3 Reasons Why Wall Street Hates Merrimack Pharmaceuticals

A rising short interest in a stock could be a bad omen. Here is a Foolish look at why the Street is betting heavily against the clinical stage biotech Merrimack Pharmaceuticals.

Jun 5, 2014 at 1:43PM

A rising short interest is often times a bad omen for a stock. Specifically, the high degree of risk involved in shorting tends to ensure that short-sellers have a clear cut investing thesis for why a particular stock is overvalued. 

Merrimack Pharmaceuticals (NASDAQ:MACK) has been attracting shorts like moths to a flame following the company's top line data readout of its proposed second-line pancreatic cancer treatment MM-398. Namely, Merrimack's short interest has risen to a noteworthy 25% following this data readout.

What's particularly interesting is that MM-398 reportedly increased survival by 1.9 months on average when combined with 5-fluorouracil and leucovorin, which was statistically significant compared to the control arm of 5-FU and leucovorin alone. In other words, I think that MM-398 has a decent chance of being approved as a second line treatment based on these results. So, let's take a look at three reasons why Wall Street is betting heavily against the company despite these positive clinical trial results. 

Reason No. 1
Although pancreatic cancer reportedly kills more than 38,000 Americans each year, the market is only estimated at around $700 million at the present time. That's tiny in comparison to the multibillion dollar markets for breast or lung cancer. Moreover, the pancreatic cancer market is projected to grow by a mere 3% a year for the next six years. Put simply, this small market size and anemic growth rate aren't exactly striking fear into the hearts of short-sellers.

Reason No. 2
Perhaps one of the biggest reasons Wall Street isn't enamored with Merrimack is because MM-398's commercial prospects remain an open question. The problem is that the pancreatic cancer market lacks any drugs that could provide even a rough guideline for how MM-398 would perform commercially.

Presently, Celgene's (NASDAQ:CELG) Abraxanethe generic version of Eli Lilly's Gemzar, and the toxic cocktail known as "FOLFIRNOX" are the most commonly prescribed front-line treatments. However, there aren't any standard second-line treatments in place for this devastating disease, making it difficult to quantify MM-398's potential market share. In short, we don't have much insight into how MM-398 will impact Merrimack's bottom line if it is approved. 

Reason No. 3
Merrimack currently lacks the funds necessary for a commercial launch of MM-398. As of March 31, the company reported having cash and cash equivalents and available-for-sale securities of $124.2 million. Given that Merrimack will need to raise a sales force from scratch, it's not unreasonable to assume that the company will need a good bit more than this amount to fund its current operations and launch MM-398.

As the company progresses toward a regulatory filing for MM-398, I would thus expect management to take advantage of the recent run-up in share price to raise additional funds. From a short seller's perspective, this could mean that a fairly substantial amount of dilution is coming down the pike. 

Foolish wrap-up
Understanding why short interest is rising in a given equity is perhaps equally as important as having a grip on a company's bull prospects moving forward. Regarding the large short interest in Merrimack, we can probably attribute most of this pessimism to the high degree of uncertainty surrounding MM-398.

With that said, I think Merrimack could be a long-term winner if MM-398 gains FDA approval. My view centers around the drug's value proposition relative to the company's market cap of only $771 million. If Merrimack clears the forthcoming regulatory and commercialization hurdles, MM-398 could be a decent revenue driver for the company even as a minor player in this market due to the complete lack of alternative second-line treatments. In the near term, however, you might want to sit on the sidelines until these issues have been resolved.  

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George Budwell has no position in any stocks mentioned. The Motley Fool recommends Celgene. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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