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Why Star Scientific Inc. Shares Were Clobbered

By Sean Williams - Jan 2, 2014 at 2:08PM

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After confirming the receipt of a warning letter from the FDA, should shareholders be scooping up shares when others are fearful or running for the hills?

Although we don't believe in timing the market or panicking over market movements, we do like to keep an eye on big changes -- just in case they're material to our investing thesis.

What: Shares of Star Scientific (NASDAQ: STSI), a developer and marketer of non-nicotime nutraceutical dietary supplements, tumbled as much as 22% after confirming the receipt of an FDA warning letter on Dec. 24 concerning two of its consumer products that utilize anatabine.

So what: According to Star Scientific's press release, which came out on Tuesday, the FDA has issued a warning letter regarding the marketing of Anatabloc and CigRx which both utilize anatabine, a substance which the Food and Drug Administration believes should be regulated since it is a new ingredient that would have necessitated "premarket notification to the agency." The FDA's contention is that Star Scientific is marketing two currently unapproved drugs/products on its website. Star Scientific has pledged to cooperate fully to resolve these issues.

Now what: It's bad enough that Star Scientific has been burning through cash for years, but to add the potential to remove its best-selling products from market might be the straw that breaks this camels' back. On Tuesday, the company also announced a $15 million credit facility, which should help the company finance its operations with only $8.4 million in cash left as of its most recent quarter and the company burning through more than $20 million in cash each year. Keep in mind that FDA warning letters don't always end poorly, as Star Scientific may just wind up with a slap on the wrist and be allowed to continue to market its products while obtaining all appropriate licensing. On the other hand, the company could also face hefty fines and the withdrawal of its products. Until we know exactly what sort of punishment the FDA is going to levy, I don't see any other recourse aside from avoiding Star Scientific altogether.

Fool contributor Sean Williams has no material interest in any companies mentioned in this article. You can follow him on CAPS under the screen name TMFUltraLong, track every pick he makes under the screen name TrackUltraLong, and check him out on Twitter, where he goes by the handle @TMFUltraLong.

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