A Glimpse At Our Small Cap Biotechnology Portfolio

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 |  Includes: CTSO, CYTX, DVAX, DXTR, GALE, TLGT
by: Stanley Barton

Editors' Note: This article covers stocks trading at less than $1 per share and/or with less than a $100 million market cap. Please be aware of the risks associated with these stocks.

I have been avoiding the writing of this article, despite requests from loyal readers. I myself have read on Seeking Alpha and other sites many highly scientific analyses of ideas being promoted by small biotechnology companies, but I know my own limitations. At best, I have a layman's understanding of the science of the human body, and I can only provide a simple formula for readers when it comes to investing in these complicated enterprises. Nonetheless, maybe there is a place for a simple approach, as our selections in this sector have provided triple digit gains in 2013. In fact, this has been the best performing sector in our portfolios for the past two years.

This article will give a glimpse of which stocks are currently in our portfolios in the small cap developmental biotechnology sector. I will also provide a brief description of their focus and reasons why we maintain these in our long-term investment portfolios. By "developmental" I mean they do not yet have sufficient commercial operations to be profitable. These are among the riskiest investments available, and some will probably end up worth nothing. I will only provide a simplistic summary of their science and technology and links that our readers can refer to for more detailed information if they have a particular interest in one of our favorites.

Investing Rules for Small Developmental Biotechnology Stocks:

The first rule is to have a basket of these small companies and expect an occasional home run and a lot of strikeouts.

The second rule is to try to invest in something that has at least proven the idea in a Phase 2 trial or European mark, or has the backing of a substantial partner that has analyzed the science and is on board.

Third, I don't want to wait a decade to see the product on the market, so a target launch within a few years is optimum.

Fourth, since I do not like to invest in things I do not understand, the positive aspects of the company should be understandable to the layman and, thus, the investing public.

Fifth, the company preferably should have possibility of financing the R&D necessary to monetize its science; however, this is not ironclad, because if the idea is solid the money eventually comes.

Finally, I prefer to invest in companies that seem to have at least a plan for how to manufacture and market their products, once approved.

Developmental Biotechnology Stock Portfolio

Biotech Company Ticker Price Focus
Cytori Therapeutics CYTX $ 3.13 Cell Therapy
Dynavax Tech. DVAX $ 2.00 Hep B Vaccine
Cardica, Inc. CRDC $ 1.12 Med. Tools-Robotic
Galena Biopharma GALE $ 7.60 Oncology Drugs
IGI Laboratories IG $ 3.77 Topical Generics
Cytosorbents Corp. CTSO $ 0.16 Blood Filtration
Click to enlarge

Cytori Therapeutics is self described as;

"Developing cell therapies based on autologous adipose-derived regenerative cells (ADRCs) to treat cardiovascular disease and other medical conditions…These therapies are made available to the physician and patient at the point-of-care by Cytori's proprietary technologies and products, including the Celution System product family."

As I understand it, this is a patented system that extracts cells through liposuction and processes those for use in the healing procedure at essentially the same time in a single procedure. It apparently is useful in a variety of therapies in clinical trials, as more than 50 independent studies are underway worldwide by others using the CYTX platform. CYTX has more than 60 patents, and the system has recently been approved in Europe, China, Japan, Australia and other countries. It also has a contract with BARDA, a department of the U.S. Department of Health and Human Services, that could finance the process completely through FDA approval of the Celution System for burn treatment. CYTX has submitted the data it believes has proven that it has met the requirements to trigger up to $56MM in BARDA payments, and it expects feedback this quarter. Recently Cytori entered a partnership with Lorem Vascular to commercialize Cytori Cell Therapy in China, Hong Kong, Malaysia, Singapore and Australia, in exchange for $24MM in equity investment, a $7MM initial order and up to $500MM in milestone payments. 2014 should produce catalysts from a variety of clinical data reports and funding news to move the stock. The company has unique science, distribution channels, funding options and a lot of irons in the fire, so I suggest readers refer to the latest earnings and development update for more detailed information.

Dynavax Technologies (NASDAQ:DVAX), a clinical-stage biopharmaceutical company, whose lead product candidate is HEPLISAV, a Phase III adult hepatitis B vaccine. The stock was selling at more than twice its current value when it looked like the FDA approval was imminent, but instead the board decided that it could not determine the safety of the drug based on the data. Overwhelmingly the FDA asserted that the drug worked, voting 13-1 on its efficacy, but regarding safety it was a split decision (5-8, with 1 abstention), with the majority of the board needing more data. DVAX has now embarked on an additional Phase 3 trial in an effort to provide the specific safety information the FDA requires. It appears this blockbuster drug has already cleared the biggest hurdle, and initial results for the current Phase 3 trial should be available this year, with expectation of final drug approval in 2016. DVAX is also pursuing European approval of HEPLISLAV, and the company has indicated that possibly could occur by the end of 2014. DVAX also has other candidates in the pipeline with partners like AstraZeneca (NYSE:AZN) and GlaxoSmithKline (NYSE:GSK), so readers should go to the investor section of the company website to review the prospects for DVAX. The company just had a secondary offering, and it should be able to get financing for its trials if needed.

Cardica, Inc. (CRDC) designs, manufactures, and markets automated medical instruments to facilitate and improve surgical procedures, including robotic operations as well as manual. This month it obtained FDA approval for the MicroCutter XCHANGE™ 30 stapler device for medium thickness tissue. The XCHANGE 30 is the smallest diameter cutting and stapling device available today, with articulation up to 80 degrees and single-handed operation. Its shaft is 5mm as opposed to the standard 12mm for less invasive appendectomies and intestinal procedures, for instance. The company is seeking approval from the FDA for thin tissue procedures, which further opens the market for the tool. The benefits of this technology are clear in a graphic presentation on the Cardica website. The company has other approved products for coronary artery bypass graft surgery, and has shipped over 47,700 units throughout the world. The sales of approved products have not gotten CRDC out of the red, but recent and upcoming approvals may double revenue in the next year, and the analyst target price for the stock is a triple. The company also receives small license and development revenue from Intuitive Surgical (NASDAQ:ISRG). Although ISRG makes many of its own tools, it knows that the CRDC products are on the leading edge in their niche. CRDC owns valuable intellectual property, and the company may ultimately be a takeover candidate. It remains to be seen if revenue can ramp up sufficiently to balance against the current R & D losses, before outside financing is required. We like that CRDC has industry-leading technology in its niche and proven manufacturing capability, and, if money runs out, selling this microcap company would likely fetch at least the $1.19 per share stock price. The CRDC corporate website provides more details about its revolutionary products and financial fundamentals.

Galena Biopharma (NASDAQ:GALE) is developing NeuVax, a drug in phase 3 trials, to prevent recurrence in breast cancer survivors. Also, in October 2013, it began marketing ABSTRAL in the U.S., a fast-acting drug for breakthrough pain in cancer victims that is popular in Europe. There have been so many articles on this company in the past few months that I am inclined to direct readers to the Galena YAHOO website so they can read those. The reasons for the excitement are; the positive Phase 2 results for NeuVax, preliminary indications of success of ABSTRAL sales, the initiation of clinical trials to prove the GALE science also works for ovarian cancer, distribution agreements and acquisition of Mills Pharmaceuticals, which is developing drugs to combat bone marrow disease. Analysts are jumping on board, pushing the target price for 2014 to $12, a 60% increase. Our portfolios have profited 700% on GALE and we think there is room for more upside. The company sold stock to finance the NeuVax studies to conclusion in 2016. Now they seem to have money for additional studies as well as acquisitions. That tells me that the studies are coming in cheaper than expected or the ABSTRAL sales are off the charts, or both. We have no report of the ABSTRAL sales, since they just officially began this quarter, but pre-orders in September pleasantly surprised analysts. We like that GALE management has developed a distribution channel for ABSTRAL that will serve for its other drug candidates as they come on board. The near-term catalyst is the next quarterly report, but long-term we look at NeuVax as a cancer "vaccine" that will be an essential element of care for breast cancer survivors.

IGI Laboratories, Inc. (IG) develops topical generic treatments for a variety of skin ailments. For now it is in the "developmental" category, although I expect it to become "profitable" in the coming months. By my count they have 14 drugs submitted to the FDA, and approvals for any of these would serve as catalysts to improve revenue and profits. It is disconcerting that some of the applications were submitted more than a year ago, but IG did receive FDA approval for site transfer of one drug in November that should boost earnings into the black. For generic topical drugs the bar is pretty low for approval, so we have a high level of confidence that most of these will be approved eventually. IG also has a steady revenue stream from its contract manufacturing and formulation business. The generic drug sector is hot and new entrants are somewhat rare, so IG stock has been on fire lately. It has recently announced a relationship with a large, multi-national pharmaceutical company for one of the company's new drugs. This will not only provide some liquidity for the company, but collaboration with an established company may provide expertise in the approval process. It also is a verification of the validity of the IG drug candidate. The company has the manufacturing and marketing infrastructure in place to handle the approvals once they are received. Readers can review the website investor presentation for more information on this growing biotechnology company.

Cytosorbents Corporation (NASDAQ:CTSO) manufactures and markets filter cartridges that are used to remove harmful "cytokines" from blood. Originally, these were developed to treat sepsis victims in the ICU, but the technology, based on polymer beads that attract and absorb harmful bodies in the blood, appears to have many other applications in blood purification. The U.S. government has provided grant money to CTSO to study CytoSorb filters for battlefield use and for a similar CTSO product, HemoDefend, which enables blood flow fast enough through the filters to use during transfusions. CE mark approval was granted almost three years ago for the CytoSorb filter use in European hospitals, and in June the FDA gave the green light for U.S. trials. Although the filters have been available for almost three years, the marketing effort has been subdued and sales not significant, mostly due to tight funding. That seems to be changing as the company recently reported a jump in sales as more physicians become aware of the product and its benefits to patients. The momentum seems to finally be building for this product in Europe and the analyst from Zach's, in his report on CTSO, expects the price to triple to $ .50 per share. We got on board for less than a dime, but the investment was dead money in 2013. This is a bit of a lottery ticket, as the company has always been cash restricted and management has been patient and moderate in its initiatives. The latest Letter to Shareholders seems to indicate a move to a more aggressive approach, and the market reacted with a 23% jump in the stock price to $ .16 per share. It looks like funding will be required before CTSO is cash flow positive. The latest move to a more aggressive approach, combined with good quarterly comps could be the key to attract funding for an FDA trial and expanded sales staff.

Conclusion

These are the stocks that are known to double in a day or disappear in a year. They all have unique and wonderful technology or science aimed at filling a niche in the healthcare market. Unfortunately, the FDA requires rigorous testing that empties treasure chests, often to simply determine that the product does not work or is not safe. We have to take a calculated risk as to the ability of the product to get to the finish line. There are hundreds of developmental biotechnology stocks, but we are willing to pass on some of the risk and rewards by only selecting those companies that have made tangible progress toward the actual monetization of their science.

This sector of the market has been red hot, so investors may want to make their own list of stocks in this group that they can acquire when the prices drop. These stocks are very volatile and are prone to high-percentage swings in price, based on events that may be years from actual commercialization. In the majority of our stocks in this portfolio, we have sold a portion of the holdings when they popped, and so we are now playing with the "house money." Some were much higher in share price then than they are now. Investors should not be greedy when they have a short-term chance to take some profits in this group.

We have not tried to provide a thorough analysis of each of these stocks, but our goal was to introduce readers to a list of those that we think are the best-of-the-best in their niches. Investors should do their own investigation into these companies, as there are fundamentals, market size, competition and other factors not discussed in this article. What we can say is that all of these are very risky and offer a chance for rewards that few market sectors can match.

Disclosure: I am long CYTX, DVAX, IG, CTSO, CRDC, GALE, . I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: We do not know the circumstances, risk tolerance or investment objectives of our readers. There is no guarantee that any investment mentioned in this article will be profitable or appropriate for readers.