If fortune favors the bold, then perhaps misfortune represents opportunity for investors with a long-term mindset.
Shares of lithium producer Livent (NYSE:LTHM) and newly profitable Vanda Pharmaceuticals (NASDAQ:VNDA) have underperformed the broader stock market in recent months. The former has been handicapped by the fact that its parent company, FMC, owned 84% of outstanding shares long after it went public. That significantly limited its financial flexibility and ability to court large institutional investors. The latter announced it's suing the U.S. Food and Drug Administration because, you know, that always works.
However, the recent ho-hum performance makes both stocks top buys this month. Livent will enjoy its first real freedom after FMC completes a spin-off of its equity stake on March 1, while Vanda Pharmaceuticals is too cheap to pass up (and could actually win its legal beef with regulators). Here's why investors with a long-term mindset might want to give these two very different businesses a closer look in March.
Going all-in on the most important lithium compound
Lithium materials comprise an important (albeit small, somewhat ironically) component in lithium-ion batteries, but not all lithium compounds are created equal. The two primary materials that end up being processed for use in batteries are lithium carbonate and lithium hydroxide. However, the latter is much easier to work with and purify, which removes a lot of hassle for enormous battery manufacturing facilities around the globe, especially those looking to pump out an endless stream of energy storage devices for the tsunami of electric vehicles coming over the horizon.
That helps to explain why lithium miners are racing to bring as much production capacity for the material online as possible in the next decade. Livent expects to grow lithium hydroxide production from just 15,900 metric tons (expressed using the industry-standard "lithium carbonate equivalent," or LCE) in 2018 to roughly 21,500 metric tons LCE this year. Production will then grow to 55,000 metric tons LCE by 2025, or about 20% of expected global production for the compound that year.
As might be expected, lithium hydroxide is expected to quickly grow in financial importance for investors and the business. Livent generated $223 million in revenue from lithium hydroxide last year, or 50% of total sales. It represented just 45% of total revenue in the previous year. Full-year 2019 guidance calls for that to jump to 58%, or lithium hydroxide sales of $297.5 million and total revenue in the neighborhood of $510 million.
Since the business enters into long-term supply agreements with customers before it brings new production online, the expansion efforts are significantly de-risked for investors. Assuming the spin-off of the parent company's shares allows the stock to trade more freely, March could mark an inflection point for Livent. Shares trade hands at just 12.3 times future earnings, 4.6 times sales, and an enterprise value-to-EBITDA value of 10.
While there could be some volatility immediately after the spin-off, and EBITDA growth may be a little lackluster as customer mix temporarily shifts to lower-priced materials in the first half of 2019, investors thinking long term can finally give this lithium stock a closer look next month.
Comfortably profitable operations de-risk the pipeline
Vanda Pharmaceuticals tumbled in early February after it announced a lawsuit against the FDA, which decided to leave a partial clinical hold in place on a promising drug candidate. That candidate, a compound called tradipitant, demonstrated impressive results in a phase 2 study evaluating its potential to treat gastroparesis. If the results hold up in a late-stage trial, then it could become the first drug approved for the disease since 1979 and achieve peak annual sales of $900 million. Of course, the timing of that late-stage trial is now up in the air.
While management insists the development timeline hasn't changed despite the partial clinical hold, tradipitant cannot be tested in humans for longer than 12 weeks until a nine-month study is run in large mammals (dogs, mini-pigs, or primates). In other words, the math suggests the drug candidate's development will probably be delayed. What gets lost in all the commotion and knee-jerk reactions, however, is that tradipitant's development timeline isn't that big of a deal in the grand scheme of things.
Vanda Pharmaceuticals reported an operating profit of $21.7 million in 2018, compared to an operating loss of $16.9 million in the previous year. The surge in profits was driven by keeping expenses in check and growth in sales of Hetlioz, a drug approved for treating a rare sleep disorder. The franchise posted full-year 2019 revenue of $115.8 million, up from just $89.9 million in 2017. Full-year 2019 guidance calls for Hetlioz revenue of about $140 million and total sales of $220 million. That puts the company on pace to achieve at least $38 million in operating income this year.
The performance of drugs on the market should trump minor concerns over those in development, especially now that Vanda Pharmaceuticals can self-fund operations. Yet the stock is down 21% since the beginning of 2019. That precipitous and unwarranted drop has shares trading at just 24 times future earnings and 5.6 times sales -- almost unheard of for a pharma company with a profitable and growing product portfolio. Simply put, investors willing to remain patient until Mr. Market realizes his mistake may find a favorable risk profile at current prices.