(Editors' Note: This article covers a micro-cap stock which has a market cap of less than $100 million. Please be aware of the risks associated with these stocks.)
Dear Fellow Columbia Laboratories Shareholders:
Since we made our letter to the Columbia Laboratories (CBRX) ("Columbia" or the "Company") board (the "Board") public on December 9, 2013, several shareholders have contacted us to express their agreement with the views we articulated and various postings have been made in public message boards voicing their authors' frustration with the Board. Not a single outside shareholder has reached out to us to defend the Company's current strategy and the Company's deafening silence has, in our opinion, revealed the Board's lack of concern for the shareholders to whom it owes a fiduciary duty. We believe that change is inevitable at Columbia and that the growing momentum of shareholder discontent will be too overwhelming for the Board to ignore.
In our opinion, the Company has cash and expected future cash flows in excess of any working capital or reinvestment needs of its core business. The key question for shareholders is whether they will be better served by A) the return of this capital in the form of dividends or buybacks or B) the investment of this capital by the Company in acquisitions or other initiatives as management and the Board deems fit.
Our preference is resoundingly in favor of "option A)" based on our lack of confidence in Columbia's ability to deploy capital judiciously. Our opinion is based on the following:
1) Under its current path, the Company will hoard cash on its balance sheet, earning minimal interest income, and incur what we believe is excessive corporate overhead while searching for appropriate investment opportunities. We believe that shareholders, not burdened by these constraints, are therefore more likely to earn a superior ROI themselves by immediately deploying capital distributed to them in investments that fit their investment criteria.
2) In our opinion, the acquisition of Molecular Profiles ("MP") at approximately 12x 2014E EBITDA and without an earn-out shows that, in addition to not having access to proprietary deal flow at attractive prices, Columbia lacks the kind of M&A expertise that is required to successfully execute its current strategy.
3) We have not seen a proven track record of value creation through acquisitions by any member of the Company's management team. On the contrary, we find the history of Columbia to be a case study in shareholder value destruction.
Our conversations with the Company have convinced us that the current leadership of the Company is committed to "option B)". We do not consider their rationale for pursuing this path to be grounded in analytical reasoning or driven by a concern for enhancing shareholder value. We have come to the conclusion that for shareholder interests to be represented, the Board and the management team need to be restructured.
Management and Operations Restructuring
Columbia, excluding MP ("Core Columbia"), really only has one remaining customer: Merck. One of the stated rationales for the MP acquisition was that, given MP's geographical proximity to Merck's operations, MP would be able to take over the servicing of Merck and reduce manufacturing costs for CRINONE® and provide technical support functions. Given these facts, it seems to us that the management team's only remaining function is to pursue acquisitions and pharmaceutical development opportunities-endeavors we believe should cease immediately. Therefore, we believe that the remaining operations of Core Columbia should be folded into MP and we would support the following changes being made to the management team:
1) Appoint Dr. Nikin Patel as Columbia's CEO. Dr. Patel owns a large number of shares, as opposed to the minimal stock ownership of the current management team, and, in our opinion, outmaneuvered Columbia in the sale of MP by extracting premium pricing and terms for himself and his shareholders; and
2) Streamline the financial staff for internal controls and public company reporting and eliminate all expenses and staff involved in business development and other non-core activities.
We believe that these actions will lower the Core Columbia overhead to below $3 million while maintaining the Company's ability to service Merck and pursue initiatives that may incentivize Merck to extend its contract beyond 2020. With product manufacturing being outsourced and Merck responsible for all sales and marketing, we do not anticipate that such a management transition would cause any material disruption. The perpetuity value of the approximately $4 million annual cost reduction contemplated by our plan, at a discount rate of 10%, is approximately $40 million, a meaningful number when compared to Columbia's current market capitalization of approximately $80 million.
This lowered cost structure, under our analysis, would allow the Company to issue a special dividend of at least $1 per share immediately and an annual dividend that grows by a double digit percentage rate each subsequent year until 2020. It would also leave MP with approximately $8 million in working capital to pursue its growth strategy. The Company's risk profile would be lowered and its shareholders would receive a predictable return on their investment while maintaining the option of upside if the Merck contract is extended or if MP ends up earning its cost of capital. We believe that implementation of this strategy would cause a meaningful appreciation of Columbia's share price.
Reconstitute the Board
In our opinion, there is no reason for a company that had 11 employees in mid-2013 to have a board of directors with eight members, plus a consultant. We believe a board size of four members is adequate for a small company like Columbia. We would support the continued service of existing board members Dr. Patel and G. Fredrick Wilkinson, the representative for Actavis, Inc. (the Company's largest shareholder), because of their significant shareholdings, which align their interests with other shareholders. The other two board members could be either existing board members or new board members with significant share ownership that are committed to implementing meaningful changes consistent with those described above, which we believe will enhance value for all shareholders.
We don't intend to act in concert with any other shareholders, but we encourage other shareholders to register their opinions with the Board. We hope these concerted voices for change will enable the Board to see the writing on the wall without wasting any additional shareholder capital. Thank you.
Disclosure: I am long CBRX, . I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: Luzich Partners LLC (“Luzich Partners”) is an investment fund that is in the business of buying and selling securities and other financial instruments. Luzich Partners currently maintains a long position in the common stock of Columbia Laboratories, Inc. (“Columbia”). Luzich Partners will profit if the trading price of Columbia common stock increases and will lose money if the trading price of common stock of Columbia decreases. Luzich Partners may change its views about or its investment positions in Columbia at any time, for any reason or no reason. Luzich Partners may buy, sell, cover or otherwise change the form or substance of any of its investments related to Columbia at any time for any reason or no reason. Luzich Partners disclaims any obligation to notify the market or any other party of any such changes. The information and opinions expressed in this letter (the “Letter”) are based on publicly available information about Columbia. Luzich Partners recognizes that there may be non-public information in the possession of Columbia or others that could lead Columbia or others to disagree with Luzich Partners’ analyses, conclusions and opinions. The Letter includes forward-looking statements, estimates, projections and opinions prepared with respect to, among other things, Columbia’s anticipated operating performance, access to capital markets, market conditions, assets and liabilities. Such statements, estimates, projections and opinions may prove to be substantially inaccurate and are inherently subject to significant risks and uncertainties beyond Luzich Partners’ control. Although Luzich Partners believes the statements it makes in the Letter are accurate in all material respects and do not omit to state material facts necessary to make those statements not misleading, Luzich Partners makes no representation or warranty, express or implied, as to the accuracy or completeness of those statements or any other written or oral communication it makes with respect to Columbia and any other companies mentioned, and Luzich Partners expressly disclaims any liability relating to those statements or such communications (or any inaccuracies or omissions therein). Thus, shareholders and others should conduct their own independent investigation and analysis of those statements and communications and of Columbia and other companies to which those statements or communications may be relevant. The statements Luzich Partners makes in the Letter are not investment advice or a recommendation or solicitation to buy or sell any securities. Except where otherwise indicated, the Letter speaks as of October 22, 2013, and Luzich Partners undertakes no obligation to correct, update or revise those statements or to otherwise provide any additional materials. Luzich Partners also undertakes no commitment to take or refrain from taking any action with respect to Columbia or any other company.