In the past few weeks, I wrote two articles about TrovaGene (TROV) -- one detailing the history of the DNA market generally and the molecular diagnostics -- and TROV's place therein -- market specifically, and the second detailing the company's internal valuation. In this article, I will value TROV on an external, relative basis. Specifically, I will compare TROV to another molecular diagnostics company, Exact Sciences (EXAS), and try to show that while the market seems to have given EXAS a fair shake, it has not done the same for TROV. I will prove this argument by looking at both companies' addressable markets, and their respective progress at bringing the products to market. However, before we take this deep dive into both companies, I will take a moment to review each of the companies' products, so we have a strong background before turning to the deeper analysis.
Both TROV and EXAS play in the molecular diagnostics field. For the uninitiated, in the molecular diagnostics field doctors take DNA samples from different parts of a patient's body, and analyze that DNA for multiple reasons. Commonly, doctors will analyze this DNA to determine the best course of a treatment for a patient. To quote from my previous article on this topic:
Patients diagnosed with colorectal or pancreatic cancers have a few treatment options available. One of the more common treatments uses Eli Lilly's (LLY) and Bristol-Myers' (BMY) anti-EGFR drug Erbitux, or Amgen's (AMGN) anti-EGFR drug Vectibix. However, these drugs have shown lower efficacy when treating colorectal and pancreatic cancer patients who have the KRAS mutation. Thus knowing if a patient has or doesn't have the KRAS mutation will strongly influence whether or not the patient should receive either of the anti-EGFR drugs mentioned above. The current method for analyzing whether or not a patient has the KRAS mutation calls for a biopsy of the diseased area of the colon.
Picking up from the end of the quote, "The current method for analyzing whether or not a patient has the KRAS mutation calls for a biopsy of the diseased area of the colon," we can pinpoint the advances made by TROV and EXAS.
Namely, instead of the current standard of care, TROV has developed technology to determine whether or not a patient has the KRAS mutation by analyzing the patient's urine. EXAS has developed a similar procedure, where they analyze the patient's bowel movement not to detect for the KRAS mutation specifically, but to analyze the state of the patient's colon -- does their condition require more follow up (colonoscopy) etc., which nonetheless will save them from a painful procedure.
The advances made by both of these companies allow patients to avoid painful and invasive procedures -- colon biopsy in the case of TROV, and colonoscopy in the case of EXAS. However, whereas EXAS has a fairly limited application for its product -- the analysis of colon disease -- TROV's product has broad applications including the detection of the KRAS mutation for colorectal and pancreatic cancers, the BRAF mutation for melanoma and thyroid cancers, and PIK3CA mutation for breast, colon, and endometrial cancers. In the next section, we will analyze each of these company's addressable markets in detail -- attaching numbers both in terms of patient size and cost per unit for each of these companies' products. By doing this, I will show the tremendous disparity in valuation between these two companies, and add some possible ways to play this discrepancy.
Both TROV and EXAS want to take previously highly invasive and painful procedures, and harness the power of DNA analysis to make those problems obsolete. Both of the companies address very large markets -- both in terms of total patients and price per dose -- let's take a look at each of these companies one at a time.
As I previously reported, TROV addresses multiple markets -- its most advanced, but not only market centers on the oncology field, where it runs tests for genetic mutations:
Total revenue for the oncology field stands at $37mm, and as I pointed out in my previous article, assuming a 20% net margin (consistent with other molecular diagnostic companies) -- TROV earns of $.49/share (not discounted) for its USA based oncology unit.
Now, let's take a look at EXAS's addressable market. EXAS wants to get in the colorectal screening business. EXAS reports (p.2 of annual report) that the American Cancer Society recommends all people age 50 and over undergo regular colorectal cancer screening -- an addressable market of 80mm in the USA. EXAS further assumes a 30% adoption rate (p.19) -- or 24mm tests per year -- a cost of $83 per test, which yields a $2bn total market in the USA (ibid). Taking a step back and assuming a 10% adoption rate, like we did with TROV, gets you to $663mm annual revenue. We can further bring EXAS down to Earth by analyzing the cost per test assumptions in the companies' reports. In the TROV model, I used existing prices for gene analysis for the KRAS, BRAF, and PIK3CA mutations, not attaching any premium for the TROV tests. However, the current price for the test EXAS wants to replace runs $23 -- using this number ($23), and multiplying it by a 10% adoption rate (8mm), we get a total revenue of $184mm. Bringing this down to the bottom line yields the following results:
Bringing it all together, on a pro forma basis, TROV and EXAS expect to earn 49 and 59 cents per share, respectively -- a 20% difference between the two companies. Assuming this as the case, you would expect EXAS to trade at a 20% premium over TROV, right? Wrong. As of the writing of this article (August 1, 2013), EXAS trades at $13.55/share, but TROV trades at $9.45/share -- nearly a 50% premium. Importantly, as I pointed out in my second article, this whole valuation leaves aside TROV's three other businesses -- transplant, infectious disease, and prenatal disorders. And considering the limited application beyond colorectal screening for EXAS, I think we must keep this critical piece of information in mind.
There remains one more critical piece of information to consider -- neither of these companies have commercialized their products yet. EXAS has decided to go the FDA route in getting approval while TROV seeks the easier path through the laboratory developed test route. Considering these companies both still need regulatory approval, what can we learn from the partnerships, and other news that has come out regarding these companies, that can inform us of their commercial viability.
Pre Regulatory Information
EXAS began their pivotal DeeP-C trial earlier this year, with 10,000 patients enrolled around the USA. Success in this trial formed a pivotal fulcrum for EXAS -- success would mean commercialization, and revenue, but failure means, well failure. In April, EXAS submitted the final module of this trial, and it reported significantly worse results than expected causing the company to sink 40%. Additionally, as reported in a detailed five part series, Seeking Alpha Contributor Alpha Exposure reported on the inflated numbers both in terms of scientific research data and market projections -- yet another reason to give investors pause before they decide to invest in EXAS. Additionally, EXAS has not formed a meaningful partnership with other molecular diagnostic companies. True, it formed a partnership with LabCorp (LH), but this partnership doesn't focus on the heart of EXAS product (and thus provide it with a measure of validation), but on a commercialization post approval.
Let us contrast this with TROV's progress. TROV has secured two critical partnerships -- with Illumina (ILMN), and PerkinElmer (PKI). Company filings on the ILMN deal don't provide much detail, but the filings with the PKI deal detail how PKI wants to use TROV's science to develop a new t assay to detect the presence of hepatocelluar carcinoma (HCC). While these two partnerships do not guarantee approval in any way, they do provide a solid validation for TROV's technology.
When the market gets wind of a new technology, especially in the hot molecular diagnostics space, it gets very excited. Remember how I mentioned that EXAS got slammed after reporting disappointing results from its most recent trial? Well, since then the company has inched its way back up to pre-report numbers. Despite the somewhat limited commercial application of EXAS's product, and its lack of validation from a major DNA player, it still has a $1bn valuation! This lofty valuation might foreshadow some future moves in TROV.
Finally, a word of caution, investing in TROV is not for the faint of heart. It does not have commercially available products, and we can only value it based on a risky pro forma. With that said, the upside that you could see from TROV even based on the pro forma points to strong investment opportunity. Additionally, TROV, because it has decided to take the less rigorous laboratory designed test route, as opposed to the FDA route, could see fast approval and turnaround time into market. Finally, TROV's additional products give investors a certain margin of safety should their current oncology products hit a wall -- allowing you to participate in a development stage diagnostic company with some downside protection.