Readers Ask: Rite-Aid, Somaxon Pharmaceuticals

In "Readers Respond" I do my best to answer readers' questions, but keep in mind that my responses to these questions are my opinions and personal speculation that I have based on my own research and DD.

Also, I will try to respond to a number of requests that I've received via email or comments to the board asking for 'VFC's Take' on stocks that readers have found. While I'll do my best to address as many as I can, please take a few things into into consideration while reading:

• I have not thoroughly researched all of the stocks that I'm about to comment on. I've done the initial DD but my opinions are mostly based on my first impressions of the stock. I'm merely providing VFC's Take, as requested. Use that as a starting point to do your own DD.
• Don't get testy if I don't like your stock. Remember, this is just my initial impression and I take into consideration some variables that other people don't, that's why 'VFC's Take' is not always the mainstream impression.
• I appreciate all the recent feedback, and keep the stock tips coming; this is a great forum for all investors of all levels to share tips and insights. There's a whole lot of stocks out there, but there's only a few gems. Let's keep trying to find those gems.
  

RAD: An email from Citizen Chin regarding Rite Aid (RAD):

Earlier this year, I managed to trade Rite-Aid from .33 cents up to around $1.20 or so. For the past month or two, it's been hovering around the $1.50 mark. I'm thinking this could be a great play on any future economic recovery, coupled with the fact that we have an aging population in the baby boomers who are going to probably be the most heavily medicated silver generation the world has ever known.

CVS and Walgreens (WAG) are stronger competitors. But the way I see it, is that Rite-Aid has been working diligently over the past two years to sloguh off their debt as well as their redundant and under performing stores and distribution centers. The price as it is now is being held down until investors are convinced that RAD can move forward as a true competitor to WAG and CVS. For this reason, couple with what I outlined above, I believe that RAD is like a spring that's been compressed, just waiting to spring back open. What are your thoughts on Rite-Aid as long term (as in 2+ years) pick?

Thanks,

Citizen Chin

VFC's Take: First of all, hailing from the NorthEast myself, I checked out Citizen Chin's blog from the link that he attaches to the bottom of his email signature. If you know Jersey at all, or call it home, I think you'll find the good Citizen's blog, Escape From Jersey, pretty entertaining.

As for Rite Aid, I can definitely see the argument outlined by Citizen Chin, but I am hard pressed to call the stock a good long term investment. I'd rather call it a short-to-mid term speculative play with the potential of becoming a long term investment, if things do turn around for the money-losing retailer.

While CVS and WAG are the extremely dominant competitors in the sector - not to mention that they all also compete with Wal Mart (WMT) - there is the potential for RAD to steal some market share away from each one, if only because they have so little of it right now. Also, as CC stated in the above email, as the economy recovers Rite Aid is sure to bring in more cash. Based on these factors, I think that RAD has the potential to at least reach the current 52-week high in the near to mid future and therefor I could support a speculative mid-term-minded buy with the stock.

Now for the other side of the story; I think that Rite Aid is a company on the brink and I wouldn't put anything but a few speculative dollars into this stock. The competition out there is fierce for RAD and there's really nothing to offer that would pull consumers away from the big boys of the sector.

Additionally, the short interest has risen dramatically over the past couple of months, which means that many are betting against the company - but it also means that if things improve, the price could rise a bit as shorts begin to cover. Unlike the biotech sector - where FDA approvals cover up for horrible balance sheets and a surprise approval can surge a stock just on short covering - Rite Aid has nothing to cover up the horrible balance sheets. One big quarter of growth, however, could lead to the mini-run that Citizen Chin is looking for. But I have to admit that I am not just yet a believer.

Naturally, I congratulate you on the ride from thirty cents - that was a good trade on your part. I think the risk/reward at that price was a no-brainer, but I'm hesitant to give the all-clear for the stock at these levels.

Speculate if you like, but don't fall in love with this one. It's still a big money losing company and I personally think that its days are numbered over the long term.

All just my opinion.

SOMX: A comment from John regarding Somaxom Pharmaceuticals:

hi,

Can i have your take on Somaxon Pharmaceutical (SOMX)? They have a FDA approval coming on 4 Dec, is it worth accumulating now while the price is still low.

John

VFC's Take: I'll start off with a disclosure that I do not make it a habit of investing in sleep disorder and insomnia drugs because there are just so many already on the market, in addition to quite a few generics. The potential to eat up immediate market share would be pretty tough for a new kid on the block, although the insomnia market is a multi billion dollar one, and growing.

For Somaxon, I imagine that those reasons - in addition to the refusal by the FDA to approve Silenor on the first go-round - are why the company has yet to land a partner to market their own insomnia drug (Silenor) to date. A partner would be crucial for this company's survival even with the approval, in my opinion, because there would need to be an influx of cash to launch and market the product post-approval; an amount of cash that this company does not have on the books.

In the latest quarterly report, the CEO stated that the company's goal is to partner the drug in order to maximize the market potential of the product.

There are some things to like about a speculative investment with this company. The current market cap of roughly fifty six million does not justify an approval price - in my opinion - although it is not priced for an FDA denial either. It is my opinion that SOMX will move up as the December 4th approval date approaches and investors may have a chance to flip a few shares pre-approval to cover their base just in case the FDA denies approval.

It's difficult to come up with a post-approval price when there is no licensing agreement in place to judge future revenue, but a market cap of about 150-200 million would be about right, in my opinion, based on what we know now; and what we know now is that there is no partner, the company needs money and the product would be entering a crowded market. When things become clearer, I think the market cap could move up from that point, but I wouldn't expect too big a move unless a heavyweight pharma comes on board to market the drug.

If you take into consideration that Silenor has some advantages over existing drugs, according to the write-up on the company's website, my estimates may be a tad conservative - but of course the company is going to describe their own product as preferable to others, so only time will tell how well Silenor could do on the market.

Another factor to consider is the current trend of stocks dropping after FDA approvals, after enjoying a strong run up into the decision date. That is always a possibility with SOMX, especially if a partner has materialized before that time; it's a long way to market between FDA approval and commercial launch without a partner, and investors will be keenly aware of that fact. Just something to consider.

If the FDA denies approval, which is always a possibility, then the stock hits sub-fifty cents again, in my opinion, so there is risk.

I would play this one as a speculative short term buy leading up to the approval date - meaning I'd buy a bit now, add on any dips (if there are any) and then sell some shares into any run up to reduce my overall exposure to the stock as December approaches.

Disclosure: No position.

Comments

[davidbdc:]

And you could add that Rite Aid's management team is minor league.....and not AA or AAA either....more like the semi-pro type.

Oct 19 07:18 AM

[brunoq_78242:]

I think that Silenor has an excellent chance of approval this time around. The drug seems to be clearly effective in sleep maintenance, an issue of particular importance to the elderly. Many older people have no difficulty falling asleep, but they frequently wake up in the middle of the night and cannot fall asleep again. At the request of the FDA, Somaxon is limiting claims for Silenor solely to efficacy in sleep maintenance. The drug has an excellent safety profile and is free of the occasionally bizarre side effects which plague drugs with which it would be competing. It is worth noting that S&P has a Hold rating on the stock--an unusually high rating for a microcap with no revenue approaching a make-or-break PDUFA date.

Oct 19 08:58 AM

[satyr:]

davidbdc, I can't agree with you about Rite Aid's management team. John Standley is a very good operator and is the CFO that he brought along from Pathmark. They patched that company up in a relatively short period of time and sold it to A&P, so I would not sell them short.

Mary Sammons is another matter, and if she were running the company I would short it into oblivion. However, she is more of a figurehead at this stage.

I tend to agree with Citizen Chin on this one. Rite Aid has market share on the East Coast and is rationalizing their store base. It will still be some time before they turn a profit. But, they are due to begin debt paydown in the next quarter and have enough cash flow to keep up the fight for a very long time. Eventually, they will turn earnings positive, or sell off a significant piece of the store base (i.e.: West Coast) in order to get enough cash to wipe out a large amount of debt. The question is timing, and that is highly dependent upon the economy.

Oct 19 01:15 PM

[davidbdc:]

satyr,

The problem with your thoughts on John Standley is that he was right there with Mary from 1999 on. He left for two years and now is her obvious replacement. While he managed to pawn off Pathmark that doesn't do rite aid shareholders any good. And he brought Vitrano with him from Pathmark.

They have the worse supply chain and operations in the drugstore space and just keep the same mediocre folks in their cushy positions year after year. And lets not even speak about the yearly million dollar bonusses to mary sammons this decade. What a disgrace.

I actually had a sell order on this stock back in about 2001 I think for $10......we made it literally to 9.99. Now I just hold the stock to remind me that a poor management team can ruin a business in a good sector.

I honestly believe that I could have run Rite Aid better than their senior managers the past decade.

Oct 19 08:39 PM