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Over the last few weeks I've written several articles that highlight the dangers of trading microcap stocks. However, I've also provided a guideline, within these articles, of what to look for in very small companies that have upside potential beyond its valuation. Galena Biopharma (GALE) is a stock in this category that has a great treatment in late stage clinical trials that I believe is undervalued. Therefore, I will be looking at GALE and its NeuVax treatment in an attempt to determine the value of this company. But I will begin by looking at the valuation of several biotechnology stocks with insanely large valuations that are yet to sell one drug. These companies will be compared to three of the fastest growing companies in the market, that each began with a small cap valuation throughout clinical trials.

A low valuation with drugs entering phase III, or in phase II, is nothing new for biotechnology companies. From what I've seen, biotech companies are either undervalued or significantly overvalued throughout clinical trials, which can be seen in recently acquired Inhibitex (INHX) along with several other speculative biotechnology stocks that are yet to garnish an approval from the FDA. To better explain, I have included a few speculative biotech companies that have returned incredible gains in a short period of time that are still yet to sell one drug.

Company

Ticker

Date

Price 2009

Current Price

Inhibitex

INHX

05/2009

$0.35

$25.50

Amarin

(AMRN)

03/2009

$0.60

$8.49

Achillion Pharm.

(ACHN)

01/2009

$0.75

$11.00

Pharmacyclics

(PCYC)

02/2009

$0.60

$18.49

By including the chart above, I am not insinuating that GALE will return 7,000% in a three year period, I am simply showing the value of other companies in late stage trials. The companies above have ridiculous valuations and are yet to sell an approved drug. Each are speculative companies in which investors hope that approved drugs will bring large fortunes to the specific company. But with billion dollar valuations during clinical trials how much larger can these stocks become over a period of 2-3 years, especially considering the lack of returned revenue.

The world of biotechnology is a very confusing industry with valuations that rarely make sense. I'll give you an example: Amarin is yet to return one penny in revenue, but has a $1 billion valuation. The reason for its valuation is successful data from both of its concurrently running phase III trials and a candidate to treat high triglycerides that could be used to treat 40 million people in the U.S., according to the company. However, a company such as Spectrum Pharmaceuticals (SPPI) which is one of the top 5 fastest growing biotech companies in the market, has nearly $175 million in revenue and $45 million of net income, during the last 12 months, is trading with a valuation of just $800 million. And might I add, it has two drugs in late-phase testing with two already approved drugs that are both returning very high revenue year-over-year.

I've always found it difficult to justify high valuations for biotech companies that are still in clinical trials, because a billion-dollar speculative company doesn't have the room to grow through its successful drug. Therefore, I personally prefer stocks with low valuations in clinical trials that have solid candidates with the potential for high revenue, such as GALE and its technology with breast cancer treatment. I have found that just because a stock sports a high valuation in clinical trials doesn't guarantee an approval, which can then lead to unprecedented loss.

To better support my opinion, just look at two companies: Questcor Pharmaceuticals (QCOR) and Jazz Pharmaceuticals (JAZZ). Both companies had low valuations during clinical trials but after successful products both companies have returned some of the best gains in the market. Since May 2009 JAZZ has returned 8,000%, and QCOR has returned 4,200% since October 2007. The reason being both companies had small valuations during clinical trial which allowed the companies to appreciate through sales growth not speculation. In my opinion, I prefer this strategy compared to buying high valued speculative biotech companies that may or may not be awarded an approval.

Galena's medical focus is to control and eliminate cancer. It's one of the most devastating diseases in the history of mankind, but with new technology, biotechnology companies are making strides to create better treatments that save lives. Each year, nearly 1.6 million new cases of cancer are diagnosed with roughly 570,000 deaths in any given year. There are more than 100 varieties of cancer that are then divided into six major categories, which is making the treatment of the disease very difficult. Despite technological advances the mortality rate of cancer has steadily increased over the last 50 years, with it now being the second leading cause of death.

I've always felt that companies which focus on cancer research have upside potential, because it is a disease our society is fighting so diligently to defeat. One of the most common forms of cancer is breast cancer, which also has the highest costs associated with the disease, compared to all other forms of cancer. The National Institutes of Health estimate that in 2010 we spent $124 billion on cancer, with $16.5 billion being spent on breast cancer. Because of its high mortality rate and the amount of annual spending on the treatment of various cancers, the pressure to find an effective treatment has never been higher.

After my own due diligence, I am quite impressed with the treatment initiatives at Galena Biopharma, a company that focuses on breast cancer via immunotherapy. The company trades with a market cap of just $27 million, after a one-month gain of 39%. The company's lead candidate, Neuvax, for the treatment of breast cancer, has initiated its phase 3 PRESENT trial, in which the drug's effectiveness will be tested with 700 breast cancer patients. The company's outlook for the phase III trial is quite bullish, with it having hardly any debt and nearly $16 million in cash, or half of the company's total valuation.

The value in this company comes from two separate factors: The fact that its phase II study was successful and identified the drug as safe and well tolerated along with the success of another trial with a similar drug (Herception) that is already approved which could reflect future sales. To fully understand the value of this stock you must understand the potential market for its breast cancer treatment. There are over 200,000 women diagnosed per year with this form of cancer and only 25% are eligible for Genetech's already approved drug, Herceptin, which returns annual sales of $5 billion throughout the globe. GALE's drug, NeuVax, doesn't necessarily compete with Herceptin, it targets an additional 50% of patients that are HER2 positive. The treatment attacks new cancer cells eliciting an immune response to Her-2 protein on cancer surface, which has already been proven to be effective.

NeuVax forces the body's immune system to respond and to work more efficiently. The vaccine is specific and doesn't affect normal cells. It finds the cancerous cells, with T-cells upregulated by Neuvax to specifically look for breast cancer cells expressing Her-2, and then helps eliminate and prevent the recurrence of the disease. The company's use of peptide/adjuvant combination plays a substantial role in treating the disease by locating cancerous markers that may otherwise be left untreated or unfound. T-cells produced by this vaccine reduce the presence of the disease and then slows or prevents the disease progression. A drug such as this has the potential to be transcendent, in the treatment of breast cancer, assuming its late stage trials prove to be as effective as early testing.

NeuVax has shown promising data to suggest that it can treat individual cancerous cells without damaging healthy cells for breast cancer patients. I find this fact to be encouraging, and combined with its cheap valuation I believe there is a high level of value in this company. Most biotech companies with market caps under $30 million are either pre-clinical trial developmental companies or have given the market a reason as to why the drug may not be successful. GALE is still struggling with its predecessor company as the RNAi technology failed to advance at the expected pace. I'm not certain, but it's possible that the problems encountered with the RNAi technology have created a level of pessimism among investors. However, the company's new technology is much different and if early trials are any sign of what's to come, then NeuVax could become a drug that both saves lives and returns high profits.

As I have stated, NeuVax has given all indications of being a successful drug in its early phases, and has received encouraging praise from those with personal experience with the treatment. Even Oprah Winfrey has endorsed the drug in her magazine after a successful study at Brooke Army Medical Center. The following is a sample of a publishing in O, the Oprah Magazine.

Researchers at Brooke Army Medical Center, in San Antonio, Texas, are having some success in vaccinating breast cancer patients against the disease's return. The doctors tested the NeuVax vaccine in women who had been treated for early stage HER-2 positive breast cancer. After two and a half years, the vaccinated group not only had a lower risk of recurrence but was twice as likely to survive. The study was too small to draw significant conclusions, but the next round-which may involve more than 700 patients-could deliver news that women battling this disease have much better odds.

"If a business does well, its stock eventually follows," is a quote by the great Warren Buffet. It means that despite the ups and downs of the market, over the long term a good company will rise. I call it Value Investing 101. GALE is one of many biotech companies that have a good product and strong data that are in late phase testing with a low valuation. It should be expected that as encouraging data is released its valuation will become higher, however it's not a billion-dollar speculative company that is yet to return revenue. I prefer the SPPI, QCOR and JAZZ's of the market, that have great treatments but are undervalued which is why I am bullish on companies in cancer treatment such as GALE with strong data making it undervalued rather than overvalued in the industry of biotechnology.

Source: Illogical Biotech Valuations Create Value And Value Traps