Dendreon's Woes Mask The Exciting Opportunities In Immunotherapy Companies

by: Brian Nichols

Dendreon (NASDAQ:DNDN) announced full-year and fourth quarter results before the market opened on Monday, and it hasn't been pretty ever since. The stock is trading with a three day loss of more than 25%, after a 20% loss on Monday. And although I anticipate a recovery from the 25% loss over the next several weeks, the reaction is still less than optimistic for immunotherapy believers such as myself. Therefore, with Dendreon shares being pushed lower for the second time in less than a year, the question is how investors should play the stock, and the industry as a whole?

Dendreon's earning results had obvious strengths but were mostly filled with disappointments. The company did post a fourth quarter profit of $38.1 million but posted a full-year loss of $337.8 million. The company posted Q4 revenue of $77 million, but it was still short of what investors had expected. And the company mentioned that it's targeting 50% gross margin and revenues of $500 million, but we've been down that road before and investors simply aren't taking it seriously. It has been an incredible fallout for a company that once projected $200 million in sales during the Q4 of 2011.

I think it's obvious that we're starting to see more investors jump ship on Dendreon, than ever before. There are several issues facing this company, but the two most significant have been its failure to sustain and grow its top line and the costs associated with its lead drug, Provenge. To better explain, let's take a look at the two most significant concerns: Adoption issues and cost of goods.

Adoption Issues For Provenge

The first and most significant issue has been skepticism among physicians and doctors alike. This is fueled by competition from other drugs and a high price for Provenge; a drug that only extends life by 4 months. In addition to patients paying a high price for the drug, there is also an issue regarding the reimbursement of physicians. The fact that a large amount of money has to be spent very quickly when using the drug (cost density) has led to a large number of physicians that are unwilling to use the drug. The issues with both physician acceptance and the cost/reward associated with the treatment have kept it from "taking off" as some investors had hoped when it was first approved.

Cost of Goods For Provenge

The second significant issue for the advancement and growth of Provenge is the cost associated with the drug, from a manufacturer's point of view. The current quarter shows a cost of goods (COGS) of about 75% which is not sustainable. A COGS this high can result in Dendreon losing money on every vial because of large fixed and infrastructure costs. Even with $500 million of sales the company's COGS would still be around 50%, according to the PR, which is very high for a drug that is the first line in a long pipeline of future immunotherapy-based drugs.

There are several issues for Provenge but these are the most significant issues that I identify as an investor. But to be fair we must at least mention that the company has significantly increased its total number of sites and did report decent revenue that shows an increase in demand, although short of expectations. Also, its recent trial does suggest that Provenge extends life much longer than its advertised 4 month average; and the company has established a much better reimbursement program for physicians which could build confidence in using Provenge as a treatment. But even these areas of improvement don't replace the fact that Provenge is very expensive to manufacture and has a long road ahead.

As a long-term investor I am not sure that Dendreon's Provenge will ever reach the level of profitability and high sales that we once imagined. Nor am I certain that Provenge will be considered a drug of choice among physicians five years down the road, because once the trust is lost, I think it's hard to regain, especially considering the advancements in current cancer research and treatment. I look at Provenge as a gateway for other immunotherapy-based drugs to enter and succeed through its trials and errors. Not only do I believe there are much better drugs than Provenge, but I believe that Dendreon is priced too high considering the number of questions that surround both its immediate and long-term future.

The idea behind immunotherapy is to use a person's own immune system to fight and target cancerous cells, without affecting normal cells. Each product has a unique way of accomplishing this goal but the theory behind immunotherapy is that it can target individual cells and treat the cells from the root. I believe that immunotherapy will become the standard of care for cancer treatment over the next 10 years; and will succeed where radiation and chemotherapy have failed. As a result, I am quite bullish on the industry and believe there are several great companies in this field.

There are two specific companies that I like much better than Dendreon as a long-term investment: Galena Biopharma (NASDAQ:GALE) and ImmunoCellular Therapeutics (NYSEMKT:IMUC). Both companies are showing significant breakthroughs in cancer research and have lead candidates that I believe will challenge and change the way that we as a society perceive cancer. I prefer these two companies over Dendreon for several reasons, but mostly because the level of value that is being presented along with the candidates of each company.

ImmunoCellular Therapeutics

Dendreon's Provenge is a drug that extends life for an average of 4.1 months. However, ImmunoCellular's lead drug, ICT-107, has shown in early testing that 40% of patients who use the drug are disease-free after three years. ImmunoCellular's lead candidate, ICT-107, treats glioblastoma, which is one of the most deadly forms of brain cancer with an average life expectancy of just 14 months, with only 6% surviving three years. Therefore a 40% survival rate after three years is simply incredible considering the mortality of the disease. A drug such as ICT-107 should have no problems in gaining acceptance among the medical community with advantages that show an obvious change in the quality of a patient's life. In addition to ICT-107, the company has several immunotherapy candidates in its pipeline including ICT-140 for the treatment of ovarian cancer. ImmunoCellular popped more than 17% on Wednesday after news that the company reached an agreement with John Hopkins University and was granted worldwide license to the intellectual property surrounding the tumor-associated antigen mesothelin. This news directly affects ICT-140 since mesothelin is highly expressed in pancreatic and ovarian cancers. It also means that ImmunoCellular is strengthening its intellectual property rights and paving the way to further develop ICT-140.

ImmunoCellular is a very small company with a valuation of only $70 million. The company is enrolling patients for phase II testing of ICT-107, and so far, in early testing, the results have been incredible. The stock has been gaining momentum over the last few months, but has returned a one month gain of 80% with significantly higher volume. Biotech companies have the ability to appreciate very quickly, and if ImmunoCellular continues to produce results similar to its early testing then it could become a once-in-a-lifetime opportunity.

Galena Biopharma

The other immunotherapy company that I believe is presenting significant upside is Galena Biopharma. Much like ImmunoCellular, it's a small biotechnology company with a $50 million valuation, that focuses on cancer research. The stock has traded higher over the last week as a result of the company announcing its record date of March 8 for its one-for-one spin-off dividend. The spin off will allow Galena to focus all of its energy and resources toward cancer immunotherapy developments.

The stock has traded with momentum in 2012, with a 140% return, after clinical trial results deemed NeuVax safe and well-tolerated along with extending the life of breast cancer patients and lowering the risk of recurrence. NeuVax is the company's lead candidate and is currently in phase III testing. In phase II, a 36 month study, the drug was tested and compared with a controlled group. The results found a 0% recurrence rate in the vaccinated group compared to a 22% recurrence rate in the control group, which suggests that NeuVax is effective in lowering the risk of recurrence in breast cancer patients. It treats 50% of patients with breast cancer that are HER2 positive, which is a significant number of potential patients considering the abundance of patients diagnosed with breast cancer on any given year. Its tough to predict future sales, but Herceptin, a similar drug that targets 25% of breast cancer patients, returns $5 billion in annual sales. Therefore, it's safe to say the upside potential for this $50 million company, with a drug that targets 50% of breast cancer patients, is quite high.

Provenge may be the face of immunotherapy drugs but I don't believe that Dendreon presents the best opportunity. I specifically mention Galena and ImmunoCellular, but the truth is there are several late stage immunotherapy drugs that are presenting significant upside potential. Provenge may catch fire and reach $500 million in sales, but so far the company's been short of guidance on every occasion. And with its off-the-shelf product being produced for roughly $20,000, compared to Galena's NeuVax being produced for significantly less than $1,000 per dose, I just can't find the value in Dendreon's stock. Even ImmunoCellular has publicly said that its glioblastoma drug, ICT-107, will have a cost-per-dose less than $1,000, despite it being a complicated autologous product. Dendreon simply has too many high costs and I am not convinced that the support is present for Provenge to become a consistent provider of net income that can result in long-term growth for the company.

There are some great companies with immunotherapy candidates that are being traded in the market. Oncothyreon (ONTY) is a late stage $370 million company that is awaiting interim data from its phase three trials. The company has been quite successful in treating non-small lung cancer with its immunotherapy treatment. Vical Incorporated (NASDAQ:VICL) has a lead candidate in phase III that treats melanoma, which could hit the market in 2013 if approved. The company trades with a market cap of $235 million and a significant amount of investor optimism. The number of immunotherapy companies with great drugs that are showing incredible data are quite plentiful, which I believe speaks volume for the immunotherapy treatment of cancer. I choose Galena and ImmunoCellular as the top two because no other company in this class has the same value presenting balance of potential and results.

I think that because immunotherapy is new to so many of us that we aren't sure of how to appropriately identify value in the industry. I often argue that there is no class of companies with a larger distinction in value than immunotherapy. Both Galena and ImmunoCellular are small companies but have incredible results with candidates that could very well become highly profitable drugs. Therefore, it's hard to validate the low valuations of both companies; especially when companies such as Verastem (NASDAQ:VSTM), which is 3-5 years behind either ImmunoCellular or Galena in the approval process, trades with a valuation of $235 million. And a company such as Micromet (NASDAQ:MITI) that is only slightly ahead in the approval process, is valued at $1 billion after being bought by Amgen (NASDAQ:AMGN). However, Micromet's value is small compared to Boston Biomedical, which was bought on Wednesday for a proposed $2.6 billion because of success with its two immunotherapy candidates and its advanced research in stem cell technology. The bottom line is that immunotherapy is an industry that has significant value, with companies that are inappropriately priced. They shouldn't be overlooked because of Dendreon's problems.

Dendreon trades with a market capitalization of $1.65 billion after losing 25% of its value over the last three days. Overall, I think the stock will trade higher but I am not sure that it should. I am not necessarily bearish or bullish on Dendreon because I think it's too soon to draw conclusions. At this point we know that the company's costs are too high, its top drug's life expectancy projection is questionable, but we also know that Provenge is finally starting to gain momentum among physicians. In sum, the early troubles of Provenge have created pessimism among investors, yet I don't think the pessimism should be a reflection of the industry.

Provenge is a very expensive drug to manufacture and requires a large and complex infrastructure so that it can succeed. I personally believe there are better choices in immunotherapy and that over the next year, as new drugs hit the market, we will see a shift in power from Dendreon to other areas of immunotherapy treatment. I may be wrong or I may be right, but one thing that I am certain is that there are a large number of cheap companies that are being traded with unprecedented upside potential in this class of innovating cancer companies. As an investor I am bullish on the industry and certain companies, but don't feel comfortable with the questions that are left to be answered from Dendreon's most recent earnings report. Therefore, I will use Dendreon's quarter as a warning sign, until proven different, and will seek value in other companies within this industry such as Galena or ImmunoCellular.

Disclosure: I am long IMUC, GALE, ONTY.