With Or Without Aducanumab, Biogen Is A Research Champion

Summary

• Biogen researches and produces treatments for muscular and neurological disorders and may soon release the first commercial treatment for Alzheimer's disease.
• The company generated gross margins close to 85 percent and increased revenue nearly 50 percent over the last five years while tightly controlling expenses, leading to strong cash flow.
• Biogen's estimated value and share price have diverged since 2019, signaling a potential buying opportunity.

Biogen, Inc.

Biogen, Inc. (NASDAQ:BIIB) provides pharmaceutical drug therapies for patients primarily with neurological and neurodegenerative diseases. Its treatments for Multiple Sclerosis (MS) generated $8.5 billion in 2019, nearly 60 percent of revenues. In particular, the TECFIDERA medication has made up at least 30 percent of revenue since 2017, including $4.4 billion in 2019. Gross margins have been above 85 percent since 2017.

Anti-CD20 therapeutic programs, mostly related to treating lymphoma, grew revenue 46 percent over the last two years to more than $2.29 billion, making up 16 percent of revenue compared to less than 13 percent in 2017.

Two other revenue streams are experiencing strong top-line growth. Biogen's Spinal Muscular Atrophy (SMA) treatment SPINRAZA has grown revenues nearly 140 percent since 2017 and accounted for more than 14.5 percent of revenue in 2019 compared to 7 percent in 2017. Meanwhile, biosimilars - mainly used to relieve arthritis - grew revenues 94 percent since 2017 to more than 5 percent of revenue in 2019.

Based on comments from management, R&D efforts seem roughly evenly split between increasing the efficacy of existing drugs and earlier-stage tests of potential drug candidates. From 2017 to the end of 2019, total operating expenses grew just 8 percent while gross profit grew 16 percent. These factors have driven Biogen's long-term increase in return on assets.

Source: Risk Research

Patents, New Drugs

The patent of Biogen's drug TECFIDERA was challenged in 2019 by generic drug maker Mylan (MYL). Courts decided in Biogen's favor in early 2020, but an appeal process is ongoing. It seems likely Biogen will retain its original rights to the formula through 2028. More details on the case can be found here.

Biogen is also nearing certification of aducanumab, a drug that could reduce the cognitive and functional decline caused by Alzheimer's disease. Stage 3 trials of the treatment were canceled in early 2019, but additional data added to the analysis indicated aducanumab might be statistically effective at high doses. Some doubts still linger (more information available here). Biogen originally anticipated making an official filing with the FDA in early 2020, but COVID-19 impacts and other complications have pushed the expected time frame to Q3. Biogen is not reliant on the successful commercialization of aducanumab, but, if it is approved, it could mean a major source of additional revenue and cash flow.

Near-Term Conditions

Biogen's management got a notably harsh grilling on the Q1 earnings call during the Q&A. Management was asked repeatedly to clarify the sequencing and causes of delay in filing with the FDA for aducanumab approval, originally scheduled for early 2020. Earlier in the call, management indicated that the production capacity for aducanumab would be operational by mid-2021 and repeatedly emphasized it is working closely with the FDA.

Current growth trends are supported by MS and SMA treatment revenues, which were up 9 percent over the same quarter a year ago. Biosimilar revenues are up 25 percent since Q1 2019.

Phase 3 trials for a lupus therapy have had to be postponed due to COVID-19 concerns. Phase 2 trials for treatment related to a hereditary vision disorder have had favorable results and will progress to the next stage. A number of other studies remain underway, including tests of alternative methods and doses for administering existing products and earlier-stage exploration of additional biosimilars.

Biogen also announced a new research consortium with the Broad Institute of MIT and Harvard, and Partners HealthCare including Massachusetts General Hospital and Birmingham Women's Hospital. The group will build and share a COVID-19 biobank in an effort to help combat the virus.

Valuation and Pricing Analysis

Biogen is trading at historic low TTM P/E multiples around 9.4x as of April 30th compared to an average ratio of 19x over the history of the company. The industry average P/E is over 32x.

Source: Risk Research

Perhaps as a result of concerns over TECFIDERA patent issues or disappointment over the initial halt of the aducanumab Phase 3 trial, the intrinsic value of Biogen as measured by our estimated net asset value and the share price started to diverge early in 2019.

Source: Risk Research

Perhaps more significant than estimated intrinsic value, an analysis of historic relationships of price to the stock's moving average suggests that the stock is a buy below $266 per share, and a sell above $356. The software that drives this analysis identifies optimal entry and exit points based on the 13 years (a complete market and economic cycle) of daily high and low stock prices. Buying below $266 would generate a return of over 40% per annum based on historic growth patterns and relationships to net asset value per share. The company has an intrinsic value of $512.31 per share according to the model, with the potential to reach $1,029.82 per share by the end of 2022, assuming trends experienced over the last five years continue.

For another perspective, the screenshot below shows a portion of the computer printout of Biogen's stock price probability analysis. It indicates an annualized return over the last 13 years of 30% with an average holding period of 8.4 months.

Source: Risk Research

Wrap-Up

Despite record revenues, gross profits, net income, FCF per share, and strong growth trends, Biogen's stock has traded essentially flat since 2017.

New drugs now under development have significant potential over the next two to five years, in addition to growth in existing treatments. The research is being conducted with remarkable efficiency; while net income grew at an annual rate of nearly 15 percent over the last five years, R&D expense has grown at just 3.5 percent. In addition to life-changing pharmaceuticals, Biogen has developed a formula for researching those treatments with admirable financial discipline.

Whether approved or not, development of aducanumab has opened additional potential research vectors for Alzheimer's treatments. Such a product would represent enormous upside potential for Biogen. In the meantime, concerns surrounding the ongoing FDA filing process do not justify the current discounted share price. If aducanumab is approved and goes to market in 2021, which Biogen seems to be planning for, those gains could be realized much sooner.

Methodology

For those not familiar with Risk Research, our approach is focused on detailed financial statement trend analysis with particular emphasis on return on assets by pre-tax free cash flow and its constituent components (margins, asset turnover), and trends in total liabilities and long-term debt in relation to free cash flow. We look for companies with an extraordinary ability to consistently generate high returns on assets, including on new capital employed. We employ Python software that constantly combs the financial statements of all public companies.

Central to our approach is the observation that, over time, a company's stock price trend closely resembles its free cash flow per share trend. In the short term, stock prices are more volatile, sometimes much more volatile, than the free cash flow of the underlying businesses. This deviation creates opportunity for the patient, observant investor.

We also employ software that analyzes daily pricing peaks and troughs over the last 140 days and compares those to the peaks and troughs in relation to simple moving averages over the last 13 years, or a complete market cycle. This analysis indicates entry and exit points that have the potential to generate particularly favorable investment returns. The minimum target is twenty percent per year.

Summarized, we buy quality businesses on weakness and sell deteriorating companies on strength.

Analyst’s Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in BIIB over the next 72 hours. 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.

Disclaimer: The purpose of this article is to review the analytical process used in establishing our own portfolio, which is fifty percent invested in Quality Compounders (the most profitable, low-debt US public companies) and fifty percent short Dirty Dogs (companies with declining profitability and increasing debt). We regularly enter and exit positions based on this approach, both long and short. In current uncertain market conditions we have reduced our target time frame. Our average planned holding period is now five months for longs and six months for shorts. This compares to our actual experience of 12.5 months for longs over the last four years and 15.6 months for shorts. Do your own research. Our analysis can help narrow the focus of those efforts but is presented as a component of a highly diversified, long/short portfolio built in stages over time that includes a substantial number of positions not mentioned in this article. It should not be your sole source of information.