Wednesday, February 20, 2008

Onyx (ONXX) Nexavar Trial and Q4 results

Onyx had its analyst conference yesterday. In addition to going over results from the fourth quarter of 2007, management talked and answered questions about the stopping of the Phase 3 trial of Nexavar combined with chemotherapies for lung cancer patients. See my Onyx Pharmaceutical analyst conference summary for notes on what management said and the questions asked by analysts.

But what you really want to know is, following the plumetting of the stock price from about $46 to about $32 on following the announcement of the cancellation of the trial, is the stock now overvalued or undervalued?

At this moment's price of $31.16, market valuation is near $1.7 billion. What would you get if you bought the whole company.

Nexavar is marketed through a partnership agreement with Bayer. Total sales made by Bayer in Q4 were $125 million. After R&D and market deveopment costs, however, Onyx is only owed $4.4 million by Bayer. It seems trivial, but only recently has Bayer started owing Onyx money instead of the other way around. Onyx spent an additional $22 million on its own. It has a lot of cash, $470 million at the end of the quarter, and generated interest income of almost $6 million on that.

All told the net loss, including non-cash stock compensation for employees, was $11.7 million.

So subtracting the cash from the market valuation gives you about $1.2 billion, which is what the market says is today's value for potential future profits. But remember the market is not magic, it is made up of the trades of a bunch of fallible people.

The near term is easier to see than the long term. In 2008 many nations will begin allowing patients with liver cancer to take Nexavar. So sales will continue to ramp. Management thinks that for 2008 the company may be cash-flow positive. What that means is that non-GAAP net income may be positive, but that GAAP net income, which includes non-cash charges like stock options for employees, may not be.

So here's why the stock is hard to put a simple valuation on: you have to guess what other cancers besides renal and liver cancer will benefit from Nexavar. And it costs money to prove such matters. The FDA not only is very specific in its cancer approvals (it may approve a drug for one type of lung cancer, but not another), but it also may specify stages that a drug can be tried at. Primary drugs are used when the cancer is first discovered; secondary drugs when the primary drugs have failed.

There are over 200 clinical trials going on with Nexavar at this time. Not all of them are paid for by Onyx or Bayer. Some are being done by independent cancer researchers. They cover the gamut of Nexavar's promise: some are for primary use. Some for secondary. Some in combination with other drugs. Some alone. And it is being tried on a variety of types, notably breast cancers and lung cancers.

Given the complexity of the conditions we lump together under the word "cancer," it should not be surprising that Nexavar works better on some cancer types than others. Even for the approved types, kidney cancer and liver cancer, some patients respond better than others.

While the non-small cell lung cancer trial that had to be discontinued was one that doctors, patients, and investors all had great hope for, it is just one failure in a large array. It should not have had such a large effect on the stock price, in itself. Still, we should assign some possibility that it presages a pattern of failure.

But it does make you think about the cost of research compared to the potential profits if Onyx gets permission to market Nexavar for more than its current applications.

In the short run Onyx and Bayer would be more profitable to just stop doing research and instead sell into the improved markets. But a rational investor should favor ongoing research if it is strategic. Nexavar probably has a long run ahead of it. It is running through fog, but it has already proven itself for two cancer types.

So I think Onyx stock is undervalued. 2008 Nexavar sales should cover R&D costs. With so many trials underway, in 2009 or so we should be seeing some data that lets us know how extensible Nexavar's benefits will be.

I don't own Onyx Pharmaceuticals at this time. I do have a small portfolio of other biotechnology companies.

Keep diversified!

More data:

Onyx web site
My Onyx main page
My biotechnology research guide page

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