The biotechnology industry is full of stocks that have a lot of potential but also a lot of risk. Typically, investors just trade on their gut and on what the recent analyst predictions state. However, there is a better way. That way is called the Feuerstein-Ratain rule. Although the rule is fairly limited in its scope, it has proven invaluable and has a 100% success rate. It's not very common to find a tool that investors can use faithfully to avoid an investing disaster. I will first give the definition of the rule, show how the rule would have saved investors ahead of two of 2013's largest biotechnology disasters and then apply the rule to a potential biotechnology winner but also one that still faces danger according to the Feuerstein-Ratain rule.
Feuerstein-Ratain Rule Definition
The rule basically states that a company's Phase III trial will be a failure if the trial is cancer related and the company has a market capitalization of under $300 million with 120 days or less to go before the data release. This rule has been researched for over 10 years and is 23 for 23 so far, basically a 100% success rate for investors who follow this rule. Additionally, companies that have a pending Phase III but have a market capitalization of at least $1 billion have a success rate of 78%.
Now while the rule is important and we will apply to several stocks in this article, investors must still pay attention to a company's science, technicals, and fundamentals. Nothing can replace doing solid fundamental analysis on stocks and understanding the impact of future catalysts.
Celsion Corporation (CLSN)
Celsion Corporation is an oncology drug development company focused on the development of treatments for those suffering with difficult to treat forms of cancer. The company's flagship product is ThermoDox, used in the treatment of primary liver cancer.
Celsion was one of the top performing stocks of 2012 as investors were counting in a positive Phase III trial for ThermoDox. As the chart below shows, investors clearly had a lot of confidence in the trial.
During 2012, the stock had a low of about $1.65 per share and ended up trading as high as $9.44. Investors made boatloads of profit during 2012 as they were holding for the ThermoDox Phase III trial announcement.
The fundamentals appeared to fairly strong as well prior to the release. The company had roughly $15 million in cash on hand, and total current assets of $23.6 million. On top of that, the company only had total long-term debt of $3.7 million. On the income side, Celsion had managed to keep its operating expenses in line with 2011 and 2010 despite the fact that it had spent the year completing its Phase III trial. However, despite the strong technicals, strong fundamentals, and a partnership with Hisun Pharmaceutical, Celsion was about to announce a disappointing end to its multi-year trial.
On January 31, 2013, Celsion announced that its Phase III trial did not meet the primary endpoint. The HEAT Study was designed to show a 33% improvement in PFS with 80% power and a p-value of 0.05. The company was essentially all-in on this trial and needed a success to move forward. The company may try to take their science and apply it to other types of cancers, but this will take many years to pursue.
Investors who held through the trial release data are probably kicking themselves for not following the Feuerstein-Ratain Rule. Celsion was a perfect example for the rule. It was about to release results for a Phase III trial for a cancer related treatment. And 120 days before the release (end of September 2012), it had a market capitalization of approximately $203 million. Celsion was a perfect example of when investors could have saved a lot of money had they adhered to this rule. But Celsion wasn't the only case where investors could have saved.
Ziopharm Oncology (ZIOP)
Ziopharm Oncology is a biopharmaceutical company that focuses on the discovery and development of new cancer therapies. The company's portfolio consists of five clinical-stage product candidates. Its flagship product is Palifosfamide used in the treatment of metastatic soft tissue sarcoma.
Ziopharm had a fairly average 2012 which probably should have raised some eyebrows from investors considering the fact that the stock market did nothing but go up during the same time period. Below is a chart of Ziopharm's stock during 2012.
Fundamentally speaking, the company appeared in great shape, which probably led to a lot of investors having a lot of confidence in the trial. The company ended 2012 with roughly $73 million in cash on hand. Clearly a very strong cash position to continue funding trials. Now the company also had $102 million of operating expenses. So clearly the company would have most likely had to do a secondary offering, but the company was most likely hoping to do so at much higher prices (around the $10 per share range) rather than where it is now (about $1.60 per share).
On March 26, 2013, Ziopharm announced that its Phase III trial had not met its primary endpoint. Palifosfamide was being tested as a potential treatment for metastatic soft tissue sarcoma. As a result, the stock price was crushed and now trades at $1.60, less than half of what it had been previously.
Just like our case with Celsion, investors should have taken caution and used the Feuerstein-Ratain Rule. The trial was cancer related, it was a Phase III trial, and 120 days before the schedule Phase III trial results, the company traded at a $350 million market cap. Although not technically under the $300 million market cap criteria, it was close enough that it should have been considered in the "danger zone."
The company still plans to test Palifosamide as a potential treatment for small-cell lung cancer. And the company plans to concentrate on its synthetic biology program which creates DNA-based drugs that allow for controlled delivery of genes that are capable of producing proteins to treat various cancers. These may prove successful but it will take a while and it will take capital. Additionally, the competition is fierce. Threshold Pharmaceuticals (THLD) is in the lead to take its science and apply it to soft tissue sarcoma and various other cancers. Threshold appears to have the makings of a great company, but it currently sits in the danger zone as its market capitalization is only $260 million.
Threshold Pharmaceuticals is a biotechnology company focused on the discovery and development of drugs targeting the microenvironment of solid tumors and the bone marrows of some hematologic malignancies as treatment for patients living with cancer. The company's hypoxia activated product candidates are designed to specifically target the hypoxic microenvironment of tumors by selective activation of the drug to release a potent cytotoxin.
As the chart below shows, Threshold had an incredibly 2012.
Investors who were able to get in during the early part of 2012 made an incredibly high return on their investment. Threshold rallied from a low of $1.29 to as high as $9.28 during 2012. The company released a series of strong announcements during the early part of the year. The first announcement occurred on February 3, 2012, when Threshold announced it would partner with Merck KGaA. Threshold received an upfront payment of $25 million and has the ability to receive total milestone payments of $525 million. The second positive announcement occurred on February 21, 2012, when Threshold revealed positive Phase IIb trial results for TH-302, used to treat patients with pancreatic cancer. The trial revealed a 63% improvement in progression free survival.
Besides a strong science, chart, and partnership, Threshold also sits in a comfortable financial position. At the end of 2012, Threshold had a most impressive cash position of $87.7 million. The company also has no long-term debt. The company also had an operating income loss of $20 million during 2012. Considering that the cash has a cash position of $87.7 million and most likely, future milestone payments on the way, Threshold most likely will not have to issue more shares anytime soon. This should ease the concerns of investors.
The one fear for Threshold is the fact that it currently sits under a $300 million market cap and has upcoming Phase III trials for pancreatic cancer and soft tissue sarcoma. Now these trials aren't due until the end of 2014, so the company has plenty of time to grow in size and move closer to the $1 billion market capitalization. Investors should continue to watch Threshold and see if there is any price appreciation. Also keep in mind that 120 day rule of thumb and if the stock appears to be stuck around the $300 million market cap level at that cutoff point, it's probably time to get out. Hopefully that won't be the case.
Although it's hard to argue with a rule that is batting 100%, investors need to continue to look at the whole picture including technicals, catalysts, the science, and the fundamentals. I'm sure one day there will be a company trading under a $300 million market cap that surprises all and has a positive Phase III trial release, but it's impossible to know when that will be. So continue looking at the whole picture, not just one rule, so you don't miss any opportunities.