When it seems that Wall Street is being too stubborn about a business, investors have to ask themselves: "What am I missing?" Sometimes analysts are just thinking with a short-term mindset. Other times individual investors are overlooking something. Now that Puma Biotechnology (NASDAQ:PBYI) has reported first-quarter 2019 operating results, it's clear I was missing some notable red flags about the business.

Wall Street sent shares of the pharmaceutical company 79% lower in 2018. That appeared to undervalue the stock given its sales-growth trajectory, but analyst concerns over the risk-to-benefit profile of the company's sole drug, Nerlynx, were proven correct in Q1. A surprisingly high number of patients discontinued treatment. As it turns out, investors were right to worry about Puma Biotechnology.

A businessman looking concerned

Image source: Getty Images.

By the numbers

The pharmaceutical company reported growth compared to the year-ago period, but net product sales of Nerlynx declined when compared to Q4 2018. An influx of licensing revenue from recently signed deals helped to deliver an operating profit during Q1 2019, but Puma Biotechnology had to pay a legal verdict settlement of $16.3 million related to a defamation suit, which resulted in a net loss for the quarter.

Investors are most concerned with the trajectory of Nerlynx. After all, licensing revenue will remain choppy until the drug ramps up in various international markets between now and 2021, while the defamation suit was an unusual one-time ordeal. Product sales will provide the most reliable source of revenue and profit. Consider the quarter-over-quarter change in the company's financial performance:

Metric

Q1 2019

Q4 2018

Change

Product revenue

$45.6 million

$61.1 million

(25%)

Licensing revenue

$53.5 million

$10.0 million

435%

Total revenue

$99.1 million

$71.1 million

39%

Total costs and operating expenses

$89.2 million

$89.7 million

N/M

Operating income

$9.9 million

($18.6 million)

N/A

Net income

($10.1 million)

($30.7 million)

N/A

Data source: Company press release. N/A = not applicable. N/M = not meaningful.

On the first-quarter 2019 earnings conference call, chief commercial officer Steven Lo described four main reasons for the sudden drop in Nerlynx sales:

  1. Patients who started treatment in early 2018 have completed the recommended 12-month duration of therapy.
  2. There was an increase in patients discontinuing treatment due to side effects, disease progression, or loss of insurance.
  3. Some patients experienced a "dose delay" that resulted in fewer bottles per patient being sold.
  4. The company had vacancies in 18 of 80 sales territories during the most recent quarter.

While management admitted sales were disappointing, it maintained confidence that more diverse sales channels will get the drug franchise back on track. Full-year 2019 product revenue guidance remains unchanged at $220 million to $240 million. Wall Street isn't so sure.

A brief history of Nerlynx shows why investors can't brush off the sour performance so easily. Nerlynx was approved as a one-year adjuvant therapy after chemotherapy and treatment of Herceptin for HER2-positive breast cancer. It was originally developed by Wyeth, which was acquired by Pfizer, which then handed the drug over to Puma Biotechnology.

Colorful medication capsules next to a thermometer

Image source: Getty Images.

Analysts weren't too optimistic about the then-candidate drug's chances for approval, as there were severe side effects (severe diarrhea is nearly universal) and little survival benefit (two-year survival free of invasive disease climbed from 91.6% for placebo to 93.9% for the drug's main clinical trial). It also costs over $10,000 per month, or $120,000 for the full duration of treatment.

In other words, analysts are worried that the deteriorating quality of life and steep cost played a significant role in the weak Q1 performance. That could prove critical to the drug's growth prospects, as doctors who now have a year of experience prescribing Nerlynx might be reluctant to recommend it to new patients.

Investors can't dismiss the pessimistic outlook

Wall Street has perfected the mechanics of the knee-jerk reaction, but analysts have legitimate concerns when it comes to Puma Biotechnology. It seems very unlikely that Nerlynx will become a blockbuster drug, as some analysts originally projected after its surprising approval. It might even be a reach for the drug to achieve the $220 million to $240 million in net sales projected for full-year 2019.

While it's possible that drug sales grow to levels that allow the business to deliver stable profits, that won't create the same wealth-building opportunity investors were hoping for just a few months ago.