Return of the Bull Market
Whether you're bullish or bearish, it's hard not to be excited as we head into the latter half of this quarter into the rest of 2013.
(Sourced from Google Finance, NYSE/NASDAQ/S&P 500 YTD Performance)
Major indexes have performed freakishly well in the past four months, with the NYSE Composite up 11.43%, NASDAQ Composite up 12.90%, and the S&P 500 up 14.06 %. It's official: The Bull Market is back. But this year won't be known as the year of the bull, 2013 will be "The Year of the Healthcare Sector."
Why is the healthcare sector leading?
(Sourced from Finviz.com at http://finviz.com/groups.ashx)
The healthcare sector's 19.3% price return not only dwarfs the performance of the aforementioned major indexes, but in conjunction with the technology sector's ailing performance, points towards a shift in investor (retail and institutional) money flow from the technology sector to companies well positioned to capitalize on emerging trends in healthcare.
These emergent trends are essential events that serve to stimulate, if not outright revitalize entire sectors; salient examples include the introduction of the PC, Internet, and Smartphone. These inventions, despite catalyzing the prodigious growth of multiple multi-billion dollar tech companies, are spent in the process (lose their catalytic ability). Provided that these significant emergent trends are fairly rare occurrences for most sectors, it must follow that sectors naturally fall into a "boom and fizzle" cycle.
Healthcare differs in that a wide array of events can serve as its emergent trend: shifts in the prevalence of conditions such as diabetes, changes in local and global healthcare policy, discovery of new conditions/scientific methods/tools, etc. The healthcare sector's remarkable sensitivity to assorted events prevents the "fizzle" of sector stagnation, while simultaneously resulting in its trademark risk and volatility. This bilateral nature of healthcare accounts for the distinctive risk/upside profile of its component companies.
Despite the allure of picking a "healthcare winner", a significant portion of pre-profit healthcare companies, particularly within biotech, flounder or fail outright from a wide array of risks. These risks include, but are not limited to:
- Financing risk - This often occurs when a cash-strapped company is undervalued to the point where it is unable to conduct a round of financing at a price point suitable to its shareholders.
- Clinical Trial risk - Where a company's product/technology is denied FDA approval on the basis of not meeting efficacy or safety endpoints, amongst other factors.
- Development risk - Where a company will fail due to simply allocating time and money towards a dead end product/technology.
- Marketing risk - Where a company even with an efficacious and approved product can fail due to inadequate resources or an ineffective sales strategy.
Consequently, it stands to reason that healthcare's 19.3% current YTD return has been driven by a select percentage of companies with returns far greater than 20%. In attempting to identify companies to continue the sector's remarkable performance, companies were assessed on the following four questions:
- Is the company positioned to capitalize on emerging trends with novel product(s) or technology(s)? What trends?
- How significant is the undervaluation in comparison to the (MY) perceived risk/upside ratio?
- Does the company have catalysts for 2013 that are substantial enough to result in critical shifts in valuation?
- What are the risk(s) that the company faces/will face in reaching profitability?
The following four companies will solidify 2013 as The Year of The Healthcare Sector.
Trovagene is a development stage biotech company looking to establish a definitive position in the molecular diagnostic (MDx) assays with its established intellectual property in "TransRenal Nucleic Acid" (TrNA) technology. The company's specialty allows for the creation of urine-based assays designed to detect specific nucleic acids that can indicate the presence of various conditions such as infectious diseases, genetic abnormalities, tumors, etc.
Emergent Trends - Early Detection, Easily Leveraged Technology
Trovagene's novel urine-based technology uniquely positions the company to capitalize on the rapidly growing necessity for assays with the power to detect early stages of progressive conditions. The benefits are clearly demonstrated for all parties involved. By detecting potentially life-threatening conditions early on, both patient survival rates and healthcare expenses are greatly improved. Moreover, the significant logistical advances offered by the company's urine-based technology should incentivize adoption by testing facilities looking for cheaper and faster detection procedures. Resulting in benefits for both Trovagene and its investors.
(Sourced from Trovagene's Investor Presentation, Link)
The simplicities that result from urine-based assays will allow for more frequent testing, potentially representing increased revenue streams for both Trovagene and testing facilities. Moreover, the inclusion of sample collection advantages leads me to believe that Trovagene's TrNA technology will eventually have the potential to screen for multiple conditions with a single procedure. Of course, this is contingent on Trovagene successfully developing several urine-based assays for the detection of other conditions.
How big is this market opportunity?
Managed Care Magazine released an overview of the modern MDx market in 2009. The article states the following:
"Molecular diagnostic tests are growing at a staggering rate. Over the past year, the industry has grown more than 35 percent, from $4 billion to $5.5 billion, and is projected to exceed $8 billion by 2010. Molecular and genetic test volumes have now reached 40 million annual tests in the United States and are expected to double to 80 million by 2012. And at $300-$3,000 per test, molecular testing will soon be one third of all diagnostic testing costs, according to Washington G-2 Reports Advisory Services' 2008 Molecular Diagnostics Survey."
In addition to the increasing shift within diagnostic testing to MDx assays, Trovagene's stands to benefit from current trends in cancer. As cancer survival rates continue to rise, so too will the need for assays that will allow cancer survivors to stay vigilant against relapse. Trovagene's TrNA specialty will also result in premium margins, as current CMS policy guarantee compensation of roughly $3,000/assay for MDx assays specifically targeting nucleic acids.
Current healthcare trends appear to be welcoming Trovagene's TrNA technology. If the company is able to capture just 1% of the $8 billion MDx market upon commercialization (presumably 2017), this will result in yearly revenue of $80 million. Given that competing MDx companies typically trade at 10-15x earnings, a crude valuation merits Trovagene a $0.8-$1.2 billion market capitalization in 2017. However, by discounting that crude future valuation for 4 years at a steep 25% discount rate, I arrive at a valuation of $327-$491 million, a far cry from Trovagene's current $97 million capitalization.
Major Catalyst(s) - PerkinElmer Collaboration
Trovagene recently had a significant catalyst in the form of a collaboration signed with PerkinElmer (PKI), an established multi-billion dollar and multi-national healthcare company. The terms of the partnership call for the joint development of an assay intended to detect the most common type of liver cancer, hepatocellular carcinoma (HCC).
The filing, while lacking some details, indicated a milestone-based compensation structure for Trovagene. These milestone payments should form the basis for the key catalysts Trovagene investors for the year of 2013. Even in the absence of milestone payment disclosures, the presence of positive cash flow on Trovagene's filings should indicate that unstated milestone goals are being met. More importantly, this will demonstrate progress within the development of the HCC assay. As Trovagene races to develop the HCC assay, cash burn should be expected to increase. Hopefully, this expected increase in expenditure will be offset by progress induced milestone payments.
The Risks - Development Risk
Of the four primary risks associated with healthcare companies, all four have been significantly de-risked by the recent partnership. Development risk remains as the only significant risk. Here's why:
- Financing Risk - With the milestone based structure of the partnership, as long as Trovagene can demonstrate the efficacy of its TrNA technology for the indication of HCC, financing risks will be minimized.
- Clinical Trial Risk - Mitigated to development risk. Given PerkinElmer's extensive experience in developing products that require FDA approval, the completion of the collaboration will imply an FDA-ready product.
- Development Risk - This is the risk investors should keep their eyes on. However, PerkinElmer's partnership serves to validate Trovagene's technology to a certain degree. In addition, provided that Trovagene can receive the first milestone payment and continue to do so, each subsequent payment should be interpreted as a reduction in development risk.
- Marketing risk - With the terms of the partnership allowing for a royalty bearing licensing agreement upon the end of proof of principle work on the HCC assay, I think it's safe to assume that PerkinElmer will conduct the marketing on Trovagene's behalf upon completion. Moreover, this will leverage PerkinElmer's presence in the Asian markets, where HCC may account for up to half of all cancers.
Immudyne, Inc. (OTCQB:IMMD)
Although not your typical development stage biotech, Immudyne is a company that has lately drawn my attention. Founded in 1987, Immudyne falls into the nutraceutical category, a specific sub-industry of biotech that has recently seen incredible market growth. The company specializes in products containing Beta Glucan polysaccharides, compounds that have suggested the ability to boost the immune system's performance in clinical data. In addition to beta glucan containing products, Immudyne owns several patents that serve to safeguard exclusivity in the beta glucan product market.
Emerging Trends - "Health craze"
Around the beginning of the millennium, several organizations responded to the increasing prevalence of obesity and diabetes by utilizing the media to create visibility and increase the general level of consciousness about one's health. Consequently, setting the "healthy living" frenzy into motion, resulting in the incredible growth of the nutrition industry.
(Sourced from Nutrition Business Journal's 2010 Report)
The chart above speaks for itself, illustrating how the simple notion of "eating healthy" grew a <$100billion industry into a >$350 billion industry in under 20 years. The nutritional supplements also benefited greatly from the craze, with U.S. sales hitting $11.5 billion in 2012, and forecasted to reach $15.5 billion by 2017.
The continued growth of U.S. sales of nutritional supplements point to a secondary trend favoring immediate consumption. This desire for immediacy in addition to an emerging trend desiring illness prevention seems to position the company favorably especially as the "healthy living" trend continues. As a result, Immudyne's immune boosting beta glucan product should be able to attract a significant portion of wellness-oriented individuals within the U.S.
Immudyne - Primed for a Great 2013
The unfortunate reality of the healthcare sector is that many promising companies often go undiscovered. Immudyne is one such company, however recent actions taken by the company seem to foreshadow a shift into the limelight.
Determined to establish a corporate presence, Immudyne made the transition from a Pink Sheet company to an SEC reporting company uplisted on the OTCQB on February 25th, 2013. Immudyne's CEO Mark McLaughlin commented, "The process of moving from the Pink Sheets and into full SEC compliance has been costly and time consuming but was in our opinion one of the best things we could do for our company and its shareholders, as we focus on building a business that delivers long term shareholder value, we believe this uplisting will enhance investor accessibility and serve as a stepping stone to listing Immudyne on a national exchange."
At that point, Immudyne was a company with a market ready product, infrastructure, and management with skin in the game (Insiders own ~50%, of which Immudyne CEO holds over 30%). For better or for worse, they had everything but the marketing know-how to monetize their product. A month after their uplisting, Immudyne announced the addition of the missing marketing link with the appointment of Karen Kingston. In my opinion, this is the catalyst that should've been noticed by healthcare investors. In a sector as tentative as healthcare, experience is an incredibly precious commodity. As such, I was blown away when I read her work experience, particularly her role at Pfizer where, "She played a key role in marketing Viagra and was integral to shifting the brand focus to younger men and overall wellness." In short, the company with no visibility actually hired the woman who turned Viagra into the blue blockbuster.
Three weeks later, Immudyne hosted a conference call in order to discuss future plans detailed on its corporate presentation. Karen Kingston elaborated on the 15-month sales and marketing plan starting on Q3 2013 and ending Q3 2014, during which time Immudyne would rebrand and introduce new product lines to address novel untargeted multi-billion dollar markets within the U.S.
(Sourced from Immudyne's most recent presentation)
The sales forecast shown above, in conjunction with Immudyne's future quarterly reports will serve to:
- With actual figures listed on the forecast, the forecast will clarify the typically indecipherable nature of pre-revenue biotech company filings.
- As a result, future quarterly reports should have crystal clear ramifications on both Immudyne's performance and share price.
What risks are at play?
Of the four primary risks associated with Immudyne, both clinical trial and development risks are rendered irrelevant due to the market ready status of its beta glucan compound. Of the two remaining risks, I believe financing risk merits higher concern.
- Financing Risk - Despite being a company with some revenue, these revenues have yet to be translated into profit. This, in addition to Immudyne's $98,930 cash on hand leads me to believe that the company will conduct a round of financing within the following weeks (few months at the latest) in order to execute Karen Kingston's new marketing strategy.
- Marketing risk - I believe marketing risk will only become a significant factor if Immudyne is unable to successfully conduct a round of financing prior to the beginning of Q3 2013. In regards to the marketing strategy itself, I'm a firm believer in experienced management, which leads me to believe that an established veteran such as Karen Kingston foresees significant upside in Immudyne's product upon the initiation of her marketing strategy.
- Nano-cap Risk - Given Immudyne's current market capitalization and share price (~$8 million and $0.28/share), investors face the additional risks typically associated with nano-cap companies. These risks include, but are not limited to, illiquidity, lack of current information, and additional price volatility. As such, investors looking to play the risk/upside present in Immudyne should go in with their eyes and ears wide open.
How undervalued is Immudyne?
Immudyne holds a unique position as a nutraceutical company within biotech.
Nutraceuticals are nutrient supplements that can improve health and well-being. Here's why I believe the nutraceutical company is interesting:
- No development risk: Unlike many development stage biotech companies that face significant development/FDA approval risks, Immudyne faces none as a nutraceutical company that demonstrated the safety of its beta glucan ingredient.
- Substantial Market Opportunity: Despite the market's lack of visibility within the financial community, Transparency Market Research reports the following; "Global Nutraceutical Product market reached USD 142.1 billion in 2011 and is expected to reach USD 204.8 billion by 2017, growing at a CAGR of 6.3% from 2012 to 2017."
For a nutraceutical company with a market-ready product, the key component for success is effective marketing, serving to explain Immudyne's lack of profitability thus far. Fortunately, Immudyne's recent marketing strategy provides key information in determining its valuation. The company intends to target three key US markets:
- Post Alcohol Consumption: A market consisting of 120 million Americans who are frequent drinkers. There are currently no reports that address its market opportunity.
- Cosmeceuticals and Anti Aging: With over 150 million Americans who actively purchase and use skin care products, approximately $20 billion is expected to be spent on cosmeceuticals and anti-aging this year.
- Dietary Supplements: Approximately a $15 billion market opportunity that is expected to significantly increase over the next several years.
If we assume that the post alcohol consumption market opportunity is of a similar size to dietary supplements, it follows that Immudyne will be targeting an aggregate market opportunity of ~$50 billion. If Immudyne is able to capture even 1% of its target markets over the following 4 years, this represents potential yearly revenues north of $500 million. Assuming a profit margin of 50%, the resulting $250 million in expected profits can then be used to arrive at a future valuation. If we assume that Immudyne will conservatively trade at 8x earnings, this results in a quick and dirty valuation of $2 billion for Immudyne's market cap in 2017. By discounting this value for 4 years at rate of 40%, I arrive at a valuation of $520 million which serves to illustrate the enormous upside present in the speculative nano-cap healthcare company.
If the company is able to successfully re-brand within the following two months and subsequently capture a share of its intended multi-billion-dollar markets, Immudyne should experience significant growth. Given these lofty expectations, investors should look towards future quarterly filings as catalysts that will accurately depict the company's progress. With the majority of the company's warrants anti-dilutively priced at $0.40/share, 2013 could prove to be a very exciting year for shareholders of Immudyne in light of the new addition to management and expectations (catalysts) for the following months.
Sanuwave Health (OTCQB:SNWV)
Sanuwave is a development stage biotech company looking to revolutionize the current standard of care for diabetic foot ulcers (DFU) with its shockwave-based dermaPACE device. The company's shockwave-based PACE (Pulsed Acoustic Cellular Expression) technology, in addition to applications in the diabetic foot ulcer space, carries the potential for novel applications in other significant markets such as orthopedics, plastic/cosmetics, and cardiac.
Emergent Trends- Diabetes Epidemic, Lasting Treatment
Sanuwave's novel shockwave-based technology uniquely positions the company to establish a dominant position within the diabetic foot ulcer space upon FDA approval. The growing necessity for effective DFU treatment results from two primary factors:
- The unprecedented growth rate of diabetes: Currently affecting 285 million people, the diabetes epidemic is expected to reach 438 million individuals by 2030.
- Current standard of care for DFUs: Diabetic foot ulcers are a major complication that affects 15% of diabetics. With 1.5 million yearly occurrences, current standards of care fail to effective treat DFUs in a lasting manner.
Moreover, Sanuwave's dermaPACE device offers significant logistical advances over competing DFU treatments with its non-invasive procedure. Non-invasive procedures have the added benefit of reducing the cost of treatment.
(Sourced from Sanuwave's Corporate Presentation)
Provided its approval by the FDA, the benefits offered by dermaPACE should result in its accelerated adoption within healthcare facilities.
How large is Sanuwave's opportunity?
The Advanced Medical Technology Association states that with over 1.5 million annual occurrences of diabetic foot ulcers, the aggregate cost (market opportunity) in 2010 was $1.2 billion is expected to reach $2.3 billion by 2017. With Diabetes on the rise, the DFU space should continue to see growth and awareness, increasing Sanuwave's potential market opportunity.
In light of these trends, if Sanuwave is able to each even 1% market adoption in the DFU space by 2016, this should result $20 million in sales. With similar companies in the space trading at 10x sales multiples, an identical multiple values Sanuwave at $200 million for 2016. Given the company's Phase III clinical trial position, a discount rate of 20% for 3 years results in a valuation of $115 million, implying a significant level of undervaluation.
Major Catalyst(s) - Restructured Clinical Trial
Investors of Sanuwave should see significant catalysts in the form of data released from the company's restructured clinical trial. With Sanuwave imminently entering its second Phase III clinical trial, the following events will constitute substantial catalysts:
- Announcement of patient enrollment for its clinical trial.
- The announcement of another round of financing, presumably to fund the completion of the clinical trial, simultaneously demonstrating management's belief in FDA approval of its dermaPACE product.
- The completion of patient enrollment (90 patients), expected by Q1 2014.
- Any data released by the independent data monitoring committee in charge of assessing the data from the study.
What are the risks?
Of the primary risks associated with healthcare companies, the primary risks investors face come in the form of financing and marketing.
- Financing Risk - With its most recent report revealing $70,000 in cash. Sanuwave must conduct another round of financing in order to fund the completion of its imminent trial. If unable to conduct financing at a suitable price, the company's outlook can be severely jeopardized.
- Clinical Trial Risk - Despite Sanuwave's initial Phase III clinical trial failure, efficacy demonstrated from the failed trial has allowed for the unprecedented FDA concession of data overlay. The usage of Bayesian statistics will allow Sanuwave to integrate data from its previous trial with results from its new study to demonstrate efficacy significant enough as to merit approval.
- Development Risk - With Sanuwave currently in the Phase III portion of clinical testing, development risk is a non-issue.
- Marketing risk - Provided dermaPACE is approved by the FDA; Sanuwave will have to devote significant resources towards the marketing of its device. As such, Sanuwave's success is also heavily contingent on future adoption of dermaPACE as an effective treatment of DFU.
Organovo is a biotech company in the 3d bioprinting space. The company's 3d bioprinting technology allows for the printing of living tissues and cells, resulting in major implications for the future of drug development, biological research, and tissue transplantation.
Emergent Trends - Bridging the Gap
Organovo's bioprinting technology carries the potential to revolutionize current standards of healthcare research and development. The ability to print 3-dimensional models of living tissue would present the ladder able to bridge the gap between animal testing and human trials, easily accelerating the development of various drugs, and breakthroughs in biology. Moreover, as Organovo's technology continues to develop, the science fiction-esque concept of organ printing may become a reality.
How large is Organovo's opportunity?
Given Organovo's technology's wide range of applications, it's incredible difficult to gauge its potential market opportunity. However, its potentially groundbreaking application in drug development allows for a venue of analysis. Strictly looking at the drug development market, it becomes clearly apparent that there is a huge opportunity. As stated on this Forbes article, "the average cost of bringing a new drug to market is $1.3 billion." This incredible average cost results in the approximate $50 billion spent in 2011 in the discovery and development of new pharmaceuticals. If Organovo's technology is able to accelerate and cheapen this unbelievably expensive and time-consuming process, it stands to reason that pharmaceutical companies would have no issue in paying a royalty on sales of their drugs for the use of Organovo's technology. Assuming the royalties are on the order of 1-2% of the $50 billion spent on drug R&D, this represents potential revenue streams of $500 million-$1 billion.
Major Catalyst - Uplisting
Given the recent slew of partnerships signed with several different entities, it's easy to see why investors may have forgotten what may be Organovo's most important catalyst yet: uplisting.
For a company currently listed on the OTCQB, uplisting to a larger exchange leads to several benefits for both the share price and liquidity of a company. It's easy to see why, generally, companies that trade on these exchanges are seen as riskier investments. This follows from both the laxer standards in listing a company and the less stringent reporting requirements on the OTC markets.
Organovo's management, which has repeatedly stated their desire to uplist Organovo to a major exchange, appears to be actively preparing for an imminent uplisting. In order to uplist to the NASDAQ Capital Markets, a company must have
- Shareholders' Equity of at least $4 million.
- Market Value of at least $50 million.
- Tangible Assets above $2 million.
- Share Price over $2.00
Of these qualifications, Organovo greatly exceeds all thresholds except for its shareholders' equity. However, the company's recent series of tender offers has served to aggressively tackle its warrant liabilities, presumably to increase its shareholder's equity above the $4 million dollar threshold necessary for uplisting to the NASDAQ CM. With signs pointing towards the migration to a major exchange, investors may want to bolster their positions prior to the expected catalyst.
Organovo's unique position as a "tool developer" enables it with a unique risk profile:
- Financing Risk - With multiple high-profile partnerships with other healthcare entities such as Pfizer (PFE), United Therapeutics (UTHR), Autodesk, Inc. (ADSK), and the Knight Cancer Institute at Oregon Health & Science University, Organovo's financing risks are minimized by the distribution of development costs across multiple parties.
- Clinical Trial Risk - Organovo will face no clinical trial risks until it reaches its ultimate goal of printing entire functional organs for transplantation. This is several years into the horizon/
- Development Risk - Organovo's primary risks come in the form of development risks, as its 3d bioprinting technology continues garnering validation. The presence of multiple partnerships serves to validate its technology, de-risking the perceived development risk.
- Marketing risk - The company's high-profile technology serves to essentially eliminate marketing risk. The demonstration of its technology's efficacy in the drug development process will naturally result in a series of royalty bearing partnerships with companies looking to streamline their R&D process.
2013 has been a great year for the markets. With major indexes surpassing or nearing their ten-year highs, it's impossible to tell whether this bull run will continue. Barring a catastrophic correction, it appears the good times are here to stay. With the healthcare sector leading the rally, investors looking to jump in should be looking at undervalued companies with events that promise to catalyze activity. The four companies discussed in the articles represent compelling candidates that demonstrate the potential to continue healthcare's performance for the year of 2013.
----- SANUWAVE UPDATE------
While waiting for approval, the first catalyst mentioned for Sanuwave came to fruition today. As detailed in the press release:
"held an investigator meeting in Atlanta, Georgia on May 10-11, 2013. The meeting served as the official kick-off of the supplemental Phase III clinical trial utilizing dermaPACE for the treatment of diabetic foot ulcers. Representatives from 18 clinical sites engaged to participate in the clinical trial attended the meeting to receive training. These sites are now ready to begin screening and enrolling patients."
The initiation of patient enrollment demonstrates Sanuwave's management's commitment towards the successful completion of its second Phase III clinical trial. Moreover, the presence of representatives from 18 clinical sites (keep in mind that 90 patients constitutes maximum patient enrollment) illustrates the medical community's excitement regarding Sanuwave's dermaPACE product.
Also, it appears my previous data on the DFU opportunity was outdated. The press release also states:
"As published by CDC and in JAMA, diabetic foot ulcers represent a $5 billion U.S. and $22 billion international market opportunity. More than half of all diabetic foot ulcers become infected, thus requiring hospitalization, and 1 in 5 require an amputation - which carries a high risk of mortality. Advanced, cost-effective treatment modalities for diabetic foot ulcers are in great need, yet in short supply."
Consequently, it stands to reason that the $115 million valuation arrived at earlier may be undervalued by an additional 60%. By reapplying the rough discounted multiples model to the revised DFU market opportunity of $5billion, I arrive at a valuation of $287.5million.