One day, I'll look back on 2005 and remember this as the year I learned there's no such thing as a sure thing. BiogenIDEC
The clinical data is rock solid. There is no doubt the drug works and is likely more effective than anything else available for these patients. It was a win-win for everyone, and I thought it would be such a blockbuster that Elan would be a $20 billion company. Then, tragedy struck, and overnight this promising drug was yanked off the market.
In the wake of this disaster, Elan's stock price has been pummeled over the past six weeks, down 86% as pessimism builds with the company releasing more awful news that a third patient using Tysabri has confirmed PML (the same rare, fatal neurological disease that led to Tysabri's being taken off the market).
Elan's market cap now stands at a relatively measly $1.4 billion. Two months ago, if I could have bought shares of Elan for less than $4, I would have picked them up with both fists. Now that the company's future is considerably less bright, I'm not so sure that's a good idea. In the midst of this carnage, I want to look into whether Elan is down for the count or whether this is an overreaction that represents a good buying opportunity. A look at the company's financials and drug prospects outside of Tysabri is in order.
Is the glass half full?
Fortunately for Elan, the company is not just the Tysabri story. It actually has a diversified revenue stream with sales from several small drugs as well as contract manufacturing and royalty revenue. Last year, it turned in a quite respectable $482 million in revenues. That's the good news.
Now for the bad news. Despite a pretty strong top line, Elan had an operating loss of $283 million and a GAAP loss of $376 million last year. I'm used to looking at companies that lose money; the vast majority of the biotech industry is in that boat. I've become quite tolerant of shaky financials, but the magnitude here is staggering even by my loose standards. This is where losing Tysabri hits the hardest because it will take a major revenue source and/or significant spending cuts to bring Elan into the black.
Drastic cuts in these losses are necessary in a very short period of time, since the balance sheet is highly leveraged. At the end of 2004, the company had $1.6 billion in cash and marketable securities. Normally, that would be fantastic. But up against $2.3 billion in debt, it is woefully inadequate. Especially since without Tysabri, the company is hemorrhaging cash by the quarter.
Getting the cash burn under control has to be a priority. Given the company's history, I think Elan's management will be on the ball in this area. But that's not to say it is an easy task. This is a pressing issue since $1.1 billion of Elan's debt is due in 2008. Looking at the company's current cash balance and the very high burn rate, we can see there's not much wiggle room. It is likely some financial maneuvering will be required. This is a company used to jumping through those hoops, though, so I'm not forecasting a catastrophe by any means.
The bottom line from the financial statements is that without a major revenue source like Tysabri, Elan is not looking pretty. Staggering losses and a crushing debt load is a combustible combination to be handled only with high risk. When the company releases its projected cash burn rate at the end of this month, there will be some clarity on these issues.
Coming up the pipeline
I've already mentioned that Elan currently markets a handful of drugs that are generating revenue. Recently joining this portfolio is Prialt, which was recently approved in both the U.S. and Europe for the treatment of severe, chronic pain. While Prialt will definitely help the company's financial picture, even Elan's management sees the drug as a relatively small seller. It's certainly not big enough to fill the gaping hole left by Tysabri. Over the next few years, Prialt will help shrink Elan's losses, but it doesn't have enough juice to bring the company into the black.
The remainder of Elan's pipeline has some interesting drug programs, especially in Alzheimer's disease. The company does boast the most advanced program, on track to enter phase 2 trials this year. Unfortunately, everything else in the pipeline is preclinical. That means the timeline to reach the market is very long and the odds of success on average are quite low. I usually give preclinical drugs zero value for these reasons. Essentially, when looking at Elan's pipeline we find that the cupboard is bare for the next few years.
The final verdict
Even at a market cap of just $1.4 billion, I would pass on Elan right now, based on its financials and its pipeline. I am also assuming Tysabri sales never resume, even in a limited capacity, because of the severity of PML and the frequency in which this otherwise rare viral infection has appeared in patients using Tysabri. The fact is, without Tysabri the company does not have enough revenue-generating potential to get into the black before having to deal with its debt issues in 2008. I do not find that to be an appealing prospect.
To be fair, Tysabri is derailed but not necessarily off-track forever. As I said, the drug clearly works in patients with multiple sclerosis. There is a real medical need here as many patients don't do well with existing drugs. Despite the risk of PML, the FDA needs to consider whether the real benefits to these patients outweigh the risk. Personally, I hope Tysabri is given the green light for these patients with appropriate disclosures of its risks. But at the same time, that's a highly uncertain outcome and a heck of decision on which to bet some investment dollars.
If you're interested in other biotech stock ideas, click here for a free 30-day trial to our Motley Fool Rule Breakers newsletter. And for additional articles on the biotech industry, see:
- A Biotech Value Play
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- The Best Company I've Never Owned
- Better Times at BiogenIDEC
- After the Crash, Is BiogenIDEC a Buy?