In our previous article (link) on Unilife (NASDAQ: UNIS), published on November 27th 2013, we predicted that UNIS would probably break 100% in YTD gains. After the company announced on December 2nd (link) that a clinical supply agreement had been reached with Novartis (NVS), a huge rally occurred in UNIS common stock and it was more than sufficient to meet our bullish expectation for 2013.
Currently, there is a very heated debate over the worth of the most recent Novartis contract and its long-term implications on the company pipeline and financial situation. There is also a prolonged debate between the major shareholders of the company (the bulls) and the holders of massive short positions against the company (the bears).
Bulls are pointing to the Novartis deal as a recent sign of company growth via big pharma contracts. They are not expecting the company to generate impressive revenues in the next few quarters, and investors are taking a longer-term perspective that takes peak sales of all confirmed Unilife products into account. Top holders of UNIS include some big names, like:
Frontier Capital Management Company (OTC:FCCP) (8.9 M shares); JPMorgan Chase (JPM) (8.0 M shares); BlackRock Fund Advisors (BLK) (2.7 M shares); and Schroder Investment Management Group (2.0 M shares).
A string of other deals made prior to the Novartis deal, like the deals made with Hikma and Sanofi (SNY), have also helped the stock achieve impressive 114% returns YTD (at time of writing). It is because of these high-profile deals, and because of other big pharma supply contracts (that have yet to be finalized), that Jefferies remains bullish on the company with a $6 price target (link). We believe that the company may announce an additional 3-4 contracts before the end of the year, which could increase this figure.
This can also be considered a "pivotal time" for the company, since the last few years were spent primarily on R&D and creation of the manufacturing facility. With supply contracts in place with Sanofi, Hikma, and Novartis, the company can now focus on the path to profitability.
A ~19.6% short interest (17.6 M shares) is indicative of a fairly strong bearish interest in the stock. This short interest has been growing throughout the year, although it has tapered off a bit since August 2013. Our sources indicate that the short interest is being held by a small circle of people who expect the stock to lose the gains made after May 2013, if not more.
The most convincing aspect of the bearish argument may be the short-term financial outlook for the company, which exposes investors to both financial and also event risk in 2014. While the company expects to gain significant traction in 2014 with the Hikma and Novartis contracts, it may also be tough for the company to streamline its production in the early stages despite preparations. This, along with the company's aggressive R&D strategy, may strain the balance sheet.
It was recently reported that the company has ~$7.4 M in cash, although this does not include upfront payments made from recently-closed contracts with Hikma/Novartis. We believe that this can bring the company far into 2014, although it is possible that the company may need to raise more money before reaching profitability.
Rebuttal to Street Sweeper
Those who follow Unilife have probably came across a 10-point case against the company published on The Street Sweeper (link). 4 of these points were built on personal attacks against UNIS CEO Alan Shortall or speculation over lawsuits being filed by ex-employee Talbot Smith. We believe that the due diligence already performed by the multiple large pharmaceutical companies already in business with Unilife removes most, if not all of the negativity regarding the CEO and Mr. Smith's lawsuits.
There are also glaring factual errors that have not been addressed. For instance, we look at point #2 :
"2. Even if the Novartis clinical trials pass with flying colors and get FDA approval, the company could easily decide to order syringes instead from safety syringe gorilla Becton Dickinson, controlling an estimated 70 percent of the syringe market. Besides, a whistle-blower lawsuit suggests UNIS lacks the protocol and safety procedures to pull off production of what sounds to be a more complicated syringe for Novartis"
This point suggests that Novartis may decide to switch to another drug delivery supplier after FDA approval, although this makes very little sense for Novartis given the development process and the nature of the arrangement with Unilife. Note that the Unilife drug delivery system and the early-stage Novartis drug will be clinically developed as one product, which means that the clinical trial data will be tied to that specific product. It would make no sense for Novartis to switch manufacturers after FDA approval for that combined product, since it would void the previously collected data.
Notes from our side
We believe that there are arguments to be made on both sides of the trade, although we believe that a number of aspects about the company are widely misunderstood. Many people seem to think that Unilife is a generic injectable drug company that is selling a commodity-like product, but they are missing the main purpose of the special supply contracts that are being made between Unilife and big pharma companies.
Using the deal with Sanofi as an example, we point out that the Unifill syringes are being sold with LOVENOX®, which differentiates the product from an empty auto-injecting syringe that must be filled manually prior to administration. In estimating the market potential of this combined product, investors should really be comparing the increased cost of this product against the increased safety & utility that it provides relative to conventional syringes and competing automatic syringes that must be filled. Sanofi and Unilife are clearly optimistic about the potential for this product to dominate its market.
In its corporate strategy, we suggest that Unilife behave as if it were the Amazon.com (AMZN) of the injectable drug world. The company is willing to sacrifice short term financial performance to achieve larger goals. We believe that this kind of strategy creates a disconnect between fundamental investors looking for tangible financial performance and growth investors looking for high-potential ideas. Perhaps this explains why UNIS traders have become so polarized.
Unilife is a small healthcare company that is pursuing an aggressive growth strategy. We think investors may also see continued volatility in the stock in 2014 as speculation continues. We believe that UNIS is a high risk high reward investment that should only be considered by investors who are comfortable with this type of investment. As always, we encourage investors to do their own due diligence as well.