The biotechnology sector is one that is filled with much risk, but also much reward. Too often, people see the biotechnology sector as one that exists only for trading around FDA announcements or mergers and acquisitions. But there are biotech companies that present long-term opportunity for patient investors. And we would like to highlight such a company.
Human Genome Sciences (HGSI) is a Maryland-based biotechnology company that has several products on the market, and several in the pipeline. We first recommended Human Genome Sciences on August 29, 2011, at a price of $12.63, calling it a buy for investors with a high-tolerance for risk. Since then, the stock has fallen sharply, as the company failed to meet expectations. But we feel that at current prices, the shares are simply too cheap to ignore. The company's fundamentals have in no way deteriorated as much as the decline in the stock would suggest.
Benlysta (belimumab) is the company's lead drug, and it is an antibody created for the treatment of lupus (systemic lupus erythematosus), and when it was approved in 2011, it became the first new lupus treatment approved by the FDA in 50 years. Human Genome Sciences also sells raxibacumab, an inhalation anthrax treatment, to the American government for use in the Strategic National Stockpile. Before we continue laying out the thesis for Human Genome Sciences, a quick overview of the company is in order.
Human Genome Sciences has had quite a journey over the past 5 years, as the stock gyrated wildly on hopes for Benlysta's approval and then its commercial potential. In the past 5 years, the stock has traded in a range between almost $33 and under $1.
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This chart is revealing for what it does not show, namely a soaring stock in 2011 on the back of Benlysta's approval. We believe that the culprit has been a blend of investor expectations and slower than estimated Benlysta sales.
In the past several years, there has been a new phenomenon developing in the biotechnology sector where companies sell-off once their drugs reach the market, as investors adjust to the realities of actually selling and marketing drugs, as opposed to simply developing them. In addition, the fact that Human Genome Sciences continues to remain an independent company has contributed to its falling stock price. Furthermore, slower than expected Benlysta sales in 2011 have caused the stock to steadily fall.
We believe that sales will be seen as adequate going forward, primarily for 3 reasons. The first is that expectations have been largely reset from 2011 levels, and that several temporary issues affecting physician ability to prescribe Benlysta have been resolved. Second, when Benlysta first came to market, it received a temporary Q-code for insurance reimbursement, as opposed to a permanent J-code (which was received in January).
And third, Human Genome Sciences spent a good deal of 2011 educating physicians on exactly which patients to start with, as the indication for Benlysta is broad. And these efforts appear to be paying off. In reporting its full-year 2011 results, the company noted that its education efforts are gaining traction, and studies commissioned by the company show consistent improvement among lupus patients across a wide spectrum of lupus manifestations.
Investor perception is crucial in investing, and we believe that in the quarters to come, perceptions of Benlysta will improve. The nature of lupus is such that patients do not always need an immediate change in treatment to Benlysta, and the company is working to address those issues. Human Genome Sciences forecasts a better year in 2012 for Benlysta sales. We will now provide a brief overview of Human Genome Sciences' financials.
As with most biotechnology companies, Human Genome Sciences is in good financial shape, operating losses aside. The company ended 2011 with over $881 million in cash & equivalents. The company has around $562 million in convertible debt as well, and it matures on November 15, 2018 and has an interest rate of 3%. We see no immediate financial pressures on the company, as it has more than enough liquidity to meet its operating needs.
Human Genome Sciences is working hard to rapidly grow revenue. The loss of tens of millions in collaborative revenue [an agreement with Novartis (NVS) over Zalbin] in 2011 has led to increased operating losses, but we believe that in 2012, the impact of that will begin to be dampened, as Benlysta revenue continues to grow. Human Genome Sciences managed to narrow its fourth quarter loss from the previous year.
Human Genome Sciences Financial Overview
|Q4 2011||Q4 2010||2011||2010|
|Product Revenue||$39.276 Million||$13.196 Million||$104.863 Million||$47.159 Million|
|Manufacturing & Development Revenue||$5.828 Million||$7.517 Million||$24.840 Million||$22.695 Million|
|Collaborative Revenue||$0.418 Million||$0.549 Million||$1.272 Million||$87.497 Million|
|Operating Expenses||$114.585 Million||$97.443 Million||$460.526 Million||$348.124 Million|
|Operating Income (Loss)||-$69.063 Million||-$76.181 Million||-$329.551 Million||-$190.773 Million|
Human Genome Sciences may have widened its GAAP loss in 2011, but we believe that it will steadily narrow in the years ahead, eventually leading to profitability. Although Benlysta may not have ramped up in 2011 as rapidly as some market observers may have liked, it is growing. Sales were $8 million in Q2 2011, $18 million in Q3 2011, and $26 million in Q4 2011. Profitability is set to be reached by 2014. We now turn to the competition that Human Genome Sciences faces.
Not every biotechnology company has the luxury of being Alexion Pharmaceuticals (ALXN), which develops orphan drugs for extraordinarily rare diseases, which allows it to sell them free of competition. This is why Alexion's only commercialized drug, Soliris, holds the record for being the world's most expensive drug, at $409,500 per year of treatment. Human Genome Sciences faces competition on several fronts, both for Benlysta and compounds in its pipeline.
2 other companies are working on new lupus treatments. Eli Lilly (LLY) is developing LY2127399, which is in Phase III trials, with an estimated primary completion date of January 2014. In addition, ImmuPharma is developing Lupuzor, and it too is in Phase III trials. All else being equal, we believe that Lupuzor is the bigger threat. It has received fast-track designation from the FDA, and more importantly, it has received a special protocol assessment. This SPA essentially means that should unless there are unforeseen issues, and clinical data from Phase III trials meets certain criteria, Lupuzor will be approved.
Analysts are bullish on ImmuPharma (a British company) and Lupuzor's potential, but also say that Lupuzor is not likely to dethrone Benlysta from its leadership position in the lupus space. Rather, Lupuzor is expected to emerge alongside Benlysta as the new standard of care in the lupus field.
We do not see Human Genome Sciences going the way of Dendreon (DNDN), where its product is marred by controversies over its efficacy in the face of multiple new competitors. Benlysta will be the only available lupus treatment for the next several years, and by the time competitors such as Lupuzor are on the market, we believe that Human Genome Sciences will have diversified its revenue base. To see how the company will accomplish that, we must look at the pipeline.
Human Genome Sciences has several compounds in development, and we detail them below.
- Expanding Benlysta usage: Many biotechnology companies use label expansion as a revenue and profitability driver, and this company is no exception. Currently, Benlysta is being researched for applications in vasculititis, with Phase III trials set to commence in the second half of 2012. In addition, Benlysta is being studied in other forms of lupus, specifically active lupus nephritis, with Phase III trials also set for the second half of 2012
- Albiglutide: Albiglutide is Human Genome Science's type 2 diabetes treatment, developed in partnership with GlaxoSmithKline (GSK), and it is currently in Phase III trials. The companies released clinical data on the compound last week, and the compounds Harmony 6 trial showed meaningful reductions in HbA1c and non-inferiority versus insulin. Harmony 8 will be completed at the end of 2012, and five other ongoing studies regarding albiglutide will be completed in 2013. Should Albiglutide be approved for the treatment of diabetes, it will enter a fiercely competitive, albeit large market. Many other companies compete in this space, including Amylin (AMLN), Novo Nordisk (NVO), and Eli Lilly.
- Darapladib: This inhibitor, developed with GlaxoSmithKline is in a second Phase III trial for the treatment of coronary heart disease, with acute coronary syndrome (ACS), being a particular focus. Data is likely to be released sometime in 2012 or the first half of 2013.
- Mapatumumab: This is a cancer treatment currently in Phase II trials. The cancer sector is extremely competitive, but the potential is enormous, for the addressable market for cancer treatments is extremely large. It is a bit early to gauge the potential of this treatment, but should it successfully navigate into Phase III trials and eventual approval, Mapatumumab could be a profitable drug for Human Genome Sciences.
- HGS-1036: This compound was licensed from FivePrime Therapeutics in March 2011, and Phase Ib chemotherapy studies are planned in 2012. It is too early to tell what sort of impact this compound will have.
One thing stands out in this pipeline, and that is the involvement of GlaxoSmithKline. The company is Human Genome Sciences' partner on Benlysta, and is collaborating with it on multiple other compounds. And when a large pharmaceutical company partners with a small biotechnology company, takeover speculation is sure to follow.
GlaxoSmithKline: Deal or no Deal?
Speculation has been rife for years that Glaxo will buy Human Genome Sciences. The rumor is brought up often. As recently as October, it was reported that GlaxoSmithKline was prepared to make a $25 per share offer for the company. While virtually any combination is possible in the biotechnology sector, at this moment in time we do not believe that Glaxo will bid for Human Genome Sciences, and our bullish thesis is not built around such an assumption.
We believe that proof of Glaxo's lack of interest lies in the fact that the company has not already made a move. There are few partnerships as deep as the one between Glaxo and Human Genome Sciences, and the only company to know more about Human Genome Sciences than Glaxo is Human Genome Sciences itself. Therefore, if no deal has been reached as of this point, it is likely that there will be no deal.
So will another pharmaceutical company bid for Human Genome Sciences? At this time, we do not think that will be the case. The reason, in our opinion, stems from the mindset of these other companies. If Glaxo, the outsider that knows the most about Human Genome Sciences does not wish to bid, then why should we? Critics may counter here, arguing that if no one wishes to buy Human Genome Sciences, it must be due to the fact that its drugs are not worth buying. We however, believe that the reason is more complex.
As recently as March 2010, Human Genome Sciences traded in the $30s, and has fallen sharply since those highs. For shareholders who bought the stock then, or have held it for a long time, accepting an offer of even $25 per share would be unpalatable. We believe that the board of Human Genome Sciences knows this. And the board of GlaxoSmithKline knows this. Its own shareholders would likely never approve of a takeover at the premium needed to satisfy Human Genome Sciences shareholders. Therefore, the company is likely to sit out any waves of consolidation in the sector.
Our thesis, however, takes a long-term view of the company, and is predicated on it remaining independent. That being said, we do not see the lack of a takeover as a negative. GlaxoSmithKline has invested huge sums of money in the development and commercialization of Benlysta, as well as the rest of Human Genome Science's pipeline, and we do not think that would happen if Glaxo did not think the drugs have the potential to generate substantial returns on its investment.
We see the endorsement and backing of GlaxoSmithKline as a huge vote of confidence in Human Genome Sciences . And so is the company's shareholder base. From the shareholder base, it is clear that Human Genome Sciences has support. Fidelity and T-Rowe Price together own nearly 28% of the company, and the top 10 institutional investors in Human Genome Sciences own over 60% of the company's shares.
This is not a stock for investors expecting quick profits tomorrow. Nor is it a stock with which to speculate on takeovers in the biotechnology sector. It is a company whose stock has fallen too far in relation to its fundamentals, which are slowly but surely improving. Benlysta is gaining traction, and the pipeline is progressing. The backing of GlaxoSmithKline insulates Human Genome Sciences and provides an endorsement of its therapies.
Even after analysts lowered their expectations due to the launch issues with Benlysta, the Reuters average price target for shares of Human Genome Sciences stands at $13.65, representing upside of 81.27% from current levels. We believe that for patient investors, the stock is trading at an attractive price and that investors who believe in the company's potential will be rewarded greatly for their faith.
Additional disclosure: We are long shares of DNDN via the First Trust NYSE Arca Biotechnology Index Fund.