CombiMatrix: A Turnaround Story For 2014

| About: CombiMatrix Corporation (CBMX)

Editors' Note: This article covers a stock trading at less than $1 per share and/or with less than a $100 million market cap. Please be aware of the risks associated with these stocks.

As a small cap biotech investor it is difficult to locate under the radar companies that haven't exploded in recent months. 2013 was an incredible year for most biotech investors as the IBB and XBI finished the year up 60.33% and 42.7% respectively. As we going into 2014 it is becoming increasingly more difficult to find the next big run up play, but one company, CombiMatrix Corporation (CBMX), has caught our eye and could provide significant returns in 2014.

This past year, 2013, has been an incredible year for CombiMatrix. CombiMatrix is a molecular diagnostic company specializing in DNA-based testing services for developmental disorders and cancer diagnostics. The company specializes in Chromosomal Microarray Analysis (NYSE:CMA), which is a technique used to identify chromosomal abnormalities, including submicroscopic abnormalities that are too small to be detected by conventional Karyotyping. Until recently, the broad application of this technology was limited by a lack of large population based studies.

In December of 2012, two studies conducted by the National Institutes of Health (NIH) were published in the New England Journal of Medicine. These studies were the largest head-to-head studies comparing CMA to traditional Karyotyping for genetic prenatal diagnosis and genetic evaluation of stillbirth. Both studies favored CMA, stating that it identified additional, clinically significant genetic abnormalities not identified through traditional Karyotyping.

This was just the spark that CombiMatrix needed as the company has experienced incredible growth since.

2013 Growth Highlights

In February of 2013,CombiMatrix (the company) introduced their new CEO, Mark McDonough. As a former VP of sales at LabCorp of America, McDonough brings with him a strong background in diagnostic sales and business development. In the timesince McDonough took over the CEO position, the company has signed numerous contracts and developed partnerships with premier healthcare providers.

In June of 2013 the company announced that Pathology, Inc selected them as their exclusive provider of chromosomal microarray tests for the products of conception (POC) testing market throughout the United States. POC testing is also referred to as miscarriage diagnostic testing and is a subset of the overall prenatal testing market. Also in June of 2013, the company announced that they had received condition approval from the New York State Department of Health to market their prenatal miscarriage analysis tests in the New York metropolitan area. This was a major milestone for the company, as it will give approximately 20,000,000 people the access to the company's prenatal miscarriage analysis tests.

In July of 2013, the company announced that they had signed a contract with Blue Cross Blue Shield of California, which will give its 3,000,000 members access to the company's suite of diagnostic tests. This adds to the existing multi-plan contract to increase access to 60,000,000 members who need the company's diagnostic testing services.

In August of 2013, the company announced a collaboration with the Sequenom Center for Molecular Medicine, LLC (Sequenom CMM). Under the terms of the deal, the Sequenom CMM will work with CombiMatrix to promote services, provide technical training to physicians, as well as counseling, education and support services to physicians and their patients. With this deal, Sequenom CMM becomes the first major player in the next-generation sequencing-based, non-invasive prenatal testing market to offer chromosomal microarray analysis services to its customers. Non-invasive prenatal testing analyzes cell-free fetal DNA (cffDNA) circulating in the mother's blood. Sequenom's MaterniT21 PLUS test does just that. A paper published by The American Congress of Obstetricians and Gynecologists recommends that women, regardless of maternal age, be offered a prenatal assessment for aneuploidy and that cffDNA testing be doneas a primary screening test in women at an increased risk of aneuploidy. They go on to recommend that patients with a positive cffDNA test be offered invasive testing to confirm the result before any action is taken. Under the newcollaboration with Sequenom CMM, Sequenom will market CombiMatrix's CMA testing services to physicians and patients as a way to broaden and confirm the results from their non-invasive prenatal testing. Also in August of 2013, the company entered into a strategic partnership with Manhattan Labs to service the New York City metro area. Under this agreement, Manhattan Labs will market and distribute CombiMatrix's microarray tests for the miscarriage management testing market in the New York City metro area.

In October of 2013, the company announced the signing of a contract with Three Rivers Provider Network. This contract will give approximately 15,000,000 members access to the company's suite of diagnostic testing services.

In November of 2013, the company announced the signing of a contract with Blue Cross Blue Shield of Kansas City, which will give approximately 800,000 members access to the company's suite of diagnostic testing services. They also announced signing a contract with America's Choice Providers Network, which will allow access to approximately 14,000,000 members.

Finally, at the end of December 2013, the company announced that they signed a contract with FedMed National Provider Network, giving approximately 40,000,000 members access to the company's suite of diagnostic testing services. Also in December of 2013, the American Congress of Obstetricians and Gynecologists (ACOG) published a new research paper. In the paper, ACOG recommends that CMA be used as first line genetic testing in pregnancies that show fetal abnormalities on an ultrasound screening. With the ACOG's support, clinicians are more likely to counsel their patients on the availability of CMA testing and offer this to them as a first line test.

Financial Situation and Earnings Growth

As most small cap biotech investors know, a company's financial situation is an important factor to take into account before investing. The majority of small cap biotech companies incur high R&D costs to take their drugs through experimental phases, with the hopes that their drug will receive approval and bring in substantial profit in the future. Even after a biotech company's products are approved it may take a marketing team, sales force and time before the company reaches a positive profit margin. CombiMatrix is such a company with marketable products incurring net losses and net operating cash flow deficits throughout its recent history. According to their 3rd quarter 2013 10Q, CombiMatrix had $4 million in cash and cash equivalents. However, last month CombiMatrix closed a $12 million dollar public offering. The net proceeds from this offering after expenses was $10.8 million cash. At current burn rate of about $1.35 million a quarter the company should have enough cash to sustain operation into mid 2016. Also, the company has issued warrants along with recent cash raise that will bring in an additional $18.6 million for the company if they are all exercised at the $3.12 per share exercise price. With only $2.6 million in total liabilities, this would give CombiMatrix enough funds to maintain operations well into 2019. As you can see, CombiMatrix now has a strong cash situation and substantial liquidity after the recent financing activities. We believe that since the company is growing at a rapid pace, these cash reserves will support the company until it becomes highly profitable. This greatly reduces the likelihood of future dilution.

According to the most recent quarter, which ended September 30, 2013, the company showed that its microarray testing volumes increased by 34% and that diagnostic testing revenues increased by 39% when compared to the 3rd quarter of 2012. Prenatal microarray revenues increased by 128.91% in the 3rd quarter of 2013 when compared to same period of 2012. The increase in prenatal microarray revenue was primarily driven by a 140.44% increase in prenatal testing volume.

Company growth and share price appreciation

Over the past year, CombiMatrix has expanded its partnerships to allow more than 72,800,000 people access to their suite of diagnostic testing services through the contracts it has signed with national payers. According to CEO Mark McDonough, the contracts are a "validation of our strategy to partner with nationally known and respected provider networks like FedMed, which connects us to a large group of physicians, hospitals and ancillary care providers. It also underscores the notion that physicians better understand the value of the services we offer their patients, particularly chromosomal microarray analysis or CMA. We expect the recent endorsement of CMA from the American College of Obstetricians and Gynecologists to continue to drive interest in our services". These endorsements of CMA from ACOG could prove to be a significant catalyst for the company in 2014. The recommendation from ACOG in 2012 to perform invasive prenatal diagnostics to confirm positive results from noninvasive prenatal testing might have helped to seal the partnership between CombiMatrix and Sequenom CMM back in August. The most recent endorsement to use CMA as first line genetic testing in pregnancies that show fetal abnormalities on an ultrasound screening could help CombiMatrix to initiate additional partnerships in the future.

With plenty of cash on hand and essentially no debt, we believe that CombiMatrix is positioned for success in 2014. Institutional investors are also taking note as seen by Longwood Capital Partners, LLC's 5.08% passive stake recently reported in an SEC 13G filing on January 03, 2014. As we enter into the year 2014, CombiMatrix is continuing their efforts to enable more people access to their technology. Early in January 2014, the company has already announced a new partnership with ProPath, Inc. Under this agreement, CombiMatrix will be providing its CMA testing for miscarriage analysis for ProPath patients. With greater numbers of people having access and greater adoption rates of this technology by Physicians, hospitals and ancillary care providers, we believe CombiMatrix's revenue will greatly increase. The next significant catalyst for the company will be its fourth quarter 2013 financial results, which will be released sometime in February of 2014. Since the Sequenom CMM and Manhattan Labs partnerships happened midway through the third quarter, the financial results from that quarter do not show the effect of these partnerships on the company's revenue. Fourth quarter results will show a full quarter of revenue resulting from these partnerships, although CEO Mark McDonough stated in the Q2 earnings call that he expects revenue from the Sequenom CMM partnership to ramp up at the end of Q4 2013 and into Q1 2014. The fourth quarter 2013 earnings release will also show partial revenue from contracts it signed with Three Rivers Providers Network, Blue Cross Blue Shield of Kansas City, and FedMed National Provider Network. With endorsements from ACOG, NIH, and respected institutional investors like Longwood Capital Partners, LLC we believe that 2014 can be an even better year for CombiMatrix than 2013 was.

Potential Risks

Small cap biotech stocks are very volatile and any negative change to their story can send the share price down quickly. Small cap stocks in general carry larger risk because lack of insight and news as Wall Street analysts tend to only focus and report on the biggest firms, and lack of personal experience as these are companies we don't normally interact with on a day to basis. Also, the small float of shares outstanding for Combimatrix leads to more volatile price fluctuations up on positive news or down negative news. Although we believe the future for CombiMatrix is very bright, there are some risks that potential investors should take into consideration before taking a position in this company. Some of these risks include bad earnings reports, termination of partnerships, and increased competition, which could all negatively impact their share price. Conversely, good earnings reports, and the addition of new partners and contracts can send this stock up in a hurry. As always make sure to perform your own due diligence before initiating a position in any stock.

Significant catalysts in 2014 are:

· Revenue and profit margin growth, which we believe will be seen in future earnings releases, due to the partnerships and contracts established in 2013.

· Future contracts and/or partnerships throughout 2014.

· Increase in institutional ownership as earnings numbers, partnerships, and contracts continue to show increased growth respected institutions like Longwood Capital, LLC will take notice.

· Increased exposure to their technology as CombiMatrix is set to air on TV for RedChip Emerging Growth Showcase at 2pm EST on Thursday January 23, 2014

Through our analysis of CombiMatrix we have come to the conclusion that the company is significantly undervalued with around a $23 million market cap. We believe that the February earnings release will surprise patient investors, showing an increase in test volume and revenue growth.

We believe the 3 month price target could be $4-$5 a share due to the February earnings release, partnerships and other catalysts likely to occur in the short term for this underappreciated stock. We believe the company will continue to grow at a rapid pace and think this could be trading at $8-$10 share price by year end as new exposure, partnerships and future earnings will validate our opinion on CombiMatrix. As always, invest at your own risk and always perform your own due diligence.

This article was written in collaboration with Kenneth Mangano.

Disclosure: I am long CBMX, . 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.

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