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Morgan Joseph just put out a report saying that Synergy Pharmaceuticals (NASDAQ:SGYP), a $300mm market cap company, is worth $15 a share. The stock is currently at $3.60 as I write this. I’ve rarely seen such a discrepancy from an analyst report price target and the actual price. Oh, wait; I actually have seen such a discrepancy: When Pharmathene (NYSEMKT:PIP) was at $1.70 and this exact same analyst (he was at Noble then) called it a $20 stock. Pharmathene is now at $4.

SGYP develops a compound for curing irritable bowel syndrome as it relates to constipation. Obviously this is a huge market. More on this in a second.

I want to explain first why I like the analyst: Raghuram Selvaraju, who has a Ph.D. in biotech. Anyone who knows how I invest knows that I like to follow success. Here’s Dr. Selvaraju's track record. He initiated coverage on Amarin (NASDAQ:AMRN) at $0.85 a share just two years ago in 2009; now it has a market cap of $2.4 billion and stands today at $17.44 per share. He started coverage on SIGA and PIP before both stocks took off. Last year he initiated a buy on IBIO (NYSEMKT:IBIO) at $0.80 per share; within three months it hit $4.50 per share. He initiated coverage on Achillion Pharma (NASDAQ:ACHN) at $2.70 in July 2010 and it went to $7.00 by Febraury 2011. He knows how to identify diamonds in the rough. That’s the kind of success I like to follow.

This is the key paragraph in the report, in my opinion, and I’ll explain why this paragraph means SGYP is worth $15 or even higher:

Over 100 million people worldwide are estimated to suffer from constipation-predominant irritable bowel syndrome (IBS-C) or chronic constipation (CC) …. In our view, Synergy’s lead drug candidate, plecanatide, is a substantially risk-mitigated asset, as this drug has already demonstrated proof-of-concept efficacy in a Phase 2a study and shown exemplary safety, with no incidence of diarrhea as a significant adverse event. In addition, we note that linaclotide, a closely related compound that shares a mechanism of action with plecanatide, has demonstrated positive efficacy results in four Phase 3 trials, spanning both IBS-C and CC. Linaclotide ― developed by Ironwood Pharmaceuticals ― is the subject of three high-profile corporate partnerships with Forest Laboratories (NYSE:FRX) in the U.S., Astellas (OTCPK:ALPMF) in Asia, and Almirall S.A. in Europe.

So why is this the big paragraph? The drug is basically the same as the Ironwood (NASDAQ:IRWD) drug. In fact, the scientists come out of the same lab. The Ironwood drug works, so we know the Synergy drug will work. However -- and this is key -- the Ironwood drug had the adverse effect that it causes diarrhea. So while the drug works (you get rid of the constipation), some might view this as a negative.

In fact, According to a Merrill Lynch report written by research analyst Rachel McMinn on October 6, 2010 about the Synergy drug, "The one specific detail noted is that none of the patients experienced diarrhea, a side effect noted with [the Ironwood drug]." She also notes, "the mechanism of action of the two drugs is identical."

In other words, we have a potential $20bb market with two drugs that act the same, except one drug causes "Montezuma's revenge" (Ironwood) and the other doesn't (Synergy).

You might wonder: So Synergy and Ironwood are basically the same except this one negative on Ironwood; shouldn't their market caps be similar? And what’s Ironwood’s market cap and what’s Synergy’s?

Ironwood has a $1.5 billion market cap. Synergy's is $324 million -- an almost 400% upside potential on Synergy. By the way, Ironwood only owns 50% of the rights to its product, while Synergy owns 100% of the rights. So now you can double their upside potential, which is why I think Morgan Joseph is too conservative with the $15 target and the stock can easily be $25-30.

Actually, even Morgan Joseph acknowledges its $15 target is too conservative. On Page 7 of the same report it states:

We would note that, if plecanatide were to be valued similar to linaclotide, the implied price per share of Synergy stock would approach $45, without considering Synergy’s pipeline.

What’s the downside? I have no idea. Synergy works as well as Ironwood, and companies in the sector are getting acquired left and right (the Morgan Joseph report mentions Shire (SHPGY) buying Movetis for $600mm).

Before you start slinging the pump and dump accusations, look at my track record, Trust that I’m a long-term holder and have researched the space, and look at Dr. Selvaraju’s track record.

Then, if you want to short the stock, look at the effectiveness and history of the SGYP drug and the IRWD drug and compare the two. Read the Merrill Lynch reports on the companies. Read the Morgan Joseph report which came out Friday and compare the market caps of the two companies.

Disclosure: I am long SGYP, PIP, SIGA.

Source: Why Synergy Pharmaceuticals Could Go From $4 to $40

Additional disclosure: I may trade these positions in any way at any time.