Tuesday, April 30, 2013

Biogen Idec Too High Too Fast?

Biogen Idec (BIIB) is now off its 52-week high of $226.18 (reached earlier today) but up from a 52 week low of $126.39 (of June 4, 2012). At $218.84 it has risen 73% off the low.

I began following BIIB in the first quarter of 2006, but did not acquire stock until February 2008, when I picked it up at $61.57 per share. In the short run I overpaid, but I picked up more later that year at $46.97. I person with perfect timing could have picked up shares at $40.27 on November 28, 2008. Biogen then  rose to $67.05 by the end of 2010, and looks like it invented an anti-gravity machine this January.

Biogen did so well that it became too large a percentage of my portfolio (according to my portfolio rules) so I sold half of my position on May 16, 2012 for $137.19. Now of course I wish I had violated my portfolio rules and kept the stock longer, but I had other situations where those same rules kept me out of major trouble (they were the main reason I sold most of my Dendreon stake before the price collapsed).

Even though my remaining Biogen stake is well within my portfolio rules I have to ask: is BIIB overpriced? Should I sell it and look for a better value proposition?

There were reasons Biogen was priced where it was in 2008 through 2010, the big one being a disease called PML (progressive multifocal leukoencephalopathy) caused by the JVC virus. Biogen's specialty is multiple sclerosis MS therapies. Its Avonex was the most prescribed MS therapy, but the new wonder drug was supposed to be Tysabri. MS is an autoimmune disease; MS therapies work by selectively suppressing the immune system. Turned out, the JVC virus lurks in the brains of about 1/2 the population, generally doing no harm except when the immune system collapses, when it causes PML, and often results in death.

Tysabri use led to some PML cases, and in a few instances to death. Not knowing what the rate was, nor what treatment could be given for PML, the FDA revoked Tysabri's marketing license. The immediate solution turned out to be to monitor for PML and stop giving Tysabri if there were symptoms. The FDA re-approved Tysabri provided a monitoring program was in place. While Tysabri was so effective that sales ramped back up substantially, naturally there was concern by doctors, patients, and investors that we might see more PML deaths and a permanent ban on Tysabri.

Nevertheless in Q1 2008 Tysabri sales were $115 million, total Biogen revenue was $942 million, and GAAP EPS was $0.54. It being the recession, investors were risk-adverse, and it seemed no amount of good news on Tysabri, revenue, or profit could do much for the stock until late 2010.

So much of the run up in the price was just investors catching up to the new reality: a highly-profitable biotechnology company with a strong pipeline of potential future blockbusters. But in the same way investors lagged reality before 2011, perhaps so many momentum players have jumped on the BIIB bandwagon that the stock has gotten ahead of its fair valuation.

By the beginning of 2013 we had pre-screening for JVC and better treatments for PML, reducing the risk of PML mortality to statistically close to zero. We have substantial Fampyra revenues, though that therapy had also had its issues.

Plegridy (peginterferon beta-1a) for relapsing MS pivotal Phase III data has met all primary and secondary endpoints after 1 year cutoff of a two-year study. Biogen expects to file with FDA and EMA (Europe) by mid-2013

Daclizumab-HYP Phase III data readout expected in 2014. It is also for relapsing forms of MS.

Biogen also filed for approval with FDA for Hemophilia Factor 8 for A and 9 for B, based on significant Phase III trial results.

A number of other therapies are in Phase I, II, or III trials. See the Biogen-Idec product pipeline for more details.

So we can figure that the most likely scenario is that Biogen Idec will see substantial revenue and profit growth over the next few years and new therapies come to market. It is unlikely that everything in the pipeline will get good results and FDA approval, but Biogen has a lot of shots on goal.

You can build spreadsheets (and I have, and sell-side analysts certainly do) guessing at revenue and profits from future therapies based on patient populations, competing therapies, and guesses about pricing. But experienced pharmacology and biotechnology investors know that promising therapies often fail, and unexpected side effects can show up even after FDA approval. Picking winners of competitive races is also more guesswork than science.

So a good hard look at the latest quarter should keep us anchored in reality, and then some P/E ratio points can be added to reflect optimism about profit growth in the next few years; add as many points as you are comfortable with.

Biogen reported on the first quarter of 2013 last Thursday. Revenue of $1.415 billion was up 9.5% from Q1 2012, which is quite good and means a fair P/E ratio should be above the market average. GAAP EPS was $1.79, up 43% y/y; now that should be worth some a P/E ratio well above market. Ballpark it at 30 to 1.

Guidance is for 2013 GAAP EPS of $6.69 to $6.90. Given that non-GAAP guidance is $7.80 to $7.90, let's use $7.00 and multiply by 30. That gives us $210 per share, not much off today's auction price.

So my ballpark estimation is that even at this price BIIB is still a good value. Included in the price are estimated 2013 profits. The pipeline of new drugs revenue and profits won't kick in substantially until 2014. I would expect BIIB to end 2014 in a higher price band, depending on the details of new product ramps.

I am inclined to hold my BIIB and, if I need to sell stock because I spot another opportunity as good as Biogen was in 2008, I could probably find something else to sell. Most likely I will leave BIIB off the leash until it again becomes a risk management problem from being too large a percentage of my portfolio. If I am wrong and it falls in the short run, or becomes a smaller percentage of my portfolio again because something else runs up, I might even buy more.

Keep diversified!

Disclaimer: I own share of BIIB and reserve the right to sell them or buy more at any time, even though I currently have no plans to change my position.

See also:

My Biogen Idec main analyst conferences page.
My BIIB Q1 2013 conference notes

Monday, April 22, 2013

Applied Materials, Process Nodes, and Future Profits

Applied Materials (AMAT) makes capital equipment for semiconductor chip manufacturing. Demand in that sector has not been robust these last couple of years, although it has come off the bottom that lagged after the recession. This article will look at AMAT as a long-term investment, not a short term trade. Given that, the first thing to note is that it pays a dividend, which is currently $0.10 per quarter, or 3.1% per year at the current $13.06 stock price.

I believe the largest factor determining future AMAT revenue and profit will be the ongoing trend towards new, small process nodes (indicated by the size of the lines used to put transistors in chips. 32 nanometer is older than 28 nm.) But let's start with where we are now.

AMAT last reported on February 13 for the first fiscal fiscal quarter of 2013, which ended January 28, 2013. Against an overall global semiconductor capital equipment spending drop of 16% in 2012, AMAT reported revenues of $1.57 billion, down 5% sequentially from $1.65 billion and down 28% from $2.19 billion in the year-earlier quarter. That is discouraging, for certain.

Applied's core semiconductor equipment business saw a Q1 y/y decline to $969 million from $1.34 billion, a decline of 28%. Its display screen segment did better, but the solar segment did worse. Display revenue dropped 17% y/y to $87 million from $104 million, which was already low by historic standards. Solar revenue dropped 77% y/y to $47 million from $206 million. There is a glut of solar supply in the market, so no turn around is expected until at least 2015. Display may see some rebound in 2013 as screen sizes start to increase in developing markets and new screen technologies are adapted.

The bulk of Applied's revenue and profit comes from the semiconductor segment. It is well known that demand for PCs has been down, and it is hard to predict where the bottom may lay. Demand for tablets and smartphones has been increasing. Overall demand is dampened because smartphones simply contain far less silicon than PC's do. They have weaker processing chips and far less memory.

Does that mean Applied and other semiconductor equipment manufacturers should be written off as dinosaurs? I think not. I think overall computational demand will continue to increase rapidly for at least the next two decades. To cram more computation into portable devices (and the computers in the cloud that serve those devices) the industry will continue to move to smaller process nodes.

Right now demand is still high at the 28 nm node. Most chips, which work in legacy, non-mobile applications, are still made at much older nodes. For high-end graphics chips from AMD and NVIDIA, 28 nm is the cutting edge. Intel is already manufacturing its newest CPUs at 20 nm, and new memory-chip production at Samsung is just started at 10 nm. Memory process nodes typically can be smaller than computing process nodes. The most advanced ARM-based chips were recently taped out at 16 nm at TSMC.

Smaller (newer) process nodes mean that more capability can be built into mobile devices (and also non-mobile devices). Transitions to 14 nm and 20 nm are almost entirely ahead of the industry. To some extent moving to these nodes may open up capacity at 28 nm, but there is a lot of technology out there that has yet to migrate to 28 nm.

The other factor is overall demand, and that depends on the global economy and the frequency of consumer upgrades. There is a lot of old equipment out there, as seen by the high percentage of PCs still running Windows XP. With the exception on Intel, Samsung, IBM, and a few others, most chip makers are now really chip designers who send their designs to foundries like TSMC and Globalfoundries for actual production. These foundries don't want to have capital equipment sitting idle, but neither do they want to lose business because of insufficient capacity.

Generally capacity has been lean since the recession, which is one reason why there has been a shortage of 28 nm capacity. The other reason 28 nm has been tight is it was harder to get it working with good yields than had been expected There is quite a bit of impatience right now among the more cutting-edge designers because of a lack of sub-28 nm capacity.

Anything under 28 nm is far more expensive to make than 28 nm. Only Intel and Samsung have had the vast capital resources to simply move to the lower nodes without concern about how much demand would be there at startup. Even Intel announced it was cutting back capital equipment spending by $1 billion in 2013 due to lower demand projections.

But what is bad for foundries is good for AMAT and other equipment manufacturers: future nodes will require far more spending on capital equipment. One reason is that some 20 nm chips will have a 3-D structure. This means a move away from lithography defined shrinking to process-defined, where with precision engineering AMAT claims a considerable advantage.

In addition to reporting revenue, AMAT reports orders for each quarter. The good news for Q1 was that orders of $2.11 billion were well above revenue and up 31% from orders in Q4, as well as up 5% y/y.

Guidance is for Q2 fiscal 2013 revenue to be up 15 to 25% sequentially. Non-GAAP EPS is expected between $0.09 and $0.15.

While Applied Materials has substantial competition in each of the types of tools that are needed for semiconductor manufacturing, it is second in overall sales revenue only to ASML in an industry where scale matters. ASML is not much bigger: it had sales of $7.9 billion in 2011, AMAT had $7.4 billion. Another American competitor is KLA-Tencor, which had $3.1 billion in sales, placing it fourth globally.

On the whole, I think it is likely that 2013 will be a year of improvement for AMAT, and with major gearing up for 20 nm in 2014, that will be a very good year. How much improvement depends on the degree of strengthening global demand for semiconductor chips.

Disclaimer: I am a long-term investor in AMAT. I also am long AMD, but do not own any other company mentioned in this article. I will not buy or sell AMAT stock for one week following this article's publication date.

See also:

My main AMAT analyst conferences page.

My Q1 2013 AMAT analyst conference notes


Saturday, April 13, 2013

Provenge Could Be Combined with Other Prostate Cancer Therapies

Provenge is the only immune therapy approved by the FDA for the treatment of prostate cancer. It is an expensive treatment, about $100,000 per patient, and it is only approved for asymptomatic or minimally symptomatic metastatic castrate resistant (hormone refractory) prostate cancer. In other words, once prostate cancer has become both malignant and keeps growing despite testosterone being artificially lowered, and before it has become painful.

According to its Seattle-based maker Dendreon (DNDN) , Provenge will "jumpstart your immune system to fight advanced prostate cancer." Unfortunately some prostate cancer has its own tricks for defeating the immune system. As a result, in clinical trials, compared to untreated patients, Provenge therapy extends life by a median (50% of men don't get this much benefit, 50% get more) of 4.2 months. Some lucky men live much longer, including some who have now survived for years.

Finding out why some men don't respond well, and helping all prostate cancer patients live longer, is now a major medical science question. One group of doctors who may have an answer is led by Samir N. Khleif, MD, director or the Georgia Regent University Cancer Center. He believes there is good science indicating cyclophasphamide and CT-011 both inhibit prostate cancer's ability to circumvent both the body's natural immune system and therapies like Provenge.

A trial is planned in which men with metastatic prostate cancer will also take either or both cyclophasphamide and CT-011 along with Provenge. While this is an exciting theory, it should be emphasized that it will likely be a couple of years before the results are known. Then, most likely, the FDA would require a larger Phase III trial to be successful before approving the combined therapy. [See also Interview with Samir N. Khleif, MD in Renal & Urology News]

Prostate cancer is quite common in older men and generally is not a death sentence: In the U.S. 240,000 men are diagnosed annually, and about 30,000 die. Most prostate cancer victims die of some other cause, and it is difficult to predict which individuals will see their disease progress to being metastatic and castrate resistant. However, at that point it tends to be deadly. There is a broad debate over whether earlier interventions like surgery and radiation are overdone. Those who favor early treatment believe it cuts down on the number who progress to deadly disease. Those who oppose early treatment point to its cost, the low likelihood of progression being the cause of death in older men, and the complications from treatment (loss of control and occasional deaths from surgery.) Even lowering testosterone levels has side effects men don't like.

David Crawford, MD, is one of the growing number of physicians who believes that the answer may be in sequencing therapies for late-stage prostate cancer patients. He points out that in the last 3 years several therapies that are proven to help have finally been approved by the FDA, and more may be on the way. In addition to Provenge, we now have Zytiga which lowers testosterone more than previous drugs could, and Xtandi, which is an androgen receptor antagonist.

Doctor Crawford believes that for cancer in general multiple therapies have been more successful than single therapies. This is partly because cancers can develop defenses against therapies over time. By attacking prostate cancer at one, or in quick succession, with the newer therapies, Crawford believes patients will see better results. Trials are underway to determine if there is a preferred sequence for prostate cancer. [See Optimal Sequencing of the New Prostate Cancer Drugs in Renal & Urology News]

Currently doctors are divided into two camps. Some favor either Zytiga or Xtandi first because they act quickly to reduce hormone levels. Others favor Provenge first because the immune system acts over time and the cancer at this stage is already

The consensus in the community seems to be moving towards giving both types of therapy as soon as possible. As with Provenge, neither Zytiga nor Xtandi are cures, but instead, on a statistical basis, prolong the lives of the patients who take them. Xtandi prolongs life by a median of 5 months, slightly longer than the Provenge median.

Disclaimer: I own Dendreon (DNDN) stock and will not trade the stock for 7 days after the publication of this report.

William P. Meyers

See also: www. dendreon.com

My main Dendreon notes page.

Monday, April 8, 2013

Dot Hill Ups Guidance, Announces Quantum Parntership

Dot Hill's stock price shot up today on a series of announcements about partners and future guidance, as well as holding its annual analyst day. The last 5 years have been rocky for HILL despite gradual acquisitions of new customers since in lost Sun. In 2012 Dot Hill was developing products that it said would attract new customers [See Dot Hill's 2013 Hopes]. Today was delivery day.

New guidance was given for Q1 2013, Q2 2013, full year-2013, and (tentatively) 2014.

A recap of Q4 2012 provides perspective: revenues were $44.1 million, down 6% from year earlier. Non-GAAP earnings per share (EPS) were negative $0.03, down from $0.00 year-earlier. Not a great quarter.

Prior guidance for Q1 2013 was revenue between $43 and $46 million, with a non-GAAP EPS loss between $0.02 and $0.04.

Today's guidance for Q1 (which should be pretty close, given that the quarter is over) is revenue of $44 to $45 million, narrowing but not increasing the range, with EPS as low as negative $0.02 and as high as $0.00.

$0.00 non-GAAP EPS may not seem like much to get excited about, but that includes research and development costs for new products as well as startup manufacturing costs in costs-of-goods sold. With higher revenue and flat or lower R & D costs going forward, we get to the prettier picture for the future:

Q2 2013 guidance is for revenues between $47 and $53 million, up about 12% sequentially. Non-GAAP EPS estimated range is negative $0.01 to $0.02 per share.

For the full year 2013 revenues are estimated between $205 and $227 million. Non-GAAP EPS should be positive $0.02 to $0.10. That would be great if it happens.

For the full year 2014 revenue estimates are between $231 and $301 million and non-GAAP EPS could be $0.11 to $0.40.

While such long-term predictions should be taken with a healthy spoonful of the salt of cynicism, consider the value of HILL stock if it hit the $0.40 per share top of guidance in 2014. That would likely more than restore investor confidence, so let's give a PE ratio of 15. That would bring the stock to $6 per share. As I write it is trading at $1.53. There are a lot of hoops to jump between $1.53 and $6.00, but there are some reasons to not entirely discount the top range of estimates.

The world of data storage has been evolving rapidly. HILL does not sell disk drives. It sells storage systems for small, medium, and increasingly enterprise businesses. It used to make storage systems for Sun Microsystems until Sun brought a competitor in house. It then picked up HP and NetApp as OEM clients, plus some smaller players and system integrators. Dot Hill dumped NetApp because the margins in the deal was bad, and that made its revenues slump. But all the while it used its substantial cash to develop better systems. Now we are seeing the payoff.

The big announcement today is that Quantum is selling systems, its new QX family, supplied by Dot Hill. A rep from Quantum, at today's Hill analyst conference, reviewed how Quantum has been addressing the rapidly evolving data storage market and how Hill's new products fit into the picture. The amount of data stored in the world is climbing rapidly, largely to accommodate video, full time data feeds, and the mining of big data. Verticals with particular needs to expand their disk drive farms rapidly include entertainment, government, life sciences, and resource extraction (geology). In entertainment many company are rapidly expanding their incoming video feeds, and need all that video instantly for editing and pushing out to consumers. Clients need cheap, reliable storage, and that is what Dot Hill has been developing and is now shipping.

HP, which has provided the bulk of HILL revenues these last few years, has committed to continue using Hill as a supplier of their lower-end, mass market products, the MSA line, the market share leader in its class. While no specifics were mentioned, HP indicated a product refresh is on the horizon. HP has noted Dot Hill systems value, reliability, and interoperability (ability to work with most hardware and software).

The new data storage workloads that are driving the adoption of Hills (patented) technologies are described as a randomized sequential workload. In other words, a lot of data has to be quickly available, and it is hard to predict which data will be needed. However, in a VMWare environment, the new Dot Hill systems were shown to be rock solid reliable and capable of learning about the data demands so as to increase spread over time. With SSD still expensive and tape still much cheaper (using less electricity) than disk drives, the ability to load balance between various media has become a necessity, and Dot Hill does that well.

Also notable is that Dot Hill has greatly increased its addressable market by moving to the higher-end of the data storage market. It is also bringing high-end capabilities to the midrange and even lower range business markets, which makes all of its offering attractive at their price points.

It is an exciting time to be an owner of Dot Hill, but the usual cautions apply: data storage is highly competitive, margins could be better, and the global economy is always an issue.

So keep diversified! And congratulations if you already own HILL stock.

Disclaimer: I own HILL stock. I won't trade HILL stock for at least 3 days from the first publication of this article.

See also:

My Dot Hill main page.

My Q4 2012 Dot Hill conference notes

and of course www.dothill.com

Tuesday, April 2, 2013

Adobe Revenue: Will Subscription Model Work?

Adobe Systems (ADBE) has been adopting a new, subscription model for its software which results in a delay in recognition of revenue. Is that really the reason for its less-than-stellar revenue growth during 2012, or is the company perhaps using this story to cover other trends?

On March 19 Adobe reported revenue for the quarter ending March 1 at $1.008 billion, down 13% sequentially from $1.153 billion, and down 5% from $1.045 billion in the year-earlier quarter. Declining revenue usually results in low P/E ratios, but as I write, at a price of $43.57 per share, ADBE's trailing PE is 30.68, which is very high for a technology stock in this market.

Perhaps earnings are improving despite the revenue downtrend? No, GAAP earnings per share (EPS) were $0.13, down 70% sequentially from $0.44 and down 65% from $0.37 year-earlier. Nor were the poor earnings from strange GAAP rules; non-GAAP EPS was $0.35, down from $0.57 year-earlier.

Surely there must be some new source of revenue and profits that has impressed sell-side analysts, that must be factored into future earnings. While Adobe's Digital Marketing segment had 20% y/y revenue growth, there are no known new initiatives that account for the optimism.

So it would seem to come down to the subscription model. In the past Adobe sold its array of software products as versions available on disk. Photoshop is its best known product, but as the Internet has become the greatest driving force in our economy a variety of products to help with Web site content production and management were introduced. Software products could be bought separately, but most designers needed multiple products, and they were packaged together in Creative Suite. Despite being sold in high volumes, Creative Suite (CS) has never been cheap. The cost of buying a full license for CS depended on the exact options chosen, but let's just ballpark it at $2000.

Over time CS improved, partly just to keep up with changes in the Internet. New versions of CS were introduced about every 2 years. If you already had a full copy of CS you could buy an upgrade for, ballpark, $1000.

With the vast majority of Web designers dependent on CS, charging them $1000 every two years for upgrades was a nice source of recurring revenue. Only many designers found they could skip upgrades at least some of the time. If they had CS 3, they might skip CS 4 and buy the CS 5 upgrade. Wait too long (typically 2 full versions), and the ability to buy at the upgrade price went away.

Meanwhile, for many customers the set of DVDs used to install CS receded into history, as the software package was downloaded from the Internet instead.

In 2012 Adobe decided to push a subscription model to replace the old system. Customers can pay a monthly fee and get upgrades automatically. Better still, instead of having to wait for 6.0 to replace 4.0, the upgrades come as they are available.

However, note the impact on cash flows. Someone who was going to buy CS 6.0 for hundreds or thousands of dollars instead starts a subscription at (rates vary) $49.99 per month.

At the end of a year the subscription client will have paid $600 to Adobe. In two years they will have paid $1200, more than the cost of an upgrade. If customers stop skipping versions, in effect the subscription systems becomes a major price increase. You see other companies doing the same thing, for instance Microsoft with Office 365. The subscription service also cuts down on pirated software.

So the theory of bullish ADBE investors is that once we go through a full subscription cycle revenue will ramp. There might even be some cost of goods sold decrease from the elimination of physical media (management says that would be quite minor).

The problem with betting on this outcome is that you are also betting on the continued dominance of Adobe in making software for Web design.

A year to two years ago investors were not so confident in Adobe, and we should recall why. Apple, a long-time Adobe ally, had refused to allow Adobe's Flash product to be used on its smartphones and tablets. In addition the industry was (and still is) making a transition to a new standard, HTML5. Since then the emergence of other mobile hardware/software platforms has Balkanized the app world, meaning just creating Web pages is not longer the prime goal of developers for the Internet.

Adobe has responded well to this challenge. The new CS, at least in theory, can create Web pages and applications that work reasonably well on multiple device form factors. Being able to design once in CS and export to multiple formats (or to include code that senses the form factor and presents the page accordingly) is a big help to Web designers.

I would still be cautious about projecting out too much. Adobe is not the only company addressing the new Internet Tower of Babel that Apple created. Just for instance, Akamai provides datacenter software that can distinguish between requests from cellphones and computers and message the outgoing data automatically. Open source software that has many of the capabilities of Adobe products is available for free. While most designers, from freelancers to large enterprise design departments, find Adobe is worth the price because of its functionality, free could become more competitive in the future. In addition several proprietary competitors exist in the Web design segment.

It is hard to imagine an Internet without Adobe, but there is danger as well as opportunity in the subscription model. Adobe management is confident that adoption will go well, and that assumption seems to already be built into today's stock price.

Disclaimer: I don't have a position in Adobe and won't take one for at least one week following the initial publication of this story. I do subcontracting work for Microsoft and am long Akamai.

See also:


My main ADBE analysis page.

My Adobe March 19, 2013 conference notes