month review didn't make a major difference financially compared to a six-month review. It also had controversial data...

Other companies have chosen to sell vouchers out of desperation. The most recent example was BridgeBio Pharma, which sold a PRV for $110 million to an undisclosed buyer. The company hit a major setback for a key pipeline asset months prior, which reminded investors the business was spending way too much money and needed to shore up the balance sheet.

Krystal Biotech has more in common with Sarepta Therapeutics than BridgeBio Pharma. If Vyjuvek earns approval and a PRV to boot, then there's not much need to hang onto the PRV. The next-closest drug candidate to reaching market is KB105, which is targeting a disease with little competition across the industry pipeline. Early clinical results suggest it has relatively high odds of approval, too. The company can accept the standard 10-month review period.

That suggests the Pittsburgh biopharma is likely to sell its first PRV, which could net around $100 million in cash. That's a good haul. However, a voucher could come in handy down the road.

The Case for Keeping a PRV

Industry efforts remain in early development, but there's a critical mass of genetic medicines taking aim at cystic fibrosis. It's a potential multi-billion-dollar market opportunity, which is exactly when shaving four months off regulatory review would come in handy.

• Moderna thinks it can deliver mRNA tools to the lungs as a treatment option.
• 4D Molecular Therapeutics has already started a phase 1/2 clinical trial using an AAV gene therapy.
• Carbon Sciences just emerged from stealth mode to develop a parvovirus (PVV?) gene therapy for the disease. These have similar advantages to HSV gene therapy on paper, although parvoviruses have no clinical precedent.
• There are more companies targeting the opportunity.

Therefore, it could be wise to hang on to the PRV until clinical data from the competitive landscape begin to trickle in. Krystal Biotech should have an advantage over mRNA tools (dosed too frequently) and AAV gene therapy (too small to deliver the entire CFTR gene). KB407 is designed to deliver two full-length copies of the CFTR gene, in a simple nebulized formulation, and shouldn't trigger dangerous immune responses like other viral vectors or nanoparticles. The company also has a relatively strong balance sheet right now, although it never hurts to have a stronger balance sheet.

I'd lean toward the company selling its first PRV, earned from Vyjuvek's potential approval, for at least $100 million. If KB105 continues to deliver impressive results in the clinic, then it could earn a PRV before the cystic fibrosis program nears a regulatory submission. Of course, KB407 hasn't even begun clinical trials yet, so dreaming of approval scenarios is a bit silly in July 2022.

What's an Attractive Entry?

The current risk/reward for Krystal Biotech is considered favorable overall. This is considered an investment-grade Growth (Quality) position. An attractive entry for Krystal Biotech is estimated at:

• Attractive valuation: $2.0 billion / ~$78.10 per share
• Consider prioritizing: <$1.5 billion / ~$58.60 per share
• Feel good adding up to: $2.0 billion / $78.10 per share

The valuation estimates above are based on 25.6 million shares outstanding as of April 29th, 2022. They account for the revaluation of the biotech sector and tightening financial conditions that began in early 2022. Investors are cautioned against using 2021 valuations as a benchmark or for comparison. Additionally, these estimates and suggested entry points are provided for investors with a long-term mindset, not traders.

Krystal Biotech could soon make the transition to commercial-stage operations, which creates some uncertainty for its valuation. On the one hand, Vyjuvek is likely to earn regulatory approval… eventually. On the other hand, the FDA sets a high bar for manufacturing gene therapies, so a minor delay isn't due to manufacturing data wouldn't be surprising for an inexperienced drug developer. It could slam the share price though.

Additionally, operating expenses are going to increase significantly in the next few years. The company will need to build commercial infrastructure for the first time to support the launch and growth of Vyjuvek. Meanwhile, the pipeline is expanding at a good clip.

My model estimates a fair valuation for Krystal Biotech near $2.5 billion / $97.60 per share as the Vyjuvek approval approaches, but that's using the current share count of 25.6 million shares. If investors preemptively pencil in the next public offering of common stock (assume 15% dilution), then a $2.5 billion market valuation results in $84.90 per share.

Investors have an attractive margin of safety in either scenario, but don't be surprised to see the recent market strength evaporate and shares to dip back into the low $60s this summer. I personally prioritized Krystal Biotech in the first half of 2022 and expect it to end 2022 near a $2.5 billion market valuation regardless of where the S&P 500 ends up.

Further Reading

• Press release from June 2022 announcing the BLA submission for Vyjuvek
• BioPharma Dive article on BridgeBio's sale of its PRV
• Investor presentation (see "Corporate Presentation" header)

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