I have spent many years around construction projects. I admire the ironworker with old weld scars on his arms from honest labors, and deep wrinkles in his face from erecting high beams close to the sun. A life of living on the edge takes its toll, even in the form of frown lines on stock analysts.
This article focuses on three pharmaceutical companies that are flourishing in the business of protection, healing and repair of skin. All three of these stocks have outperformed the market recently as a result of strong financial results. Each one employs a different science as the basis for its product development, so a consideration has to be how insulated each is to competing science. We need to determine how each can maintain and grow its market presence in the skin care industry, and if its recent rise leaves any possibility for stock price appreciation in the future.
Obagi Medical Products (NASDAQ:OMPI) develops and markets topical aesthetic and therapeutic skin health systems. Its core Nu-Derm system for skin enhancement is formulated around a 4% hydoquinone solution. Hydroquinone is a recognized skin bleaching solution, and is improved with minerals, vitamins and other generic chemicals. In a 4% concentration a doctor's prescription is required, and the product is generally purchased at the dermatologist's office. OMPI also sells some OTC-approved products through healthcare professionals.
The Nu-Derm products are recognized as effective in improving the appearance of skin, and management is guiding for a 4 - 9% sales increase in 2012. The company did report modest sales gains in 2011, but OMPI registered an impressive 30% increase in EPS to $0.86, yielding a PE of 15 at today's price of $12.74.
Hydroquinone has been around awhile, but last year the State of Texas launched an investigation into the use of concentrated hydroquinone, and that state represented about 8.8% of the Nu-Derm market. OMPI shares plummeted on the news, and it is only now trading where it was before the investigation. Last month, the investigation cleared the product without restrictions. The State of California is now looking into the 4% hydorquinone issue, but has not postured that it intends to restrict the product in that state.
There are many skin enhancement creams and lotions in the market, and OMPI is not immune to competition. It does differentiate its products from some others by marketing them through the healthcare professional. We think this allows the price to be higher than a drug-store competitor, and the seal of approval of the physician lends credibility to the product. The dermatologist has an opportunity to make a profit on the sales, so they are inclined to sell the patient products out of their own inventory, rather than prescribe or recommend another product.
We think that the company recognizes that it cannot solely rely on its science to draw customers to its products, and it is taking bold measures to improve its position in the market. The company announced in its fourth quarter press release: "Investments will be made during 2012 in order to establish the Company's e-Commerce channel and establish a robust nationwide online pharmacy." Management projects this initiative to cost about $11MM, representing a hit to 2012 EPS of between $0.29 and $0.31, and reducing 2012 guidance to $0.58 to $62 per share.
While there is likely to be some rough comparisons in 2012 quarterly reports, once the knee-jerk reaction subsides, we think most stockholders will realize that this is a necessary strategy to establish a long-term growth path for Obagi. With an eye to existing and looming competition, OMPI can build on their reputation and differentiate themselves with this investment. The healthcare providers will have the flexibility to reduce inventory and earn profit on internet sales, as we understand it.
OMPI's products have been on the market long enough for the initial market penetration. The nearly flat sales in 2011 were a result of 11% international growth and the loss of Texas sales. The company has recently introduced a few more products into an already crowed market, so prospects for growth must come now from marketing and delivery. After all, if you don't like Nu-Derm, you might try Nu Skin (NYSE:NUS), a competitor ten times larger than OMPI.
The ride for OMPI in 2012 will be bumpy, and its value metrics (P/S = 2.0, P/BV = 3.9) do not provide strong shock-absorbers. We think the e-commerce initiative will ultimately be successful, but there may be opportunities to get this stock at a better price later.
Analysts predict the one-year target to be about $16.
DUSA Pharmaceuticals (NASDAQ:DUSA) has a more complex treatment for actinic keratosis (NYSE:AKS), commonly known as "sun spots." These are normally benign, but if left untreated they can evolve into cancerous carcinoma. The treatment consists of an application of a topical solution (Kerastick), a penetration and incubation period, then exposure to a blue light, which eliminates the AKs. The treatment generally takes two appointments: one day for the solution application and the next day for the blue light treatment. The treatment can also be effective on mild to moderate acne.
The dermatologist is required to purchase the blue light and find a corner in the office to locate it. It costs about $7,500 and the reimbursement for the entire treatment is about $146. The investment in the light can pay for itself in a few months. The principle alternative treatment is cryogenics, to "freeze" the AKs.
DUSA recently reported a 24% increase in revenue for 2011 over the year earlier. It sold about 300,000 Kerasticks and almost 300 blue lights. Net earnings of $0.36 per share yields a PE of 16, considering the present stock price of $5.81. The market cap is about three times sales and five times book value, so DUSA is not exactly a value proposition.
The company is currently conducting trials to modify the treatment in order to shorten the treatment time. It also has done preliminary studies to determine that the treatment can also be a deterrent to sun spot eruptions if applied over the entire face and scalp.
DUSA is an interesting investment candidate. It essentially has one treatment system, and the research costs are only for the new studies they are conducting to try to extend their market penetration. The logistics of the two-stage treatment is definitely a potential problem for the healthcare professional and the patient alike. Even shortening the incubation time to a few hours does not solve this complication. If DUSA could develop the treatment as a preventive measure, they could theoretically expand the market to patients that actually do not have sun spots.
Once an office has invested in the blue light we can be sure that the treatments will be encouraged by the dermatologist. That results in repeat sales of Kerasticks and a reliable income stream; therefore, subsequent years should show growth in revenues as more lights are sold. The relatively low-tech process of freezing the AKs seems to have cost and convenience advantages, although scarring is more likely. Other companies are working on other alternative treatments and medications to cure cancerous eruptions. A breakthrough could make this treatment and DUSA obsolete. Considering the mediocre value metrics, the current price indicates that investors do not expect competition to interfere with growth for some years to come.
Analysts place the DUSA one-year target at $7.50.
Anika Therapeutics, Inc. (NASDAQ:ANIK) develops, manufactures and commercializes therapeutic products for tissue protection, healing, and repair. These products are based on hyaluronic acid (NASDAQ:HA), a naturally occurring, biocompatible polymer found throughout the body. The company offers aesthetic dermal fillers for the correction of facial wrinkles, advanced wound treatments and regenerative tissue technology. Actually, the dermatological products are a small part of ANIK's revenue, as the lion's share comes from treatments for osteoarthritis of the knee and other surgical aids.
The last quarter ANIK revenue grew by 24% and year-end EPS was $.62, a PE near 20, given its price of $12.25. ANIK has a start-up Italian division that became profitable in Q4, as some of its products are marketable in Europe but are awaiting FDA approval. The forward EPS of $1.05 and PE of 12 are probably more meaningful for a full year without the start up losses. From a value point of view, ANIK has about a $7 book value, and its market cap is less than three times sales.
ANIK is not a pure play on the skin care industry, but the science of its dermatological products is more complex than the other two companies discussed in this article. We think that the medical niche it is filling does not have competition with the same kind of sophistication. For instance, while some fillers simply fill the wrinkle areas, the HA fillers provide bio-chemical changes to firm the skin cells and add elasticity.
The real ANIK growth machine is its joint treatments. It recently received a $2.5MM payment for the distribution rights for a product in this group that is not even approved by the FDA yet. ANIK also has an initiative to move all manufacturing to a new plant in Bedford, Mass. That should reduce product costs and facilitate inventory control and shipping.
Analysts place the one-year target for ANIK at $16.
The anti-aging industry is growing leaps and bounds as affluent older people seek the fountain of youth. These three companies are only a few that are targeting that market. Each has had a good run, and analysts predict about 30% price appreciation for each in the year ahead. We must decide what to do now.
Given the ambitious and costly initiatives of Obagi next year, its further price appreciation may be delayed awhile. There could be a big payoff in coming years as the e-commerce initiative may be a differentiator in a competitive segment.
DUSA likely will have growth at least in 2012, but, considering the recent rise, we do not expect the price to appreciate much further short-term. We would prefer to wait for the Q1 report to see if sales are accelerating or stabilizing.
We think the Anika science will continue to yield new products, and its stock offers excitement as a long term holding. Although its good value metrics do not mean much to most biotech investors, it is important to us. We consider this the safest of the three for the short term.
Disclosure: I am long ANIK.