By Jake King
It's been a great week for Medicinova (MNOV) shareholders, who saw their holdings climb as much as 80% with the announcement that the company's lead candidate, MN-166 (ibudilast) for the treatment of methamphetamine dependence, had received fast-track status from the U.S. FDA. What investors aren't necessarily aware of, however, is the dilution that may be ongoing behind closed doors. Furthermore, MNOV's market capitalization, as reported on common quote pages, of $55M is woefully misleading, and MNOV's fully diluted share count is more indicative of true (lower) share value. We suspect that as investors are clambering for a piece of this star-performer, key institutional investor Aspire Capital is dumping shares as fast as Medicinova can mint them, and the company may be preparing for a full-blown equity financing. With the company's history of shareholder dilution, it's a situation ripe for a downslide.
First, a look at the balance sheet. MediciNova reported that at September 31, 2012, it had $5.74M in cash and equivalents on the balance sheet. At the same time, the company had used $9.7M in operating activities over the preceding nine months, suggesting that the company burns just over $3M quarterly. It stands to reason that the company had roughly $2.7M in cash and equivalents at the end of 2012. With that information alone, we would assume that on the heels of this meteoric rise, MNOV is preparing for a much-needed capital raise. Shares are priced for it, and liquidity has come into the stock that should entice large investors more than MNOV's prior off-the-radar status.
While a financing is certainly an option, MNOV's saving grace is a common stock purchase agreement with Aspire Capital. Last August, the two entered into a deal in which MediciNova dictates when Aspire buys MNOV common stock, up to $20M worth over two years and up to 1M shares on a given day. It's a sweet deal for Medicinova, but a raw one for its shareholders, especially when the stock begins to outperform.
The terms seem benign enough:
"...on any business day on which the closing sale price of the Company's common stock equals or exceeds $1.00 per share, over the 24-month term of the Purchase Agreement, the Company has the right, in its sole discretion, to present Aspire Capital with a purchase notice (each, a "Purchase Notice") directing Aspire Capital to purchase up to 50,000 Purchase Shares per business day; however, no sale pursuant to such Purchase Notice may exceed five hundred thousand dollars ($500,000) per business day, unless the Company and Aspire Capital mutually agree. The Company and Aspire Capital also may mutually agree to increase the number of shares that may be sold per business day to as much as an additional 1,000,000 Purchase Shares per business day."
But here's the ugly part:
"The purchase price per Purchase Share pursuant to such Purchase Notice (the "Purchase Price") is the lower of (I) the lowest sale price for the Company's common stock on the date of sale or (ii) the arithmetic average of the three lowest closing sale prices for the Company's common stock during the 12 consecutive business days ending on the business day immediately preceding the purchase date of those securities."
What does that mean for shareholders? Over the past few days, Medicinova could have been minting and selling shares to Aspire Capital at the average of the previous 12 day's lowest closing prices: roughly $1.68. Is Aspire holding these like a dutiful, long-term investor? Doubtful. We anticipate that the large investor is simply turning those shares around as fast as possible for a sale on the open market. It's an easy 80% return on investment for the fund. We're looking at a few million new shares flooding the marketplace, dilution for existing shareholders, and downwards pressure as Aspire sells.
Ongoing dilution aside (we'll know more with 4Q12 and 1Q13 results), MediciNova's $55M market capitalization, as commonly displayed by financial websites, fails to illustrate the full picture and is based on 16.7M MNOV shares outstanding, warrants and options excluded. But MediciNova's fully diluted share count at Sept 31, 2012 should include 8.7M in warrants, options, and convertible preferred shares. Thus, 25.4M shares (plus Aspire's latest additions) offers a more accurate representation of MediciNova's share count, indicating that shares are, essentially, worth a third less than they appear.
Finally, we note that MediciNova has, in its 12-year lifespan, burned through nearly $300M in cash. Yes, its "net loss applicable to common stockholders" since September of 2000 is $293.8M, and the company has little to show for it beyond ongoing Phase II trials. The bottom line is that MediciNova needs capital. While the Aspire deal might staunch the bleeding for a while, with shares near their 52-week highs, now would be the time for a raise; either way, it comes down to dilution. Don't be left holding this short straw.
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