One of the most surprising turnaround stocks in the biotech sector this year is Dendreon (DNDN), which has moved up over 20% since the start of the year and seems to actually be gaining some bullish traction. Today, we will be taking a look at Dendreon to gauge its new valuation in light of the most recent developments and upcoming catalysts for the stock.
As you may already know, their metastatic castration resistant prostate cancer treatment, Provenge, was an enormous disappointment that totally crushed DNDN stock in 2011 after the company reported extremely weak initial sales figures. Dendreon blamed initial weakness in Provenge sales on reimbursement issues and slow adaptation to the revolutionary new therapy, although there wasn't all that much emphasis on the fact that Provenge was ridiculously expensive to manufacture and couldn't turn Dendreon a profit.
For every subsequent quarter, the company's expenses would overwhelm the company's revenues and Dendreon would continue its cash burn well after the marketing of their only pipeline product, despite any improvements in top-line growth.
Even in the most recent quarter, Q3 2012, Dendreon reported a net loss of $154.9 million despite up to $78 million in quarterly sales revenue from Provenge. This was actually a steeper net loss than was seen in Q3 2011, which was worsened by the fact that the company was holding roughly half of the cash it was in 2011 as well.
Dendreon dropped all the way to the sub $4/share level following this news, although it seems that the stock was saved by strength in the broader market (and the biotech sector) that has brought the stock all the way back to $6.39/share. What caused such a drastic revaluation of Dendreon in recent months?
One of the common explanations given is the Dendreon was "priced to fail". At $3.80/share, Dendreon would have had a market capitalization of $568 million, which puts Provenge's worth somewhere near $500 million based on the net worth of the company itself. This doesn't sound expensive for a therapy that should be generating at least $320 million each year in sales revenue, although purely revenue-based valuations have one major flaw - they don't factor in profit margins.
Revenue-based valuations are very popular for biotech stocks due to the ability for most companies to control their costs very tightly, although Dendreon has not really shown the ability to do much about the cost of goods sold [COGS] for Provenge. Last quarter, it was able to report 34% profit margins on Provenge manufacturing. While this is an improvement, it's simply not good enough.
Dendreon took notice of this problem in 2012, and announced an effort to improve its overall profitability. This resulted in a shutdown of its New Jersey manufacturing facility (announced on December 20th). This seems to have excited the DNDN investment crowd, and helped spawn a number of commentators who have claimed that this was the beginning of Dendreon's "big turnaround".
Adding to the most recent hype was a release of the company's preliminary Q4 2012 revenues, which reports Provenge product revenues of $85.5 million (and $81.6 million if you exclude one-time events). Although this represents only minor gains in top-line growth, it seems to have catapulted the stock back near the $7/share level, which hasn't been seen since July 2012.
Dendreon is due to report full Q4 2012 earnings results on February 25th. These earnings are expected to be better than ever, although it's still highly unlikely that the company will turn a profit.
The valuation of Dendreon, after the most recent rally, is now just under $1 billion. Although this is still significantly lower than the price of DNDN right after FDA approval of Provenge, I find this extremely expensive for a biotech that still can't turn a profit nearly 3 years after FDA approval of a product in a large therapeutic market.
Another major problem will come in 2014 and especially 2016, upon maturity of the senior debt that Dendreon has been selling to sustain itself. In 2014, about $27.7 million worth of this debt will expire. In 2016, a whopping $526.5 million will expire. I'm not sure how Provenge sales could possibly raise that kind of money before 2016 at the rate that it's going. This is why I think equity financings (share dilutions) are the most likely outcome in coming years.
If there is one bullish factor for Dendreon, it's the short interest of ~33%. This is representative of the company's inherent overvaluation, but also gives the potential for DNDN to be lifted from bears exiting their positions. However, I would not consider this a substantial positive factor for Dendreon in the long haul.