Vivus (VVUS) announced a financing deal Tuesday that will allow the company to receive much needed cash, but it comes at a cost. While the financing deal is creative, the effective interest rate is above 13% and can go even higher if sales of Qsymia do not reach certain levels.
Do not be fooled. This loan came at a substantial cost. The percentage rate over 13% is well above what money can be borrowed for these days. Last Fall another equity I follow, Sirius XM (SIRI), negotiated a $1.25 billion credit revolver at less than half of the interest rate. Not only is the interest high, but the very patents that Vivus has on the anti-obesity drug Qsymia are collateral. The simple servicing of this debt will hit the bottom line. Essentially, Vivus is betting the proverbial farm on Qsymia sales turning around.
A few weeks ago I cautioned investors about cash burn at Vivus in an article titled "Is Vivus' Run-Up Long Term?". While a secondary offering did not happen, the company did obtain cash through this financing. In that article I stated:
This does not mean that there is not opportunity or potential here, but I would say that investors need to be cautious. Cash burn at the company is happening faster than cash intake. A secondary offering is likely in the cards if sales do not increase substantially.
The problem of cash burn is still very real. Investors need to understand this. Sales of Qsymia have not been brisk and the entire sector is now under a proverbial microscope. Competitor Arena (ARNA) is due to launch its drug Belviq very soon and despite having less restrictions, cash on hand, and more cash coming into the coffers the company has been under pressure as well. Another competitor, Orexigen (OREX), is in the midst of trying to gain FDA approval and has seen similar pressure on its share price.
I will be the first to say that there is real potential in this sector. I will also be the first to say that the performance of Vivus may not be typical of the sector. However, I have been a huge proponent of having caution when it comes to investments in Vivus, Arena, and Orexigen. Yes, the potential is huge, but the first company out of the gate, Vivus, is struggling. That struggle has evolved into depressed stock prices and even a potential takeover of the Vivus Board of Directors by First Manhattan.
My reason for caution is simple. If obesity is such a big issue that is in need of an answer, and Vivus, with a possible solution to that issue has been on the market for 6 months, why are sales low? Some will attribute this to doctors waiting for Arena to launch Belviq. Some will attribute it to a lack of a marketing partner. Some will attribute it to a safety profile. We must also consider that the consumer appetite for a prescription solution is not as robust as we may have thought.
Since the launch, Vivus has gone through two price reductions in an effort to drive sales. The first discount demonstrated moderate success, but even before we could really gain a measure of that program a second and more robust discount was announced. As yet, Vivus has not given out the monthly sales data we have come to expect.
Price discounts impact the bottom line. There is no dressing that up. Now we have a loan that will also impact the bottom line backed up by sales expectations that have not been disclosed. This is where investors need to be very careful. The very patents for Qsymia are at stake and tied to sales goals. If the company is not meeting these goals, the average investor has no way to know whether the very soul of this company is being swept away.
There will be a lot to digest in the coming months. Once Arena hits the market we will see an answer as to whether consumers are accepting a prescription anti-obesity solution. This will give clarity to investors in Vivus, Arena, and Orexigen. I have long stated that investors need to use Vivus' performance as a measuring stick. Many misunderstood that as me limiting the performance of Arena to that of Vivus. That is not at all the case. If Vivus, 6 months into sales has 27,000 patients, and that level is seen as quite modest, what do Arena investors need to see for numbers for success? Is that double, triple, or quadruple? This has nothing to do with the way these drugs work, their safety profile, or whether or not a marketing partner exists. This is pure numbers and sales. As an investor that is where you need to focus.
The bottom line is that investors in Vivus need to set up a strategy now. If there are gains in your investment, protect them. If you are considering entering the equity with a new position, understand the risks and what is at stake. Vivus and Qsymia may grow into a success. It is what we would all like to see. The potential has not evaporated, but the risk has grown. If you are invested in Arena or Orexigen, you want to pay close attention to what happens with Vivus, and obviously what happens with Arena's launch of Belviq. In the end it is how these companies perform relative to expectations and valuations that will determine equity success or failure.
Additional disclosure: I have no position in Vivus or Orexigen.