Friday, March 30, 2007

Dendreon (DNDN) Odds Less Long

It is the kind of headline Wall Street loves: Dendreon's stock price doubled in a single day, Friday, March 30, 2007. But the back story is long and I have an amusing incident of my own to tell. I'll also give some guidelines for pricing the stock given the current facts.

I've owned a tiny amount of DNDN for a couple of years; I've followed it for closer to four years. I know that most promising drugs fall by the wayside long before they can be sold; that is one reason the drugs that are approved and marketed cost so much. There are three stages of clinical trials a drug must go through to get FDA approval: Phases I, II, and III. Phase I is mainly to make sure the drug is not an obvious poison, but you would be surprised how many drugs get knocked out in that round. Even if a drug passes Phase II and Phase III, it may not be approved by the FDA, or it may be sent back for more trials. Dendreon's Provenge for prostate cancer did not "meet its endpoints." That is, goals were agreed to with the FDA, and when the statistics were run Provenge did not meet those goals.

So analysts did not like Dendreon. Investors did not like Dendreon. You could buy the stock cheap. Of course Dendreon's management said that they had reason to believe Provenge would be an exception to rules. After all, it was proven safe and it prolonged men's life for a significant period of time (4 weeks). But we all all used to taking management optimism with a grain of salt.

We all knew the independent advisory panel would make its decision of Thursday, March 29th. Wednesday the price of DNDN rose to over $5 per share. I decided to cut my risk by selling 25 to 50% of my stock on Thursday morning. But when I woke up Thursday morning trading had been halted. In my experience trading halted on an individual stock means I've lost most of my money. Well, I knew the risks and I had gambled and lost.

By my figuring the panel had a 50% chance of tossing Provenge out, about a 30% chance of demanding more studies, and about a 20% chance of recommending approval. When you take the potential value of the stock if the 20% comes in against the losses of the other 80%, the stock priced out at (by my reasoning) $12 per share. Of course you can get whatever end price you want by changing the ratios and the values for given outcomes.

Lucky for me, and all Dendreon loyalists, the panel decided to recommend Provenge despite some reservations. So the halted trading made me a richer man.

How should we price DNDN now? There is still some risk that the FDA will disagree with their independent advisory panel and not approve Provenge. I would say that given the entire picture the risk is small but significant. Depending on how conservative you want to approach the issue, you could run it as anywhere from 10% to 50%.

But the real value of the stock is not simply in giving Provenge to one very specific type of prostate cancer patient. Dendreon has set itself up to be a major pharmaceutical company. It built a major manufacturing facility already, rather than waiting for approval. It is ready to produce and market Provenge.

We are going to see plans for a lot more clinical trials of Provenge. The way the FDA works, you need to prove the drug for each type of cancer. In Dendreon's case they can expand to a variety of prostate cancers, but they can also go after all the other cancers. What they have is not so much a drug as a process. Essentially, they activate the human immune system to suppress cancer. This is something everyone's human immune systems are doing all the time. You can look at cancer as an immune system failure. Dendreon has learned how to teach the human immune system to do its job better.

Given the complexity of the human body and its biochemistry, doctors will use Provenge and its sister drugs in combination with other types of cancer therapy.

So how much is Dendreon worth? Even if the FDA changes its mind and requires more tests, the intellectual property Dendreon has created is substantial. Dendreon will have to raise more money, which will dilute the value of current stock. The stock won't become worthless, but the downside risk is substantial.

The upside potential is even more substantial. I see no reason why, at the upper end of the scale, in 5 years Dendreon cannot have the $15 billion market capitalization of a cancer-drug company like Biogen Idec (BIIB). But giving it a current market cap where it might be in five years if we are very lucky does not make sense.

Given the entire picture I would be comfortable with a market cap of $1.5 billion before the final FDA decision and closer to $2 billion if final approval is given. Respectively $18 to $24 per share. But this is no stock for the faint-of-heart. The downside risk is substantial.

Never forget that once a drug starts being given to tens of thousands of people, issues may show up that did not appear in the Phase III trials.

Balance your risk. When you get lucky, don't assume your luck will hold. Figure out the odds as best you can, and play the odds.

For more information you can see my Dendreon page.

1 comment:

  1. Three cheers to your vision! You followed it for 4 years, thats quite remarkable keeping in mind the horrible performance of this stock for these days. Just liek you I own a small bag of DNDN and I am happy to make a trip to Hawii in summer.