In the last few days I had been working on an update of my January piece. It was both a fundamental and a comprehensive analysis of the colorectal cancer screening market and of the two front-running companies in the field of innovative, non-invasive early detection: Berlin based Epigenomics AG (OTCQX:EPGNF) and Madison based Exact Sciences Inc. (NASDAQ:EXAS). (The Seeking Alpha article is itself a summary of a paper that can be downloaded from my homepage)
The bottom line was unambiguous:
"EpiProColon is not a perfect test, but it brings to the party all you need to revolutionize the CRC early detection market:
1) performance is good enough and at least matches the performance of FIT, the best non-invasive and FDA approved option. This will lead to PMA certification by the FDA mid 2013 and guidelines inclusion further down the road.
2) its ease of use will boost compliance to levels not achievable by any stool-based or invasive alternatives. Even PCPs will actively support it because it minimises the time spent trying to convince patients to take a test in the first place.
3) its economics are attractive to all parties, most critically to the labs.
4) all payors, private and CMS, will eventually support it, as the body of pharmaco-economic evidence grows."
But that was that. Recent events have forced me to reconsider priorities. I should be back soon with more fundamentals, but let me indulge in some hotter, actionable issues first.
I don't have the experience of Jim Chanos, I'm not a short-seller by trade, but every so often I recognise a good short when I see one. And time has come for EXAS.
Smart money is selling, quant/momentum money is buying.
The triggering event was last Friday's market price action. With 4,9m shares traded, 2m of which at the 14,47 closing price and a further 2m in the last 20 seconds of the trading session, there was clearly something cooking. The explanation is simple: First Bank Trust's NYSE Arca Biotechnology Index fund was executing its quarterly rebalancing. EXAS and Cepheid (CPHD) are new constituents as of July 22nd and had to be bought ideally at Friday's closing price. This index fund is a USD equally weighted basket of 20 biotechnology companies. Assets under management are USD 650m, hence 5% weight implies buying close to 2.5m EXAS shares at USD 14/share.
If you take a close look at EXAS's shareholders structure, you can see the cracks accumulate. Prior to last Friday's rebalancing, 22% of the share capital was locked in index funds/ETF (Vanguard, State Street, Blackrock etc) This figure just jumped to 25%. But on top of that, the share of quantitative and momentum driven funds has been on the rise as well (DE Shaw in the first category, Millenium Management in the second one for example), whereas specialists or pure stock pickers have been reducing their exposure. Orbimed and Wasatch have been selling 1,6m shares in 1Q13, and I wouldn't be surprised to see a further reduction when the 2Q figures soon become available. My point is simple: investors who know why they own the stock are selling, those who don't are buying!
Kevin Conroy is no longer in the driver seat, the FDA is for now …
On June 10th EXAS filed the last module of its PMA application. If one considers the 45 days rules, it shouldn't be too long before the FDA acknowledges the filing, one week, two weeks max. If that doesn't happen in that time frame by the way, I suggest you step up your selling program. But let's assume it all goes according to plan, this could fuel a last short term rally and the opportunity to sell the remaining shares at an all time high. Because from then on Kevin Conroy's turbo charged rhetoric won't help anymore. The FDA will be in charge and they'll have zillion of questions ! Let's just delve one minute on one subject: sampling. Imagine all that can happen between the moment EXAS ships its bulky 30x30x30cm box via Fedex (FDX) and the moment it comes back (or not). Is there enough stool (not enough human DNA), or may be too much of it (not enough buffer for stabilisation)? If you are a vegetarian and live in Florida your average daily bowel movement is 400g, if you live in the Midwest and are on a strict burger diet, you average daily bowel movement is 120g, sorry to be so specific. What happens if you forget to add the buffer, or forget to mix it ? What happens if you forget to use, or return FIT ? What happens if you delay shipping back ? The list goes on and on and on … Clinical trial setting performance is one thing, but real life data shows for instance that even the much simpler HAEMOCULT II test experiences up to 50% drop of performance in real life, and still saves lives !
Before being an operational nightmare, these questions will be a clinical nightmare. Don't bet on a 6 months review.
… ultimately it will be up for patients to give the thumbs up ..or down
I wasn't really surprised last week when I heard of the Jefferies upgrade from 14 to 18. Something has to be done to keep up the momentum when you just closed a USD 73m rights issue, the 4th and the largest one in less than 3 years by the way. It has to be said it was a good ride so far, even taking dilution into consideration: 6, then 8, then 9,75 and last but not least 12,35. Great achievement in all honesty, but every run runs ahead of itself. This one is no exception.
What is it that Jefferies analyst have uncovered ? A "proprietary" survey that shows hat prescribers and patients alike will embrace Cologuard. (as a rule of thumb, when a broker's report includes the word "proprietary" take your money and run ! Only then have a look at the report and reconsider).
Whatever the effort and the detail that goes into this type of work, if the premises are flawed the whole exercise is worthless. This one is a case in point: none of the questions even mention the possibility of a blood-based test ! Utterly worthless !
Let's assume there is a lesson to be learnt, what about the issue of compliance? 30% of respondents said it was "important", and 38% it was "somewhat important" to increase compliance, which makes it a total 68%. How does this help to establish a test whose stated purpose it is "to replace FIT" (I am only quoting Kevin Conroy's own words) and ignore a test whose stated purpose it is -confirmed by the just released cost-effectiveness study- to address the 40% unscreened part of the population ? Utterly worthless !
What about another type of survey, ….
A type of survey a broker is better placed to conduct: an EXAS shareholders' survey
Question 1: how confident are you in analysts mid-term estimates?
Question 2: how likely is it that you will sell your holding once Cologuard is approved?
Question 3: how likely is it that EXAS gets taken over, replicating the Third Wave script? Will you stick around for that to happen ?
If your answers are not 1) Very, 2) not likely and 3) very, you must admit there is absolutely zero margin for error.
In case you don't remember, the assumptions underlying question 1 are:
2014e: 200k Cologuard tests sold, USD 70m sales
2015e: 475k Cologuard tests sold, USD 164m sales
2016e: 795k Cologuard tests sold, USD 278m sales.
2016 is the basis for the equity valuation at 4,2x sales, ie USD 1,250bn.
Other assumptions: ASP USD 350 and five years market share of the addressable market 20% ie 1.8m tests. (by Jefferies own definition)
If this feels lofty, may I suggest at least to diversify ?
If you think it is a good idea to have two horses in the race (one EUR 20m lightweight yearling and one USD 1bn overweight war horse) I recommend buying some newly listed ADR of Epigenomics AG. Since July 9th, 5 EPGNY ADRs represent 1 common share. The program is unsponsored for the time being but I can imagine that the next financing round could change this.
Finally if like me you cannot completly do without an ounce of fundamentals, you may want to have a glance at an OnlineFirst publication by Ladabaum, Allen, Wandell, et al. of the AACR peer-reviewed article: "Colorectal cancer screening with blood based biomarkers: cost effectiveness of methylated Septin 9 DNA vs. current strategies."
The mSeptin9 cost-effectiveness study was published online June 24th, but only singled out by the company today. So much for market efficiency ….
I'll come back to this and other fundamental data shortly, but the time being, let me get this post out and see how it spins.
FIRST THINGS FIRST
Disclosure: I am long OTCQX:EPGNF. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
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