Slightly more than a month ago, PDL BioPharma
When I last tried to analyze PDL shares' value in September, the company had just announced its split, and it was courting buyers for many of its different businesses. PDL found takers for its marketed drugs and antibody manufacturing at reasonably favorable prices, but it failed to sign any outlicensing deals for its pipeline drug candidates. It couldn't monetize its most valuable gem, the humanized antibody royalty stream, either.
Now that PDL is a much smaller company with fewer moving parts, with a lower share price (even accounting for the special dividend) and a far more certain future, shares look attractive again -- assuming its management doesn't do anything rash.
The royalty stream removes the risk
In April, PDL announced that it would spin off the royalty revenue it receives on drugs from companies like Genentech
These royalties aren't infinite. They'll likely cease somewhere around 2013 or 2014, when PDL's Queen patents on the manufacture of humanized monoclonal antibodies expire. In the past, when I modeled how much PDL stands to gain from these royalties, I estimated 25% compound annual royalty revenue growth.
This model of PDL's royalties may be too optimistic; PDL's Genentech royalties are coming in lower than expected, because Genentech changed the locations in which it manufactures some of its drugs. But even if you model in zero growth for these royalty revenues, shares of PDL are trading at significantly less than these payments' $1.44 billion undiscounted value. (I reached that total by multiplying PDL's minimum 2008 royalty revenue guidance of $240 million over each of the next six years.) And while it's important to consider the tax consequences of these dividends, and to model in a discount rate for future royalty revenue, zero revenue growth for these royalities is highly unlikely.
Some of the royalty-generating drugs are still growing quite nicely -- Genentech's Avastin experienced year-over-year sales growth of 13% in the first quarter, and the relaunch of Biogen Idec's
It's worth noting that PDL's royalties trail by a quarter the drug sales on which they're based; additionally, its Genentech royalties occupy a tiered royalty structure for drugs manufactured and sold outside the U.S. In this year's first quarter, PDL's royalty revenue grew slightly less than 3% year over year; this year, PDL guides for at least 8.5% growth.
The pie is even bigger
No matter how you calculate the value of PDL's royalty stream before its patents' expirations, only the highest discount rates could allow you to argue that PDL's future royalties don't already cover its entire market cap.
The Queen royalty revenue isn't the only thing going for PDL, though. When PDL further breaks itself apart later this year, investors will also get a stake in PDL's remaining assets, which consist primarily of its early stage pipeline drugs. Whatever value you place on these drug candidates, they're most certainly not worth zero. Essentially, investing in PDL today gives investors a free call option on these drugs.
PDL's move to break itself apart is particularly smart, especially after the company's history of lousy financial moves, because investors won't have to wait years for the marketplace to value these pipeline assets. Wall Street will immediately ascribe some value greater than zero to them. Investors tired of waiting for PDL to produce some success with its pipeline can sell their shares of its development-stage division, then keep shares of PDL's royalty revenue company for a nice profit.