There are some reactions in the market that we simply can not explain. When a stock trades lower after good earnings it is our nature to seek a reason that could explain the reaction. However, in a market that is fueled by emotion, initial reactions, and speculation, we far too often witness price movement that can not be explained, and when this happens it is best not to seek answers, but rather take advantage of the illogical valuation, and determine whether or not the stock is presenting value.
The perfect example of an unexplainable reaction is with Spectrum Pharmaceuticals (SPPI) and rather than wasting my (and your) time speculating as to why it fell nearly 15% after earnings, I will instead focus on the facts. The company posted revenue growth of 51% year-over-year and posted net income of $18.1 million which is a significant gain over the $7.2 million profit it earned last year during the same period. In addition it posted record sales of Fusilev with $56.6 million versus $35 million year-over-year, and now has nearly $280 million in cash on its balance sheet.
Now allow me to share a secret: The quarter was flawless! There was absolutely nothing wrong with SPPI earnings. Some have tried to explain the loss, and say that its Fusilev sales were a little short of expectations, or that it missed EPS expectations. However, it was not short, and it easily exceeded all analysts' expectations. The consensus for expectations were an EPS of $0.24 and it posted earnings of $0.29 (a huge beat), and it also exceeded revenue expectations by more than $5 million with a record $68.7 million. Not to mention the company announced a very significant cash position and upcoming data from several important studies that will take SPPI into the next five years of aggressive growth.
At this point I am incapable of finding a weakness in SPPI and its valuation. I have often searched for a reason that SPPI can not maintain momentum, or trade with the bullish valuations of companies with similar fundamentals. I have listened for the last year as bears talked about generic pressure and declining Fusilev sales, yet in 2012 SPPI has not only maintained its sales despite generic pressure, but it has maintained its growth, showing even more efficiency on behalf of management. Therefore, the only logical explanation to the loss was fear. The stock began to fall, stop-loss orders were executed, and when combined with short-sellers (not to mention that it fell earlier this year after a record quarter), the stock fell hard and did not recover.
After Wednesday's loss some investors are feeling a bit discouraged and feel confused as to what's the next step. Some sold when the loss became too much, and others have hung on but are perhaps close to joining the club of sellers. And although my goal is to not persuade you one way or the other, I do ask that you step back and look at the valuation of this company, because you will never find another company growing at this rate with such a low valuation. In fact, the only time you will ever see a company with such aggressive growth decline by 15% is when it trades with a P/E ratio of 100 and its expectations are way too high. However, SPPI does not trade with a massive valuation compared to earnings. In fact it now trades with a P/E ratio of about 7.50 (after the current quarter), which means that it's priced similar to a company with no or minimal growth that is expected to experience substantial earnings loss over the following year, which is simply not the case in regards to Spectrum Pharmaceuticals.
If you are one of the investors who are seeking answers and are wondering about the next step, then I urge you to take the advice of Warren Buffett who said, "If a business does well, the stock usually follows." Now whether or not you believe SPPI is a business that is doing well is up to you, and your fundamental analysis. But as I've explained time after time sometimes the best time to purchase a stock is after unexplainable trends, when a stock trades lower for some reason other than fundamentals, and when you can capitalize on this opportunity then there is almost always large returns waiting on the other side of the trade for those who are patient and are capable of identifying the value.
Disclosure: I am long SPPI.