3rd UPDATE: Pharmasset Halts Hepatitis C Drug In Mid-Stage Trial

Pharmasset Inc. (VRUS) discontinued use of an experimental hepatitis C drug in a clinical trial because of safety concerns, but the drug maker said the setback wouldn't derail its planned sale to Gilead Sciences Inc. (GILD) for nearly $11 billion.

The company said Friday it discontinued use of a drug code-named PSI-938 in a mid-stage study of people with hepatitis C infection, citing "laboratory abnormalities associated with liver function." However, it will continue testing its lead hepatitis C drug candidate, PSI-7977, which was the primary selling point behind the Gilead deal and wasn't associated with the abnormalities.

Pharmasset said the setback doesn't trigger a "key product event" clause in its sale agreement to Gilead. The Gilead deal was announced in November and is expected to close next year.

Gilead remains committed to closing the Pharmasset acquisition, said spokeswoman Amy Flood. "Since the announcement from Pharmasset regarding PSI-938 does not impact the development of PSI-7977, we do not believe the fundamental value of the deal has been impacted," she said. Gilead isn't considering changing the terms of the deal as a result of the Pharmasset news, she added.

The Gilead-Pharmasset deal was striking for placing such a high premium--nearly 90% above Pharmasset's stock price before the deal--for a company with no products on the market and just over 80 employees. It illustrates the commercial potential for drugs that improve treatment of hepatitis C; Decision Resources recently predicted the market will soar to $16 billion in 2015 from $1.7 billion in 2010.

In recent trading Friday, Pharmasset shares fell 3.6% to $123.15, while Gilead was off 2.8% at $37.40. The Gilead deal values Pharmasset at $137 per share.

Even before Friday Pharmasset shares were declining this month, widening the spread below the offer price, partly due to jitters among arbitrage traders that the deal could fall through or be delayed.

In contrast, shares of Vertex Pharmaceuticals Inc. (VRTX) surged 8.2% Friday to $34 because it markets a new hepatitis C drug and is developing additional drugs, and the Pharmasset setback may remove potential competition. "Any setback for PSI-938...would be perceived as positive for Vertex," Barclays Capital wrote in a note to clients.

Pharmasset's lead hepatitis C drug, PSI-7977, is known as a nucleotide polymerase inhibitor and is designed to combat hepatitis C infection inside liver cells. Gilead and Pharmasset say it has potential to be part of the first all-oral regimen for hepatitis C. Current regimens include injectable drugs that can be tough to tolerate.

Gilead said in November that it hopes for U.S. regulatory approval of PSI-7977 in 2014.

PSI-938 is similar to PSI-7977, but with certain differences that led Pharmasset to believe they might be complementary in some cases.

The mid-stage clinical trial "Quantum" was testing 235 patients who were receiving PSI-938 alone, or in combination with PSI-7977, or in combination with both PSI-7977 and another drug called ribavirin.

"During routine safety monitoring, the company detected laboratory abnormalities associated with liver function" in people receiving a 300-milligram dose of PSI-938 once daily, Pharmasset said.

Pharmasset said there were no abnormalities observed in patients who received PSI-7977 in the same clinical trial.

ISI Group analyst Mark Schoenebaum said the setback won't materially affect his view of the sale to Gilead. He said he didn't include any sales of PSI-938 in his financial models for Pharmasset and Gilead.

-Peter Loftus, Dow Jones Newswires; +1-215-982-5581; peter.loftus@dowjones.com

--Tess Stynes contributed to this article.

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