Dendreon Ready For A Rebound

| About: Dendreon Corporation (DNDN)


Dendreon has multiple positive potential catalysts in 2014-2015.

The negative argument against DNDN has been over-hyped.

The approval of Provenge in Europe reinforces the medical consensus about its efficacy.

A scientific consensus is emerging that the most likely future cure for cancers will be highly specific combinations of immunotherapy and checkpoint inhibitors, tuned to the specific genetics of the individual cancer target. Likely this will be in addition to the current standards like chemotherapy, surgery, and radiation.

If that is true then the next generation winners in cancer biotechnology will be companies that can acquire both types of agents. Immunotherapy companies could license checkpoint inhibitors, or vice versa, or larger companies could license sets of both from smaller innovators. Companies that successfully license single therapies to these winners should also do well.

Dendreon (NASDAQ:DNDN) has an immunotherapy for prostate cancer already commercialized in the U.S. and in the process of commercialization in Europe. Yet the stock has done poorly as the company continues to generate losses. DNDN is cheaper per share today than it was in 2006 when most sell-side analysts were saying Dendreon's Provenge would not be approved by the FDA. The main reason for losses and the poor stock price is the high cost of Provenge production and lower-than-breakeven revenues due to competition from other prostate cancer therapies.

I believe that Dendreon, while having its difficulties, has upward potential, and will make that case here. The case against Dendreon has been made many times, but it is worth studying. I would recommend Bill Maurer's Dendreon Will Get Much Worse Before It Gets Better for recent survey of the negative side of the story. I see Dendreon as a risky bet even in the $3.00 per share range [52 week high: $5.38; 52 week low: $2.23], but with a upside potential if Dendreon executes well this year. I believe a positive scenario has a reasonable possibility of taking place even if Dendreon is not acquired or is not able to license its immunotherapy platform for combination with checkpoint inhibitors.

The three biggest factors that will determine whether Dendreon succeeds this year are Provenge revenues in the U.S., cost controls, and execution in Europe. I don't expect any meaningful revenue from Europe until 2015. Regulatory approval in Europe is one thing, but getting nation-by-nation approval for reimbursement can be challenging. Almost all therapy payments are from government health programs that watch costs far more carefully than private insurers, or even Medicare, do in the U.S. Dendreon will need to be far more cost efficient in Europe than they have been in the U.S., as the allowed price of Provenge therapy may be reduced to about $80,000 per patient. The figure may vary by country.

While arguments continue to rage about the relative effectiveness of Provenge and rival therapies, the main problem for Provenge sales in the U.S. has been the difficulty of administration. Provenge patients have some of their blood removed. It is then sent to manufacturing centers where it is taught to attack prostate cancer cells. Then it is shipped back to be re-infused into the patients. This process is done three times for each patient. Rival therapies Xtandi [by Medivation (NASDAQ:MDVN)] and Zytiga [by Johnson & Johnson (NYSE:JNJ)], while also expensive in the long run, involve giving patients pills. The pills have side effects typically worse than Provenge, and don't seem to be significantly more effective, but they are much easier to administer. Both patients and doctors understand the oral therapy model.

Given that none of these therapies typically does more than delay progression of the disease, Dendreon has been arguing that giving Provenge with either Xtandi or Zytiga may be more effective than any single therapy, and is conducting trials to see if the data supports that view.

In the end reported revenue is the best indicator of doctor and patient demand for and understanding of Dendreon's therapy. Here are results by quarter for the last three years:

Provenge revenues, millions 2011 2012 2013
Q1 $28.1 $82.0 $67.6
Q2 $49.6 $80.0 $73.3
Q3 $65.8 $78.0 $68.0
Q4 $77.0 $81.6 $74.8

You can see the ramp in 2011 that gave DNDN investors hope, the flattening in 2012, and the drop at the beginning of 2013. It is important to note that even in 2012 at about $240 million in annual revenue Provenge cost more to manufacture and market than it generated in revenue. Given the drop off in 2013 and ongoing losses, investor disenchantment with Dendreon is understandable.

With two rival sales forces pushing at doctors, Dendreon can't afford to cut back more on sales and marketing expense [that expense line is already down 30% from its peak]. There is some hope for decreasing cost of goods sold, but given the need for FDA approval for changes in manufacturing processes, it is hard to predict when this will take place.

The best hope come from the medical science. Dendreon's immunotherapy has been under continuous attack from detractors for the better part of a decade now, but the scientific evidence that it is safe and effective has accumulated over time. Like most cancer therapies, Provenge only works some of the time, and so far the science does not make it clear why. However, a good guess would be that at least some of the cancers resistant to the killer T-cells created by Provenge are masking their nature with checkpoint inhibitors. In any case the benefit to some patients is still measurable, the FDA's decision to approve Provenge has been independently confirmed by the EMA in Europe, and men are still seeing their cancers progress despite taking Xtandi or Zytiga.

It is fair to conclude that the pool of potential Provenge patients is considerably larger than the number that receive therapy each quarter. Within certain types of practices the use of Provenge has been growing, notably the oncology community, which grew 19% in Q4 versus Q3. This subcategory ramp may provide a basis for a future ramp in overall revenue.

A phase II trial testing Provenge sequenced with Xtandi began enrollment in Q4, and one with Zytiga is already fully enrolled. These trials take quite a while, however. Phase II results may increase physician knowledge, but a label change would require successful phase III results.

Five years ago I thought much of the value in Dendreon was not specifically in Provenge for prostate cancer, but in the platform, the general methodology for making the immune system attack cancers. Dendreon since got bogged down in just trying to survive, but it still has the platform and a pipeline. These might be of interest to an acquirer. The most advanced candidate is DN24-02 which targets HER 2/neu receptors. It is currently in a Phase 2 trial for HER2+ urothelial carcinoma, but also has encouraging Phase I results for breast, ovarian and colorectal cancers.

The best case scenario for Dendreon as a standalone company for 2014 would count on rapid execution in Europe, rapid reduction of cost of goods sold and operating expenses in the U.S., and a resumed ramp of patients initiating treatment in the U.S.

The last number is where we are most likely to get an upside surprise, but it does not look good so far. Dendreon gave guidance for Q1 2014 on March 3rd, which is enough into the quarter to expect it to be reasonably accurate. They said revenue would be "consistent" with Q1 2013, which had revenue of $67.6 million. Q1 is likely seasonally weak because there is a lag between decision making by the doctor and patient and initiation of therapy, and that decision making typically is minimal between Thanksgiving and New Years Day. Even beating $67.6 million would not mean much, unless it is a big beat.

I would note, however, that guidance for Q1 2014 is for a much smaller seasonal drop than the one that occurred in Q1 2013. That might indicate a decent acceleration into Q2.

It would be optimistic to expect the rest of 2014 to reach a run rate of $75 million or more per quarter. Given that kind of run rate, I don't expect Dendreon to get in the black in 2014, but I think at the high end of the conceivable revenue run rate Dendreon could get close to break even on a cash basis. Dendreon ended 2013 with $199 million in cash and equivalents, which seems like a lot until you look at the $588 million in convertible debt notes.

At $3 per share Dendreon has a market capitalization of about $477 million. Short interest has been running about 44 million shares lately. Past Dendreon good news, like the approval for Provenge in Europe, has tended to be discounted by the market. The shorts may be right, but the downside is limited by the likelihood that, at some price, Dendreon would be acquired. Worst case scenario, Dendreon investors lose another $3 per share.

The upside is unlimited in the longer term. A higher than expected ramp in U.S. revenue, combined with a quicker reduction in costs than we have come to expect from Dendreon management, would be the one-two punch that would knock out the short positions.

If Europe generates positive cash flows, or if DN24-02 gets positive phase II results, or if Provenge can be licensed for combination with a checkpoint modulator therapy, Dendreon would be worth much more than it is presently.

In 2013 some shorts argued that Dendreon would not be approved in Europe. They were wrong. Dendreon could have saved considerable money by not seeking approval in Europe. Now they have approval, and there is some preliminary evidence that cancer immunotherapy in Europe is viewed more positively than it has been in the U.S.

Each of the several possible positive Dendreon events appear to me to have a greater than 10% probability. In total they add up to a strong likelihood that Dendreon will not sink into bankruptcy, or be acquired at a bargain price, but will eventually emerge from its troubles and become a biotechnology leader. I see no point, however, to hazarding a target share price on any particular time horizon when so many variables are at play.

Disclosure: I am long DNDN. 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.