Genzyme Corp. (GENZ) suffered a setback earlier this week when Shire Plc. (SHPGY) announced positive phase III results on velaglucerase alfa, an enzyme replacement therapy, which is being developed for the treatment of Gaucher disease.

Shire has initiated the process of submitting its New Drug Application (NDA) for velaglucerase alfa under the U.S. Food and Drug Administration’s (FDA) fast track process. Once approved, velaglucerase alfa, will be competing directly with Genzyme’s lead product, Cerezyme. Although Cerezyme holds a leading position in the treatment of Gaucher disease, the patient population for the disease is not large. As such, the entry of additional players in the market could restrict the company’s future sales growth opportunities.

This news comes on the heels of an announcement made by Genzyme in late July that the FDA will be re-inspecting the company’s Allston manufacturing facility. As a reminder, Genzyme has been facing manufacturing issues at its Allston plant, which was temporarily shut down due to contamination issues.

While the plant has resumed production, new lots of Cerezyme and Fabrazyme, which are major contributors to Genzyme’s top-line, will not be available until later this year. Any non-compliance observed by the FDA on its re-inspection could lead to a further delay in the shipment of new lots of Cerezyme and Fabrazyme.

In order to make up for the shortage in supply of Cerezyme, the FDA approached Shire and another company, Protalix Biotherapeutics Ltd., to come up with treatment protocols for their Gaucher disease candidates. Shire announced that the FDA has accepted its treatment protocol for velaglucerase alfa, which means that the drug will be available for the treatment of Gaucher patients prior to its commercialization.

Shire will initially provide the treatment free of cost to patients. We believe the availability of velaglucerase alfa could lead to some erosion in Cerezyme’s patient base.

The temporary shutdown of the Allston facility is a major setback for Genzyme – we believe the impact of the shutdown will drag down the company’s performance in the second half of 2009. In fact, Genzyme slashed its financial outlook for 2009 and now expects to post earnings of $2.35 to $2.90 per share on revenues of $4.6 billion to $5 billion.

We expect investor focus to remain on the resolution of the manufacturing issues at Allston and the resumption of supply of key products, Cerezyme and Fabrazyme. We believe the stock will remain under pressure until the resolution of these issues. We currently have an Underperform rating on Genzyme.

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